2024 Individuals' Tax Planning Guide PDF

INDIVIDUALS amount, currently $17,000 per person to whom the gift is made ($34,000 if a married couple give the gift together). c. Consider gifting appreciable property rather...

INDIVIDUALS amount, currently $17,000 per person to whom the gift is made ($34,000 if a married couple give the gift together). c. Consider gifting appreciable property rather than waiting for inheritance. For gifted property, the new owner’s basis depends on the donor’s adjusted basis, fair market value just before the time of the gift, and whether the new owner sells at a gain or loss. For inherited property, the basis is generally the fair market value on the date of death (with exceptions). Appreciable property may have a lower basis for the recipient if gifted rather than inherited. d. Taxpayers can take advantage of the current higher limits on charitable contributions (60% of AGI) by making charitable contributions in one year rather than spread over several years. The AGI limit was raised to 100% for cash contributions made to qualified charitable organizations in 2023. e. Make plans to pay for long‐term care if needed in the future. In addition to personal funds and health insurance programs, long‐term care insurance may be a consideration. This allows the taxpayer to purchase insurance that covers services needed for long‐term care (such as daily living assistance). f. Life insurance death benefits are not taxed federally, but must be included for estate tax purposes if the policy includes certain incidents of ownership. The taxpayer can plan for this by naming a surviving spouse as beneficiary or setting up an irrevocable life insurance trust. 1420.06 Retirement planning (e.g., annuities, IRAs, employer plans, early retirement rules, required minimum distribution, beneficiary ownership, charitable distributions from an IRA) Many retirement savings plans exist. The taxpayer should choose the retirement savings plan (or set of plans) that benefits their situation the most. Some, such as traditional IRAs and employer plans (401(k), are not taxed when contributions are made, but the taxpayer must pay tax when distributions are made. Others, such as Roth IRAs do not have deductible contributions, but distributions are at least partly nontaxable. © 2024 Surgent Consolidated, LLC 241 INDIVIDUALS a. Keep in mind that many plans have a required minimum distribution at age 73 if they reach age 72 after December 31, 2022. The taxpayer should account for that in retirement planning. b. Review the beneficiary ownership situation, including taxability of distributions to the beneficiary, with the taxpayer. c. Taxpayers who are age 73 if they reach age 72 after December 31, 2022, may request that the trustee of an IRA (other than SEP or SIMPLE) make a charitable contribution from an IRA on their behalf. The charitable distribution is not taxable, allowing the taxpayer to reduce taxability of the distributions. 1420.07 Marriage and divorce (e.g., divorce settlement, common‐law, community property) Marriage and divorce can have a tax impact in the year of the divorce or for future years. a. When taxpayers get married or divorced during a tax year, the tax rates may be different than anticipated. File new Forms W‐4 with employers as soon as possible, and refigure estimated tax payments based on new tax situations. b. For divorce settlements reached on or after January 1, 2020, alimony is neither included in income of the recipient or deductible for the payer. For divorce settlements before that date, it is included in income/deductible, unless the agreement is modified to specifically state otherwise. c. Divorce settlements can affect whether dependents can be claimed on the tax return (for child tax credit, etc.). Plan appropriately for the tax consequence. d. Transfers during a divorce may be taxable, including pensions, annuities, and other retirement plans and stocks or brokerage funds. Also, if one spouse buys property from the other during the divorce, the income on the sale may be taxable. 242 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1420.08 Items that will affect future/past returns (e.g., carryovers, net operating loss, Schedule D, Form 8801, negative QBI carryover) Due to limitations of losses on current year returns, many losses may need to be carried to other tax returns. a. Unused capital losses can be carried forward to future years until they are used. Short‐term and long‐term capital loss carryovers must be carried over and used separately, but are subject to the same limit each year. b. NOLs arising in years 2018, 2019, or 2020 can be carried back 5 years or forward. If the NOL is carried back to a year where the TCJA 80% of taxable income limitation applied (prior to 2021), this limitation was temporarily suspended by the provisions of the CARES Act. If the NOL is carried forward to a year beginning after December 31, 2020, the 80% limitation applies. Farmers may enjoy the same benefit. However, those farmers who had previously elected the 2 year‐carryback that was available to them prior to the enactment of the CARES Act, can preserve their 2 year‐carryback. c. A taxpayer with an unused credit for prior‐year minimum tax can carry that credit forward to the next tax year. Use Form 8801, Credit for Prior Year Minimum Tax – Individuals, Estates, and Trusts, to figure or apply the carryforward. d. An unused Qualified Business Income deduction can be carried forward. Use the worksheet in Forms 8995 and 8995‐A or IRS Publication 535 to figure any net loss carryforward or apply the net loss carryforward from prior years. 1420.09 Injured spouse An injured spouse is a taxpayer whose tax refund is appropriated for the past‐due debts of a spouse or former spouse. © 2024 Surgent Consolidated, LLC 243 INDIVIDUALS 1420.10 Innocent spouse An innocent spouse can be relieved of responsibility for paying tax, interest, and penalties if the taxpayer’s spouse or former spouse improperly or fraudulently reported items or omitted items on a jointly filed tax return. 1420.11 Estimated tax and penalty avoidance Taxpayers are expected to make estimated tax payments for the current tax year if both of the following apply: a. the taxpayer expects to owe at least $1,000 in tax for the current tax year after subtracting your withholding and refundable credits. b. the taxpayer expects that their tax withholding and refundable credits to be less than the smaller of: 1) 90% of the tax on the current year’s tax return, or 2) 100% of the tax on the prior year’s tax return (110% for taxpayers with AGI exceeding $150,000). Failure to do so may result in both underpayment and late payment penalties for the taxpayer. The penalty for substantial understatement of income is the larger of 10% of the correct tax or $5,000. 1420.12 Adjustments, deductions, and credits for tax planning (e.g., timing of income and expenses) Taxpayers should plan in advance for certain adjustments, deductions, and credits to maximize the tax benefit. a. Contributions to certain retirement plans can be deducted, reducing the taxable income on the return. In addition, taxpayers with lower income may be able to take a credit for retirement contributions. b. Expenses for qualified education expenses, childcare, adoption, and certain other expenses for your child can be used for credits. Taxpayers should ensure that they keep appropriate records and pay these expenses only as required by tax law in order to have a tax benefit from the expense. 244 © 2024 Surgent Consolidated, LLC  INDIVIDUALS Review financial and life‐changing plans with the taxpayer in order to accurately plan the tax consequences or benefit of these decisions. Also, ensure that the taxpayer makes adjustments to withholding or estimated tax payments appropriately to avoid a penalty or unusually large balance due. Form 1040‐ES is filed with each estimated payment. If a taxpayer changes his or her name because of marriage, divorce, etc. and they made estimated tax payments using their former name, the taxpayer should attach a statement to the front of the form. On the form, the following information should be given: all of the estimated tax payments the taxpayer (and the taxpayer's spouse, if filing jointly) made for the current tax year and the name(s) and SSN(s) under which the taxpayer made the payments. ‘In addition, the taxpayer should be advised to report the change, if they have not already, to their local Social Security Administration office before filing the tax return to prevent delays in processing the tax return. 1420.13 Character of transaction (e.g., use of capital gain rates versus ordinary income rates) Ordinary income tax is paid on earnings from interest, dividends, employment, royalties, or self‐employment. Capital gains tax is paid on income that is derived from the sale or exchange of an asset, such as a stock or property. Typically, capital tax rates on long term capital gains are taxed at a more favorable (lower) tax rate. 1420.14 Advantages and disadvantages of MFJ/MFS/HOH filing statuses in various scenarios Married taxpayers have the option to select married filing jointly or married filing separately on their federal income tax returns. The IRS strongly encourages most couples to file joint tax returns by extending several tax breaks to those who file together. In the vast majority of cases, it's best for married couples to file jointly, but there may be a few instances when it's better to submit separate returns. a. Married taxpayers who file together can usually qualify for multiple tax credits such as the earned income tax credit, the American Opportunity and Lifetime Learning Education © 2024 Surgent Consolidated, LLC 245 INDIVIDUALS tax credits, the credit for adoption expenses and child and dependent care tax credits. b. Married taxpayers who select to file separately receive few tax considerations. In most instances, separate tax returns result in higher taxes. The standard deduction for separate filers is far lower than that offered to joint filers. In rare instances, filing separately may result in tax savings. An example of this type of instance would include if one of the spouses has a large amount of out‐of‐pocket medical expenses to claim and jointly the taxpayers would not be able to deduct the costs. The best approach is to prepare the married taxpayers return both as filing jointly and as filing separately to determine which method results in the greater tax savings. 1420.15 Health Insurance Under the health care law, certain health coverage is called minimum essential coverage (MEC). A taxpayer generally cannot take the premium tax credit (PTC) for an individual in their tax family for any month that the individual is eligible for minimum essential coverage, except for coverage in the individual market. Minimum essential coverage includes the following:  Individual market coverage (including qualified health plans)  Most coverage through government‐sponsored programs (including Medicaid coverage, Medicare parts A or C, the Children's Health Insurance Program (CHIP), certain benefits for veterans and their families, TRICARE, and health coverage for Peace Corps volunteers)  Most types of employer‐sponsored coverage  Grandfathered health plans  Other health coverage designated by the Department of Health and Human Services as minimum essential coverage Minimum essential coverage does not include coverage consisting solely of excepted benefits. Excepted benefits include 246 © 2024 Surgent Consolidated, LLC  INDIVIDUALS vision and dental coverage not part of a comprehensive health insurance plan, workers’ compensation coverage, and coverage limited to a specified disease or illness. 1420.16 Social Security Income To find out whether any of a taxpayer’s Social Security benefits may be taxable, compare the base amount for their filing status with the total of:  one‐half of their benefits plus  all their other income, including tax‐exempt interest. When making this comparison, do not reduce the taxpayer’s other income by any exclusions for:  interest from qualified U.S. savings bonds,  employer‐provided adoption benefits,  foreign earned income or foreign housing, or  income earned by bona fide residents of American Samoa or Puerto Rico. The base amount for the various filing statuses is:  $25,000 if the taxpayer is single, head of household, or a qualifying surviving spouse;  $25,000 if the taxpayer is married filing separately and lived apart from their spouse for the entire year;  $32,000 if the taxpayer is married filing jointly; or  $0 if the taxpayer is married filing separately and lived with their spouse at any time during the year. © 2024 Surgent Consolidated, LLC 247 INDIVIDUALS This page intentionally left blank. 248 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1500 Specialized Returns for individuals 1510 Estate Tax 1510.01 The estate tax and the gift tax are both excise taxes on the transfers of property. The estate tax is imposed on the amount of a decedent’s net wealth (fair market value of total assets less debts and expenses) that passes to their heirs at death. The gift tax is imposed on the value of property transferred during an individual’s life. a. Only a relatively small percentage of taxpayers are affected by the gift or estate tax since they apply only when the transfer of wealth is substantial. Transfer taxes (gift and estate taxes) are triggered in 2023 only when transfers exceed $12.92 million. Despite their limited application, for those to whom the taxes do apply, the cost can be significant. b. Generally, an estate tax return, Form 706, is not required for a death in 2023 unless the taxable estate of the deceased is more than the exemption amount, which is $12.92 million in 2023. The estate tax return is due nine months after the date of death, though it is possible to extend the return for another six months automatically. c. In 1976, the gift tax and estate tax were combined into what is conceptually a unified transfer tax. In years 2012 and after, the gift and estate taxes are unified. As an individual makes taxable gifts during life, the gift tax is computed on a cumulative basis. To calculate the tax on current year gifts, the donor must add all taxable gifts made in prior years (since 1976) to the current gifts, calculate the gross tax on the sum of the lifetime transfers, and then subtract gift taxes assessed on the prior years’ gifts. The remainder is the current year gift tax. When the individual dies, the estate tax is computed in a similar manner by adding all prior taxable gifts to the taxable estate, applying the appropriate rate and subtracting any prior gift taxes assessed. It is helpful to think of the transfer at death as the final gift. © 2024 Surgent Consolidated, LLC 249 INDIVIDUALS d. As a practical matter, the estate and gift tax does not apply to most taxpayers. To eliminate the administrative problems that would result if the gift tax were imposed on all gifts (e.g., birthday presents), the gift tax is imposed only on those transfers that exceed a certain threshold known as the “annual exclusion.” In 2023, this amount is $17,000. Technically, individuals are entitled to an exclusion of the annual exclusion amount per donee, per year. The exclusion enables an individual to make an unlimited number of gifts as long as they do not exceed $17,000 per donee in 2023. For married couples, these rules permit a husband and wife to give $34,000 in 2023 to a particular donee (e.g., a child) tax free by electing to make joint gifts. In addition to the annual exclusion, gifts to a spouse, charity, or transfers for educational or medical purposes normally are not taxable. In addition to the annual exclusion and the unlimited gifting opportunity for medical and education related gifts, in 2023, a taxpayer may gift up to $12.92 million in gifts before such gifts become taxable. This exclusion applies to gifts made during life, and also applies to testamentary gifts to the extent the $12.92 million exclusion was not used during life. e. Once either inter vivos or testamentary transfers exceed the exclusion amount, the transfer is taxed at up to 40 percent (progressive rate depending on taxable amount of gifts) in 2023. f. A decedent’s estate tax liability is based on his or her net wealth and whether he or she leaves it to a surviving spouse or to a qualified charity. The procedure for computing the federal estate tax liability is discussed below. The first step in computing the estate tax is to identify the decedent’s gross estate. A decedent’s gross estate includes the value of all property owned at date of death, wherever located. This includes the proceeds of an insurance policy on the life of the decedent if the decedent’s estate is the beneficiary, or if the decedent had any ownership rights in the policy at time of death. Property is generally included in the gross estate at its fair market value as of the date of death or the fair market 250 © 2024 Surgent Consolidated, LLC  INDIVIDUALS value at the alternative valuation date six months from the date of death. The alternative valuation date may be used only if it results in a reduction of the applicable estate tax. g. The taxable estate is the gross estate reduced by deductions allowed for funeral and administrative expenses, debts of the decedent, certain taxes and losses, state death taxes and charitable gifts made from the decedent’s estate. It is important to note that there is no limit imposed on the charitable deduction. If an individual is willing to leave his or her entire estate to a charity or to a spouse, there will be no taxable estate. An unlimited marital deduction is allowed for the value of property passing to a surviving spouse. Thus, if a married taxpayer leaves all of his or her property to the surviving spouse, no federal estate tax will be imposed on the estate. On the death of the surviving spouse, the couple’s wealth may be subject to taxation. 1510.02 Gross estate The gross estate of the decedent consists of the fair market value at date of death of everything a decedent owned or had an interest in at time of death. The includible property may consist of cash and securities, real estate, insurance, trusts, annuities, business interests, and other assets. The gross estate will likely include non‐probate as well as probate property. Generally, the gross estate does not include property owned solely by the decedent’s spouse or other individuals. Lifetime gifts that are complete (no powers or other control over the gifts are retained) are not included in the gross estate (but taxable gifts are used in the computation of the estate tax). Life estates given to the decedent by others in which the decedent has no further control or power at the date of death are not included. The fair market value is the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell, and both having reasonable knowledge of relevant facts. The fair market value of a particular item of property includible in the decedent’s gross estate is not to be determined by a forced sale price. Nor is the fair market value of an item of property to be determined by the © 2024 Surgent Consolidated, LLC 251 INDIVIDUALS sale price of the item in a market other than that in which such item is most commonly sold to the public, taking into account the location of the item wherever appropriate. An heir takes a tax basis in gifted property generally equal to the donor’s basis if the property is sold at a gain. If the property is depreciated at the time it is gifted and the property is subsequently sold at a loss, the donee’s basis will be the property’s fair market value at the time of the gift. An individual’s basis in inherited property is the property’s fair market value at the decedent’s date of death. If the alternative valuation date is used to value the property, then the property’s basis is the fair market value of the property six months from the date of death. The gross estate includes all property in which the decedent had an interest (including real property outside the United States). It also includes: a. Certain transfers made during the decedent’s life without an adequate and full consideration in money or money's worth; b. Annuities; c. The includible portion of joint estates with right of survivorship; d. The includible portion of tenancies by the entirety; e. Certain life insurance proceeds (even though payable to beneficiaries other than the estate, see the instructions for Schedule D); f. Property over which the decedent possessed a general power of appointment; g. Dower or curtesy (or statutory estate) of the surviving spouse; and h. Community property to the extent of the decedent’s interest as defined by applicable law. 252 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1. Alternative valuation date An executor may elect the alternative valuation date regarding the time at which property included in a decedent’s gross estate will be valued: the date of death (the usual valuation date), or a date that is six months after the date of death (the alternate valuation date). Once made, the selection of the valuation date generally applies to all property in the estate for purposes of computing the estate tax liability. If the executor elects the alternate valuation date, an exception exists for property that is sold or otherwise disposed of within the six‐month period between the date of death and the alternate valuation date: such property is valued as of the date it was sold or disposed of. The alternate valuation date rule is designed to be a relief provision in cases where the value of a decedent’s estate declines in the six‐month period following his or her death. If an executor uses the alternate valuation date for assets, this lower valuation amount also sets the basis that heirs will have in the assets they receive from the estate. If they have a lower basis, they can expect to face a higher capital gains tax liability when they later sell these properties. In order to use the alternative valuation date, three requirements must be met: a. The total value of the gross estate must decrease by using the alternative valuation date; b. The amount of the estate tax must decrease by using the alternative valuation date; and c. The person who files the deceased person’s estate tax return must make the proper election on the return. © 2024 Surgent Consolidated, LLC 253 INDIVIDUALS The executor can only elect to use the alternative valuation method if it will lower both: a. The value of the gross estate; and b. The sum of the estate tax and GST tax after taking the application of all allowable credits against these taxes. Estates that owe no federal estate tax or no generation skipping tax may not use the alternative valuation method. This election must be made within one year after the due date of the federal estate tax return (including extensions). There is no exception to this one‐year rule. The election is irrevocable. 2. Generation Skipping Transfer Tax (GST Tax) A donor is liable for the GST when he or she makes an inter vivos direct skip, which is a transfer made during the donor’s lifetime that is subject to the gift tax, of an interest in property, and made to a skip person. A donee, who is a natural person, is a skip person if that donee is assigned to a generation that is two or more generations below the generation assignment of the donor. The exemption for the GST tax in 2023 is $12.92 million. 1510.03 Taxable estate (calculations and payments) One of the primary deductions for married decedents is the marital deduction. All property that is included in the gross estate and passes to the surviving spouse is eligible for the marital deduction. The property must pass “outright.” In some cases, certain life estates also qualify for the marital deduction. If the decedent leaves property to a qualifying charity, it is deductible from the gross estate. Additional deductions include mortgages and debt, administration expenses of the estate, and losses during estate administration. The following tax formula sets forth how the estate tax liability is determined: 254 © 2024 Surgent Consolidated, LLC  INDIVIDUALS Gross estate – Administrative and funeral expenses – Debts – Losses – Taxes – Charitable bequests – State death tax deduction – Marital deduction* = Taxable estate + Post‐1976 taxable gifts = Total taxable transfers Tax on total transfers – Gift taxes paid on post‐1976 gifts – Applicable credit amount – State death tax credits – Other credits = Estate tax liability * Every married individual may give an unlimited amount of assets either by gift or bequest to his or her spouse without the imposition of any federal gift or estate taxes. In effect, the unlimited marital deduction allows married couples to delay the payment of estate taxes at the passing of the first spouse because at the death of the surviving spouse, all assets in the estate over applicable exclusion amount ($12.92 million in 2023) will be included in the survivor’s taxable estate. It is important to note that the unlimited marital deduction is only available to surviving spouses who are United States citizens. 1510.04 Unified credit In 2012 and thereafter, taxpayers can take advantage of the portability rule, which provides that any credit that remains unused as of the death of a spouse who dies after 2010 is portable; that is, the unused amount is generally available for use by the surviving spouse as an addition to the surviving spouse’s exemption. In 2023, portability effectively allows a married couple to exempt up to $25.84 million from the estate tax. If a surviving spouse is predeceased by more than one spouse, the amount of unused credit that is available for use by such © 2024 Surgent Consolidated, LLC 255 INDIVIDUALS surviving spouse is limited to unused exclusion of the last such deceased spouse. The first spouse to die must file an estate tax return (IRS Form 706) even though he or she may not owe any estate tax since the amount of unused credit must be determined. The unused exclusion amount is available to a surviving spouse only if the executor of the estate of the deceased spouse files an estate tax return on which such amount is computed and makes an election on such return that such amount may be used. The election is irrevocable. The election cannot be made unless that estate tax return is filed on a timely basis as extended. Thus, even if a decedent normally is not required to file an estate tax return, filing an estate tax return is now necessary simply to preserve the unused estate tax exclusion amount of the first spouse to die. 1510.05 Life insurance Life insurance death benefit proceeds are usually federal‐income‐ tax‐free. However, the proceeds from any policy on a decedent’s life are included in his or her estate for federal estate tax purposes if the decedent had any incidents of ownership in the policy. Incidents of ownership include: a. The right to change the beneficiary. b. The right to surrender or cancel the policy. c. The right to assign the policy. d. The right to revoke an assignment of the policy. e. The right to pledge the policy for a loan. f. The right to obtain a loan from the insurer against the surrender value of the policy. In addition, proceeds from a life insurance policy are included in the insured’s gross estate if the insured had any incident of ownership in the policy and the insured transferred the policy within three years of his or her death. On the other hand, as long as certain conditions are met, namely, the insured does not possess any of the incidents of ownership when he or she dies, the proceeds of the life insurance policy are not paid to the insured’s estate, and the insured does not transfer any incidents of ownership in the policy within three years of his or her death, 256 © 2024 Surgent Consolidated, LLC  INDIVIDUALS the proceeds will not be included in the insured’s gross estate for estate tax purposes. The life insurance ownership rule is more likely to adversely affect unmarried people because death benefit proceeds from a policy on the life of a married person can be left to the surviving spouse without any immediate federal estate tax hit, thanks to the unlimited marital deduction privilege (assuming the surviving spouse is a U.S citizen). However, all the insurance money going to a surviving spouse could cause his or her estate to eventually exceed the federal estate tax exemption. The estate‐tax‐saving solution is to set up an irrevocable life insurance trust to own the policies on the taxpayer’s life. Since the trust, rather than the taxpayer, owns the policies, the death benefit proceeds are not counted as part of the taxpayer’s estate (unless the estate is named as the policy beneficiary which would defeat the purpose). The taxpayer is still able to direct who gets the insurance money because the taxpayer may name the beneficiaries of the irrevocable life insurance trust (typically the taxpayer’s children and/or grandchildren). One complicating factor is that when a taxpayer moves existing insurance policies into the trust, he or she must live for at least three years or the death benefit proceeds will be included in the decedent’s estate, just as if he or she still owned the policies at the time of death. Also, when existing whole life policies are transferred into the trust, their cash values are treated as gifts to the trust beneficiaries. A taxpayer with a large estate that will owe some federal estate tax can set up an irrevocable life insurance trust to buy coverage on his or her life. The death benefit proceeds can then be used to cover all or part of the estate tax bill after the insured dies. This result is achieved by authorizing the trustee of the life insurance trust to purchase assets from decedent’s estate or make loans to the estate. The extra liquidity is then used to cover the estate tax bill. When the irrevocable life insurance trust is eventually liquidated by distributing its assets to the trust beneficiaries (usually insured’s children and/or grandchildren), the beneficiaries will wind up with the assets purchased from taxpayer’s estate or with liabilities owed to them. The end result © 2024 Surgent Consolidated, LLC 257 INDIVIDUALS is that the federal estate tax bill gets paid with dollars that are not themselves subject to the federal estate tax. 1510.06 Filing requirements The executor of a decedent’s estate uses Form 706 to figure the estate tax. This tax is levied on the entire taxable estate and not just on the share received by a particular beneficiary. For decedents dying in 2023 or later, Form 706 must be filed by the executor for the estate of every U.S. citizen or resident: a. Whose gross estate, plus adjusted taxable gifts and specific exemption, is more than $12.92 million (in 2023); or b. Whose executor wants to make the election to permit the decedent’s surviving spouse to use the decedent’s unused exclusion amount, regardless of the size of the decedent’s gross estate. If it is determined that filing a return for the estate is not required, the estate should nonetheless file a return if the executor wishes to elect to allow the decedent’s surviving spouse to use the decedent’s unused exclusion amount for estate and gift tax purposes. A taxpayer must file Form 706 to report estate and/or GST tax within nine months after the date of the decedent’s death. If the taxpayer is unable to file Form 706 by the due date, the estate may receive an extension of time to file. Use Form 4768, Application for Extension of Time To File a Return and/or Pay U.S. Estate (and Generation‐Skipping Transfer) Taxes, to apply for an automatic six‐month extension of time to file. 258 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1510.07 Jointly‐held property 1. Joint tenants with rights of survivorship If the property was held by both spouses as joint tenants with rights of survivorship (i.e., they each owned half of the property and each half automatically passes to the other), then each spouse is considered to own 50 percent of the property’s value. Thus, 50 percent of the value will be considered part of the estate and potentially subject to estate tax. Because of the rights of survivorship, that half will automatically pass into possession of the surviving spouse, typically without any probate process. Furthermore, because spouses are entitled to a tax deduction on the value of estates passed to them from a marriage partner, the surviving spouse likely will not end up owing estate tax on the value of this jointly held property. This arrangement may only delay the tax rather than allow the heirs to forego it entirely. Because the property need not go through probate when one spouse dies, estate tax requirements are not considered at that time. But when the final surviving spouse passes away, the property ‐‐ valued in its entirety ‐‐ will have to go through probate and will be considered taxable to the estate. 2. Tenancy by the entirety Tenancy by the entirety means that the two spouses do not have an independent interest in the property and are considered to be one legal unit that owns the whole property. This means that there is nothing to pass upon the death of one spouse, as each owned the entire estate during life. The right of survivorship means one person succeeds to exclusive ownership; therefore, no estate tax applies. It is important to note; however, that this arrangement is currently available only to husbands and wives by marriage and cannot be used by any other individuals to avoid estate tax requirements when property is transferred. © 2024 Surgent Consolidated, LLC 259 INDIVIDUALS 3. When two or more non‐married people own property together with rights of survivorship When the joint tenants with rights of survivorship are not married, the full value of the property in question will be included in the estate and taxed accordingly upon the passing of one of the owners. This does not apply if the surviving individual can prove they paid for the acquisition of their part of the property. In other words, if two business partners jointly own an office building, and one passes away, the surviving business partner must show proof of the payments he or she personally made for his or her share of the building. If he or she proves that he or she paid for 70 percent of the building, then the remaining 30 percent will be regarded as owned by the deceased and only that 30 percent will be subject to the estate tax. 1510.08 Marital deduction and other marital issues If a taxpayer’s spouse is a U.S. citizen, the taxpayer can leave any amount to him or her with no federal estate tax, and if the taxpayer is a U.S. citizen, the taxpayer’s spouse can do the same. This is the so‐called unlimited marital deduction privilege. For married couples, the $12.92 million federal estate tax exemption and the unlimited marital deduction privilege provide significant federal estate tax shelter for those who died in 2023. For 2023, a taxpayer can direct the executor of his or her estate to leave any unused federal estate tax exemption to his or her surviving spouse. For example, if a taxpayer dies in 2023, he or she can bequeath all his or her property to his or her spouse, including his or her unused $12.92 million exemption. The surviving spouse would then have a $25.84 million exemption if he or she died in 2023 (his or her own $12.92 million exemption plus the deceased spouse’s unused $12.92 million exemption). Portability was made permanent for 2013 and after. Portability requires that an estate tax return (Form 706) be filed and portability be elected on that return even if there is no federal estate tax liability. 260 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1510.09 IRAs and retirement plans Upon the death of an owner of an IRA or a qualified plan, any remaining balance is included in the calculation of the gross estate. After death, income payments made from retirement accounts to the designated beneficiaries will be taxed when they are received as ordinary income. Although qualified plans and IRAs are generally a very good way to accumulate dollars for retirement, they are not necessarily good vehicles for passing money to future generations. At death, these assets trigger tax and are known as “income in respect of a decedent” (IRD) assets. For income tax purposes, IRD assets, unlike other assets, do not receive a step‐up in basis at the death of the owner. The bottom line is that such assets are theoretically subject to both estate tax and income tax. When a participant dies with a qualified plan or IRA asset, it is included in his or her estate subject to estate tax. Then, in the year(s) it is distributed to the named beneficiary, it must be included in the recipient’s income for tax purposes and is taxed again. Even though the recipient beneficiary is allowed a deduction for the estate tax attributed to the amount received, this “double tax” can substantially reduce the value passing to the heirs. The IRD deduction is a Schedule A deduction not subject to the 2 percent AGI limitation. The IRD deduction is taken in proportion to how much of the IRD income is included by the distributee. A taxpayer does not run out of time to claim the IRD deduction and can claim the deduction until the account is totally distributed. There is no dollar limit on the amount of IRD deduction that can be claimed, but the taxpayer can only take the deduction against IRD income that he or she reports. If a taxpayer missed taking the IRD deduction, he or she may go back three years (the statute of limitations) and amend his or her federal income tax returns to claim the IRD deductions that he or she missed. If there are still funds in the IRA or employer‐sponsored plan the taxpayer inherited, he or she can keep taking the IRD deduction against future distributions as long as those funds last. © 2024 Surgent Consolidated, LLC 261 INDIVIDUALS 1520 Gift Tax 1520.01 Introduction The purpose of the federal gift tax is to prevent a taxpayer’s avoidance of the estate tax. To arrive at taxable gifts for the year, the taxpayer’s total gifts may be reduced by the annual exclusion and by the deductions allowed for property transferred to a spouse or charity. The annual exclusion is $17,000 in 2023. The annual exclusion is allowed each year even if the donor has made gifts in the prior years to the same donee. As a practical matter, the $12.92 million transfer tax exemption ($25.84 million for married couples), protects most individuals from the estate and gift tax. However, for high wealth individuals, gifts can produce substantial savings. For example, a gift of income producing property (e.g., dividend paying stock or rental real estate) to children who may be in lower tax brackets not only reduces the income tax that might be paid but also removes all of the accumulated income from the donor’s estate. In addition, a gift of property that is appreciating or will increase in value (e.g., land, stock, art, life insurance), removes all of the appreciation from the estate by transferring ownership of the property. Under current federal estate tax laws, taxable gifts made after 1976 are added to the taxable estate to arrive at total taxable transfers. A tentative estate tax is then computed on the base amount. All gift taxes paid on post‐1976 gifts, as well as certain tax credits, are subtracted from this tentative tax in arriving at the federal estate tax due, if any. Most estate tax credits have a single underlying purpose ‐‐ to reduce or eliminate the effect of multiple taxation of a single estate. Estate taxes paid to the various states or foreign countries on property owned by the decedent and located within their boundaries are examples of estate tax credits. However, the major credit available to reduce the federal estate tax has been the unified credit. The unified credit protects all but the wealthiest of taxpayers from the estate and gift tax. The credit is unified in the sense that it can be used to offset gift taxes during the taxpayer’s life. However, any credit used for gift tax purposes is not available at death. 262 © 2024 Surgent Consolidated, LLC  INDIVIDUALS A citizen or resident of the United States must file a gift tax return (whether or not any tax is ultimately due) in the following situations. If taxpayer gave gifts to someone in 2023 totaling more than $17,000 (other than to a spouse), Form 709 must be filed. Certain gifts, called future interests, are not subject to the $17,000 annual exclusion (for 2023) and the taxpayer must file Form 709 even if the gift was under $17,000. A husband and wife may not file a joint gift tax return. Each individual is responsible for his or her own Form 709. A taxpayer must file a gift tax return to split gifts with spouse (regardless of their amount). a. If a gift is of community property, it is considered made one‐half by each spouse. For example, a gift of $100,000 of community property is considered a gift of $50,000 made by each spouse, and each spouse must file a gift tax return. b. Likewise, each spouse must file a gift tax return if they have made a gift of property held by them as joint tenants or tenants by the entirety. c. Only individuals are required to file gift tax returns. If a trust, estate, partnership, or corporation makes a gift, the individual beneficiaries, partners, or stockholders are considered donors and may be liable for the gift and GST taxes. d. The donor is responsible for paying the gift tax. However, if the donor does not pay the tax, the person receiving the gift may have to pay the tax. e. If a donor dies before filing a return, the donor's executor must file the return. If a taxpayer meets all of the following requirements, he or she is not required to file Form 709: a. Taxpayer made no gifts during the year to his or her spouse; b. Taxpayer did not give more than $17,000 to any one donee in 2023; and c. All the gifts made were of present interests. © 2024 Surgent Consolidated, LLC 263 INDIVIDUALS The gift tax is a tax on the transfer of property by one individual to another while receiving nothing, or less than full value, in return. The tax applies whether the donor intends the transfer to be a gift or not. The gift tax applies to the transfer by gift of any property. A taxpayer makes a gift if he or she gives property (including money) or the use of or income from property, without expecting to receive something of at least equal value in return. If a taxpayer sells something at less than its full value or if a taxpayer makes an interest‐free or reduced‐interest loan, he or she may be making a gift. The donor is generally responsible for paying the gift tax. Under special arrangements, the donee may agree to pay the tax instead. Any transfer to an individual, either directly or indirectly, where full consideration (measured in money or money’s worth) is not received in return is a gift. The general rule is that any gift is a taxable gift. However, there are many exceptions to this rule. Generally, the following gifts are not taxable gifts: a. Gifts that are not more than the annual exclusion for the calendar year ‐‐ $17,000 for 2023; b. Tuition or medical expenses a taxpayer pays for someone (the educational and medical exclusions); c. Gifts to a taxpayer’s spouse; and d. Gifts to a political organization for its use. In addition to this, gifts to qualifying charities are deductible from the value of the gift(s) made. Making a gift or leaving an estate to a taxpayer’s heirs does not ordinarily affect a taxpayer’s federal income tax. The taxpayer cannot deduct the value of gifts he or she makes (other than gifts that are deductible charitable contributions). 264 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1520.02 Gift‐splitting Another unique feature of the federal gift tax involves the gift‐ splitting election available to a married donor. If a donor makes the election on his or her current gift tax return, one half of all gifts made during the year will be considered to have been made by the donor’s spouse. The election is valid only if both spouses consent to gift‐splitting. If each spouse agrees, each can then take the annual exclusion for his or her part of the gift. For 2023, the gift splitting election allows married couples to give up to $34,000 to a person without making a taxable gift. If spouses split a gift, each must file a gift tax return (Form 709) to show that the spouses have agreed to split gifts. The taxpayers must file a Form 709 even if half of the split gift is less than the annual exclusion. The consent is effective for the entire calendar year; therefore, all gifts made by both spouses to third parties during the calendar year (while they were married) must be split. If the consent is effective, the liability for the entire gift tax of each spouse is joint and several. 1520.03 Annual per donee exclusion The annual exclusion is the maximum amount that an individual is allowed to give another person without incurring federal gift tax. The annual exclusion for 2023 is $17,000 per year per recipient. There is no limit on the number of these gifts an individual can make to different people in a year. To qualify as a gift, the transfer must be of a “present interest,” meaning that the recipient can make use of the gift immediately, and the donor must not have any control over the asset after it is given. a. Gifts of future interests cannot be excluded under the annual exclusion. A gift of a future interest is a gift that is limited so that its use, possession, or enjoyment will begin at some point in the future. If the taxpayer is married, both spouses can separately give gifts valued up to $17,000 to the same person without making a taxable gift in 2023. b. As part of an overall strategy to minimize or eliminate estate taxes, many taxpayers take advantage of the annual exclusion from gift tax, the ability in 2023 to gift a present interest in property of up to $17,000, or $34,000 if gift © 2024 Surgent Consolidated, LLC 265 INDIVIDUALS splitting is elected, to as many individuals as the donor wishes. In addition to the annual exclusion, an individual may utilize the $12.92 million gift tax exemption amount for 2023 for gifts made during the individual’s lifetime. Gifts serve to remove the appreciation on the gifted property after the gift, as well as any income earned after the gift is made, from the estate of the donor. Some tax practitioners recommend that their clients utilize the $12.92 million lifetime exemption (for 2023) as quickly as possible when the donor will be gifting rapidly appreciating property so as to avoid gift or estate taxation on the future appreciation. c. Gifts to nonspouse individuals in excess of an individual’s annual exclusion gifts and his or her lifetime exemption are generally taxable. Although the tax rate schedules for gift tax and estate tax appear to be the same in terms of applicable rates, the amounts against which these rates are applied are different. Gift taxes are computed only on the amount the recipient actually receives, whereas estate taxes are computed on the total of the assets in the estate prior to any distribution. As a result of this difference in computation, the highest gift tax rate is effectively lower than the lowest estate tax rate. 1520.04 Unified credit The unified credit applies to both the gift tax and the estate tax, and it equals the tax on the applicable exclusion amount. The donor must subtract the unified credit from any gift or estate tax that he or she owes. Any unified credit a taxpayer uses against gift tax in one year reduces the amount of credit that he or she can use against gift or estate taxes in a later year. Beginning in 2011, the amount of unified credit available to a person equals the tax on the basic exclusion amount plus the tax on any deceased spousal unused exclusion (DSUE) amount. The DSUE is only available if an election was made on the deceased spouse’s Form 706. 266 © 2024 Surgent Consolidated, LLC  INDIVIDUALS The unified credit amount of $12.92 million is in effect for 2023, and allows an individual to make gifts or bequests to any person up to $12.92 million free of estate and gift taxes. If the estate exceeded $12.92 million in 2023, the excess would be subject to estate and gift taxed at a 40 percent rate. When a person dies, his or her total taxable lifetime gifts (gifts in excess of the annual gift exclusion) are added to his or her gross estate to compute the estate tax, if any. The same gift tax rates apply to estate taxes; however, a tax credit is given based on prior gift taxes paid. This is why estate and gift taxes are referred to as a unified tax regime. Basically, any unified credit not used to eliminate gift tax can be used to eliminate or reduce estate tax. However, to determine the unified credit available for use against the estate tax, the taxpayer must complete the Estate Tax return, Form 706. Although it may seem counterintuitive to make taxable gifts in excess of the $12.92 million exemption amount for 2023, it may make economic sense to do so if the estate tax exemption would not otherwise exceed the value of the taxable estate at the time of the donor’s death. In addition, gifting income‐generating assets allows the income and appreciation related to those assets to inure to the transferees rather than to the transferor. Although there are clearly certain offsetting factors, such as loss of a “stepped up” basis at death and loss of the use of the money used to pay gift taxes, in many cases these offsetting factors do not outweigh the benefits of making taxable gifts during the owner’s lifetime. 1. Gifts for education and medical expenses Gifts used for tuition or medical expenses are not limited by the $17,000 (in 2023) maximum annual exclusion limitation. An unlimited gift tax exclusion is allowed for amounts paid on behalf of a donee directly to an educational organization, provided such amounts constitute tuition payments. Amounts paid for books and dormitory fees on behalf of the donee are not eligible for the exclusion. Amounts paid directly to health care providers for medical services on behalf of a donee also qualify for the unlimited gift tax exclusion. © 2024 Surgent Consolidated, LLC 267 INDIVIDUALS Many donors have historically used minority interest and marketability discounts to leverage the value of both their annual exclusion gifts as well as their lifetime exemption gifts when interests are transferred where discounting would be appropriate. Gifts of limited partnership interests, for example, in family limited partnerships, are often subject to substantial discounts. The magnitude of discounts taken has varied depending upon the kind of property gifted and whether or not minority interest discounts apply. 2. Gifting and §529 Plans A qualified tuition program (§529 plan) is a program set up to allow an individual to either prepay, or contribute to an account established for paying, a student’s qualified education expenses at an eligible educational institution. A §529 plan can be established and maintained by states (or agencies or instrumentalities of a state) and eligible educational institutions. The amount invested grows tax‐ deferred, and distributions to pay for the beneficiary’s college costs come out federally tax‐free. In a §529 plan, the donor remains in control of the account even though the funding of the account is a completed gift. With a few exceptions, the named beneficiary has no rights to the funds. The donor decides when withdrawals are taken and for what purpose. Most §529 plans even allow the donor to reclaim the funds any time he or she desires; however, the earnings portion of the “non‐qualified” withdrawal will be subject to income tax and an additional 10 percent penalty tax. There are no tax consequences if the designated beneficiary of an account is changed to a member of the beneficiary’s family. 268 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 3. Five‐year front‐loaded annual exclusion gifts With respect to the gift and estate tax treatment of an investment in a §529 plan, the contribution is treated as a gift to the named beneficiary for gift tax and generation‐ skipping transfer tax purposes; however, the contribution qualifies for the $17,000 (in 2023) annual gift tax exclusion. An individual who makes a contribution of between $17,000 and $85,000 in 2023 for a beneficiary can elect to treat the contribution as made over a five calendar‐year period. This allows the donor to utilize as much as $85,000 in annual exclusions to shelter a contribution ($170,000 if the spousal election is utilized in 2023). The advantage of “front loading” §529 plan contributions is that the growth of the funds invested in the account is removed from the donor’s estate faster than if the donor made $17,000 annual exclusion contributions each year. The unified credit equals the tax on the applicable exclusion amount applies to both the gift tax and the estate tax. In calculating the gift or estate tax, the taxpayer will subtract the unified credit from any gift or estate tax owed. Any unified credit used against gift tax in one year reduces the amount of credit that the taxpayer can use against gift or estate taxes in a later year. 1520.05 Effect on estate tax (e.g., Generation skipping transfer tax) The federal generation skipping tax (GST) applies when a donor conveys in excess of a stated dollar limitation (GST limitation) to a generation beyond the next living generation, for example, skipping over living children in favor of grandchildren, etc. (known as a “generation skip”). The dollar limitation for the GST limitation has historically been the same dollar amount as the unified credit against estate taxes (i.e., $12.92 million in 2023). In effect, this means that fully utilizing the GST limitation transfers by means of a generation skip (e.g., to grandchildren, etc.) passes without the estate(s) of the skipped generation (e.g., children) ever being exposed to imposition of any estate or gift tax on such a transfer. As to amounts above the GST limitation, the GST essentially recaptures these prospective savings immediately. © 2024 Surgent Consolidated, LLC 269 INDIVIDUALS Gifts of the annual exclusion amount to children, grandchildren, and other beneficiaries are often recommended as an excellent way to reduce taxable estate at no transfer tax cost. Outright gifts to grandchildren of the annual exclusion amount will also be exempt from the GST. Gifts in trust for grandchildren that qualify for the gift tax annual exclusion can also qualify for exclusion from the GST if the trust is properly structured. Payments of tuition, if paid directly to the educational institution, and payments of medical expenses, if paid directly to the provider of the services, are also transfers that are not considered taxable gifts and are not subject to GST. The exemption from the GST for 2023 is $12.92 million, the same as for gifts and estates. Hence transfers of this amount or less are not subject to the GST. The GST tax may apply to gifts during a taxpayer’s life or transfers occurring at the taxpayer’s death, called bequests, made to skip persons. A skip person is a person who belongs to a generation that is two or more generations below the generation of the donor. For instance, a grandchild will generally be a skip person to a taxpayer or to his or her spouse. The GST tax is figured on the amount of the gift or bequest transferred to a skip person after subtracting any GST exemption allocated to the gift or bequest at the maximum gift and estate tax rates. Each individual has a GST exemption equal to the basic exclusion amount, as indexed for inflation, for the year involved. GSTs have three forms: direct skip, taxable distribution, and taxable termination. A direct skip is a transfer made during the taxpayer’s life or occurring at his or her death that is: a. Subject to the gift or estate tax; b. Of an interest in property; and c. Made to a skip person. A taxable distribution is any distribution from a trust to a skip person which is not a direct skip or a taxable termination. A taxable termination is the end of a trust’s interest in property where the property interest will be transferred to a skip person. 270 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1520.06 Filing requirements Generally, an individual taxpayer must file a gift tax return (Form 709) if any of the following apply: a. Taxpayer gave gifts to at least one person (other than his or her spouse) that are more than the annual exclusion for the year ‐‐ $17,000 for 2023. A husband and wife may not file a joint gift tax return. Each individual is responsible for his or her own Form 709; b. Taxpayer gave someone (other than his or her spouse) a gift of a future interest that he or she cannot actually possess, enjoy, or receive income from until sometime in the future; or c. Taxpayer gave his or her spouse an interest in property that will be ended by some future event. A taxpayer does not have to file a gift tax return to report gifts to (or for the use of) political organizations and gifts made by paying someone’s tuition or medical expenses. A taxpayer does not need to report the following deductible gifts made to charities: a. The taxpayer’s entire interest in property, if no other interest has been transferred for less than adequate consideration or for other than a charitable use; or b. A qualified conservation contribution that is a perpetual restriction on the use of real property. 1. Gifts to charities If the only gifts a taxpayer made during the year are deductible as gifts to charities, he or she does not need to file a return as long as the taxpayer transferred his or her entire interest in the property to qualifying charities. If the taxpayer transferred only a partial interest, or transferred part of his or her interest to someone other than a charity, he or she must still file a return and report all of his or her gifts to charities. If a taxpayer is required to file a return to report noncharitable gifts and he or she made gifts to charities, he or she must include all of his or her gifts to charities on the return. © 2024 Surgent Consolidated, LLC 271 INDIVIDUALS 2. Filing Form 709 Generally, a donor must file Form 709 no earlier than January 1, but not later than April 15, of the year after the gift was made. If the donor died during 2023, the executor must file the donor’s 2023 Form 709 not later than the earlier of: The due date (with extensions) for filing the donor's estate tax return; or April 15, 2024, or the extended due date granted for filing the donor's gift tax return. 3. Who must file Form 709 Generally, a citizen or resident of the United States must file a gift tax return (whether or not any tax is ultimately due) in the following situations: If the taxpayer gave gifts to someone in 2023 totaling more than $17,000 (other than to a spouse), he or she probably must file Form 709. Certain gifts, called future interests, are not subject to the $17,000 annual exclusion and the donor must file Form 709 even if the gift was under $17,000. A husband and wife may not file a joint gift tax return. Each individual is responsible for his or her own Form 709. A taxpayer must file a gift tax return to split gifts with his or her spouse (regardless of their amount). If a gift is of community property, it is considered made one‐half by each spouse. For example, a gift of $100,000 of community property is considered a gift of $50,000 made by each spouse, and each spouse must file a gift tax return. Likewise, each spouse must file a gift tax return if they have made a gift of property held by them as joint tenants or tenants by the entirety. 272 © 2024 Surgent Consolidated, LLC  INDIVIDUALS 1530 International Information Reporting 1530.01 FinCEN Form 114 In a global economy with diversified investment portfolios that oftentimes include an international component, more and more American people are impacted by the provisions of the law known as the Bank Secrecy Act. More than any other country, the United States has a significant number of permanent resident immigrants who maintain economic ties with their countries of birth, economic ties that are associated with bank accounts in that respective country. FinCen Form 114 is a disclosure form (informational purposes only, no tax due associated with the Form itself) that must be filed by a United States person (defined below) that has: a. Financial interest in or signature or other authority over at least one financial account located outside the United States if b. The aggregate value of those foreign financial accounts exceeded $10,000 at any time during the calendar year reported. One common question filers have refers to whether they have a filing obligation when the foreign bank accounts maintained abroad each have a balance below $10,000. The answer is “yes” to the extent the aggregate of the balances held in each account amounts to $10,000. The highest balance does not need to be measured at the same time. Each highest balance has to be considered throughout the year independent of when the other accounts have reached their own highest balance for purposes of determining whether the filing threshold has been reached. The $10,000 amount does not double for a married filing jointly couple. © 2024 Surgent Consolidated, LLC