Tax Planning For 2023

As 2022 draws to a close and the New Year dawns, we need to think of…tax planning! Some years Congress tweaks the laws more than in other years. While 2022 held plenty of events: the war in Ukraine, an improved “bivalent” coronavirus vaccine addressing new coronavirus variants, the U.S. midterms elections, etc., it was a relatively quiet year for legislative changes impacting planning. Still, even in a quiet year, some things change due to inflation increases, etc.

Estate Tax Planning
Applicable Exclusion rises from $12.06 million in 2022 to $12.92 million in 2023.
GST Exemption rises from $12.06 million in 2022 to $12.92 million in 2023.
Annual Exclusion for present interest gifts rises to $17,000 in 2023.
Annual Exclusion for gifts to a Noncitizen Spouse rises to $175,000 in 2023.

In a few years, at the end of 2025, the Applicable Exclusion and the GST Exemption will revert to one-half of their current levels, in other words to $5 million, adjusted for inflation from the 2011 base year. This isn’t relevant for most Americans. However, if you have well over these amounts, you may want to consider removing these amounts from your estate while you still have the temporarily doubled Exclusion and Exemption to cover the transfers. You still have until January 1, 2026, before the law is set to change unless Congress changes things dramatically before then, which appears unlikely at least for the next two years given the closely divided Congress and Senate.

Income Tax Planning
Standard deduction amount:
Married, filing jointly, increases from $25,900 in 2022 to $27,700 in 2023.
Single, increases from $12,950 in 2022 to $13,850 in 2023.
Head of household, increases from $19,400 in 2022 to $20,800 in 2023.
State and Local Tax (SALT) deduction cap remain at $10,000 in 2023.
The income tax brackets creep slightly higher, as well.

As you plan for 2023, remember to keep your receipts for expenses and charitable contributions. With the high standard deduction amount and the cap on State and Local Tax deductions remaining at $10,000, fewer taxpayers are itemizing. In fact, the percentage of taxpayers itemizing is less than half what it was before the Tax Cuts and Jobs Act of 2017. According to the Tax Foundation, less than 14% of taxpayers itemize each year after the TCJA. Before then, over 31% of taxpayers itemized. If you give to charity, you may want to group your charitable contributions into one year and itemize them in that one year, and take the standard deduction in other years. You can do this by consolidating giving to a Donor Advised Fund (“DAF”) in one year. Then you can make grant recommendations from your DAF each year. This way, your tax planning won’t impact your favorite charities.

Let’s look at an example. John and Mary make $17,000 of charitable contributions to their church, alma mater, or other charities each year. They have state and local tax deductions above the $10,000 limit. They have a total of $27,000 of deductions and they’d be better off taking the standard deduction ($27,700 in 2023). Rather than giving $17,000 for each of three years to charity, they could give 3 x $17,000 ($51,000) in one year and they’d get a much better tax result. If they gave $51,000 in year 1 to a DAF, combined with their SALT deduction of $10,000, they’d have $61,000 of deductions instead of the standard deduction of $27,700. In years 2 and 3, they’d just have the SALT deduction of $10,000 and no charitable deduction but could still take the standard deduction ($27,700 in 2023). The charities would get their funds each year just as usual when John and Mary make the grant recommendations from their DAF. John and Mary would get a much better tax result. In year 1, they’d have $61,000 of deductions instead of $27,700, an increase of $33,300. Their deductions in years 2 and 3 would not change, because either way they’d be taking the standard deduction in those years. Depending upon John and Mary’s income tax bracket, this increased deduction could save them over $12,000 in federal taxes alone.

A little planning can produce a much better tax result. Have a happy, healthy, and prosperous 2023!

‘Tis the Season For Giving

As we wind down 2022 and begin planning for 2023, it’s a great time to consider your 2022 individual income taxes and explore ways to position yourself favorably for those taxes. There are still a few days left to make last-minute charitable gifts before December 31, 2022. While certain benefits like the special provision included in the Coronavirus Aid Relief and Economic Security (‘CARES’) Act and subsequently extended by the Taxpayer Certainty Disaster Relief Act of 2020 that allowed anyone (even those who take the standard deduction) to deduct up to $300 for donations to a qualifying charity on their federal income tax return ($600 for married couples) expired at the end of 2021, it’s still possible to take advantage of other favorable provisions designed to lower your overall tax bill if you are willing to itemize your deductions. Of course, this means that the taxpayer needs to do a little more work and “run the numbers” to determine whether itemizing makes sense for them.

Taxpayers who make donations to a supporting organization, Private Foundation, Charitable Remainder Trust (‘CRT’), or a Donor Advised Fund (‘DAF’) could take these charitable deductions as itemized deductions as noted above. A supporting organization is a charity that accomplishes its exempt purposes by supporting other exempt organizations, usually public charities. A Private Foundation is a trust or corporation dedicated to achieving a charitable mission created by a single individual, family, or corporation. A CRT is a trust in which the donor keeps an annuity or unitrust payment stream for a term of years or life and gives the remainder interest to a charity. The DAF is an account maintained by a charity that allows the donor to advise on how to distribute or invest amounts contributed by the donor held in the fund.

Of the above charitable vehicles, DAFs have continued to grow in popularity in recent years. According to the National Philanthropic Trust, the 2022 DAF Report found DAF donors granted at historic levels with grants to qualified charities of over $45 billion in 2021. That amount represented a 28.2% increase in donations from 2020, which was higher by 28.3% than in 2019. DAF grant payout rate was 27.3%, which exceeded the ten-year average payout rate of 22.2% demonstrating the popularity and power of the DAF as a charitable vehicle. Contributions to DAFs give an immediate income tax deduction to the donor while creating a reservoir of assets for distribution to charities in the future. In addition, DAFs provide an opportunity for donors to invest contributed funds and make suggestions regarding which charities should receive the distributions. Donors may change their recommendations regarding charitable distributions allowing great flexibility coupled with immediate benefits. Donors may combine DAFs with other strategies to produce even better results. For example, if a donor gave highly appreciated public stock to a DAF, the donor would receive an income tax deduction for the full value of the appreciated stock without ever paying tax on the gains. DAFs complement any charitable giving strategy already in effect and provide a great opportunity for those new to charitable giving to discover the benefits it provides.

Individuals making any of these gifts need to itemize their deductions to receive a charitable income tax deduction. The foregoing charitable opportunities present just a few of the myriad ways in which a taxpayer can remove the assets, as well as the appreciation on those assets, from their taxable estate and obtain an income tax charitable deduction. Year-end presents a wonderful time to consider these and other Estate Planning issues. Charitable contributions offer an excellent opportunity to give by doing good for the community and to receive an income tax charitable deduction for your efforts. Several communities are still reeling from the pandemic, have suffered high levels of inflation, and need our help now more than ever.

The Importance Of Having An Estate Plan

The headline read “Battle Over Anne Heche’s Estate Settled” when it should have read “Yet Another Celebrity Dies Without an Estate Plan.” Anne Heche was a well-known actress who died unexpectedly following a fiery car crash in August 2022. Anne left behind two sons, one of whom is 20, the other of whom is 13, and no estate plan. Her case was tragic and the results were completely avoidable in many ways. Because Anne failed to create even a basic Will, her estate will pass pursuant to the laws of intestacy in California through a public probate process. In addition, California State Statutes will determine who will receive her estate and how they will receive it. Anne’s 20-year-old son petitioned and ultimately won the right to administer his mother’s estate, despite several claims brought by the father of Anne’s 13-year-old son. While he has won this battle, the war is far from over and he will undoubtedly have his work cut out for him administering his mother’s estate. Anne’s death illustrates yet another of the many reasons why it’s vital to have an Estate Plan, regardless of your age or level of wealth.

Anne could have avoided this result by creating a comprehensive Estate Plan. A comprehensive Estate Plan consists of a Revocable Trust, pour-over Will, Property Power of Attorney, Health Care Power of Attorney, Living Will, and a Health Insurance Portability and Accountability Act Authorization. These documents protect a client during life and at death and, if properly structured, can protect the beneficiaries as well. During life, the plan acts as a set of instructions regarding who makes what decision, be it medical or financial if the client is unable to make those decisions. At death, these documents dictate who controls the distribution of the estate, to whom the estate will be distributed, and when and how it will be distributed to those individuals. If the client signed a Revocable Trust, then that would keep the decedent’s plan private, unlike the public fight over who would distribute Anne’s. Of course, even if Anne had a Will, that Will would be public, although it would have allowed her to select the individual responsible for administering her estate, rather than letting the court decide who would administer the estate. While she may have named her son who now holds that responsibility, it’s entirely possible that she would have chosen someone older and with more experience in dealing with such matters. Most clients would not choose an unemployed 20-year-old to serve in this role.

If Anne had created a comprehensive Estate Plan, she could have included provisions to protect her children. For example, a lifetime trust for the benefit of each son would provide continuing asset management, divorce protection, asset protection, and estate tax protection for them. Because Anne failed to create any plan whatsoever, her eldest son will receive his inheritance outright. That will allow him unfettered access to the funds and will not protect them from the claims of his creditors. Her youngest son’s inheritance will likely end up in an account administered by someone else, potentially with significant court oversight. If Anne had taken the time to create a plan, she could have decided how she wanted each son to receive his inheritance and who would be responsible for distributing the assets to that son. By failing to create a comprehensive Estate Plan, Anne deprived her sons of these benefits and saddled them with some undesirable consequences at a time when they should have room to grieve her untimely death.

Anne’s eldest son has significant responsibilities and duties in administering her estate. He needs to collect and distribute the assets of the estate while defending various lawsuits and incurring significant attorneys’ fees, all on a public stage and while grieving the loss of his mother. Make sure that the same cannot be said for your own family by creating a comprehensive Estate Plan.

Now that the Mid-terms are over, let’s talk taxes

While many commentators saw the mid-term elections as an opportunity to focus on whether the Senate would remain blue and the House would turn red, they ignored other important aspects of the mid-term elections.   According to Ballotpedia, voters in 37 states considered more than just who would take office.  Folks cast ballots for a wide range of issues, such as approving the issuance of bonds for the development of low-income housing, raising the minimum wage, and increasing taxes.  You might think that with the continued rise of inflation, voters would oppose any measure that might increase their taxes, but as we will discover, that’s not always the case.

Perhaps unsurprisingly, Massachusetts, a state that has one of the highest individual income tax collections per capita ($2,477) passed a measure that would amend their state constitution by establishing an additional 4% state income tax on annual taxable income of more than $1 million, adjusted annually for inflation.  Massachusetts imposes a state income tax and taxes on both long and short-term capital gains.  Massachusetts also imposes a state estate tax on estates that exceed $1 million.  New York is the only state with a higher individual income tax collection amount per capita ($2,656).  New York also taxes individual income and capital gains and imposes a state estate tax; however, it imposes a state estate tax on estates exceeding $6.1 million.  According to Charles Schwab, Connecticut, California, and Oregon round out the top-five states with the highest individual income tax collections per capita at $2,268, $2,135, and $2,038, respectively.  Connecticut also imposes a state estate tax on estates exceeding $9.1 million and Oregon imposes a state estate tax on estates exceeding $1 million.  Oregon, along with Missouri and Montana, allows residents to deduct a portion of federal taxes paid from state tax liability.  Alabama, Iowa, and Louisiana allow a full deduction of amounts paid at the federal level.

California voters also had the opportunity to decide whether they wanted to impose additional taxes on personal income, ultimately voting against the measure to add 1.75% tax rate on income exceeding $2 million.  While California does not impose a state estate tax, it imposes an income tax and tax on capital gains at the same rate.  Alabama, Arizona, Arkansas, Colorado, Delaware, Georgia, Hawaii, Idaho, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maine, Maryland, Michigan, Minnesota, Mississippi, Missouri, Montana, Nebraska, New Jersey, New Mexico, North Carolina, North Dakota, Ohio, Oklahoma, Pennsylvania, Rhode Island, South Carolina, Utah, Vermont, Virginia, West Virginia, and Wisconsin in addition to California, Connecticut, Massachusetts, New York, and Oregon all tax capital gains and individual income at graduated tax rates beginning at the low end of .25% in Oklahoma and topping out at the high end of 14.63%  in California.

As most everyone knows, Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, and Wyoming levy no personal income taxes or taxes on capital gains at the state level.  While New Hampshire does not tax income from wages, it does impose taxes on dividend and interest income.  Finally, Washington doesn’t impose taxes on personal income or capital gains, but in 2021 a bill passed that would have imposed tax on long-term capital gains above $250,000 beginning in 2022.  It was struck down in March 2022 and Washington State has appealed the ruling to the Washington Supreme Court.  A hearing date is pending.

Six states impose an inheritance tax:  Iowa, Kentucky, Maryland, Nebraska, New Jersey, and Pennsylvania.  Of those, Maryland has the distinction of being the sole state in the nation that imposes an estate tax in addition to the inheritance tax.  Hawaii, Illinois, Maine, Minnesota, Rhode Island, Vermont, and Washington join Connecticut, Maryland, Massachusetts, New York, and Oregon in imposing an estate tax.  The amounts on which they impose the tax vary greatly.  As noted above, Massachusetts imposes a tax on an estate with assets exceeding $1 million as does Oregon.  Rhode Island levies tax on estates with assets exceeding $1.65 million, Washington $2.2 million, Minnesota $3 million, Illinois $4 million, Vermont $5 million, Hawaii $5.5 million, and Maine $6.01 million.  The rates at which each state imposes tax range from .08% in Rhode Island to 20% in Washington, with many of the other states topping out at 16%.

Estate planning often focuses on taxes at the federal level and advanced estate planning focuses on techniques designed to freeze the value of assets or reduce the value for estate tax purposes.  For those desiring to lower their overall tax burden, it’s important to understand the impact that the taxes imposed by the individual’s state of residence and how, if at all, to reduce that burden as well as the interplay with taxes at the federal level.