Post-Election Proactive Year-End Tax and Financial Planning Opportunities

Transcription

1 Post-Election Proactive Year-End Tax and Financial Planning Opportunities Presented by: Robert S. Keebler, CPA/PFS, MST, AEP Keebler & Associates LLP

2 Earn CPE #AICPApfp 2

3 Helpful Hints #AICPApfp 3

4 About the PFP Section & PFS Credential The AICPA Personal Financial Planning (PFP) Section is the premier provider of information, tools, advocacy and guidance for CPAs who specialize in providing estate, tax, retirement, risk management and/or investment planning advice to individuals, families and business owners. (Learn more at aicpa.org/pfp.) The Personal Financial Specialist (PFS) program allows CPAs to gain and demonstrate competence and confidence in providing estate, tax, retirement, risk management and/or investment planning advice to individuals, families and business owners through experience, education, examination, and a resulting credential. (Learn more at aicpa.org/pfs.) #AICPApfp 4

5 Today s Speaker Robert S. Keebler, CPA/PFS, MST, AEP (Distinguished) Keebler & Associates, LLP #AICPApfp 5

6 Course Outline Tax Reform Bracket Management General Income Tax Planning Strategies Deferral Strategies #AICPApfp 6

7 Tax Reform: What to Watch For in 2017 Income tax reform to lower rates and broaden the tax rate Possible repeal of the estate tax in favor of taxing capital gains Significant changes to bring home corporations Changes to the stretch rules (rumored this will pass during the lameduck session) #AICPApfp 7

8 Tax Reform: Why the Timing Might be Right for Significant Changes Dates of major changes to the code August 1954 (Eisenhower s second year) December 1969 (Nixon s first year) August 1981 (Regan s first year) July 1984 (Regan s third year) October 1986 (Regan s fifth year) August 1993 (Clinton s first year) June 2001 (Bush s first year) January 2013 (Obama s fifth year) Fall 2017? #AICPApfp 8

9 Tax Reform: Why the Timing Might be Right for Significant Changes From the House Republican s tax policy paper Political consensus developing. Political similarities between today and 1986: people are fed up with the complicated tax code, Members of Congress are taking it seriously, & a president might be willing take the lead. Economic and practical issues: compliance is increasingly burdensome, preferences and subsidies pick winners and losers, and high rates discourage saving and investment in the United States. #AICPApfp 9

10 Tax Reform: House Ways and Means Committee Simplification goal similar to the Tax Reform Act of 1986 Broaden the tax base Reduce rates Simplify the tax code #AICPApfp 10

11 Tax Reform: Hose Ways and Means Committee #AICPApfp 11

12 Tax Reform: Mr. Trump s Tax Reform Proposal Political theme: Tax relief for middle class Americans Simplify the tax code from 7 brackets to 3 brackets 12%,25%, and 33% Increase the standard deduction Largely aligned with the House Republican plan Mr. Trump previously proposed lower rates Eliminate the marriage penalty, the NIIT & the AMT. Exclude child are expenses from taxation Eliminate the death tax in favor of recognizing capital gains at death for estates over $10,000,000. #AICPApfp 12

13 Tax Reform: Income Tax Rates Current Rates 10% 15% 25% 28% 33% 35% 39.6% Trump Rates 12% 25% 33% House Rates 12% 25% 33% *Married Filed Jointly **Increase in the new standard deduction will result in a person currently in the 10% bracket paying less taxes #AICPApfp 13

14 Tax Reform: Capital Gain Rates Current CG Rate 0% 15% 15% 20% Trump Rates 0% 15% 15% 20% House Rates 6% 12.5% 16.5% #AICPApfp 14

15 Tax Reform: Death Tax Current: Estate tax and Step-up Trump: No estate tax and no Step-up House: No estate tax and Step-up #AICPApfp 15

16 Tax Reform: Deductions Higher Standard Deductions & eliminate exemptions Current Trump House Standard Deduction $12,600 $30,000 $24,000 Personal Exemption $4,050 $0 $0 Limit Itemized Deductions Current Trump House No Cap Pease limitation $200,000 Cap Eliminate state and local deduction The cost of exemption elimination on larger families may be offset with caregiving tax incentives. All figures for Married Filed Jointly #AICPApfp 16

17 Tax Reform: Mr. Trump s Business Tax Reform Expensing Investments He proposes businesses will be allowed to expense new business investments immediately instead of depreciating them In-line with proposals from Republicans in Congress Reducing Tax on Business He proposes a 15% tax on businesses Republicans in Congress propose a 20% rate for corporations and 25% rate on small business income Repatriation of Corporate Earnings One time 10% repatriation tax for offshore corporate earnings Republicans in Congress have shown support for a similar repatriation holiday Repeal & Replace Obamacare He proposes to repeal & replace Obamacare, presumably reducing healthcare costs it imposes on business. He proposes eliminating the Net Investment Income Tax #AICPApfp 17

18 Tax Reform: Planning for Reform Under President Trump Income tax planning Defer recognition of income to capture lower rates in the future Accelerate the recognition of losses to capture higher rates now Defer the purchase of business equipment Plan in general for lower rates in the future, such if considering a Roth conversion Estate tax planning Defer techniques which incur income, gift or estate tax Consider transfer tax-free inter vivos gifts to avoid the recognition of capital gain #AICPApfp 18

19 Bracket Management Personal Financial Planning Planning Section Section #AICPApfp

20 Bracket Management 2016 Ordinary Income & Capital Gain Rates #AICPApfp 20

21 Bracket Management Watch out for Phase-outs in 2016 Phase-out of personal exemptions (PEP) and limitations on itemized deductions (Pease) as income rises above the following threshold amounts-- Single taxpayers $259,400 Head of households $285,350 Married filing jointly or surviving spouse $311,300 Married filing separately $155,650 Amounts will be indexed for inflation Above certain AGI amounts, personal exemptions are completely phased out. #AICPApfp 21

22 Bracket Management Timing Deductions for 2016 or 2017: Example Art and Alice are married taxpayers filing a joint return. They are trying to decide whether to make a $20,000 charitable contribution in 2016 or Their 2016 AGI is $800,000, but they expect it to decrease to $200,000 in They have no other itemized deductions. #AICPApfp 22

23 Bracket Management Timing Deductions Example (cont) If they take the charitable deduction in 2016, the Pease limitation will eliminate a significant portion of it. By contrast, if they take the charitable deduction in 2017, the Pease limitation won t apply and the contribution is fully deductible. Despite their tax bracket decreasing considerably,the tax benefit of taking the deduction later is greater: ($20,000 - (($800, ,300) x 3%)) x 39.6% = $2,114 $20,000 x 28% = $5,600 #AICPApfp 23

24 Bracket Management 39.6% 35% 33% 28% 25% 15% 10% Tax-Free Roth IRAs Life Insurance Tax-Exempt Interest Income Tax-Deferred IRAs, 401(k)s, 403(b)s Non-qualified Deferred Annuities Taxable Interest Income Capital Gains Qualified Dividends #AICPApfp 24

25 Bracket Management Avoid the NIIT in % X the lesser of 1. Net investment Investment Income OR OR 2. The excess (if any) of 2. The excess (if any) of - Modified Adjusted Gross Income (MAGI) - Threshold amount - Modified Adjusted Gross Income (MAGI) over the Threshold Amount THRESHOLDS Married, filing jointly $ 250,000 Married, filing separately $ 125,000 All others $ 200,000 #AICPApfp 25

26 Recap (Married Filing Joint) Flying below the radar $466, % Ordinary Income Tax Rate $311,300 PEP/Pease $250, % Surtax #AICPApfp 26

27 Key Management Issues Capital Gain Rates Income Tax Rates Ordinary Income should at least equal Itemized Deductions plus exemptions Tax liability should equal tax credits available Non-refundable/Non-carry forward credits Non-refundable carry forwards Refundable credits #AICPApfp 27

28 Income Tax Planning Opportunities Personal Financial Planning Planning Section Section #AICPApfp

29 Income Tax Planning Opportunities Planning Opportunities Loss harvesting Gain harvesting Encourage Retirement Plan Funding Encourage Clients to Fund Education Savings Plans Carefully Claim College-Aged Dependents Tax Efficient Investing Reduce Turnover & Life Insurance and Annuities Retirement Account Management - Roth IRA conversions Net unrealized appreciation (NUA) Incomplete gift non-grantor trust Other Ideas #AICPApfp 29

30 Income Tax Planning Opportunities in 2016 Loss Harvesting Harvesting Capital Losses: Selling assets at a loss and using those losses to offset capital gains realized on other assets Basic Strategy: It reduces or eliminates tax on current capital gain If the asset is repurchased, it gives the taxpayer a lower basis in the repurchased asset Thus, it increases the amount of gain (current fair market value) that is recognized when the asset is later sold Therefore, total gain/loss recognized is the same, but loss harvesting creates a kind of tax deferral (only a timing benefit) #AICPApfp 30

31 Income Tax Planning Opportunities in 2016 Loss Harvesting Wash sale rule (IRC 1091) Diminishing value of capital losses Inefficiency of capital loss offsetting #AICPApfp 31

32 Income Tax Planning Opportunities in 2016 Gain Harvesting Taxpayer expects to be in a higher tax bracket in the future Sells assets year, pays tax a lower tax rate and steps up basis Repurchases the same or similar assets Effect: Shifts recognition of capital gain from a higher future bracket tax year to the lower bracket #AICPApfp 32

33 Income Tax Planning Opportunities in 2016 Gain Harvesting On the surface, it appears that taxpayers should always harvest gains However, harvesting gains introduces a tradeoff between lower tax rates versus the loss of tax deferral Tax is paid at a lower rate, but it is paid sooner Need to determine a crossover point at which selling sooner makes more sense; A way to conceptualize this would be to use a return on investment (ROI) approach #AICPApfp 33

34 Income Tax Planning Opportunities in 2016 Gain Harvesting Harvesting Capital Losses: Selling assets at a loss to offset capital gains Reduces or eliminate tax on current capital gain On the surface, loss harvesting produces an economic benefit equal to the tax saved, however it generally only provides a timing benefit. Assets purchased with the proceeds have a lower basis than the assets sold Therefore, more capital gains tax is owed in the future However, deferral is remains valuable #AICPApfp 34

35 Income Tax Planning Opportunities in 2016 Offsetting Gains & Losses Capital losses are more tax effective if they can be used to offset income taxed at higher rates Short-Term Gain Long-Term Gain Short-Term Loss NEUTRAL INEFFECTIVE Long-Term Loss EFFECTIVE NEUTRAL Remember: Capture up to $3,000 capital loss which can offset ordinary income! Warning: Remember the wash sale rule prevents taxpayers from repurchasing a substantially similar security within 30 days of selling at a loss #AICPApfp 35

36 Income Tax Planning Opportunities in 2016 Encourage Retirement Plan Funding in 2016 & 2017 The 401k and IRA are excellent statutory tax-shelters. Remember IRA contributions can be made up in April 15 for the previous tax year Deductible contributions can be deceptively valuable by reducing the impact of certain phase-outs. Most importantly, the lack of annual tax-drag is valuable and therefore an investment in a qualified account will always outperform a taxable investment #AICPApfp 36

37 Income Tax Planning Opportunities in 2016 Encourage Retirement Plan Funding in 2016 & 2017 Compare the after-tax value of $5,000 growing in a Traditional or Roth IRA/401k compared to a taxable brokerage account over a significant period of time: Assumptions: 5% growth rate, 2% yield, 5% annual account turnover, 25% ordinary income tax rate, and a 15% capital gains tax rate. #AICPApfp 37

38 Income Tax Planning Opportunities in 2016 Encourage Clients to Fund Education Savings Plans Education Savings Accounts (ESAs) & Qualified Tuition Programs (QTPs/529s) Both provide annual tax-free growth & tax-free withdrawals for qualified education expenses QTPs offer a variety of annual savings incentives which vary by state: deductions, credits & grants ESAs can be used for primary & secondary in addition to higher education expenses #AICPApfp 38

39 Income Tax Planning Opportunities in 2016 Carefully Claim College-Aged Dependents Education credits accrue to parents who claim a student as a dependent. Students who receive ½ of their support from their parents are dependents Students 24 and over must also not earn more than $4,000 in 2015 or $4,050 in 2016 to be dependents However, parents do not have to claim the child as a dependent which is beneficial for parents phased out of education credits #AICPApfp 39

40 Income Tax Planning Opportunities in 2016 Tax Efficient Investing Reduce Turnover Assumptions: Initial Investment: $5,000; Ordinary Income Tax Rate: 25%; Long-Term Capital Gains Tax Rate: 15%; Growth Rate: 5%; Yield Rate: 2% #AICPApfp 40

41 Income Tax Planning Opportunities in 2016 Tax Efficient Investing Reduce Turnover Assumptions: Initial Investment: $5,000; Ordinary Income Tax Rate: 25%; Long-Term Capital Gains Tax Rate: 15%; Growth Rate: 5%; Yield Rate: 2% #AICPApfp 41

42 Income Tax Planning Opportunities in 2016 Tax Efficient Investing Life Insurance & Annuities Life Insurance: Tax-free death benefit shelters all policy growth from taxation Tax-free loans add flexibility Nonqualified Deferred Annuities Taxation of growth is deferred #AICPApfp 42

43 Income Tax Planning Opportunities in 2016 Tax Efficient Investing - Life Insurance vs. Taxable Bond Portfolio Assumptions: Beginning Age: 30; Ending Age: 65 (i.e. retirement); Initial Investment: $50,000 Ordinary Income Tax Rate: 25%; Long-Term Capital Gains Tax Rate: 15%; Annual Income/Growth Rate: 6%; Annual Yield Rate (Tax-Deferred Annuity): 6%; Annual Yield Rate (Life Insurance): 6% #AICPApfp 43

44 Income Tax Planning Opportunities in 2016 Tax Efficient Investing - Tax Deferred Annuity vs. Taxable Bond Portfolio Assumptions: Beginning Age: 30; Ending Age: 65 (i.e. retirement); Initial Investment: $50,000 Ordinary Income Tax Rate: 25%; Long-Term Capital Gains Tax Rate: 15%; Annual Income/Growth Rate: 6%; Annual Yield Rate (Tax-Deferred Annuity): 6%; Annual Yield Rate (Life Insurance): 6% #AICPApfp 44

45 Income Tax Planning Opportunities in 2016 Roth IRA Conversions Roth IRA Conversion Benefits Lowers overall taxable income long-term Tax-free compounding No RMDs at age 70½ Tax-free withdrawals for beneficiaries More effective funding of the bypass trust If rates are expected to decrease, a current Roth Conversion may be difficult to justify. #AICPApfp 45

46 Income Tax Planning Opportunities in 2016 Retirement Account Management - Roth IRA Conversions Roth IRA Conversion Types Strategic conversions Take advantage of a client s long-term wealth transfer objectives Tactical conversions Take advantage of short-term client-specific income tax attributes that are set to expire (e.g., low tax rates, tax credits, charitable contribution carryovers, NOL carryovers, etc.) Opportunistic conversions Take advantage of short-term stock market volatility, sector rotation and rotation in asset classes Hedging conversions Take advantage of projected future events that will result in the client being subject to higher tax rates within the near future #AICPApfp 46

47 Income Tax Planning Opportunities in 2016 Retirement Account Management - Roth IRA Conversions Understanding the Mathematics In simplest terms, a traditional IRA will produce the same after-tax result as a Roth IRA provided that: The annual growth rates are the same The tax rate in the conversion year is the same as the tax rate during the withdrawal years #AICPApfp 47

48 Income Tax Planning Opportunities in 2016 Retirement Account Management - Roth IRA Conversions Understanding the Mathematics Traditional IRA Roth IRA Current Account Balance $ 100,000 $ 100,000 Less: Income 40% - (40,000) Net Balance $ 100,000 $ 60,000 Growth Until Death % % Account Death $ 300,000 $ 180,000 Less: Income 40% (120,000) - Net Account Balance to Family $ 180,000 $ 180,000 #AICPApfp 48

49 Income Tax Planning Opportunities in 2016 Retirement Account Management - Roth IRA Conversions Understanding the Mathematics Critical decision factors Tax rate differential (i.e. tax rate in year of conversion vs. tax rate in years of withdrawals) Ability to use outside assets (i.e. non-ira funds) to pay the income tax on the conversion Time horizon / need for IRA to meet annual living expenses #AICPApfp 49

50 Income Tax Planning Opportunities in 2016 Retirement Account Management - Roth IRA Conversions Understanding the Mathematics The key to a successful Roth IRA conversion is to keep as much of the conversion income as possible in the current marginal income tax bracket However, there are times when it may make sense to convert more and go into higher tax brackets #AICPApfp 50

51 Income Tax Planning Opportunities in 2016 Example Target conversion amount 10% tax bracket Current taxable income 15% tax bracket 25% tax bracket 3.8% Surtax 28% tax bracket PEP 33% tax bracket 35% tax bracket 39.6% tax bracket Approximate Republican Proposals 12% 25% 33% #AICPApfp 51

52 Income Tax Planning Opportunities in 2016 Retirement Account Management - Roth IRA Conversions Recharacterizations Taxpayers may recharacterize (i.e. undo) the Roth IRA conversion in current year or by the filing date of the current year s tax return Recharacterization can take place as late as 10/15 in the year following the year of conversion Taxpayers may reconvert their recharacterization Reconversion may only take place at the later of: (1) The tax year following the original conversion or (2) 30 days after the recharacterization #AICPApfp 52

53 Income Tax Planning Opportunities in 2016 Retirement Account Management - Roth IRA Conversions Roth IRA Conversion Timeline Conversion Period Recharacterization Period /1/2016 First day conversion can take place 12/31/2016 Last day conversion can take place 4/15/2017 Normal filing date for 2014 tax return 10/15/2017 Latest filing date for 2016 tax return / last day to recharacterize 2016 Roth IRA conversion 12/31/2017 #AICPApfp 53

54 Income Tax Planning Opportunities in 2016 Net Unrealized Appreciation IRC 402 provides that upon a triggering event (e.g. separation of service) a taxpayer can make a lump sum distribution of employer securities from their retirement plan and pay income tax on merely the basis of the securities. This can be a tremendous tax break because it significantly lessons the taxation of the growth in value of the securities because it recasts the income from ordinary to capital gain. It however comes at the cost of: (1) accelerating taxation of the basis in the securities, (2) loss of deferral of yield taxation, and (3) market risk of a concentrated stock position. #AICPApfp 54

55 Income Tax Planning Opportunities in 2016 Net Unrealized Appreciation The decision regarding NUA is influenced by 3 things: Tax Rates Age Actual growth rate of the employer securities outside the qualified account Any decision regarding NUA requires a detailed quantitative analysis. #AICPApfp 55

56 Income Tax Planning Opportunities in 2016 Incomplete Gift Non-Grantor Trusts Taxpayers might consider transferring assets to a trust in a state that does not tax trust income to avoid income tax in their home state. Avoid state income tax at the sale of a significant asset Avoid the PEASE limitation or new limitation enacted by congress Avoid state tax on a forced recognition event at death, if enacted Taxpayer (High Tax State) Transfer Assets Tax Savings Trust (No Tax State) #AICPApfp 56

57 Income Tax Planning Opportunities in 2016 Incomplete Gift Non-Grantor Trusts Strategy: The trust must be created in a state that does not tax trust income The income from the trust must not be taxable by the grantor s home state The trust must allow discretionary distributions to the settlor without making the trust a grantor trust Transfers to the trust must be incomplete gifts for federal gift tax purposes without making the trust a grantor trust However, the permanent increase in the applicable exclusion amount and emergence of DAPTs may allow for completed gifts 57 #AICPApfp 57

58 Income Tax Planning Opportunities in 2016 Incomplete Gift Non-Grantor Trusts PLR confirmed that a Nevada incomplete gift, non-grantor trust met all the requirements listed above for creating a trust that avoids state income tax, making it the preferred jurisdiction for setting up a state income tax saving trust, at least for the time being. Such trusts are referred to as Nevada Incomplete Gift, Non-Grantor Trusts, or NINGs. 58 #AICPApfp 58

59 Income Tax Planning Opportunities in 2016 Other Income Tax Planning Ideas Alternative investments Oil & gas investments Gold investments Foreign currency investments Index options #AICPApfp 59

60 Income Tax Planning Opportunities in 2016 Other Income Tax Planning Ideas Alternative Investments Oil & gas investments Intangible drilling costs (IDCs) provide a large immediate income tax deduction (up to 85% of the initial investment) Losses, if any, created as a result of IDCs will be ordinary (thus lowering a taxpayer s AGI) Must be a general partner in the first year Possible AMT add-back issues if IDCs exceed 40% of AMTI Depletion and other depreciation (including Section 179 expensing) provide for additional deductions during the term of the investment Additional tax credits may be available for certain oil & gas ventures #AICPApfp 60

61 Income Tax Planning Opportunities in 2016 Other Income Tax Planning Ideas Alternative Investments Gold investments Generally when gold is held as coins or bullion, long-term gains are treated as collectibles and taxed at a 28% capital gains tax rate However, this rule does not generally apply to gold held in mutual funds Also, this rule does not generally apply to non-exchange-traded (i.e. OTC) options on gold Short-term gains are treated as ordinary income Thus, if a taxpayer is in a lower tax bracket (i.e. 10%, 15%, 25%), he/she would be better off triggering short-term gain (instead of long-term gain) Gold futures are treated as Section 1256 contracts, not as collectibles Accordingly, gold futures must be marked-to-market (i.e. the unrealized gains/loss must be recognized each tax year) However, gains are subject to special tax treatment (i.e. 60% long-term capital gain / 40% short-term capital gain) #AICPApfp 61

62 Income Tax Planning Opportunities in 2016 Other Income Tax Planning Ideas Alternative Investments Foreign currency transactions Recognize ordinary income in 2016 and push ordinary losses to 2017 and later years Index options Avoids Section 1256 treatment Choose currencies that do not have futures contracts Special gains treatment on certain broad-based listed options (i.e. 60% long-term / 40% short-term) Thus, for taxpayers in the highest marginal income tax bracket in 2015 this would result in a blended capital gains tax rate of 27.84% ([20% x 60%] + [39.6% x 40%]) #AICPApfp 62

63 Deferral Strategies Holding Out for Lower Rates & Hedging Economic Risk Holding a concentrated position reduces an investor s overall riskadjusted rate of return. The higher the volatility, the lower the compounded return for any given simple (arithmetic) return. Diversification produces higher expected return for any given level of risk or lower risk for any expected return. Goal is to hedge against a decrease in value of the underlying stock. #AICPApfp 63

64 Deferral Strategies Holding Out for Lower Rates & Hedging Economic Risk Short Sale against the Box Buy a Protective Put Charitable Remainder Trust Charitable Lead Trust Cashless Collar Monetizing (Income-producing) Collar Variable Forward Sale Exchange Fund #AICPApfp 64

65 Short Sale Against the Box Short sale in which T already owns the replacement shares when the short sale is made Gives T a long position and a short position on the same number of shares of stock #AICPApfp 65

66 Short Sale Against the Box Advantages and Disadvantage Accomplished all 4 objectives Perfect hedge no downside risk if stock price increases or decreases Locks in price making it possible to borrow up to 95% of value of underlying stock and use proceeds to diversify portfolio Defers or eliminates gain recognition Low cost Disadvantage Following TRA 1997, T must go without hedge for at least 60 days per year to avoid a constructive sale under section 1259 #AICPApfp 66

67 IRC generally provides that a taxpayer is treated as constructively selling property if he borrows and sells the same or substantially identical property This includes a short sale of the same or substantially identical property It also includes certain hedging transactions like collars Any gain in stock owned is recognized when the taxpayer enters into the short sale #AICPApfp 67

68 Constructive Sale--Example On October 5, 2009, S bought 1000 shares of XYZ stock for $40,000 S sold short 1000 shares of XYZ stock on October 2, 2010 for $55,000 S closes the short sale on February 10, 2011 S recognizes a gain of $15,000 on October 2, 2010 S has a new holding period in the stock dating from October 2, 2010 #AICPApfp 68

69 Constructive Sale--Exception Short sale closed by January 30 of the year following the short sale Taxpayer holds the box stock for at least 60 days after the date the short sale closes At no time during the 60-day period does the taxpayer reduce his risk with respect to the box stock #AICPApfp 69

70 Buy a Protective Put T buys right to sell stock at a given price no matter how low the market price drops Example: T owns 1,000 shares of X stock T bought the stock for $10/share and it has a current FMV of $40/share T buys puts at $35 T has locked in a sale price of $35/share and ensured a profit of at least $25/share #AICPApfp 70

71 Protective Put Advantages and Disadvantages Advantages Downside protection No current capital gain Disadvantages No diversification Expensive to maintain over a long period of time Straddle rules apply Dividends received from the appreciated position don t qualify for the 15% tax rate #AICPApfp 71

72 Cashless Collar T has a concentrated low basis stock position T buys a protective put with a strike price below the current stock price to provide some downside protection T simultaneously sells a call with a strike price above the current stock price to pay for the put The amount received for the call equals the amount spent for the put, eliminating any current cash outlay #AICPApfp 72

73 Gain/Loss Cashless Collar Graph Current stock Price = $100, Put Strike Price = $90, Call Strike Price at $120 Economics of Hedging Strategy 60% 50% 40% 30% 20% 10% 0% -10% -20% -30% -40% -50% -60% Downside Savings Foregone Gain $40 $60 $80 $100 $120 $140 $160 Stock Value Long Stock Position Long Position With Collar #AICPApfp 73

74 Cashless Collar Settlement Options Cash settlement Tendering of actual underlying stock #AICPApfp 74

75 Cashless Collar Application of Constructive sale Rules The constructive sale rules of IRC 1259 will apply if a cashless collar is too tight 20% total spread generally considered permissible Total spread can be on put option, call option or a combination of the two options #AICPApfp 75

76 Cashless Collars Advantages and Disadvantages Advantages Same protection as a protective put No current capital gain (further deferral if cash settled) No current cost because selling the call pays for the put Collared shares can be used as collateral to borrow and diversify can borrow up to 50% of value for this purpose Retain ownership of stock (keep voting rights and rights to dividends) Disadvantages Lose upside potential on long position above call strike price Price band on collar can t be too tight or there is a constructive sale No net cash inflow May produce unfavorable tax consequences- (e.g., straddle rules may apply) #AICPApfp 76

77 Monetizing (Income-Producing) Collar Same as cashless collar except the amount received for selling the call exceeds the amount paid for the put Advantage vs. cashless collar Generates positive current cash flow that can be used to increase diversification Disadvantage vs. cashless collar Must decrease call strike price or decrease put strike price as compared to cashless collar This means you lose more upside potential or increase downside risk #AICPApfp 77

78 Charitable Remainder Trust (CRT) Taxpayer transfers appreciated stock to CRT CRT sells stock and reinvests the proceeds in a diversified portfolio No tax to CRT when assets sold because it is tax exempt Taxpayer retains lead annuity interest (CRAT) or lead unitrust interest (CRUT) Remainder interest passes to charity at end of trust term (generally a term of years, not to exceed 20, or the life of the grantor) Lead beneficiary taxed on annuity or unitrust payments under the tier rules as the payments are received #AICPApfp 78

79 CRT - Conceptual Taxpayer Highly appreciated assets At taxpayer s death or end of fixed term CRT For life or a maximum fixed term of 20 years Taxpayer Charity #AICPApfp 79

80 Taxation of CRTs A CRT is a tax-exempt trust No taxation when contributed assets are sold Distributions to beneficiaries are taxable to the beneficiary IRC 664 provides the Tier Rules #AICPApfp 80

81 Understanding Tier Rules Step 1: Current Income Step 2: Accumulated Income Step 3: Current Capital Gain Step 4: Accumulated Capital Gain Step 5: Current Tax-Exempt Income Step 6: Accumulated Tax-Exempt Income Step 7: Return of Principal Ordinary Income Capital Gain Income Tax-Exempt Income Principal Tier 1 Tier 2 Tier 3 Tier 4 #AICPApfp 81

82 Charitable Remainder Trust Advantages and Disadvantages Advantages Sale locks in gain on stock no risk of loss in value No gain recognized on sale because CRT is not a taxable entity gain deferred and spread out over annual payments under the tier rules Can reinvest 100% of value of stock to diversify portfolio, unreduced for tax paid on sale Income stream for grantor Charitable deduction for present value of remainder interest Life CRUT may transfer more value to family members in long run than an outright sale if taxpayer lives long enough (see chart) Disadvantages Irrevocable transfer of assets 10% minimum value for charitable remainder interest Must avoid UBTI #AICPApfp 82

83 CRT Comparison-Amounts to Family in Outright Sale vs. Life CRUT #AICPApfp 83

84 Charitable Remainder Trust (CRT) Consider a 3-year CRT to use the charitable deduction to offset the current higher marginal rates and to recognize the income at lower future rates. #AICPApfp 84

85 Charitable Lead Trust (CLT) Taxpayer transfers appreciated stock to a non-grantor CLT. The CLT liquidates the stock. The trust is entitled to an income tax deduction as the lead interest is paid to charity. IRC 642(c). Note, tax reform might limit individual charitable deductions but leave this strategy intact. The remainder interest transfers to the beneficiary. #AICPApfp 85

86 CLT - Conceptual Taxpayer Highly appreciated assets At taxpayer s death or end of fixed term CLT For life or a maximum fixed term of 20 years Charity Taxpayer #AICPApfp 86

87 Pre-paid Variable Forward Sale Investor receives cash (generally 70-90% of stock FMV) at outset Investor agrees to deliver some or all of underlying shares at end of transaction (depending on stock price at the time of closure) or opt for cash settlement if investor wants to keep the stock Embedded collar provides ceiling and floor on number of shares to be delivered Economically the same as a collar + borrowing against the underlying stock Same 15% minimum band between put and call strike to avoid a constructive sale as for a collar #AICPApfp 87

88 Pre-Paid Variable Forward Sale Example T owns X stock, currently trading at $100/share T enters into a VFS with D D required to pay T $85 at start of contract T required to deliver a certain number of shares to D in 3 years Formula builds in a long put with a strike price of $95 and a short call with a strike price of $110 Formula T delivers all shares if price of X stock in 3 years is < $95 If price is >$95 but <$110, T delivers $95 worth of shares If price > $110, T keeps $110 worth of stock and delivers the rest to D #AICPApfp 88

89 Pre-Paid Variable Forward Sale Advantages: No gain recognition until expiration of contract + further deferral if cash settled Monetize 70 90% of stock value to provide funds for diversification Downside protection below floor price No restrictions on use of up-front proceeds don t have to be repaid #AICPApfp 89

90 Pre-Paid Variable Forward Sale Disadvantages: Lose upside potential on stock above cap price Profit for counter party Unfavorable tax straddle rules apply Short-term capital gains treatment Fees may be higher than with a collar #AICPApfp 90

91 Variable Forward Sale - Constructive Sale Issue (FSA ) Applied IRC 1001 sale treatment to a transaction economically similar to a variable forward sale Most practitioners believe a variable forward sale avoids IRC 1001 treatment if properly structured #AICPApfp 91

92 Exchange Fund Investor and other stock owners contribute shares of stock to a private placement limited partnership Pool shares with those of other investors who may also have concentrated positions Entitled to a prorated portion of the portfolio after 7 years No tax until stock is sold #AICPApfp 92

93 Exchange Fund Advantages: Immediate diversification without recognition of gain on low-basis stock Full monetization of after-tax proceeds Retain all upside potential in stock #AICPApfp 93

94 Exchange Fund Disadvantages: Premature withdrawals could result in penalties Fund produces little or no current income No downside protection No shareholder control over assets contributed by and distributed to other partners High management fees #AICPApfp 94

95 To review this program and sign up for our newsletter please visit: keeblerandassociates.com/speaking #AICPApfp 95

96 Questions? Personal Financial Planning Planning Section Section #AICPApfp

97 AICPA PFP Section Member Resources PFP Section members, inclusive of CPA/PFS credential holders, have access to resources on the latest planning strategies and trends in personal financial planning services so that they can practice competently and profitably. Visit aicpa.org/pfp/resources. Estate Tax Retirement Investment Insurance & Risk Management Practice Management Legislative/ Regulatory Professional Responsibilities Consumer Content #AICPApfp 97

98 Upcoming PFP Section Events Webcasts (4 free events per year with CPE for PFP/PFS members) 4-part series November 1 1-2:45pm ET November 3 1-2pm ET The CPA s Guide to Financial and Estate Planning Estate Planning for the 99% (September 28) Post-Mortem Planning (October 19) Tax Planning with Life Insurance (November 2) Divorce and Separation Considerations (December 7( Social Security The Safety Net What You Need to Know about Elder Abuse and Fraud in Plain English Invite your clients to this consumer-oriented webcast! Conferences Nov , 2016 Nov 14-15, 2016 January 22-25, 2017 AICPA Sophisticated Tax Planning for Your Wealth Clients AICPA National Tax Conference AICPA Personal Financial Planning Leadership Summit June 12-14, 2017 AICPA Advanced PFP Conference (ENGAGE) For the full calendar of upcoming PFP Section events, visit aicpa.org/pfp/events. PFP/PFS Members can access the archives (no CPE) for free at aicpa.org/pfp/library. #AICPApfp 98

99 CPA/PFS News and Events PFS Referral Program Receive 100% credit to apply toward future CPA/PFS dues by referring a CPA to become a PFS or sit for the PFS exam PFS Exam Register now for upcoming exam windows Discounts, sponsorships and volume pricing available Education Opportunities In-depth courses in estate, retirement, tax, investments, insurance, and PFP process In-person and online PFP Boot Camp Self-study PFS exam review course Learn more at aicpa.org/pfp/pfs #AICPApfp 99

100 A CPA Financial Planner is a trusted advisor who Operates at the highest professional level when delivering PFP services to clients, acting in the clients best interest. Adheres to high standards as required by the Code of Professional Conduct and the Statement on Standards in PFP Services through the application of objectivity, integrity, due care and competence required by CPAs. Is regulated by state boards of accountancy. Integrates advanced planning concepts, including tax and business considerations, with the entire financial plan. #AICPApfp 100