©2013, College for Financial Planning, all rights reserved. Module 7 Tax Planning for the Family CERTIFIED FINANCIAL PLANNER CERTIFICATION PROFESSIONAL EDUCATION PROGRAM Income Tax Planning

Learning Objectives 7–1: Identify characteristics of an intrafamily transfer or education incentive. 7–2: Analyze a situation to identify income tax implications of an intrafamily transfer. 7–3: Evaluate a situation to select the most appropriate form of intrafamily transfer. 7–4: Analyze a situation involving a trust to determine whether its income is taxed to the grantor, the trust entity, or some other person. 7–5: Analyze a situation involving a charitable contribution to calculate the maximum allowable income tax deduction for the current year. 7–6: Identify characteristics of a common provision included in a divorce decree after 1984 tax rules. 7–7: Analyze a situation to determine income tax implications of a divorce decree. 7–8: Identify characteristics of a valid and enforceable premarital agreement. 7-2

Questions to Get Us Warmed Up 7-3

Learning Objectives 7–1: Identify characteristics of an intrafamily transfer or education incentive. 7–2: Analyze a situation to identify income tax implications of an intrafamily transfer. 7–3: Evaluate a situation to select the most appropriate form of intrafamily transfer. 7–4: Analyze a situation involving a trust to determine whether its income is taxed to the grantor, the trust entity, or some other person. 7–5: Analyze a situation involving a charitable contribution to calculate the maximum allowable income tax deduction for the current year. 7–6: Identify characteristics of a common provision included in a divorce decree after 1984 tax rules. 7–7: Analyze a situation to determine income tax implications of a divorce decree. 7–8: Identify characteristics of a valid and enforceable premarital agreement. 7-4

Unearned Income Rules Taxpayer eligible to be claimed as a dependent: Not allowed to use own personal exemption Limited standard deduction ($1,000) allowed against unearned income With earned and unearned income, then standard deduction is greater of: o $1,000 or o earned income, plus $350 o Up to amount of full standard deduction of $6,100 (2013) 7-5

Kiddie Tax Rules Child under the age of 18 18, if earned income less than ½ of own support 19 to 23 if a full-time student, and earned income less than ½ of own support Against unearned income: o First $1,000 sheltered by limited standard deduction o Next $1,000 at child’s rate o Over $2,000 at parents’ MITB (if higher) 7-6

Intrafamily Transfers UGMA/ UTMA Investment account titled in minor’s name No trust necessary Custodian appointed without court proceeding Account distributions irrelevant—earnings taxed Family Partnerships and Family S Corporations Conduit taxation Capital must be material income- producing factor Personal Exemption Allocation Used if several taxpayers support an individual 7-7

Intrafamily Transfers Gift Leaseback or Sale Leaseback Transfers property from high-bracket taxpayer to lower-bracket taxpayer High-bracket taxpayer can deduct as business expense the rental of property gifted or sold to lower-bracket taxpayer if valid business purpose 7-8

Intrafamily Transfers Outright Gifts (other than to minors) To produce benefit, must be irrevocable gift All future income from gift taxable to donee Gifts of appreciated property most favorable for transfer Installment Sales Spreads tax impact of sale over a number of years Related-party rules apply if buyer disposes of property early 7-9

Intrafamily Transfers Employment of Family Members Shifts income to lower-bracket taxpayers High-bracket taxpayer can deduct as business expense salary paid to lower-bracket taxpayer Unearned income rules do not apply No FICA if under 18 and unincorporated business 7-10

Educational Provisions U.S. Savings Bonds Redeemed for qualified higher education Purchased by individual age 24 or older Exclusion limited by AGI (approx. $110,000 to $140,000 MFJ) No gift bonds American Opportunity (Hope) Tax Credit Maximum credit of $2,500 per student No Hope for dope Phaseout based on AGI—$80K to $90K or $160K to $180K Only for first 4 years of College Only can be used for 4 years 7-11

Educational Provisions Lifetime Learning Credit $2,000 maximum per taxpayer Available for unlimited years May be used for CE, etc. AGI limits—$53K to $63K, or $107K to $127K Coverdell ESA Nondeductible contributions of $2,000 annually Generally tax-free distributions AGI phaseout—$95K to $110K or $190K to $220K 7-12

Educational Provisions Section 529 Plans (State Tuition Program) no AGI limit contributor or beneficiary may not “control” investment can change investment mix once per year roll over to different state every 12 months rollover may be allowed from UGMA or UTMA qualified distributions excluded from income 7-13

Learning Objectives 7–1: Identify characteristics of an intrafamily transfer or education incentive. 7–2: Analyze a situation to identify income tax implications of an intrafamily transfer. 7–3: Evaluate a situation to select the most appropriate form of intrafamily transfer. 7–4: Analyze a situation involving a trust to determine whether its income is taxed to the grantor, the trust entity, or some other person. 7–5: Analyze a situation involving a charitable contribution to calculate the maximum allowable income tax deduction for the current year. 7–6: Identify characteristics of a common provision included in a divorce decree after 1984 tax rules. 7–7: Analyze a situation to determine income tax implications of a divorce decree. 7–8: Identify characteristics of a valid and enforceable premarital agreement. 7-14

Grantor Trust Rules The grantor is taxed on the income of the trust if the grantor or the grantor’s spouse retains a significant reversionary interest in the corpus of the trust the grantor retains control over the benefits of the trust the grantor directly or indirectly retains certain administrative powers that can be exercised for the grantor’s benefit the grantor reserves the right to revoke the trust 7-15

Grantor Trust Rules The grantor is taxed on the income of the trust if the income is or may be used for the benefit of the grantor or the grantor’s spouse the income is or may be used to purchase life insurance on grantor or spouse the grantor is not the original grantor, but a “deemed” grantor because that individual has exclusive power exercisable to receive either the corpus or income of the trust the income is actually used to discharge a legal support obligation 7-16

Learning Objectives 7–1: Identify characteristics of an intrafamily transfer or education incentive. 7–2: Analyze a situation to identify income tax implications of an intrafamily transfer. 7–3: Evaluate a situation to select the most appropriate form of intrafamily transfer. 7–4: Analyze a situation involving a trust to determine whether its income is taxed to the grantor, the trust entity, or some other person. 7–5: Analyze a situation involving a charitable contribution to calculate the maximum allowable income tax deduction for the current year. 7–6: Identify characteristics of a common provision included in a divorce decree after 1984 tax rules. 7–7: Analyze a situation to determine income tax implications of a divorce decree. 7–8: Identify characteristics of a valid and enforceable premarital agreement. 7-17

Maximum Current Year Deductions 7-18 Type of Organization Type of PropertyPublicPrivate Ordinary Income Property: Cash, STCG, self-constructed, inventory, use-unrelated tangible personalty 50%30% Fair Market Value Property: LTCG, use-related tangible personalty 30%20%

Learning Objectives 7–1: Identify characteristics of an intrafamily transfer or education incentive. 7–2: Analyze a situation to identify income tax implications of an intrafamily transfer. 7–3: Evaluate a situation to select the most appropriate form of intrafamily transfer. 7–4: Analyze a situation involving a trust to determine whether its income is taxed to the grantor, the trust entity, or some other person. 7–5: Analyze a situation involving a charitable contribution to calculate the maximum allowable income tax deduction for the current year. 7–6: Identify characteristics of a common provision included in a divorce decree after 1984 tax rules. 7–7: Analyze a situation to determine income tax implications of a divorce decree. 7–8: Identify characteristics of a valid and enforceable premarital agreement. 7-19

Common Provisions in a Divorce Decree Alimony Taxable to payee/recipient and deductible by payor, subject to excess front-loading rules and the following: Taxpayers cannot file a joint income tax return or live together at time of payment. Payments must be made in cash. Payments must be received by or for the benefit of the payee spouse. Payments cannot extend beyond the death of the recipient spouse. If legal document designate payments as nontaxable and nondeductible, then the payments are NOT treated as qualifying alimony. 7-20

Common Provisions in a Divorce Decree Child Support Nontaxable to payee/recipient Nondeductible by payor Dependency Exemption Awarded to custodial parent, or parent having custody of the child for the longer period of time, unless there is a written agreement to the contrary Property Settlement Tax-free transfer of property is between spouses incident to divorce Transferor’s basis in the property is carried over to transferee 7-21

Premarital Agreement Must be in writing and signed by both affected parties A full and complete disclosure of the parties’ net worth must be made Must not be intended to promote the procurement of a divorce Must be shown to have been executed willingly by both parties without duress or coercion 7-22

Review Question 1 Which one of the following statements regarding the American Opportunity tax credit is correct? a.The education expenses must be for the taxpayer, the taxpayer’s spouse, or a dependent of the taxpayer. b.There is a phaseout between $160,000 and $180,000 of AGI for single taxpayers. c.The credit applies during the first two years of postsecondary school. 7-23

Review Question 2 Which one of the following statements regarding the Coverdell Education Savings Account is not correct? a.Annual contributions of up to $500 per beneficiary under age 18 may be made. b.Contributions are phased out between $190,000 and $220,000 of AGI for married taxpayers filing jointly or between $95,000 and $110,000 of AGI for single taxpayers. c.Distributions that do not exceed qualified education expenses are tax free. 7-24

Review Question 3 Which one of the following is a characteristic of an intrafamily transfer that utilizes a Uniform Gift to Minors Act (UGMA) account? a.Income from such an account in excess of $2,000 is taxed at the child’s earned income tax rate if the child is subject to the kiddie tax. b.Income from such an account in excess of $2,000 is taxed at the parents’ marginal tax rate if the child is subject to the kiddie tax. c.A trust for the account is drafted in accordance with appropriate state law. d.A custodian for the account is named in a formal court proceeding. 7-25

Review Question 4 Marc Handle created an irrevocable trust for the benefit of his dependent children and his wife, Mary. Marc named a local bank as trustee of the trust and authorized the bank to invest in stocks, bonds, and negotiable certificates of deposit. All funds in the trust are currently invested in high-yielding bonds. The provisions of the trust require that all income be paid annually and used for the needs of Mary and the children. Which one of the following taxpayers must pay tax on the income from the trust? a.the trust, because it is irrevocable and the grantor receives no benefits b.Marc, because his spouse is an income beneficiary c.Mary, because she can receive all income from the trust annually d.the children, because they are paid unearned income in excess of $1,

Review Question 5 Kris Swenson anticipates adjusted gross income of $100,000 for the current tax year. She contributed appreciated real estate to her alma mater, Sinton Technological College, a public, nonprofit university. Kris’s adjusted basis in this real estate is $20,000. The real estate has a current fair market value of $50,000. Kris has owned the real estate for 15 years. What is the maximum allowable charitable deduction she can receive in the current tax year for the gift of the real estate? a.$20,000 b.$30,000 c.$50,

Review Question 6 Which one of the following is a characteristic of deductible alimony payments? a.A divorce decree regarding these alimony payments must state that the payments are deductible by the payor. b.Such payments cannot extend beyond the death of the payee spouse. c.A divorce decree regarding these alimony payments must state that the payments are includible as income by the payee. 7-28

Review Question 7 Paul Shepard was divorced from his wife, Patricia, late last year. As part of the property settlement agreement, Paul agreed to transfer his interest in a residential rental real estate tract to Patricia in exchange for her release of marital claims. Paul’s cost basis in this real estate tract was $50,000. The tract was appraised at a fair market value of $100,000 at the time of its transfer to Patricia. Which one of the following is an income tax implication of Paul’s transfer of the real estate tract to Patricia? a.Patricia receives a basis in the real estate that is equal to its fair market value at the time of transfer. b.Paul’s basis in the real estate is carried over to Patricia for income tax purposes. c.At the time of transfer, Paul must recognize the gain on the real estate as ordinary income. d.Paul is allowed a deduction that is equal to the excess of the property’s fair market value over his basis in the property. 7-29

Review Question 8 Ed Wiley recently was divorced from his wife, Julie. Julie received custody of their only child, Sally, age 5. Ed was ordered to pay $500 per month to Julie until Sally reaches age 18. At that time, the payments are to decrease to $200 per month. What portion of each payment, if any, is deductible by Ed as qualifying alimony? a.No portion of each payment is deductible by Ed. b.A total of $200 of each payment is deductible by Ed. c.A total of $300 of each payment is deductible by Ed. 7-30

Review Question 9 Which one of the following statements is correct with respect to earned income received by a child who is subject to the kiddie tax? a.The child has a limited standard deduction available (up to $1,000 in 2013). b.The child has up to a full standard deduction available ($6,100 in 2013). c.Any income that exceeds the total of the available standard deduction and $1,000 is taxable at the parents’ marginal income tax rate. 7-31

Review Question 10 Which one of the following types of organizations is not considered a 50% organization for charitable contribution purposes? a.veterans groups b.churches c.schools d.hospitals 7-32

Review Question 11 Kurt Swanson anticipates his adjusted gross income will be $100,000 for the current tax year. He is considering making a gift of appreciated stock to his alma mater, Regis University. His basis in this stock is $48,000. The stock has a current fair market value of $60,000. Kurt has owned the stock for four years. If Kurt gifts the stock to Regis, what is the maximum allowable charitable deduction that Kurt can receive in the current tax year? a.$20,000 b.$30,000 c.$48,

Review Question 12 Jim Sturgeon created an irrevocable trust for the benefit of his children. Jim named his bank as trustee and gave the trustee complete investment authority. Included in the investment authority is the right to purchase insurance on the grantor’s life or the life of the grantor’s spouse. Without the children’s approval, the bank recently used all of the income from the trust to purchase substantial amounts of life insurance on Jim and his spouse. Who is taxed on the income from the trust? a.Jim b.the children c.the trust 7-34

Review Question 13 Which one of the following is not a characteristic of a valid and enforceable premarital agreement? a.It may be orally executed by the parties that are affected. b.There should be a full and complete disclosure of each party’s net worth prior to signing. c.There should be a written agreement signed by both parties. 7-35

Review Question 14 Jan and Dan Hoffstra established an UGMA account for their son, Kyle. The account generated $3,600 of interest income during There were no distributions from the account during the year. Kyle, age 12, has no other income. Jan and Dan are married filing jointly, and have $120,000 of taxable income. Assuming that Jan and Dan do not report Kyle's income on their own return, what is the amount, if any, of Kyle's tax liability for 2013? a.$0 b.$500 c.$543 d.$

©2013, College for Financial Planning, all rights reserved. Module 7 End of Slides CERTIFIED FINANCIAL PLANNER CERTIFICATION PROFESSIONAL EDUCATION PROGRAM Income Tax Planning