awscpa 32nd annual seminar awscpa 32nd annual seminar top planning considerations for individuals...

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AWSCPA 32nd Annual SeminarTop planning considerations for individuals

John Collins

214.754.4891

[email protected]

PwC

Agenda

• Introduction

• Tax policy updates

• Planning for the Net Investment Income Tax

• Individual year-end planning techniques

• Charitable contribution planning and deductions

• Estate and gift planning

• Wrap-up: Key considerations

• Q&A

2February 7, 2015AWSCPA

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Introduction


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Current tax rates

Highest corporate tax rate is 35%

Highest Individual rates for incomes above $400,000 single / $450,000 joint:

Wage income

Interest income Dividends Capital

gains

2014 top rate 39.6% 39.6% 20.0% 20.0%

Base HI payroll tax (employee share) +1.45%a -- -- --

2014 phase-out of itemized deductions (“Pease”) +1.2% +1.2% +1.2%b +1.2%b

2014 HI surtax +0.9% +3.8% +3.8% +3.8%

2014 combined top rate 43.15% 44.6% 25.0% 25.0%

a Additional 1.45% applies for self-employed.b Assumes taxpayer has ordinary income that exceeds itemized deductions.

Note: Rates shown represent the equivalent top marginal tax rate on each additional dollar of income earned in the top income tax bracket.


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Tax policy updates


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Tax extender bill – Individual Provisions(Available for 2014 only right now)

State and Local Tax deduction Higher Education Expenses - up to $4,000 (above-the-line) School Supplies for teachers - $250 Commuter (Parking and mass transit) Benefit Parity Discharge of Indebtedness for Personal Residence – up to $2m Mortgage Insurance Premium Deduction Energy Efficient Improvement Credit - $500 Direct IRA-to-Charity Distributions –

No income/No DeductionUp to $100KQualifies for RMD


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Comparison of tax reform proposals

Proposal Ways and Means Chairman Camp

2011 Wyden-Coats Bill (S. 727) President Obama

Individuals 10% and 25%, with 10% surtax on modified AGI

15%, 25%, 35% 10%, 15%, 25%, 28%, 33%, 36%, and 39.6%

Corporations 25% rate (phased in 2percentage points over 5 yrs) 24% 28% top rate

Capital gains and dividends Tax as ordinary income with 40% exclusion

Tax as ordinary income with 35% exclusion

20% top rate (capitalgains); ordinary rates(dividends)

AMT Repeal Repeal Repeal

Domestic production deduction

Phases out and ultimately repeals 199 deduction for tax years beginning after 2016

Repeal Target and increasededuction to 10.7%

R&E

- Requires capitalization with 5-year amortization- Alternative simplified credit made permanent

No specific proposal Make R&D credit permanent and increase ASC

Cost recoveryRepeals MACRS and implements ADS type system, with inflation adjustment

Repeals MACRS and implements ADS type system

Address depreciation schedules

Interest expenseLimit for thin capitalization Deduction allowed only in

excess of inflation

Limit for unremitted foreign earnings; reduce bias of debt financing over equity

International Territorial Worldwide, with per-country FTC rules

Minimum ETR on foreign earnings


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Summary

• Tax reform challenges include changing tax policy leadership, competing legislative goals, and upcoming election.

• Disagreement over revenue-neutral vs. revenue-raising reform remains the key sticking point

• A global focus on what is seen as aggressive tax avoidance is putting taxpayers under increased scrutiny.


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Planning for the Net Investment Income Tax


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Planning for Net Investment Income Tax (NIIT)What is net investment income?

• Interest, dividends, rent, annuities and royalties (except those derived in the ordinary course of a trade or business)

• Income from enterprises engaged in the sale or trading of financial instruments or commodities

• Income from trades or businesses where the taxpayer does not materially participate

• Gains from the sale of property (e.g. capital gains)

• Reduced by expenses properly allocable to these categories of income


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Planning for Net Investment Income Tax (NIIT)

The threshold level question

The tax applies to the LESSER of

• Modified AGI above a threshold based on filing status (Calculation 1)

OR

• Net Investment Income (Calculation 2)

It is important to model out which of the two calculations will be applicable to you for the tax year

• If Calculation 1 is the lower number, any tax planning that impacts AGI will impact the tax. For example, while qualified plan distributions are not NII, they do increase MAGI. A distribution from a qualified plan would therefore increase the NII tax.

• If Calculation 2 is the lower number, only those planning strategies that impact NII will impact the tax.


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The Net Investment Income Tax

Net investment income tax (NIIT)

How does it work?

The 3.8% NIIT applies to the lesser of net investment income or the taxpayer’s modified adjusted gross income over the threshold amount.

Threshold amounts:

Single taxpayers: $200,000

Married taxpayers filing jointly: $250,000


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Tax planning ideas for NIIT

1. Consider investment products that are tax efficient for regular income tax. These will generally be tax efficient for NIIT as well.

• Investments which grow tax free: life insurance (death benefit), municipal bonds, Section 529 plans, Roth IRAs

• Investments which defer taxation: annuities, rental property, oil & gas, growth stocks/funds

2. Consider maximizing contributions to qualified plans (including SEPs)

• Deduction will reduce regular tax in year of contribution

• Earnings are not taxed for regular tax until withdrawn

• Retirement distributions are excluded from NII


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Tax planning ideas for NIIT (continued)

3. Consider a Roth conversion

• Income on conversion is subject to regular income tax, but excluded from NII

• Future growth will be excluded from NII when withdrawn, also excluded from income tax if certain requirements are met

4. Consider tax planning techniques that reduce both Modified AGI and NII

• Installment sales

• Section 1031 exchanges

• Charitable remainder trusts


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5. Consider income shifting techniques

• While the ‘kiddie tax’ causes taxation at the parent’s marginal rate for regular tax, for NIIT each return stands on its own.

− If a child’s Modified AGI is below the $200,000 threshold, no NII tax would be due.

− Child must file their own return to report investment income.

6. Consider strategies to maximize the tax benefit of properly allocable deductions against investment income

• Carefully identify all expenses related to the production of investment income

• Determine what reasonable methods of allocating deductions might produce the best tax result (assets under management, time spent on an activity, specific identification, etc.)


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7. Consider whether you materially participate in a trade or business (income from active businesses is excluded from NII).

• Material participation is defined using the same seven tests as under the normal passive loss rules

• Taxpayers should consider how undertakings are ‘grouped’ to define an ‘activity.’ Re-grouping may allow the taxpayer to meet the material participation standard.

• Documentation of participation is important, and likely to be an increased focus during examinations.


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Additional NIIT planning ideas for trusts & estates

8. Re-consider the distribution strategy for trusts and estates

• Trusts/estates are subject to NIIT on undistributed NII above $12,150, but many beneficiaries might be below the $200,000 MAGI threshold if income were distributed to them.

• Fiduciaries should not let the tax “tail” wag the dog and should consider tax and non-tax implications of distributing v. accumulating income.

9. Capital gains are normally taxed at the trust/estate level. However, if certain rules are met, capital gains can be included in DNI and distributed to beneficiaries.

• Consider whether it is feasible or beneficial to meet these rules in your circumstances.


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Individual year-end planning techniques


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The 2014 tax rate landscape

Wages Long-term capital gains

Qualified dividends

Passive income

Active income

from general partnership

Active income

from S Corp.

2012 highest tax bracket

35% 15% 15% 35% 35% 35%

Medicare tax on earned income

1.45% 0% 0% 0% 2.9% 0%

2012 highest marginal tax rate

36.45% 15% 15% 35% 37.9% 35%

Expiration of tax cuts in 2013

4.6% 5% 5% 4.6% 4.6% 4.6%

2013 & 2014 highest marginal income tax rate

41.05% 20% 20% 39.6% 42.5% 39.6%

NIIT / Medicare surtaxeffective in 2013 & 2014

0.9% 3.8% 3.8% 3.8% 0.9% 0%

2013 & 2014 toptax rate

41.95% 23.8% 23.8% 43.4% 43.4% 39.6%

Increase since2012

5.5% 8.8% 8.8% 8.4% 5.5% 4.6%


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Back to traditional tax planning

• Accelerate Deductions/Defer Income

• Possible opportunities to defer income into later years:

− Deferred compensation

− Stock options (if economically feasible, might delay exercise to 2015/2016)

− Roth conversions (consider whether/when to convert or recharacterize)

− Harvesting capital losses to offset capital gains

− Utilize installment sale opportunities when possible

− Timing of billings/collections for cash basis sole proprietors

− Deferring retirement plan/IRA distributions (other than required distributions)


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Maximizing deductions: Ideas to consider

• Analyze benefit of accelerating or deferring deductions, taking into account the alternative minimum tax and the 3% haircut on itemized deductions.

• Determine benefit of paying state estimated tax payments and real estate taxes in 2015 versus 2016.

• Consider accelerating sizable charitable contributions to 2015

• For self-employed individuals, consider paying expenses for 2016 in 2015.

• If you own a business, consider placing assets in service in 2015 versus 2016 and take advantage of either bonus depreciation or Section 179 deduction if available.


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Alternative Minimum Tax

• In 2013, the AMT exemption was permanently increased and made subject to indexing. This took millions of taxpayers out of the grips of AMT.

− However, the exemption is phased out for high income taxpayers.

• Fewer taxpayers are in AMT in 2013 & 2014 after the rate increase for regular taxes.

• For high income taxpayers in AMT:

− Marginal tax rate 28% (20% on dividends & long term capital gains)

− No tax benefit for some itemized deductions (taxes, investment expenses)

• Planning

− Taxpayers may wish to accelerate income so it is taxed at the favorable 28% rate

− Taxpayers may wish to defer deductions until they are once again taxed under the regular tax rules/rates


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Global diversification

• American depository receipts

• Exchange-traded funds

• Mutual funds

• Direct investment in foreign securities

• Investment via foreign entities (e.g. partnerships, hedge funds)

• Passive foreign investment companies

• Controlled foreign corporations.

International investment options


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Charitable giving


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• Donor Advised Fund (DAF) – Immediate income tax deduction. Donor makes recommendations on how money is disbursed.

• Private Foundation – Non-publicly supported chartable organization that may be managed by donor or donor’s family.

• Gift Annuity – Donor assets pass through to a charity instead of heirs which reduces the donor’s taxable estate.

• Charitable Remainder Trust – Grantor contributes property to a trust and receives payment amount for term of years or for life.

• Charitable Lead Trust – Charity receives payment from trust with remainder passing to non-charitable beneficiary.

• Remainder Interest – A deduction will be allowed for a donation of a remainder interest in a personal residence or farm.

• Qualified Conservation Donation – Involves real property contributed to a charity devoted to conservation.

Charitable giving opportunities


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Reducing your tax liability in the near term while benefitting others in the long term

Anne, who just turned 40, will have earned adjusted gross income (AGI) of $200,000 in 2014, with a marginal tax rate of 40%.

She has always had philanthropic goals but did not plan on making significant charitable contributions until later in life – that is, until she was advised that she could reduce her tax liability for 2015 by making charitable contributions now.

What Anne gives

What Anne gets

Stock with a fair market value

of $50,000

Donor-advisedfund

Income tax deduction of $50,000

Donor-advised funds


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Investing in future generations

Charitable lead trust

$1 millionnongrantor charitable lead trust

Trust fundsscholarship

Amount subject togift tax $242,000

Remaining assets passto children

Year20

7% annual value of trust’s assets is paid for 20 years


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Year-end charitable planning considerations

• Consider contributions of appreciated property instead of cash

- Make sure the property has been held for at least one year.

- Consider donating appreciated stock and repurchasing if you desire to hold the security.

- Usually best to sell depreciated property and donate the cash to charity.

• Don’t forget deductions for expenses related to charitable activity:

- Unreimbursed expenses directly connected to providing services.

- Travel (if no significant element of personal pleasure).

- Charitable mileage (14¢ per mile).

• Obtain required documentation for contributions over $250 before tax return is filed.


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Charitable contribution deductions

• In general, a charitable deduction is allowed in 2014 as long as the check is postmarked or credit card is charged by December 31.

- To confirm whether a charity is a qualified organization, see www.irs.gov or www.guidestar.org

• If a benefit is received in return for a contribution, a deduction is only available to the extent contribution exceeds the value of the benefit.

- Raffle tickets are never deductible.

- Auction purchases deductible only if price paid exceeds fair market value.


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Estate and gift planning


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Estate and gift tax rates and exemptions for 2015

Highest estate/gift tax rate 40%Estate tax exemption $5,430,000Gift tax exemption $5,430,000GST exemption $5,430,000Gift tax annual exclusion $14,000


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Current state of transfer tax

2013 Estate taxes GST taxes Gift taxesExempt amounts $5,250,000 $5,250,000 $5,250,000Maximum tax rate 40% 40% 40%Annual Exclusion N/A N/A $14,000




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Estate and gift giving considerations

• 2014 brought about record-high asset values and market prices. It is important to consider efficient wealth-transfer techniques to remove assets from the estate.

• Estate planning techniques that are dependent upon interest rates such as GRATs and IDGTs are still attractive as long as interest rates remain relatively low.

• Lifetime transfers to be weighed in favor of basis step up – With the increases in ordinary income and capital gain tax rates coupled with a lower estate tax rate, its important to consider the impact of keeping assets in the estate so as to step up the basis of the assets and reduce income tax in the future at the cost of paying some estate tax.


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GRAT Gratification

How one business owner achieves substantial estate tax savings

Year1

Year2

At the end of Year 2, the shares of Cooper, Inc. appreciate to $10 per share. Bill has effectively transferred about $21,963,000 out of his estate. At the top estate tax rate of 40%, he achieves a tax savings of roughly $8,800,000.

Business owner Bill Cooper creates a two-year grantor retained annuity trust (GRAT), transferring to it three million shares of Cooper, Inc. stock, valued at $1.50 per share (total value $4,500,000).

Over the two-year life of the trust, Bill must take annuity payments that add up to the original value contributed ($4.5 million) plus a return based on an interest rate determined by the IRS.

Put in:$4,500,000

Take out:$21,963,000


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• For amounts in excess of your identified needs, consider gifts to children and grandchildren.

- Consider making annual exclusion gifts using your $14,000 per donee, per year exclusion amount.

◦ Outright gifts

◦ Gifts to trusts, like insurance trusts

◦ 529 education plans

◦ Direct medical or educational payments

• For amounts in excess of your identified needs, consider gifts to children and grandchildren.

- Consider using some or all of the increased applicable exclusion amounts for gift and generation-skipping transfer tax purposes.

Example – an individual could make a $5 million gift to a trust completely gift tax and generation-skipping transfer tax free. If the property grows by $3 million prior to her death, then approximately $8 million will be excluded from the individual’s estate and pass to heirs gift and estate tax free.

Gift-giving – ideas to consider


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Keep State rules in mind

• State estate or gift tax

• State income tax rules

• State grantor trust rules


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Wrap up – Things to consider


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Wrap up – Things to consider

Income Tax

• Understand the ways to offset the impact of the NIIT.

• Maximize your deductions

• Consider type of assets and vehicles to maximize your giving

• Don’t forget about the AMT

Estate and Gifts

• The exemption limits have gone up for 2015

• There are state issues that must be considered


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Q & A


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About PwC’s Private Company Services• Located in all major US markets, PwC’s Private Company Services (PCS) is a national practice

comprised of more than 170 partners who provide customized tax, audit and advisory services to private companies, their owners and high net worth individuals.

• More than 60 percent of America’s largest private companies are PCS clients1. They span a broad scope of sectors and industries ranging from manufacturing to retail to industrial to professional services.

• A hallmark of PCS is a robust thought leadership program that provides clients with timely, thought-provoking information to help manage and grow their businesses and wealth.

1 Forbes 2013 List of Largest Private Companies

Trendsetter Barometer Business Outlook

Growing Your BusinessTM

2015 Guide to Tax and Wealth Management

The Family Business Survey

For more information, go to: www.pwc.com/pcs

2014 Employee Financial Wellness Survey


Thank you

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