END OF YEAR STEPS TO LEAVE YOUR LEGACY

Written by Jim Worthington on December 13, 2022

One way to describe my role as an estate planning lawyer and counselor is helping clients leave their legacy in a tax-efficient manner. As the year end approaches, here are three ideas to help you with that.

Netting Gains and Losses

It’s a sad truth that many of us have losses in our taxable investment accounts this year. By taxable accounts, I mean non-retirement accounts. If you have a concentration of stocks with a low basis that you’d like to diversify, now is your chance.

Here’s what you need to do:

  1. Review your portfolio to determine any changes that you need to make. For example, you may have some positions you’d like to shed. And, even in this down year, some of your positions may have become too concentrated.
  2. Determine how many shares of appreciated low-basis stocks you’d like to sell. This may be part of a long-term divestment plan to reduce a concentration.
  3. Calculate the gain you’ll realize.
  4. Determine your per share loss in stocks that have gone down in value since you bought them.
  5. Calculate how many shares of each depreciated stock you want to sell to balance your tax loss against the gain you calculated in step three.

Balancing gains and losses will let you diversify your portfolio and raise cash at little to no tax cost. As with any of the suggestions in this article, consult with your team of advisers to make sure this will work for you. The conclusion of this article gives some tips on the role of each member of your adviser team.

Making Gifts

Having raised cash while balancing your portfolio, you may want to make some gifts. That’s a natural part of most winter holidays. Many of us are thinking about giving gifts to our family, friends, charities, and even our employees. Tax law has rules that affect this generosity.

In tax law, a gift is marked by “detached and disinterested generosity.” The person who makes the gift, the donor, does not expect anything of equal value in return.

There is no gift tax on gifts to a spouse who is a United States citizen. However, if one’s spouse is a non-citizen, one can only give them $164,000 in 2022 without incurring gift tax. For other family members and friends, it does not matter if the recipient, the donee, is a citizen or not. For 2022, the annual exclusion is $16,000 for gifts of a present interest. Cash is the quintessential present interest. Gifts over that limit in a calendar year are subject to gift tax. By the way, if you write a check, make sure the donee cashes it in the year of the gift!

There is a separate limit to keep in mind here. That limit is the lifetime applicable exclusion amount, which is $12.06 million in 2022. Under current tax law, that limit is indexed to inflation but will be reduced by half starting in 2026.

Gifts to employees are a little trickier. Tax law provides that a gift to an employee is usually compensation and that means the employee will owe income tax on it. There are some exceptions for de minimis fringe benefits. The rules are quite complicated and even distinguish between a non-taxable gift of a holiday ham and the taxable gift of a gift certificate used to purchase a ham. Employers who want to spread holiday cheer will need to consult their income tax advisors.

Gifts to Charity

Gifts to charity aren’t governed by the gift tax rules but by the income tax rules. Essentially, giving to charity is deemed so socially valuable that Congress encourages it by allowing an income tax deduction that may reduce income tax liability.

That income tax deduction is limited in a couple of ways. The first is that it is limited to a certain percentage of adjusted gross income. The percentage depends on the type of asset given and the type of charitable recipient and varies between 20% and 60%. The rules are quite complex. For example, donations to certain private foundations are treated like donations to public charities.

The second practical limit on charitable giving is the standard deduction. The 2017 Tax Act set a high standard deduction starting in 2018. For 2022, it is $12,950 for most individuals and $25,900 for couples who file jointly. There’s no benefit from itemizing deductions if one’s charitable deductions plus one’s other preferred deductions (e.g., home mortgage interest) are below the standard deduction. For a while, Congress made it easier for everyone to get a tax benefit from charitable giving by allowing up to a $300 charitable income tax deduction in addition to the standard deduction. That benefit expired in 2021.

One solution to this limitation is called bunching where one combines several years’ contributions into one year so that one exceeds the standard deduction that year and then falls back on the standard deduction in the other years.

Some other nuances of charitable giving include the rule that if a charitable deduction exceeds the percentage limits one year, the excess may be carried forward for up to five years.

Going back to the beginning of this article where we discussed diversifying a portfolio of appreciated low-basis stocks, one can give those to charity. Doing so means you not only get the deduction for the assets’ full value, but you also forego recognizing the inherent capital gain that would spring into life on a sale of the asset. For that same reason, it is not a good idea to give depreciated assets as the unrecognized loss is permanently lost.

The charity must acknowledge the gift and the value of any goods or services received in exchange for it as the deduction is limited to the excess over that value. Finally, one may be required to have an appraisal to substantiate the value of the donated asset if it’s not a publicly traded security.

Another way to make charitable gifts if you are required to take required minimum distributions is to direct your IRA plan administrator to make direct gifts to charity. You can give up to $100,000 a year this way. These can satisfy your required minimum distribution for the year. That’s a great strategy if you’re in the fortunate position of not needing all the RMD for your income needs. While you don’t get to deduct the amount that goes to charity from your IRA, you don’t have to recognize the income. Keeping your income down can affect your tax bracket and reduce the loss of benefits for high-income taxpayers. Finally, given the new rules that eliminated the stretch IRA for non-spouse beneficiaries, you may even want to consider naming charities as the beneficiary of your IRA.

Conclusion

This article presents some generally helpful ideas. The saying your mileage may vary applies here. Before exercising any of these strategies, you’ll want to work with your investment adviser to make sure what you’re doing fits your portfolio goals; you should check with your tax preparer to make sure there’s nothing in your particular case that will keep a strategy from working; and give your estate planning lawyer and counselor a heads up to prepare any documents and to review the effect on your will and trust planning.