Year-End Planning – Consider the VA PTET

Virginia has joined a rapidly growing number of states that have passed State and Local Tax (SALT) cap workaround provisions in an effort to provide pass-through entity owners with relief from the $10,000 federal tax deduction limit for state and local taxes. As part of year-end tax planning, pass-through entity owners should consider whether it is advantageous for the entity to make a Virginia pass-through entity tax (PTET) payment prior to December 31, 2022.

PTE’s Eligible to Make the VA PTET Election

Generally, a pass-through entity is eligible to make the election only if it is 100% owned by “natural persons”.  The pass-through entity may not have a corporation or another pass-through entity as an owner.  An S corporation can make the election based upon being 100% owned by “natural persons” or other persons eligible to be shareholders in an S corporation.

Planning Note: If your pass-through entity does not currently meet eligibility requirements for making the Virginia PTET, you should consult with your tax adviser to see if the cost of restructuring the entity so it would be eligible to make the election would be worth the benefit, and ensure there are no other unwanted impacts.

Making the Election

The election can be made on the 2022 VA 502 PTET. The election is binding on all of the owners once it is made. An owner does not have the option to “opt out” of an entity’s election.

Pass-through entities are not required to make estimated tax payments of VA PTET for 2022. They can make the VA PTET election for 2022 by filing VA Form 502 PTET in 2023 by the original due date and paying the tax or making an extension payment.

Beginning with the 2023 taxable year, an electing pass-through entity is required to make estimated tax payments if its PTET for the taxable year can reasonably be expected to exceed $1,000.

Revocation of the Election

If VA Form 502 PTET has not been filed for the tax year, the election can be revoked by filing the VA Form 502. Once the Form 502 PTET is filed for a tax year, the election is binding for that tax year.

Calculation of the VA PTET

The Virginia taxable income of an electing pass-through entity is equal to:

    • The total of each VA Resident owner’s share of the electing PTE’s income or loss (subject to required modifications), plus
    • Each VA Nonresident owner’s share of the electing PTE’s income or loss (subject to required modifications) that is attributable to Virginia.

The VA PTET rate is 5.75%

VA Nonresident Withholding & Composite Tax Payments

Entities electing the VA PTET should not make VA nonresident withholding payments or VA composite tax payments.

    • If VA nonresident withholding payments were made before the PTE made the VA PTET election, the guidelines instruct the PTE to claim the withholding payment on the Form 502 PTET.
    • If VA composite tax payments were made before the PTE made the VA PTET election, the PTE should request a refund of any such payments made. If the PTE would prefer to request reallocation of composite payments to its PTET return, it may do so by submitting a written request to the address shown in the guidelines.

If your business operates in Virginia you should consider making a VA PTET payment before the end of the year in order to receive the tax deduction in 2022.  If you have questions regarding the Virginia Pass-through Entity Tax and year end planning, please consult a Snyder Cohn tax adviser.

Spousal Lifetime Access Trusts (“SLATS”)

Here we are on the eve of another important election and among the issues that people worry about is, as always, what will it mean for tax policy?  With historically high lifetime estate and gift tax exemptions ($12.06 million in 2022, scheduled to increase to $12.92 million in 2023) there is concern that new Congressional action might reduce this level significantly.  Even without action by Congress, the exemptions that exist now are set to revert after 2025 to pre-2018 levels (approximately $6.9 million). One way or another, with the exclusion at risk of being reduced, individuals should consider taking advantage of gifting strategies now.  One such method is the Spousal Lifetime Access Trust or “SLAT”.

In the case of the SLAT, the primary goal is to remove assets from a person’s taxable estate, and his or her spouse’s, without completely relinquishing access to those assets in the event of unexpected need.  The reason this strategy is so valuable during this window is that it allows the permanent shielding of a larger gift amount while the exemption is high, even though the exemption might be reduced later.

Here are the typical features:

  • As you might expect by the name, the strategy requires that taxpayer making the gift be married
  • The trust is irrevocable, and the grantor must forever part with the income from, or direct access to, the assets. Access to the trust assets by the beneficiary spouse potentially provides access to the donor spouse in an emergency.
  • The trust is funded with the separate assets of the donor spouse and is established for the benefit of the non-funding spouse and descendants. The beneficiary spouse generally has the right to distribute assets to him/herself according to something called an ascertainable standard (health, education, maintenance and support). In a perfect world, the assets in the trust are ultimately to be used not by the beneficiary spouse, but to survive for the benefit of future generations.
  • The trust is drafted in such a way as to prevent inclusion in the estate of the beneficiary spouse, thus benefitting both spouses.
  • The trust is normally established as a “dynasty” trust, meaning it may continue in perpetuity for the benefit of future generations without being includible in the estate of any particular future generation.
  • The income tax on trust income falls to the grantor of the trust rather than the trust itself. This is good from the standpoint that the grantor is passing additional value to the next generation free of estate tax by unburdening the trust income from income tax

What’s not to like, then?  There are plenty of cautionary notes to consider before one decides this is a strategy that is appropriate.  First, the formalities of the trust must be observed.  Failures to abide by the terms of the trust can easily unravel the entire scheme and create estate tax inclusion when it was not intended.  It is also important to take into consideration who might be an independent trustee to make decisions about distributions to the beneficiaries beyond those limited by the ascertainable standard and the grantor must be willing and able to pay the income tax on trust income.  The donor must contribute only individually owned assets, so if spouses only own assets jointly, those tenancies must be severed to create ownership by each separate tenant.  If the ownership of combined assets is skewed to one spouse or the other, gifts between spouses may be required prior to funding the trust.

SLATs create other benefits and may work in unison with other tax and estate planning strategies.  They can create creditor protection by containing “spendthrift” provisions and avoid probate. They can be used in conjunction with discounts on gifted assets or as beneficiaries of other types of trusts, like grantor retained income trusts.  They are relatively easy to establish and maintain (no income tax return for the trust) compared some other estate tax strategies.

As with any gift as a strategy to reduce estate tax, one downside is that the assets in the trust don’t receive a step up in basis at the death of the donor.  If assets are sold by the trust while the donor is still alive, the donor will pay any tax on the contributed gain.  However, once the donor dies, the trust pays the tax on that pre-death gain.  The problem may be mitigated by a provision in the trust that allows the donor to replace low basis assets with high basis assets (like cash) of equal value prior to death, but the donor must have such assets available.

In the end, SLATs can have tremendous applicability and utility but should not be undertaken without due consideration of the donor/spouse’s circumstances and risk tolerances.  That said, if this is something you believe is a strategy for you, do not wait too long to investigate it.  Time is of the essence, given the ever-present possibility for change.

Should you have any questions, please feel free to contact Snyder Cohn.

By Tim Moore

QuickBooks for Start-ups and Emerging Companies

It is extremely important for start-up and emerging companies to establish a strong system of financial management early on.  The backbone of this financial management system is an accounting software that creates efficiencies, provides accuracy and internal controls and is adaptable to business growth.  The software should be versatile as the needs of the business change.  As an early-stage startup, a good question to ask is:  Does the software allow you to upgrade as you need more advanced features?  There are a variety of accounting software available on the market:  QuickBooks, Xero, Freshbooks, Aplos, etc. QuickBooks remains the leading choice for the majority of our outsourced accounting clients.  The main reasons for its popularity are for its ease and for its various functions such as reporting, controls, add-ons, and integrations that can carry businesses through all stages of their life cycle.

Reporting

QuickBooks has several features that give financial metrics to analyze your business in detail. The chart of accounts creates the backbone of the financial statements.  QuickBooks loads their software with a chart of accounts template based on your industry type. However, it is encouraged that you customize your own based on what works best for your business. This can be a hybrid approach, utilizing the industry template with some touches that personalize it to your business. As a best practice, it is advisable to take some time in the chart of accounts creation. Making too many changes later might hinder some of the analysis tools to work effectively.

QuickBooks offers a variety of standard report templates to choose from, as well as custom reporting. You can enable the more robust management reports by activating and using various features. For example, the classes feature enables the allocation of income and expenses to departments or segments allowing companies to track the profitability of each segment or class and profitability by customer. You can then produce reports based on these criteria.

The budget feature is also a great management tool that will help with business growth.  Once your company’s budget is input into QuickBooks you can compare actual to budget figures and see if you are on target to make appropriate management decisions.

Controls

As the company grows, more users may be needed to gain access to QuickBooks for a variety of reasons. To control user access to sensitive financial data, QuickBooks allows you to customize permissions to specific areas and job functions. The access can also be set to ‘view only’ mode to limit editing of data to only select individuals. Moreover, as multiple users have access and make changes to the QuickBooks data file, you can utilize the audit trail control feature to get a history of all transactions and the user making the edits. This feature can be useful but will require controlled user access by giving each user their own logins. Once that is complete, the individual activity of each of those users is recorded. Any changes made are itemized by what the original entry was and how it changed. This is also a helpful reminder that it is never a good idea to share passwords for accounting software with multiple users.

Add on features and compatibility

QuickBooks allows add-on’s such as 1099 processing and payroll which can facilitate ease in compliance requirements. The 1099 processing feature allows you to analyze your books for 1099 requirements, run required reports and prepare annual 1099 forms. The payroll add-on feature can be implemented at any point.  It will allow you to pay your employees and can enable Intuit to file all monthly, quarterly, and annual returns as needed. The annual W2 processing is also part of the payroll add-on or as a self-service.

Due to the number of rules and regulations around payroll, we only recommend the self-service option under Intuit payroll if you are a payroll professional. Our small business clients typically use one of the leading payroll companies such as Paychex, ADP, or Gusto.

In addition, QuickBooks is compatible with several financial applications that facilitate the ease of managing your business.  Some of the main applications we use with our clients are:

  • Bill.com – This software manages bills, including approvals, payments and enables you to send invoices.
  • Payroll compatibility with Paychex, ADP, Gusto – By integrating your payroll with QuickBooks, you can automate the entry of payroll data directly into QuickBooks.
  • TSheets – This time tracking application can help track employee time on jobs and create job costing reports.
  • Expensify – This is an application used to simplify employee expense management and the reimbursement process.

Integration

Daily accounting becomes easier with the integration of QuickBooks with key financial networks such as Banks and Credit Cards. The bank and credit card feed enables transactions to be automatically uploaded daily from your business bank and credit cards. These transactions sit in a pending state until a user categorizes the transactions and accepts them into QuickBooks. Once you begin using the bank feed feature, QuickBooks begins learning the coding of transactions. As similar transactions are entered and categorized, QuickBooks ‘learns’ how you have accepted the transactions in the past and offers suggestions based on that. This feature allows transactions to be categorized in a similar manner month over month, therefore optimizing the analysis of data. Since the activity is fed directly from the source, reconciling accounts can be done in an efficient manner as well.

As a start-up or emerging company is weighing its accounting needs, it is best to keep growth in mind. Although there are software features that may not be used initially, it is far better to establish a system that will be able to provide solutions as the business grows rather than having to change systems down the line. QuickBooks offers a complete solution for business owners seeking to create efficiencies and lay a solid foundation of financial management for the life cycle of their company.

If you have questions about QuickBooks implementation, upgrades, or training, please contact Sabeen Taha, Manager on our outsourced accounting team.

By: Sabeen Taha

 

Snyder Cohn Named One of 2022 Best Accounting Firms to Work For!

Snyder Cohn has been named one of the 2022 Best Accounting Firms to Work For.  This makes the fifth time we have achieved this distinction.  The annual list of the Best Accounting Firms to Work for was created by Accounting Today and Best Companies Group.

This survey and awards program is designed to identify, recognize and honor the best employers in the accounting industry, benefiting the industry’s economy, workforce and businesses. The list is made up of 100 companies nationwide.

Companies from across the United States entered the two-part survey process to determine the Best Accounting Firms to Work for. The first part consisted of evaluating each nominated company’s workplace policies, practices, philosophy, systems and demographics. This part of the process was worth approximately 25% of the total evaluation. The second part consisted of an employee survey to measure the employee experience. This part of the process was worth approximately 75% of the total evaluation. The combined scores determined the top firms and the final ranking.

We are honored to be receiving this recognition again, and thank our associates for being such a huge part of creating and maintaining an environment we can be proud of!

If you want to join an organization like ours, we are always looking for talented entry-level and experienced CPAs to be part of our future!

 

Proposed RMD Changes for Inherited IRAs

If you have a traditional IRA that you’ve paid into over the years, the required minimum distribution (RMD) rules are relatively straightforward: you have to start taking distributions by April 1 of the year after you turn 72, and your minimum distribution is determined by taking your account balance at the beginning of the year and dividing it by your statistical life expectancy (determined using IRS tables).

But if you inherit an IRA from someone else, then determining when you have to start taking distributions and how much you must take becomes ridiculously complex and depends on multiple factors. The main ones include:

1. What sort of beneficiary you are. Rules are most generous for those who inherited the IRA from a spouse. For non-spousal beneficiaries, there are two separate sets of rules: one for “eligible designated beneficiaries” and another for all other beneficiaries. In most cases, if you’ve inherited the IRA from a parent, you won’t be considered an eligible designated beneficiary, so you’ll be subject to the least generous provisions (i.e., you’ll have to take distributions more quickly).

2. How old the original owner was when they died. In general, if the original IRA owner died before they reached the required starting age for distributions (currently 72, previously 70 ½, and possibly going up to 75 under some proposed legislation), the rules are more generous than if they died after reaching the required starting age.

3. The year the original owner died. Congress made significant changes in the RMD rules for inherited IRAs in the SECURE Act near the end of 2019. Inherited IRAs have one set of rules for IRAs inherited from decedents dying in 2019 and earlier. There’s a separate set if the original owner died in 2020 or later.

A full discussion of the RMD requirements for inherited IRAs would fill a small book (or maybe a not-so-small book). But there is one common scenario where the rules have changed that taxpayers may not be aware of.

One of the SECURE Act provisions was a ten-year rule for an IRA inherited from decedents who a) died in 2020 or later and b) had already reached the required starting age for IRA distributions prior to death. The rule stated that non-eligible designated beneficiaries had to have the entire IRA distributed to them within ten years of the year the original holder died.

So as an example, assume James is 45 and inherits an IRA from his 77-year-old mother in 2022. Unless James is either disabled or chronically ill, he is not an eligible designated beneficiary. He has to take the entire IRA account as distributions by 2032, the tenth year after the year his mother died.

Because of the way the law was written, and because of some earlier IRS publications, most accountants had assumed that James could have taken his distribution(s) however he liked, including taking the entire amount in 2032, as long as he empties the IRA by the end of 2032.

Recent proposed regulations, however, would require that James take a minimum distribution every year beginning in 2023 (or possibly beginning in 2022 if his mother died before taking her RMD for 2022), with any remaining balance to be taken in 2032 (the tenth year). James’ RMDs in years one through nine are based on his own life expectancy. Any remaining balance must be taken by the end of year ten. James may, of course, choose to take more than the RMD in any year.

Taxpayers who aren’t aware of these particulars can face severe consequences. The failure to take the RMD is subject to a 50% excess accumulation penalty on the shortfall. So if James would be required under the new rules to take a $12,000 distribution in 2023 and takes only $5,000, his penalty would be 50% of the excess of the RMD over the actual distribution. In other words, he’d be subject to a $3,500 penalty (50% of ($12,000 – $5,000). If James didn’t take any distribution at all, he’d be subject to a $6,000 penalty.

At this point, the regulations are still proposed, and it’s possible that the final regulations will have less restrictive requirements. But taxpayers who inherit an IRA need to be aware and need to understand what the requirements are for their particular situation. If you’ve inherited an IRA, you’ll likely want to speak to your tax advisor before the end of the year, to have time to take any required distributions.

 

By Greg Yoder

 

Update: In response to taxpayer concerns over the proposed regulations, the IRS issued Notice 2022-53.  The notice provided that final regulations would not be effective until at least 2023 and suspended any penalties for taxpayers and retirement plans who didn’t comply with the new rules.  That means that most owners of inherited IRAs won’t need to take a distribution until 2023.  Depending on your tax situation, it may still be beneficial to take a distribution in 2022 in order to avoid having to take a larger distribution next year.  Check with your tax advisor.

Promotions of 2022

We are pleased to announce the 2022 promotions of eight of our associates! Each associate has demonstrated substantial growth and commitment to our clients and the firm.  Please join us in congratulating these professionals on their achievement!

Celebrating 10 Years of Being Green

Since Snyder Cohn became a Montgomery County Certified Green Business 10 years ago, we have kept our focus and intent on practices that reduce our carbon footprint and preserve and protect our community assets – social, economic, and environmental. Below are the six things we, as a firm, do to keep our work and business as sustainable and as Green as possible and encourage our clients and friends to do the same.

Build sustainability into the workspace

From office lighting and appliances to furnishings, our office space utilizes eco-friendly products that reduce both resource consumption and costs. We adopted LED-based lighting systems and invested in electronics that are eco-friendly. We installed motion-sensored lighting throughout the office, set up our electronics to shut down after being idle, and utilize as much natural lighting as possible to save energy.

Green kitchen

Rather than stocking and restocking sky-scrapers of plastic cups in our kitchen, we have reduced our plastic waste exponentially by using glass coffee mugs and reusable kitchenware. We also switched to compostable coffee pods instead of using plastic pods that are not environmentally friendly.  Whether you are a small startup or an international corporation, investing in reusable kitchenware is a simple and effective way to reduce your office’s footprint.

Recycling bins

As a green business, we realized that our associates want to recycle, and we wanted to make recycling convenient for all of us to do so. We placed recycling bins throughout the office and at everyone’s desks, our common areas, lunch space, mailroom, and the hallways. Offering opportunities to throw something in a blue bin as opposed to a wastebasket is half of the battle.

Get everyone on board

In order to have a green and eco-friendly office, it’s vital that everyone is dedicated to greening your organization. We have a Green team of associates who brainstorm and help implement a lot of environmentally-friendly changes in the workplace. We also send out a monthly newsletter with reminders and tips to associates, reminding them of old and new ways they can go green inside and outside of the workplace.

Reduce paper use

Paper waste is one of the most persistent – and most preventable – operation costs in the modern office. In the age of cloud storage, there are more ways than ever to share information and store data without paper. Moving to a paperless system boosts productivity and security and allows for saving on costs associated with printing, storing, and managing paper. Over the years, we have switched to various software packages to move our work electronically through the office instead of paper copies, review tax returns and financial statements electronically and communicate and exchange documents with clients electronically.

Green your space up

Indoor plants and greenery are perfect for your office’s interior. Plants not only purify the surrounding air and boost productivity at work but also help combat stress and anxiety while offering a happier environment. Plants are actually one of the easiest, most cost effective, health enhancing, environmentally beneficial and stylish ways for your business or office to go “Green”.

Earning Montgomery County, Maryland’s Green Business Certification indicates that you are part of an innovative leadership movement to green your business operations and help transition to a sustainable future. We will be more than happy to tell you Snyder Cohn’s “Going Green” story and share our experiences with you.

Ask Captain Codehead – Tax advice appropriate for an irrational world

Dear Captain Codehead,

I filed my 2020 tax return last June, and I still haven’t gotten my refund. I was counting on that money to expand my closet and buy some new shoes.  My friend Miranda suggested I try Where’s My Refund? at IRS.gov, but its response was, “Somewhere. Probably.” Then I tried calling the IRS: is eight days a long time to spend on hold? I even called one of my Senators’ offices, but the staff person there laughed, then cried, then sobbed uncontrollably, then laughed again, and then I heard sirens in the background, so I hung up.  What’s going on inside the IRS? Do you have any advice?

— Not Carrie Bradshaw

Dear NCB,

I feel your pain.  Not your foot pain: Captain Codehead typically wears an old pair of running shoes, or – when he’s feeling fancy – a pair of loafers he got during the Reagan administration.  Back to your point, an unusually high number of taxpayers have reported long delays in receiving their refunds over the past two years.  The delays have been especially noticeable for taxpayers like you with larger refunds.  The semi-good news is that IRS must pay taxpayers interest on refunds that are outstanding for more than 45 days. The bad news is that the interest rate they pay is similar to the rate of interest in Dave Matthews Band cover groups.

In terms of what’s going on inside the IRS, we discussed this question on a recent edition of my podcast, and my expert panel was evenly divided between several explanations: Covid-related staff shortages and turnover; insufficient budgetary funding from Congress; the replacement of IRS with an evil AI created by Russian hackers.  Take your pick.

In terms of whether I have any advice, yes: this is, after all, an advice column.  Ish.  In your particular case, I’d advise buying less expensive shoes.  But assuming that’s a non-starter, here are some other options.

IRS calling services.  There are organizations out there that pay their employees to stay on hold with the IRS so you don’t have to.  These services claim hold time reductions of up to 90%.  Pro: this is a real thing (also real: interest on late refunds and my old loafers; most of the other facts herein are, well, alternative). Con: it might make you feel better to speak to a real person/Russian AI, but it won’t actually get you your refund any faster.

PPP.  (Not that PPP.) Patience, persistence, and prayer.  Have you considered that your delayed refund is the universe’s way of encouraging you to reevaluate your priorities?  Taxpayers have reported getting relief from a wide variety of metaphysical practices.  For example, many CPA firms maintain a shrine to St. Matthew, the patron saint of tax collectors and accountants.  Some firms even burn draft copies of tax returns to Matthew, though IMHO, this practice is mostly about not having to pay for a paper shredding service.  Captain Codehead recommends a more spiritual approach, which he attributes to the late Thich Nhat Hanh.  Sit in a darkened cubicle, close your eyes. Inhale slowly while thinking, “Breathing in, I exclude my income.”  Exhale, thinking, “Breathing out, I deduct.” Repeat until you get your refund – or enlightenment.  Pro: lower blood pressure.  Con: there’s no peer-reviewed research that associates faster refunds with prayer, meditation, or burnt offerings.  Also, some midwestern CPAs have reported setting their toupees on fire (there’s always a silver lining, no?).

Direct public action.  Sometimes, you just have to take to the streets for your voice to be heard.  To that end, Captain Codehead is calling for a Day of Taxpayer Solidarity.  Activities will include a mass sage burning (demon possession of IRS management being another popular explanation for slow refunds) and a march on the IRS national headquarters.  Join us on May 1 (which gives Captain C time to finish filing his clients’ 1040s, do his billing, and enjoy a short vacation).  If you’re unable to be there in person, I encourage you to support us on my Kickstarter page.  Pro: at the $50 level, you get a very nice t-shirt.  Con: Day of Taxpayer Solidarity speeches.  Zzzzz.

Finally, NCB, I want to remind you that while you can’t always control what happens at the IRS, you can control how you look at it, so let’s practice some reframing.  On a human timeframe, that refund is taking a long time.  But on a geological timeframe, it’s so very much shorter than the Jurassic era.  Put another way, the arc of the taxpayer universe is long, but it bends toward refund.  Enjoy your shoes!

By Greg Yoder

 

Cryptocurrencies Issues for Exempt Organizations

More and more charities are accepting cryptocurrency as donations. Before an organization decides whether or not to accept cryptocurrency, it should understand some of the related issues.

Gift acceptance

Gift acceptance policies for charities are a best practice for determining what type of donations will be accepted.  An organization needs a policy that specifies who will approve a cryptocurrency donation, what cryptocurrencies will be accepted, and whether currency will be sold immediately or held in the hope of appreciating.  As with stock donations, there is no tax effect to the exempt organization for an increase in value, but there is the added volatility to consider.

Before a charity can accept a crypocurrency donation, it must determine whether to control the cryptocurrency internally or utilize a payment processor, which may make sense for the added expertise and security. Some well-known processors include Engiven, the Giving Block and Every.org.  These processors can also assist with tax issues.

Tax issues

Cryptocurrency is considered a capital asset for income tax purposes.  A donor can avoid capital gains tax on appreciated cryptocurrency by donating it to a charity.  The donation would also be deductible as an itemized deduction.  If the gift is over $5000, the nonprofit must also sign the Noncash Charitable Contributions form (Form 8283) acknowledging the receipt of property, as well as have the cryptocurrency donation appraised by a “qualified appraiser.”  There are firms that offer crypto appraisal services. This differs from donations of publicly traded stock, which do not require an appraisal.

If the charity sells the donated cryptocurrency within three years of donation, the charity must provide the Donee Information Return form- also known as Form 8282 to the IRS (and a copy to the donor) within 125 days of sale. Also, as with any other donation, if the value of the cryptocurrency donation was over $250, the organization must provide a donor acknowledgement letter.

Financial statement/audit issues

Under generally accepting accounting principles (GAAP), cryptocurrency is treated as an intangible asset, rather than cash, investments, or inventory.  The gift of the cryptocurrency donation would be recorded at fair value at the time of donation, but if the cryptocurrency is held for a longer period, you would not adjust the value of the crypocurrency for market fluctuations.  You would, however, need to test for impairment each year.

We are staying abreast of the current developments with respect to both the IRS and with GAAP. If you have any questions, feel free to reach out to a member of our team.

By Keith Jennings

Gifting Strategies for 2022

Gifting is always a nice gesture. However, as with most transfers of assets, there may be tax implications. Most gifts that exceed the annual gift tax exclusion of $16,000 per donee (2022) will create a federal gift tax return filing requirement. Two exceptions are payments of the recipient’s medical expenses or education tuition, both of which must be paid directly to the provider or institution to qualify for the exclusion.

On top of the annual gift tax exclusion, each individual is allowed a lifetime exclusion provided by the Unified Tax Credit. For the 2022 tax year, this exclusion is $12,060,000. A gift in excess of $16,000 can be applied to this exclusion which means no taxes are due on the gifts as long as the total lifetime gift amounts don’t exceed the exclusion limit, on a cumulative basis.

There are a variety of gifting options, including giving investments, funding an irrevocable trust, contributing to a minor’s Roth IRAs, and funding 529 college plans, that provide more “bang for your buck” when it comes to taking advantage of the exclusions and exemptions. However, when the recipient sells the investments, he or she will generally use the donor’s cost basis to calculate capital gains or losses, effectively transferring capital gains tax obligations from the donor to the recipient.

Irrevocable trusts are useful for beneficiaries who are not yet capable of handling large sums of money, where there are concerns about shielding assets from creditors or where the amount and timing of each beneficiaries’ share is to be decided in the future. Such trusts allow the donor to spell out how the funds will ultimately be distributed. The drawback of such a trust is that once the assets are gifted, the donor cannot take back (revoke) the transfer nor retain control over many aspects of the trust operation.  Gifts contributed to irrevocable trusts are considered a “future interest,” which do not qualify for the annual gift tax exclusion. For the annual exclusion to apply to such gifts, the trust language must include a provision that allows the beneficiaries the right to withdraw the gift for a short period.

Consider contributions to a minor’s Roth IRA. Any adult can create a custodial account to contribute to on behalf of a beneficiary who is under the age of 18. The beneficiary must have employment compensation, babysitting and lawn mowing count, and contributions may be no more than the minor’s earnings, capped at $6,000 per year for 2022.

There are also gifts to help with future education expenses. 529 plans are savings plans intended for higher education expenses and are available in most states.  Gifts to these plans have special rules that allow the donor to “front load” the annual exclusion for five years, allowing more time for tax-free growth. Maryland, for example, offers two options: the College Investment Plans and the Prepaid College Trusts. A College Investment Plan uses contributions to fund a selection of investment options managed by T. Rowe Price. A Prepaid College Trust uses contributions to lock in future tuition prices at today’s prices with flexible tuition plans and payment options while being backed by a Maryland Legislative Guarantee. Distributions are tax-free when used for qualified education expenses. After The Tax Cuts and Jobs Act of 2017, funds from the College Investment Plans can also be used to pay for private primary and secondary school on top of higher education.

Although the 529 plan contributions are not deductible on the federal level, many states offer their own state income tax return benefits. Maryland offers a $2,500 deduction per beneficiary per year or $5,000 for married taxpayers filing jointly with a 10-year carryforward of excess contributions. To illustrate, if a single parent contributes $10,000 towards his or her child’s Maryland 529 plan by December 31, 2022, they may take a $2,500 deduction on their Maryland income tax return for 2022 and each subsequent year until 2026, assuming no subsequent contributions.

These are just some of the available gifting strategies. Please keep in mind that laws and limits may change and are often more complicated than explained in this short summary. If you have any questions or concerns, or if you would like more details before making decisions, Snyder Cohn is always available to help.

 

By Doris Truong