Published Wednesday, Sept. 2, 2020; 11:00 AM EST
(Wednesday, Sept. 2, 2020; 11:00 AM EST) Whether you're a grantor or beneficiary of a taxable estate, current conditions require attention. Stock market volatility and drops in real estate values in cities, two financial side-effects of the Covid pandemic, create considerable opportunities to transfer family holdings to the next generation.
The minimum interest rate on intrafamily loans, which is set by the IRS, was only 18 basis points – that's 18 one-hundredths of 1% --in June 2020. That would allow a grandparent to loan $1 million, $10-million, or more, to a child or grandchild for up to three years and the only money grandpa would be required to count as income is the loan interest of $180 annually. Meanwhile, the loan amount could be in stocks or real estate for three years and any appreciation would not be subject to estate tax.
This is a simplification of the tactic. In real life, it generally involves creating a trust to protect the assets loaned from the possibility of a legal claim, just in case a beneficiary gets divorced, targeted in a lawsuit by business creditors, or in the event someone slips and falls on your property.
With the presidential election and Covid, between now and the end of 2020, the stock market may be volatile. A one-day plunge of 7% occurred earlier in the Covid bear-market recovery. If a big drop like that occurs again between now and the end of 2020, the next big plunge could be an opportune time to consider a loan to children or grandchildren to effectively transfer wealth to the next generation, if you believe stocks will appreciate 1% or more.
Past performance is never a reliable indicator of what your future investment results will be, but it is important to be mindful that the historical annual rate of return on stocks is about 10%. Thus, assuming a return for the next three years of 1% annually – one tenth the historical norm –is a very conservative expected return and yet it would still make this tactic a profitable investment. And if the stock market returns anything like the historical norm, then your heirs are way ahead, because the gains would not be taxed with the rest of your taxable estate.
For families with real estate holdings in cities where values have declined sharply, the same logic holds true. If you think your real estate will appreciate more than the current applicable federal rate, this is an opportune moment to consider loaning assets within a trust.
The general information above cannot address your individual situation but is intended only to educate families about current tax and financial economic conditions. Legal, tax, or financial advice depends on your specific situation.
This article was written by a professional financial journalist for Preferred NY Financial Group,LLC and is not intended as legal or investment advice.
An individual retirement account (IRA) allows individuals to direct pretax incom, up to specific annual limits, toward retirements that can grow tax-deferred (no capital gains or dividend income is taxed). Individual taxpayers are allowed to contribute 100% of compensation up to a specified maximum dollar amount to their Tranditional IRA. Contributions to the Tranditional IRA may be tax-deductible depending on the taxpayer's income, tax-filling status and other factors. Taxed must be paid upon withdrawal of any deducted contributions plus earnings and on the earnings from your non-deducted contributions. Prior to age 59%, distributions may be taken for certain reasons without incurring a 10 percent penalty on earnings. None of the information in this document should be considered tax or legal advice. Please consult with your legal or tax advisor for more information concerning your individual situation.
Contributions to a Roth IRA are not tax deductible and these is no mandatory distribution age. All earnings and principal are tax free if rules and regulations are followed. Eligibility for a Roth account depends on income. Principal contributions can be withdrawn any time without penalty (subject to some minimal conditions).
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