Asset Protection is Just as Important as Tax Planning

Like many financially savvy individuals, you’re probably already thinking about filing your tax return next year. But don’t overlook another critical and equally important aspect of financial planning: asset protection. Here are some fundamental strategies to consider.


Buy Liability Insurance

Liability insurance policies help protect your assets from the financial risks associated with personal liability that results from an adverse legal judgment. Auto and homeowner’s policies, for example, usually include some liability coverage. Increasing your liability coverage beyond the standard amounts will provide additional asset protection.

Personal liability umbrella insurance can give you even more liability coverage above the limits of your auto and homeowner’s policies. For instance, if you were sued for causing a car accident or found liable for injuries suffered by a visitor to your home, umbrella insurance could provide coverage up to the policy limits (such as $1 million).

Look to Statutory Protection

Federal or state law exempts certain kinds of property and assets from creditor liens. Thus, some assets you own may automatically be protected due to statutory guidelines. Qualified retirement plans are this type of asset, as are IRAs and 401(k) plans, life insurance proceeds and Section 529 college savings plans. But keep in mind that inherited assets may not have the same degree of protection.

The amount of home equity that’s protected (generally called the “homestead exemption”) depends on state law. In some states, it’s very generous, but in others it’s extremely limited, given the value of homes today. In a couple of states, there’s no protection. Consult with an attorney about your state’s laws.

Establish a Trust

Assets placed in an irrevocable trust can’t be removed, nor can the trust terms be changed. Thus, you’ve effectively relinquished control over the assets and put them out of reach of your creditors. The asset transfer must be done in advance of the act that created the liability, or the transfer could be nullified. In other words, the time to think about setting up such a trust is before you need to take advantage of it.

An irrevocable trust also can help you protect assets for your children and grandchildren. Consider structuring the trust in a way that effectively gives future generations the benefit of the assets without transferring ownership of them to your heirs. This can shield those assets from your descendants’ future creditors.

If you decide to use trusts as part of your asset protection strategy, remember that they may be subject to higher income tax rates and additional tax filing requirements. Trusts also may be costly to set up and require expert legal counsel to administer and maintain.

Obtain Expert Assistance

The details involved in implementing asset protection strategies can be complex. We can offer you guidance in your case.

 

Sidebar: Asset Ownership Structure is Key

Ownership of your assets plays an important role in whether they can be seized by creditors. Thus, it might be wise in some situations to transfer ownership of certain assets to your spouse. If you’re at a high risk of liability — for example, you’re a business owner — one strategy might be to retain ownership of assets with statutory protection, as mentioned in the main article, and transfer ownership of all other assets to your spouse.

Business Owners, Your Bad Debts May be Deductible

If you hold a business-related debt that’s become worthless or uncollectible, a “bad debt” deduction may allow you to cut your losses. But there are a few hoops to jump through.


Business or Nonbusiness

Business bad debts generate ordinary losses; nonbusiness bad debts are reported as short-term capital losses. The latter can be used only to offset capital gains (plus up to $3,000 in ordinary income). Also, you can’t take a deduction for partially worthless nonbusiness bad debts. They must be totally worthless to be deductible.

A business bad debt is a loss related to a debt that was either created or acquired in a trade or business or closely related to your trade or business when it became partly or totally worthless. Common examples include credit sales to customers for goods or services, loans to customers or suppliers and business-related guarantees.

Some debts are considered both business and nonbusiness (personal). For example, say you guarantee a loan on behalf of one of your best customers, who also is a friend. If your friend later defaults, the test for whether your loss is business or nonbusiness is whether your “dominant motivation” in making the guarantee was to help your business or your friend.

If a bad debt is related to a loan you made to your business, the IRS may deny a bad debt deduction if it finds that the loan was a contribution to capital.

To qualify for a bad debt deduction, the underlying debt must be bona fide. That is, you must have loaned the money or extended credit with the expectation that you would be repaid and with the intent to enforce collection if you weren’t repaid. Proper documentation is key.

Included in income?

Not all bad debts are deductible. The purpose of the deduction is to offset a previous tax liability. So, you must have previously included the receivable in your income.

Typically, that’s not the case with respect to accounts receivable if your business uses the cash-basis method of accounting. Cash-basis taxpayers generally don’t report income until they receive payment. If someone fails to pay a bill, the business simply doesn’t include that amount in income. Permitting a bad debt deduction on top of that would give the business a windfall from a tax perspective.

Accrual-basis taxpayers, on the other hand, report income as they earn it, even if it’s paid later. So, a bad debt deduction may be appropriate to offset uncollectible amounts previously included in income.

Pursuing a Deduction

Review your business debts to assess whether any became partially or totally worthless during 2019. If so, and if you’re an accrual-basis taxpayer, we can help you pursue a deduction.

 

Sidebar: Handle Acounting for “Charge-Offs” Carefully

You can deduct a partially worthless portion of business debt, but only if that amount has been “charged off” for accounting purposes during the tax year. The IRS takes the position that simply recording an allowance or reserve for anticipated losses isn’t enough. You must treat the amount as a sustained loss, which requires specific language in your books. Deductions for totally worthless debts don’t require a charge-off. But it’s a good idea to do so anyway because, if the IRS determines the debt was only partially worthless, it can disallow the deduction absent a charge-off.

Living the Dream of Early Retirement

Many people dream of retiring early so they can pursue activities other than work, such as volunteering, traveling and pursuing their hobbies full-time. But making this dream a reality requires careful planning and diligent saving during the years leading up to the anticipated retirement date.

It all starts with retirement savings accounts such as IRAs and 401(k)s. Among the best ways to retire early is to build up these accounts as quickly as possible by contributing the maximum amount allowed by law each year.

From there, consider other potential sources of retirement income, such as a company pension plan. If you have one, either under a past or current employer, research whether you can receive benefits if you retire early. Then factor this income into your retirement budget.

Of course, you’re likely planning on Social Security benefits composing a portion of your retirement income. If so, keep in mind that the earliest you can begin receiving Social Security retirement benefits is age 62 (though waiting until later may allow you to collect more).

The flip side of saving up enough retirement income is reducing your living expenses during retirement. For example, many people strive to pay off their home mortgages early, which can possibly free up enough monthly cash flow to make early retirement feasible.

By saving as much money as you can in your retirement savings accounts, carefully planning your Social Security strategies and cutting your living expenses in retirement, you just might be able to make this dream a reality. Contact our firm for help.

Making Gifts to Loved Ones? Don’t Forget Tax Planning!

Many people want to pass assets to the next generation during their lifetimes, whether to reduce the size of their taxable estates, to help family members or simply to see their loved ones enjoy the gifts. If you’re considering lifetime gifts, be aware that the type of assets you give can produce substantially different tax consequences.


Multiple Types of Taxes

Federal gift and estate taxes generally apply at a rate of 40% to transfers in excess of your available gift and estate tax exemption. Under the Tax Cuts and Jobs Act, the exemption has approximately doubled through 2025. For 2019, it’s $11.4 million (twice that for married couples with proper estate planning strategies in place).

Even if your estate isn’t large enough for gift and estate taxes to currently be a concern, there are income tax consequences to consider. Plus, the gift and estate tax exemption is scheduled to drop back to an inflation-adjusted $5 million in 2026.

Estate Tax Impact

If your estate is large enough that federal estate tax is a concern, consider gifting property with the greatest future appreciation potential. You’ll remove that future appreciation from your taxable estate.

If estate tax isn’t a concern, your family may be better off taxwise if you hold on to the property and let it appreciate in your hands. At your death, the property’s value for income tax purposes will be “stepped up” to fair market value. This means that, if your heirs sell the property, they won’t have to pay any income tax on the appreciation that occurred during your life.

Even if estate tax is a concern, you should compare the potential estate tax savings from gifting the property now to the potential income tax savings for your heirs if you hold on to the property.

Income Tax Considerations

You can save income tax for your heirs by gifting property that hasn’t appreciated significantly while you’ve owned it. The beneficiary can sell the property at a minimal income tax cost.

On the other hand, hold on to property that has already appreciated significantly so that your heirs can enjoy the step-up in basis at your death. If they sell the property shortly after your death, before it’s had time to appreciate much more, they’ll owe no or minimal income tax on the sale.

Don’t gift investments that have declined in value. A better option is generally to sell them prior to death, so you can claim the tax loss. You can then gift the sale proceeds.

Capital losses can offset capital gains, and up to $3,000 of net capital losses can offset other types of income, such as from salary, bonuses or retirement plan distributions. Excess capital losses can be carried forward until death.

Choose Wisely

No matter your current net worth, it’s important to choose gifts wisely. Please contact us to discuss the gift, estate and income tax consequences of any substantial gifts you’d like to make.

Making Charitable Donations Out of IRA RMD

With the new higher standard deductions, it has become difficult to itemize deductions for most taxpayers who historically have done so. Therefore, most taxpayers are receiving no benefit from charitable donations.

However, receiving a tax benefit from charitable donations is still available for those taxpayers who are 70 1/2 or older and who are receiving RMDs (Required Minimum Distributions) from their IRA accounts. To receive the tax benefit, the IRA recipient must have their IRA trustee write the check directly to the charity from the IRA account. By following this procedure, the IRA recipient will reduce the total IRA distributions by the charitable donations and only report the net of these two amounts as taxable IRA distributions. This, in effect, reduces the amount of AGI (Adjusted Gross Income), which reduces income taxes and can also potentially reduce the amount of taxable social security benefits, while potentially reducing the taxpayer’s Medicare premiums in future years.

Not a bad deal to reduce taxes AND give to charity. Questions? Contact us today!

Act Now to Save 2019 Taxes on Your Investments

Do you have investments outside of tax-advantaged retirement plans? If so, you might still have time to reduce your 2019 tax bill by selling some investments — you just need to carefully select which investments you sell.


Balance Gains and Losses

If you’ve sold investments at a gain this year, consider selling some losing investments to absorb the gains. This is commonly referred to as “harvesting” losses.

If, however, you’ve sold investments at a loss this year, consider selling other investments in your portfolio that have appreciated, to the extent the gains will be absorbed by the losses. If you believe those appreciated investments have peaked in value, you’ll essentially lock in the peak value and avoid tax on your gains.

Review Tax Rates

At the federal level, long-term capital gains (on investments held more than one year) are taxed at lower rates than short-term capital gains (on investments held one year or less). The Tax Cuts and Jobs Act (TCJA) retained the 0%, 15% and 20% rates on long-term capital gains. But, through 2025, these rates have their own brackets, instead of aligning with various ordinary-income brackets. For example, for 2019, the thresholds for the top long-term gains rate are $434,551 for singles, $461,701 for heads of households and $488,851 for married couples.

But the top ordinary-income rate of 37%, which also applies to short-term capital gains, doesn’t go into effect for 2019 until taxable income exceeds $510,300 for singles and heads of households or $612,350 for joint filers. The TCJA also retained the 3.8% net investment income tax (NIIT) and its $200,000 and $250,000 thresholds.

Check the Netting Rules

Before selling investments, consider the netting rules for gains and losses, which depend on whether gains and losses are long term or short term. To determine your net gain or loss for the year, long-term capital losses offset long-term capital gains before they offset short-term capital gains. In the same way, short-term capital losses offset short-term capital gains before they offset long-term capital gains.

You may use up to $3,000 of total capital losses in excess of total capital gains as a deduction against ordinary income in computing your adjusted gross income. Any remaining net losses are carried forward to future years.

Consider Everything

Keep in mind that tax considerations alone shouldn’t drive your investment decisions. Also consider factors such as your risk tolerance, investment goals and the long-term potential of the investment. We can help you determine what makes sense for you.

Illinois’ Tax Amnesty Programs Run From October 1 to November 15, 2019

Illinois has enacted two tax amnesty laws – one covering taxes administered by the Illinois Department of Revenue, and the other covering franchise taxes and license fees administered by the Illinois Secretary of State. These acts provide taxpayers the opportunity to pay outstanding tax liabilities and receive penalty AND interest forgiveness on taxes paid in full during the amnesty period.

Taxpayers may participate in the programs any time between October 1, 2019, and November 15, 2019.

Illinois Department of Revenue – Tax Types and Periods

The program covers taxes due from periods ending after June 30, 2011, and prior to July 1, 2018.  The tax amnesty program applies to most taxes collected by the Illinois Department of Revenue such as:

  • State income tax (individual, corporate, and partnership)
  • Sales and use tax
  • Real estate transfer tax
  • Payroll withholding
  • Excise and utility taxes (telecom, hotel, liquor, utility, etc.)

To report a tax (or additional tax) liability, you’ll need to file an original or amended tax return and make full payment of the tax during the amnesty period.  If the tax due has been referred to a private collection agency, payment must be made to the private collection agency.

Illinois Secretary of State – Tax Types and Periods

The program covers franchise taxes and license fee liabilities for any tax period ending after March 15, 2008, and on or before June 30, 2019.  Eligible tax liabilities include:

  • Unreported increases to paid-in capital
  • Initial and annual franchise taxes

Participants eligible for the franchise tax amnesty program include Illinois corporations, foreign (e.g., Delaware) corporations authorized to transact business in Illinois, and all foreign corporations that have been transacting business in Illinois without authority.  To participate, you’ll need to file a one-page amnesty petition that sets forth all the documents filed under the amnesty program and make full payment of the tax during the amnesty period.

If you have questions about whether you qualify for these programs, please contact your local Scheffel Boyle office.

Mortgage Matters: To Pay Down or Not to Pay Down

If you’re a homeowner and manage your finances well, you might have extra cash after you’ve paid your monthly bills. What should you do with this extra money? Some would say make additional mortgage payments toward your principal to pay off your mortgage early. Others would say: No, invest those dollars in the stock market!

The decision is very much about risk vs. return. There’s little, if any, risk in prepaying a mortgage, because you already know what your rate of return will be: the interest rate on your mortgage. For instance, if your mortgage interest rate is 4.5%, this would be the return earned by every dollar that goes toward prepayment (not factoring in the mortgage interest deduction if you qualify).

However, if you invest the money in the stock market, you’ll assume much more risk. The level of risk depends on the assets you invest in, but there’s no such thing as a risk-free investment.

Your mortgage interest rate is indeed an important factor. If your rate is relatively low, so is the return from prepaying your mortgage. The final decision for many people comes down to whether they believe they can earn a higher return investing the money than they would prepaying their mortgage.

Clearly there’s the potential to outperform your mortgage interest rate by investing your money for the long term. Remember, though, that the stock market may be volatile in the short term and offers no guarantees.

There’s no single answer to the “pay down the mortgage or invest in the market?” question. We can provide additional, more specific guidance on making the right decision for you.

Cost Segregation Studies Can Benefit Business Owners

Any business owner who’s acquired, constructed or substantially improved a building this year — or even in previous years — should read up on the tax benefits of a cost segregation study. Undertaking one may allow you to accelerate depreciation deductions, which reduce current taxes and boost cash flow.


Real vs. Tangible

IRS rules generally allow you to depreciate commercial buildings over 39 years. Most times, you’ll depreciate a building’s structural components (such as walls, windows, HVAC systems, elevators, plumbing and wiring) along with the building, and therefore over its same recovery period. Personal property (such as equipment, machinery, furniture and fixtures) is eligible for accelerated depreciation, usually over five or seven years. And land improvements (fences, outdoor lighting and parking lots, for example) are depreciable over 15 years.

Too often, businesses allocate all or most of a building’s acquisition or construction costs to real property, overlooking opportunities to allocate costs to shorter-lived personal property or land improvements. A cost segregation study combines accounting and engineering techniques to identify building costs that are properly allocable to tangible personal property rather than real property.

Enhanced Breaks

The Tax Cuts and Jobs Act enhanced certain depreciation-related tax breaks, which has in turn renewed interest in cost segregation studies. Among other things, the act permanently increased limits on Section 179 expensing. Sec. 179 allows you to immediately deduct the entire cost of qualifying equipment or other fixed assets up to specified thresholds.

Furthermore, it increased first-year bonus depreciation from 50% to 100% for qualified property acquired and placed in service after September 27, 2017, and before January 1, 2023.

Consider It

Under the right circumstances, a cost segregation study can yield substantial tax benefits. But every business may not need to undertake the time, energy and expense to conduct one. To find out whether a study would be worthwhile for your company, contact us.

Look Out for These Upcoming Tax Deadlines!

October 15 — Personal federal income tax returns for 2018 that received an automatic six-month extension must be filed today and any tax, interest and penalties due must be paid.
  • The Financial Crimes Enforcement Network (FinCEN) Report 114, “Report of Foreign Bank and Financial Accounts” (FBAR), must be filed by today, if not filed already, for offshore bank account reporting. (This report received an automatic extension to today if not filed by the original due date of April 15.)
  • If a six-month extension was obtained, calendar-year C corporations should file their 2018 Form 1120 by this date.
  • If the monthly deposit rule applies, employers must deposit the tax for payments in September for Social Security, Medicare, withheld income tax and nonpayroll withholding.

October 31 — The third quarter Form 941 (“Employer’s Quarterly Federal Tax Return”) is due today and any undeposited tax must be deposited. (If your tax liability is less than $2,500, you can pay it in full with a timely filed return.) If you deposited the tax for the quarter in full and on time, you have until November 12 to file the return.

  • If you have employees, a federal unemployment tax (FUTA) deposit is due if the FUTA liability through September exceeds $500.

November 15 — If the monthly deposit rule applies, employers must deposit the tax for payments in October for Social Security, Medicare, withheld income tax and nonpayroll withholding.

December 16 — Calendar-year corporations must deposit the fourth installment of estimated income tax for 2019.

  • If the monthly deposit rule applies, employers must deposit the tax for payments in November for Social Security, Medicare, withheld income tax and nonpayroll withholding.