March 7, 2018 What’s trending on NP Trusts & Estates

Understanding the 2018 annual gift tax exclusion, creating domestic asset-protection trusts, avoiding common tax return filing errors and more. Here’s what’s trending in estate planning and wealth management.

Estate & Gift Planning The 2018 gift tax annual exclusion is $15,000 per donee

The gift tax annual exclusion allows an individual to make gifts without reducing the donor’s lifetime gift tax exemption amount. The exclusion is capped, and gifts must take immediate effect to be eligible.

What is the annual gift tax exclusion amount for 2018?

The gift tax annual exclusion amount is determined by the on an annual basis. The IRS has confirmed that the gift tax annual exclusion in 2018 is $15,000 per donee.

How has the annual gift tax exclusion amount changed over the years?

Since 1997, the gift tax annual exclusion amount is subject to an inflation adjustment that takes effect only when the adjustment equates to a $1,000 incremental change in the gift tax annual exclusion. The $1,000 incremental change to the gift tax exclusion amount, per donee, occurred as follows:

1997–2001: $10,000 2002–2005: $11,000 2006–2008: $12,000

This newsletter is intended as an information source for the clients and friends of Nixon Peabody LLP. The content should not be construed as legal advice, and readers should not act upon information in the publication without professional counsel. This material may be considered advertising under certain rules of professional conduct. Copyright © 2016 Nixon Peabody LLP. All rights reserved.

2009–2012: $13,000 2013–2017: $14,000 2018: $15,000

What is the lifetime exclusion amount in 2018?

With enactment of The Tax Cut and Jobs Act in December 2017, the basic exclusion amount for these transfer taxes is now $10,000,000 per taxpayer. The Internal Revenue Service has not yet confirmed the 2018 inflation adjustment for the estate, gift and generation-skipping transfer tax lifetime exemption amount.

What payments are excluded from the annual and lifetime gift tax exemption?

A donor may exclude from his annual and lifetime gift tax exemption all gifts to his/her spouse as long as the spouse is a U.S. citizen, payments of tuition made directly to the donee’s educational institution and payments for medical expenses (including medical insurance) paid directly to the donee’s medical or medical insurance provider. — Sarah M. Richards

Flexibility in estate plans needed due to sunset of Tax Act provisions

The Tax Cuts and Jobs Act of 2017 (the “Act”) significantly increased the exemption amounts for the gift, estate and generation-skipping tax (GST) purposes. For 2017, each of the exemptions was made up of $5,000,000 of basic exclusion and $490,000 of inflation adjustment.

For 2018, the basic exclusion is $10,000,000 and the inflation adjustment is estimated at $1,180,000. Using that estimate would result in estimated gift, estate and GST exemptions of $11,180,000 for 2018.

Under the Act, however, the increased exemption amounts sunset beginning on January 1, 2026.

What does this mean for your estate plan?

Because of the increased exemptions and the sunset provisions, it is especially important that clients review their current estate plan documents with legal counsel.

Of special importance is a review of the funding formulas that determine the dollar amount of bequests and trust shares to ensure that they work both before and after the

sunset and to be sure that clients are comfortable with the amounts passing either outright or in trust for the benefit of a spouse, children and other beneficiaries.

Is a funded revocable trust still a good idea?

Most clients use revocable living trusts to avoid probate of their assets, provide for privacy upon their death and to minimize federal and state estate taxes. This continues to be the case even after the new Act.

Another benefit of using revocable trusts to continue to hold assets in trust is to provide for protection of the trust assets for a surviving spouse and children. This protection is not just from estate tax but also from business creditors and potential divorcing spouses. This is another important reason to continue to use trusts.

What are the implications?

The Act, in increasing the available gift, estate and GST exemptions, also has the effect of making income tax planning even more important.

Under the Act, at the death of the first spouse there is still a step-up in income tax basis for the value of all assets (other than retirement plans) owned at death to fair market value as of date of death. The purpose of this is to avoid double taxation, i.e., both an estate tax and an income tax.

The step-up in income tax basis applies whether or not there is any estate tax due. For example, for a married couple when the first spouse dies, assets in that spouse’s name and one-half of the joint assets will receive a step-up in basis for income tax purposes. If those assets are held in a trust for the surviving spouse, a so-called credit shelter trust, which will not be subject to estate tax in the surviving spouse’s death, those assets will not receive an income tax step-up at the death of the surviving spouse.

Clients will want to be sure that there is flexibility in their trust document to allow an independent trustee or a trust protector to grant a general testamentary power of appointment to a surviving spouse for part or all of the assets in trust so that those assets can receive a step-up in income tax basis, should appreciation of those assets be significant.

Can unused exemption still be transferred to a surviving spouse?

Under the Act, the concept of portability still applies. This means for a married couple if a spouse dies without using all of his or her available federal estate tax exemption, it will “port” or transfer to the surviving spouse.

It is necessary, however, to file an estate tax return to claim portability and there are technical rules that apply should a spouse get remarried.— Deborah L. Anderson

Domestic asset protection trusts: not just for the ultra-wealthy

With fewer and fewer individuals and couples being subject to federal or state estate and gift tax, many of you may think that trusts might be useless. However, even with relatively modest assets, you may be able to take advantage of a certain type of trust, the assets of which you can largely control but which will be beyond the reach of your creditors.

A self-settled or domestic asset protection trust (APT) allows an individual to put property in a trust and retain the ability to receive trust property back as needed (by naming themselves as a beneficiary), all while protecting assets from the settlor’s future creditors and certain existing or foreseeable creditors. Although creditors in some cases have successfully challenged APTs, those cases generally have bad facts (including in some cases clear intent to defraud existing creditors) that, with proper planning, can be avoided altogether.

In order to create an APT, you must appoint a trustee located within a state with an APT statute. That can be an individual resident of such a state, but normally is a bank or trust company with offices located in the state. As of this blog post, at least 17 states, including popular trust destinations like Alaska, Delaware, Nevada, New Hampshire and South Dakota, authorize APTs.

Under most APT statutes, the settlor can manage the investments of the trust. The settlor can also appoint one or more individuals (usually independent parties) to direct when distributions are made from the trust, but the settlor cannot appoint himself in this role. Consequently, the role of the trustee located in the APT state can be limited to more administrative duties.

The utility of an APT will depend on a lot of circumstances, so you will need to speak to an experienced professional before deciding whether an APT makes sense for you. However, in an increasingly litigious society, and a society where upwards of half of marriages end up in divorce, APTs make sense for many individuals, even with relatively modest assets.

— Kenneth F. Hunt

Wealth Management

Market Pulse: February Economic Highlights

What’s happening: Highlights from the NP Investment Team

With the media using headlines such as “Dow plunges 1,175 points, biggest drop in history,” it is no surprise that investors were overly concerned with the market’s correction earlier this month. While the headline is attention grabbing and a 4% one-day decline is certainly noteworthy, it is not historic. In fact, the market had gone 80 weeks without a 5% correction, as opposed to the normal frequency of 10 weeks, so a correction was long overdue.

The jobs and wage growth reports for the month of January appear to be the initial cause for the sell-off and it was exacerbated by trend-following algorithms as opposed to fundamental investors. Wage growth for January ticked up from recent months of 2.5% to 2.9% and increased investors’ concerns about the outlook for inflation and the Fed’s plans to raise rates at a faster pace. The equity markets have rebounded following the 10% correction earlier this month and the S&P is now up over 3.6% year to date and almost 18% over the past 12 months. While higher long-term rates could become a headwind to equities over time, economic and market fundamentals remain mostly positive.

Leaders and Laggards: What’s Up and Down in the U.S. Stock Market?

Economic Sectors January Calendar Year 2018 2017

Consumer Discretionary 9.34% 22.98%

Technology 7.63% 38.83%

Healthcare 6.65% 22.08%

S&P 500 5.73% 21.83%

Financials 6.48% 22.18%

Utilities -3.07% 12.11%

Stock market leadership to start 2018 continues to be led by the consumer and technology sectors as revenues and earnings came in higher than expected. We also saw a rebound in the financial and healthcare sectors as these areas of the market generate the majority of their revenues domestically and should benefit from the recent tax cut.

Click here for more information about NP’s investment capabilities.

— NP Investment Team

Income Taxes

Minnesota is the other winner of this year’s Super Bowl

Nick Foles and the Philadelphia Eagles may have won the Super Bowl, but in the end, the tax man is the real winner. Every player on the team, from Foles to the back-up punter, will receive the same $112,000 “victory bonus” and championship ring worth an estimated $30,000. Of course, everyone will owe federal taxes on these winnings and some will owe taxes to their residential state, but the Eagles will also be on the hook for the colloquially named “jock tax” thanks to Minnesota’s third highest personal income tax rate in the country.

What is the “jock tax”?

The “jock tax” is just another name for the levied against visiting athletes who earn money within that state. Since it’s impossible for states to track everyone who works within their borders throughout the year, they target high-profile and wealthy individuals. And who is easier to track than those whose salaries and schedules are made public? The state can quickly and effortlessly, with very little investment of time and resources, determine how much a professional athlete owes in taxes for their time spent playing in the state.

When did the “jock tax” begin?

The origination of the “jock tax” can be traced to 1991 when Michael Jordan’s played the Lakers in the NBA Finals. taxed the earnings of all the Bulls players and hit back with a “jock tax” of their own. Illinois levied taxes on out-of-state professional athletes from states that imposed “jock taxes” on Illinois-based players.

Where is the “jock tax” imposed?

Most other states soon followed and, as of 2017, nearly every state enforces some form of “jock tax” on visiting athletes, except on those fortunate enough to play in states with no state income tax like or !

— Thomas A. Stedman

Do you have a business or a hobby?

Businesses and hobbies come in all shapes and sizes from dog walking to jewelry making and everything in between. So how do you determine if your enterprise is a business or a hobby? As you might expect, a key component of a business is to make a profit. Hobbies on the other hand are engaged in for personal pleasure or recreation and are not driven by a profit motive.

From the perspective of the IRS, an activity is considered to be for-profit if it produced a profit (gross income in excess of deductions) in at least three of the last five years, including the current year.

The IRS has listed the following factors (although other factors may be looked at as well) for consideration in order to help taxpayers determine if their endeavor is engaged in for profit or as a hobby.

1. Is the activity carried out in a businesslike manner? Have you changed your method of operation in an attempt to improve profitability?

2. Do you and/or your advisors have the knowledge needed to carry on the activity in a successful manner?

3. Does the time and effort put into the activity indicate the intent is to make a profit?

4. Do you depend on the income from the activity for your livelihood?

5. Do you expect to make a profit in future years from the appreciation of assets used in the activity?

6. Were you successful in this type of activity in the past?

7. What is the history of income or losses with respect to the activity? Are losses normal in the start-up phase of your type of activity?

8. Does the activity make a profit in some years? If so, what is the amount of profit in relation to the amount of losses incurred?

9. Are there personal motives or elements of recreation in carrying on the activity?

In its evaluation of profit motive, the IRS will look at all facts and circumstances; no single factor is decisive. However, the more questions you are able to affirmatively answer in support of a profit motive the better your fact pattern will be in the determination of a business versus a hobby (and the tax advantages that come along with that determination). Please consult with your tax professional for reporting specifics.

— Anne B. Covert

What you need to know about deducting your charitable donations

Under the old tax law (pre-Tax Cuts and Jobs Act), you were generally able to deduct up to 50% of your adjusted gross income in charitable contributions, but deductions could be limited to 20% to 30% of your adjusted gross income in some cases. Under the new law, the charitable deductions aren’t going away. In fact, the rules governing charitable donations remain largely the same with just a few changes.

One of the changes is that for contributions made in tax years beginning after December 31, 2017 and before January 1, 2026, the 50% limitation under Code Sec. 170(b) for cash contributions to public charities and certain private foundations is increased to 60% of your adjusted gross income.

You can still carry over any contributions you could not deduct in the current year because they exceeded the limitation. You may be able to deduct the excess in each of the next five years until it is used up, subject to the later year’s ceiling.

• You can claim a deduction for charitable contributions only if you itemize deductions on Form 1040, Schedule A, Itemized Deductions.

• If you donated cash or property of $250 or more, you must have a bank record, payroll deduction record or a written acknowledgement from the qualified organization showing the amount given and description of any property given and whether the organization provided any goods or services in exchange for the gift.

• Only donations made to qualified charitable organizations can be deductible. Contributions to individuals or political organizations are never deductible. See IRS Publication 526, Charitable Contributions, for more details.

• If you received something in exchange for your contribution, you can deduct only the amount in excess of the fair market value of the benefit received.

• You can donate cash or property. If you donated stock or other noncash property, your deduction will generally be determined at the fair market value of the property. Fair

market value of your donation is generally the price at which this item would be sold by a knowledgeable, willing and unpressured seller to a knowledgeable, willing and unpressured buyer in the market. Donated used clothing and household items must be in good condition or better. Special rules apply to cars and boats donations.

• In order to claim a deduction for any cash donation (cash, check, etc.) you must maintain a bank record, payroll deduction record or a written communication (letter, e- mail, etc.) containing the name of the organization and the date and amount of your donation.

• If your total deduction for all noncash donations for the year is over $500, you must complete and attach Form 8283, Noncash Charitable Contributions, to your federal tax return. If your total for the year is over $500 but does not exceed $5,000 (or consists of publicly traded securities even if the deduction is more than $5,000), you need to complete section A of the form. If you donate an item or a group of similar items valued at more than $5,000, you must also complete Section B of Form 8283 and with some exceptions obtain a qualified appraisal. If you claim a deduction for a contribution of noncash property worth more than $500,000, you will also need to attach the qualified appraisal to your return.

• If you’ve volunteered your time, you can deduct the entire amount of your mileage, parking, tolls, train or bus ticket and even airfare if your travel was to exclusively serve a qualified charitable organization. However, the value of your time or service can never be deductible.

The new law that went into effect on January 1 doubles the standard deduction for a married couple, meaning they can receive a tax break if their itemized deductions equal $24,000 or more. The problem with that, many critics say, is that the incentive to make charitable donations goes away for many middle class Americans because they don’t receive a tax break unless their deductions exceed the annual $24,000 itemized deduction threshold. Exceeding that threshold involves a total number of deductions including medical expenses, mortgage interest, state and local taxes (SALT limited to $10,000 annual maximum) and charitable donations.

— Elena N. O'Leary

Student loan interest income tax deduction

Post: If you paid interest on a qualified student loan in 2017, you may be able to claim an above-the-line (directly from gross income) deduction of up to $2,500. You should receive a Form 1098-E (or substitute statement) from each lender that received interest payments of $600 or more from you during the year.

As detailed on the IRS website, you can claim the deduction if all of the following apply:

• You paid interest on a qualified student loan in tax year 2017; • You’re legally obligated to pay interest on a qualified student loan; • Your filing status isn’t married filing separately; • Your MAGI is less than a specified amount that is set annually; and • You or your spouse, if filing jointly, can’t be claimed as dependents on someone else’s return.

A qualified student loan is a loan you took out solely to pay qualified higher education expenses that were:

• For you, your spouse or a person who was your dependent when you took out the loan; • For education provided during an academic period for an eligible student; and • Paid or incurred within a reasonable period of time before or after you took out the loan.

Qualified higher education expenses include tuition, fees, room and board, books, equipment and other necessary expenses such as transportation.

See Publication 970, Tax Benefits for Education, and Form 1040 (PDF) to determine if your expenses qualify.

— Masha Rabkin

Avoid common tax return filing errors

Before filing your tax return, take the extra time to review your return to make sure it is accurate and has no errors. Errors in your tax return will slow down the processing and may result in you receiving a tax notice. Filing your tax return electronically is the most accurate way to prevent errors.

Here are some common tax return filing errors:

1. Wrong or missing social security numbers. Verify the social security number to the actual social security card for all dependents to ensure they are correct on the return.

2. Misspelled or wrong names. The names on the tax return need to match what is on social security cards. You may need to contact SSA if you need to make a name change.

3. Incorrect filing status. Make sure you select the appropriate filing status relating to your circumstances.

4. Math errors. Filing electronically and using tax preparation software ensures the numbers add up but it is always a good idea to double-check your math to make sure the

return is accurate.

5. Errors in calculations of tax credits or deductions. Refer to the instructions on the form to ensure you are eligible to claim tax credits or deductions.

6. Wrong bank account and routing numbers. Make sure these numbers are accurate to prevent your refund from being delayed.

7. Sign and date return if paper filing. An unsigned return is an invalid return that will not be considered timely filed. Remember both spouses need to sign the return. You can avoid this error by filing your return electronically.

8. Attach all required forms. If paper filing your return, you will need to attach forms to the front of the return that reflect tax withholdings such as W-2s.

9. Electronic filing PIN errors. Taxpayer signs and validates the tax return electronically when e-filing by using the taxpayer’s previously self-selected identification number.

If your filed tax return contains mistakes, you can always file an amended tax return. Get in the habit of taking your time and gathering all information ahead of time so that when it is time to file your return the process is easy and painless.

— Darrell Kamholz

For more information, please contact:

— Deborah Anderson at [email protected] or 617-755-2703 — Anne B. Covert at [email protected] or 585-263-1401 — Kenneth F. Hunt at [email protected] or 585-263-1230 — Darrell Kamholz at [email protected] or 585-263-1272 — Elena N. O’Leary at [email protected] or 585-263-1351 — Mashka Rabkin at [email protected] or 585-263-1117 — Thomas A. Stedman at [email protected] or 585-263-1029

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