During this discussion led by Ted Zamerski, CFA, CPA/PFS, and featuring Tom Gibson, CPA; Brian Shey, an insurance specialist, securities representative and member of your Family Office Team; and Kevin Taylor, MBA, CFP®, our clients had the opportunity to “Ask the Expert” their questions regarding tax, estate, financial, retirement and protection planning; their importance; and their interconnectedness.

Transcript (edited for clarity)

Ted Zamerski: Good morning and welcome to this month’s webinar, Ask the Expert. I’m Ted Zamerski, Fulfillment Director at Taxing Professionals. Thank you to all who have sent in questions in advance. We have a lot to cover today, so let’s dive right in with introductions of today’s panel. Most of you know, Senior Tax and Financial Strategist, Tom Gibson. As always, Tom, thanks for joining us.

Tom Gibson: Glad to be here, Ted. Good morning.

Zamerski: And many of you also know Brian Shey, part of your Family Office Team. Glad you could be with us today, Brian.

Brian Shey: Thank you, Ted. Good morning to everyone.

Zamerski: And finally, I want to introduce Kevin Taylor, our newest Tax and Financial Strategist. Kevin is a Certified Financial Planner and comes to us with experience as a CEO and business owner and as a former trustee officer of one of the largest financial institutions in the country. Welcome, Kevin.

Kevin Taylor: Thank you, Ted, and welcome to all of you. We look forward to having a great chat with you this morning.

Zamerski: Great. Let’s kick things off with Tom. Tom, what do you think will be the biggest challenges facing taxpayers in 2021 and 2022?

Gibson: Well, the biggest challenge from our wheelhouse, I think, is going to be the Tax Act that we’re going to get later in the year. I wish I had more to tell you. We really don’t know any more on the individual tax side than we did back in October when we did the first webinar on what we thought was going to be in the Act. I still think all of what we discussed then is going to be in there.

But we do have a little bit of additional information on the corporate side and on estate tax. There’s actually been legislation introduced on both of those fronts, but it’s going to be a rough four to five years before we get new tax legislation after this round. Tax is always a drag on the economy and, having just coming out of the pandemic year, I can’t think of a worse time to raise taxes on people. But that’s exactly what’s going to happen.

The second challenge, less directly related to us, of course is the virus itself. In many parts of the country, we are still under pretty significant restrictions. We are still continuing to shovel money at the problem. And who knows how that’s all going to turn out. I think we all maybe thought that the vaccine was going to be kind of a silver bullet that would let everything get back to normal. And it does not appear that’s going to be the case, at least in some states. We’re open here in Florida. Texas is pretty much wide open at this point. Other parts of the country are as well. Oddly enough, the places with the strongest restrictions are seeing the biggest spikes in cases. And as recently as the beginning of this week, the head of the CDC recommended that the state of Michigan go back into basically total shutdown. It is so extremely rare for government to ever give back power that has been ceded to them. The federal income tax is a great example of that. It was originally 1% topped out at 7%, and it was only going to apply to rich people, if any of that sounds familiar. So, it is really kind of a twofold issue here. And I think we’ll get back to normal when people decide they’re just going to get back to normal, regardless of what the government says. But those are the two big ones that I see on the horizon for this year.

Zamerski: And I want to add to that, too. I did see this morning that the new jobless claims are continuing to decline. It’s not a smooth decline. There are bumps in the road. But that was a slight little bit of positive news this morning, and retail spending is picking up as well. But that is only going to continue until the tax hits.

Gibson: And it may only continue until they run out of their last stimulus payment.

Zamerski: Yes because I’ve already heard people saying, “When’s the next one coming?”

And that’s what happens. As soon as you give out one, they want another. It’ll be interesting to see how this all plays out.

Our next question goes along the lines of, “I’m maxing out my 401(k) and make too much money to have a Roth IRA. What can I do?”

There are a couple of directions you can go. One that we talk about a lot is the Backdoor Roth. Even if you’re maxing out your 401(k) and you make too much money to make a direct Roth IRA contribution, you can always make a non-deductible traditional IRA contribution. And then, pretty much the next day, you can convert that non-deductible contribution into a Roth IRA. Since it’s an after-tax contribution there are no tax consequences to the conversion, but now you have a Roth IRA. That’s why we use the term “backdoor.” It’s just a way of going around the regulations to get to the exact same point. I never understood why Congress would put rules in place to keep you from doing something, but then let you do it anyway. It just overcomplicates it. It should be a simple process.

Second place option is to look at your 401(k) plan. It may have a Roth option within it, and you can contribute to that in lieu of a traditional 401(k). Newer plans tend to have them pretty much automatically. Older ones may not, but they could always be reviewed and amended. Second option is, if your plan allows it, you can convert inside of your 401(k) the traditional portion to a Roth portion. And then third, some plans will allow you to take what’s called an in-service distribution, so you could actually pull money out of the plan and then roll that over and convert it to Roth that way. At the end of the day, just see what your plan allows. We’d need to review your 401(k)-plan summary plan description. It should be in your benefits file, or something you could get easily from your plan administrator if you don’t have it in your office. We’re happy to take a look at it, all you need to do is contact your relationship manager and send it over, and we’ll see what options are available for you.

The fourth area, for those people who are taking advantage of the hiring your children in your business strategy, your children now have earned income so you can open up a Roth IRA for them and they can use the money they’re being paid to fund it. Before they’re even close to retirement age, and certainly when they get into that, you’re creating and setting them up as being millionaires in a tax-free environment. I do know that Tom and David did an entire webinar on that concept, so feel free to again go back and check that out. And if you have any questions, let us know.

Brian, I’m going to segue here and throw three questions at you at once. I think you’ll be able to tie them together nicely. We’ve just touched on back door Roths, 401(k) conversions, and hiring your kids. Take these questions in any order that makes sense to you. The first is, “Are there other strategies that can be used effectively with hiring your children in addition to funding a Roth IRA?” And the next two are, “Why do we use life insurance and what kind of insurance should I be using?”

Shey: In the Family Office, obviously, we deal with a lot of the securities and Roth IRAs and traditional IRAs, and 401(k) plans and all that stuff, but we also do a tremendous amount of work in the protection component of someone’s overall plan. So the life insurance piece plays a significant role in just about everyone’s overall financial planner portfolio. For years we’ve talked about hiring your kids and opening up Roth accounts because they have earned income and putting the income in there.

Tom and I have had lengthy conversations regarding the difference between using a Roth and/or using permanent life insurance, even on children. There’s a significant difference there, and the main one is that the government did not create life insurance. Therefore, the same rules don’t apply. From a tax standpoint, the Roth and permanent life insurance operate almost identically. However, there’s no threshold with regards to the amount of money you can put into the policy. You can go get the money at any time, and you can put it back in. There are six or seven other benefits that a life insurance policy provides that a Roth IRA does not. So, while you certainly can do both, it’s a conversation that you at least should have a cup of coffee and talk to someone about.

Why do we use life insurance? To answer that one, you’ve got to understand the foundation of where I come from. What I mean by that is, the life insurance industry has been around almost 300 years and, for about that amount of time, they’ve been messing it up for about 300 years. And what I mean by that is, we use life insurance, but the life insurance industry manufactures products that solve almost any financial problem that someone could have. Premature death; living too long; becoming permanently disabled; having a catastrophic health event that doesn’t kill you, but your quality of life is diminished over 10 or 15 or 20 years. So we use life insurance and the industry teaches people to sell it in a way that irritates people. A large amount of the population cannot wrap their head around why we should use life insurance. The answer there is there’s so much more control and the restrictions do not apply. We talk about it being in the tax-advantaged bucket and it fits into someone’s overall portfolio. Think of it as using it as five or 10 percent of your overall investment allocation portfolio.

Types of life insurance, that one’s easy. There’s no reason to get into sophisticated confusion when you can stay in mature simplicity. There’s term life insurance and there’s permanent life insurance. That’s it. Now, over-under permanent, there’s a couple of different variations, but they all pretty much work the same. The easy way to think about it is you can either rent or own. And there’s a reason that all of us want to own our own homes because it creates value and equity and things like that. There’s a sliver out there of people who should use term. But, from a tax planning standpoint, permanent life insurance is written into the IRC tax code in a way that gives it an unbelievable amount of flexibility. And again, we just advise people to use it as a small portion of their overall portfolio.

Zamerski: Thanks, Brian. I think that makes a lot of sense, too. The way I look at things from a financial planning standpoint is, I look at as a stool. If it only has one or two legs, it’s pretty hard to keep your balance. I seldom recommend you go all-in on any one thing or any one strategy. A stool of four or five legs, is a lot more stable. So, what are your thoughts on that as well?

Tom, did you have a comment?

Gibson: I was just going to say that it can be both. And Ted just drove that point home, as well. If your child is over the age of 14, in all likelihood he or she is making $12,550 per year from the W-2 income from your business. $6000 of that can go into the Roth. And I guess the difference is, over time, the stock market is going to probably outperform a life insurance policy. That’s not a good thing or a bad thing. That’s just a fact, over a 40 – or 50-year period.

But there are a lot of good reasons to get your children insured early. The biggest one being the risk that they wouldn’t be insurable later on down the road.

Shey: Yes. And I’ll expound on that a little bit on the why. If any particular person out there can describe the circumstances surrounding their death to us, then there’s really no need for the protection component of your plan. However, that’s impossible to do, even though people do try to do it from time to time. But again, the why, and Tom brought it up. First of all, your children can go through underwriting very, very easily. And there’s practically no qualifying factors for life insurance. When I talk about qualifying, that’s product again, and you can’t stop at the convenience store and pick it up. It’s something that people have to qualify for. And you have to go through underwriting, and you have to pass the test if you will. But again, if it’s properly designed, properly funded and properly crafted, it fits into any particular portfolio out there.

But the why. The government doesn’t control insurance. We talk a lot about taxes. What’s going to happen to the traditional IRA or the Roth or the 401(k) plan? Or the fact that the Secure Act of 2019 blew up estate planning for almost the past 30 years. Now they have more tax coming in and more plans. All of those plans create problems. And they either create more difficulties or they unwind what people have already done. The life insurance industry is extraordinarily powerful on Capitol Hill and they leave it alone most of the time.

Zamerski: Thanks. Here’s another question, “I’ve been meaning to meet with an attorney to discuss my wills and trusts, but I’ve been so busy. How important is it that I get this done right now?”

I know I’ve talked about, for the last year or so, the quadrants of urgent and important tasks. And the reason I get this question so often is because many of us get trapped into focusing on the urgent, which unfortunately is also unimportant, but does require attention. There’s a saying that goes, “If you ignore the urgent, your business will face a quick death. But if you ignore the important, you’ll just as surely suffer a slow death.” So it doesn’t get the attention it deserves because it’s often not urgent since we tend to think that there’s going to be time to do it. I can do it tomorrow or the next day or as soon as I get done with this project. But we all know in life there’s always something else at the end of it. There’s always a reason that keeps bumping things. But I think this subject is so critically important, and we must make time for the often uncomfortable discussions. The good news is that at least the state you reside in has a will for you. The bad news is it may represent how you want your assets distributed. So, Kevin, can you share your thoughts on this concept?

Taylor: Certainly. And that’s a very good question. A lot of folks are very busy people, whether you own a business or you’re in a high-stress job or position. And it’s easy, as humans, to deny our mortality. And I think Brian could speak to that quite a bit. But the fact of the matter is, there is nothing more important that you have to do, in terms of obligations to either family or to work, than to get this taken care of because at the point that it becomes apparent that we need to do some planning, I’m sick and I’m not going to be here long. A lot of folks don’t think about the fact that it’s going to be much more difficult to handle those matters. And in many cases, you don’t have any notice of when you’re going to leave this world. So it’s something very important that you need to take extremely seriously. I’ll use something that I’ve heard Tom say before. I’d like you to write down what’s more important than taking care of your family and your affairs. There’s just not.

Gibson: The first year a client comes on board, it’s not at all uncommon to find out that they don’t have a will. Or to hear, “I’ve got a will, but I did it on legal Zoom.” Or “I’ve got a will and I’ve got a trust, but it was done 10 years ago and nothing has been changed.”

I’ve been here 10 years and we’ve seen situations where former spouses are still on wills and trusts and things. Well, guess what? That’s a binding legal document. And I know in my situation, if the current Mrs. Gibson found out that the former Mrs. Gibson was still on all those documents, it would not be a pleasant time around our house.

Kevin touched on this. Everybody’s busy. It’s going to take some time. But it’s not going to take a tremendous amount of time. Kevin has a great background, although, obviously, we’re not practicing law. Kevin’s background in trust work gives us a great foundation to look at what you have, make some suggestions, put you in touch with someone if you don’t have a relationship with the attorney who drafted the original documents.

It puts you in a situation where you’ll have to devote some time to it. But it is time well spent. And Kevin alluded to something. I sometimes ask a client, “Okay, I want you to tell me what it is that you’re doing right now that’s more important than taking care of this so that if something happens to you, I could explain to your spouse and your children what was more important than they are.” And it’s just one of those things. My daddy said the admission ticket to adulthood is getting those things taken care of.

Zamerski: Since we’re talking about wills and trusts, let’s go through a few more here, Kevin. At a high level, can you touch on what is probate, and why do I sometimes hear that I should try to avoid it?

Taylor: Probate is simply the legal process as prescribed by the statutes of the state in which you live that affects the transfer of your assets upon your demise to the next person in line. That’s a very simplistic version of it and the reasons that we want to avoid it could take the rest of the afternoon. But I think there are three big ones. Actually, two big ones and the third is just we want to avoid it. At all costs.

Probate’s going to be expensive. It doesn’t matter if you have $5 or $5 million. And probate is on a sliding scale. You’re going to have to hire a local attorney. The attorney will have to go to the court, take the will, probate the will – provided you have a will – and then put public notices into the paper and notify your potential creditors to let everybody know.

That’s really the two big points. Number one, it’s expensive. Number two, it’s public. Do you really want everybody to know what you have, who you owe, and, in some cases, even that you’re dead? I know I don’t. So, the third point is we simply want to avoid it because there are some very uncomfortable things.

I’d like you to think about the following situation:

What if you live in the state of Florida, and you own property up on the lake in North Carolina? If you die with a will, you’re going to wind up – whether you die with a will or without a will, in what’s called ancillary administration in North Carolina. You’re going to have to hire another attorney in North Carolina, open an estate in North Carolina. And, pursuant to their process, you’re going to have to transfer that asset. It gets really expensive very quickly. We want to avoid it. And there are many, many ways to do it.

Gibson: Two things stick out to me. If you die without a will, the state has one for you. You’re just not going to like it. Secondly, an even bigger issue to me is if you have minor children. Let’s say you and your spouse die at the same time. Are you comfortable with a judge deciding who’s going to raise your kids? Because that’s exactly what will happen.

Taylor: Tom’s exactly correct. I think a lot of folks, because of that denial of mortality, fail to get past that point and say, “What is the actual impact? If I weren’t here today, if I got hit by a bus, if I didn’t wake up in the morning, what is the impact on my family, my children, my college-age kids?” And it’s a disaster waiting to happen.

Shey: Let me talk about this a little bit differently for about 35 seconds. You can address this as a need, or you can address this as a value. And for more than two decades, I’ve been testing values. It’s this simple. Do you believe that children deserve to have a future, God forbid mom and dad are no longer around to provide for them? Every person is going to say, yes. Do you believe that what you spend a lifetime accumulating should be preserved to transfer within your family and not end up going to the government? Most people say yes. And do you believe that a human being should retire with dignity after spending 30 or 40 years of his or her life working for a living? And everyone says yes. Those values are indisputable. They’re commonly held values that all human beings have. So don’t look at going and getting your estate documents done as I need to go do it. Think about it as it lines up with the values that you actually have inside you. And the only reason that you’re not doing it all boils back to all perfectly healthy, psychologically well-adjusted human beings are in denial of their mortality. And that’s a good thing. Denial allows you to function as a member of society. If you weren’t in denial of your mortality, you would not be able to get anything done because you’d be too paralyzed with the fact that you could die at any second. So denial is a very good thing. But it lives inside you and it’s the enemy of you getting your affairs in order. Think of it as a value. Don’t think of it as a need. And then maybe you won’t fall into the staggering statistic which is 91% of the American population does not have a will.

Zamerski: The impacts to minor children I think are pretty obvious. You want to be able to provide for their well-being. You want to be able to provide for their education. You want someone that you’re comfortable with stepping in and taking care of them. But another question that often comes in is, “My kids are in college now and they’re over 18. They’re doing great. But then I think about what they might be inheriting. Do I want them, all of a sudden at that young age, controlling that much money?” Even if it’s $1 million, you might not think that over the rest of their life – 60 plus years, 70 years, 80 years – that’s a whole lot. But to them it’s probably more than they’ve ever seen in their lifetime. And what would happen if my son said, “Gee, I just got a million bucks. I don’t need to finish college now.” And he takes off to Vegas with his new girlfriend? That’s my worst nightmare.

Taylor: That happens, Ted. And there’s a couple of routes that can take. Let’s say that you haven’t really worked with us. You’ve done a good job; you’ve owned a business; you’ve made a lot of money. Let’s say that you said, “I don’t need a will. I’m in good health and I’m going to be fine.” Then one day you’re not here. Let me map out the impact to your family. Obviously, your spouse, your children, they’re going to miss you. Your kids are in college. You’ve done well, but don’t have everything in order. The money comes in, the wife gets the money, the kids get some money. Let’s say that your children decide, “You know what? I’ve got a couple million bucks. I want a Bugatti.” Say the other son decides, “Hey, I’d like a jet plane. I’m going to be a private pilot or something.” And within five years, it can either go really well where it works out or it can go bad where they start developing substance issues and things of that nature.

On the other side, let’s say that you worked with us and that we’ve got a very good attorney in your area who practices estate planning. All of us have specialties. But I heard a gentleman very recently say, and it makes a lot of sense, “I can pull a tooth. That’s not going to make me a dentist.” So while you’ve got some really good real estate attorneys, and some really good criminal attorneys out there, you need somebody that focuses solely on trust and estate planning. And if you’ve got somebody that focuses on trust and estate planning and also trust and estate litigation, that’s somebody you definitely need to work with. We’ll help you find those folks. It takes some time. It’s going to cost some money. But what we want to make sure doesn’t happen is, “Well, who do I talk to. What questions do I ask? What should this cost? Is this really accomplishing what I want it to accomplish?” Those are questions we can help you with. We’ve done it for years and we’re glad to do it for you.

Zamerski: Kevin, I’m going to throw three more questions at you because they’re really closely related, and it’ll make this flow a little bit easier. What is a trust and why are they so expensive? Trusts are for rich people. I’m not rich, so why do I need one? And third, for those people updating their wills, – and it probably expands beyond the will – what should be considered a normal fee for succession?

Taylor: Let’s talk about a trust first. A trust is an Anglo-Saxon instrument. It’s been in use for hundreds of years. It originated in the U.K. And here’s the crux of it – a trust is simply a person that has assets contracting with the person to hold those assets for the benefit of another person. Let’s say that Tom has some assets. He wants to get those assets to Ted, but, for various reasons – estate planning, control of the assets from beyond the grave, tax planning – he his competent attorney decide that they need a trust involved to effectuate this. Tom writes a trust document, meets Brian, names Brian as the trustee. Brian would own those assets in trustee, as in trust as trustee, and administer those assets for the benefit of Ted, because Ted in this case would be the beneficiary. That’s the most simplistic form of a trust.

But there are some elements in here that I want to talk with you about that are very important. You’re going to hear these, four words or four phrases. We’ve got a beneficiary, who is the person that benefits from the trust. We’ve got the trustee, the person who is trusted to hold these assets, use them for the benefit of the trustee in accordance with the third phrase, the trust document. The trust document is really the driver behind this once you’ve got the person that Tom’s personifying, who is the donor, the grantor, the settlor. Those are three different names for Tom. Tom’s the guy with the assets who wants them held for Ted’s benefit. The trust document between Brian and Tom is really the driver here, and that’s where you have to have the attorney. The better drafted the document is, the more flexibility Brian is going to have as trustee to provide for Ted. So having a well-drafted document is absolutely instrumental. There’s just no substitute for it.

“Trusts are for rich people, and I’m not rich.” Well, that’s a great question. But the fact of the matter is, I’ve got my TSP pen here. And all of our clients get a binder and have received one this year. And it’s a great pen. I like it quite a bit, but it’s worth about two, three bucks, right? If I wanted to put that pen in trust for Ted, I can certainly do that. Now, would this be cost prohibitive? Sure. You’re going to have to hire an attorney to write a trust document to get this pen to Ted. But imagine it has sentimental value. Say there’s a tax planning reason to do this. A trust can fit any person, any estate of any size.

The third question dovetails in with this. If you recall when I spoke about estates and probate a few minutes ago, probate gets marginally more expensive as the size and complexity of the estate increases. Wills are very similar. There are a couple of different ways we’re seeing folks charge in terms of attorneys between the West Coast and the East Coast. There are two real structures, but one’s predominant. We’re seeing the traditional hourly rate where you go into an attorney and say, “I need an estate plan.” And then they quote $350, $450, as high as $600 an hour. And I’ve heard rates that go beyond that. If you have a very complex estate, sometimes that can necessitate that higher rate, but generally you’re going to be at the $300 – $400 an hour range.

Let’s hop over to the more predominant fee structure that I have been encountering for quite some time – the flat fee structure. This is a really a great deal because it removes something that’s very important. When you pick the phone up and call your attorney, you’re not trying to calculate how long you’re on the phone. You’re listening to what they say, telling them what you need to tell them, because it’s a flat fee structure. And a lot of the structures that we see are a couples package, man and wife will; they may or may not have a standalone trust or you may not even have trust language; you may have trust language within the will, but then you’re going to get into healthcare directives, living wills, healthcare powers of attorneys.

Speaking of which, those three – healthcare directives, living wills, and healthcare powers of attorney – are very similar, but depend on the situation. And then you get into durable and nondurable powers of attorney. Basically, just to sum up the power of attorney, if I needed to sell a boat but couldn’t be here because I was going to be traveling, I might give Tom power of attorney to sell my boat while I’m in Europe because I trust Tom. When I get back, I have the check, but I have to leave again, so I might give Brian power of attorney to deposit the check in my insurance policy. We’re seeing those services ranging somewhere between $5,000 – $10,000 across the country. I know that’s a wide range, but recently I’ve seen a lot of flat fee structures being quoted between $6,000 – $8,000. Good value. Great value, actually.

Zamerski: I’m going to throw a steak into the lion’s den here and let you guys pounce on this next question, “Can I just use legalzoom.com to save money?”

Gibson: You can, but you probably shouldn’t. But you can. I can’t think of a client that we have who is not beyond the scope of LegalZoom. Now, if you’re fresh out of medical school and you’re going to the Bahamas and need to draw a will up, get your LegalZoom will, and when you get back from your trip pay somebody to fix it for you.

Kevin used the illustration of you might be able to pull a tooth, but you’re not a dentist. Our clients are smart folks, but they’re not attorneys. And they’re certainly not trust attorneys. You need to stick with what you know.

Taylor: I couldn’t have said it better myself, Tom. LegalZoom has its place. To Tom’s point, if you need one quick and you’ve got an appointment with your attorney in a month because they’re booked out but you’re going to the Bahamas this week, sure, get on LegalZoom. That’s fine, that will work. But soon as you get back, don’t miss your appointment with your attorney that you had booked just because you did it.

Zamerski: I think the second half of that question was to save money, and I wonder, are you really saving money? Maybe you’re saving a couple of bucks upfront, but, on the back end, these things usually come back far more disastrous than not. And how much do we wind up spending, Tom, over our years and our career, of fixing problems with people because they didn’t want to pay the person up front and then we have to deal when the issue comes to light? It tends to be far more expensive on the back end.

Gibson: Yes. it’s not just the financial cost but the cost in time. And that’s leaving aside the potential cost. If there was a mistake in that original document and something does happen, there’s just not really an upside to it that I can see anyway.

Taylor: I agree wholeheartedly. I mean, this is not the place to be penny wise and pound foolish. I’ll just be blunt with you. If you’ve got a mistake in that will, you’ve got some skin in the game. Your estate could wind up very taxable. It could not be administered in accordance with your tax plan, your financial plans. And then you’ve got a looming elephant in the room. What if your family winds up in a fight? “Oh, no! Dad, Mom told me this; sister told me that.” And your family got along great until you have two or three different conflicting wills or will provisions. There’s just no way to put a price on it. The $8,000 – $10,000, whatever you spend, is a drop in the bucket compared to, number one, peace of mind, and, two, knowing that your estate is going to be administered in the way that you want it to be: your assets going to the folks that you want them to. Hopefully, you will keep your family out of a fight. And then, more importantly, you don’t have to worry about it again. You review it every five years in detail. If you have a major life change, take a look at it. But aside from that, you know your covered

Zamerski: Let’s go back to a couple of tax-related questions. I’m going to put this two different ways for you, Tom, since it came in as two different questions. “What are the latest developments regarding the real estate investment?” Or said differently, “What is the latest from Washington on the charitable deduction real estate investment? Is this something that folks who have participated in this in the past need to be wary of if they changed the law and backdate its effectiveness?”

The other issue is, as far as any updates in things we have gotten in the last several months, some very good news out of the Eleventh Circuit Court. As you know, the IRS is auditing more projects than in the past. Up until about three years ago, a 10% audit rate was pretty typical. Now, it’s higher than that. And the IRS has kind of adopted a tactic on audit. It’s not really much of an audit. They come in, and they’re looking for some very technical language in the easement itself. If they don’t see that language, they’re disallowing the deduction on all of it. Then it goes to appeals, they’re upheld on appeals. Then it goes to tax court. Tax court rubber stamps the IRS’s position. This is why, always, the projects that our clients participate in have very healthy audit reserves set aside in the partnership. Because if you don’t have an audit reserve and the furthest you can go is tax court, you’re probably going to have a total disallowance of the deduction. However, if you have the wherewithal to get into the federal circuit courts, you’re seeing very, very different outcomes. There are 3 cases hinging on this very technical language the IRS is trying to use to disallow easements. Three cases so far where the Eleventh Circuit has overturned the tax court. There are 16 to 20 more cases right behind that same basic fact pattern. And so there’s a high likelihood they’re going to be disallowed as well – or not disallowed, but overturned. And if that is the case, no court likes to be overturned. So, the tax court is going to start looking at these cases very differently. It’ll take the IRS’s newest tactic that they’ve been using off the table. So very good news. But you’ve got to have the money to get to the circuit court to have really a chance. Now that might change over time as I said. They’re overruled.

Another development is an appraiser’s group has brought suit against the IRS for this tactic that they’re using. In the past, the case has hinged on the valuations. Well, they’re not even looking at valuations now. They’re just trying to find some technicality to disallow the easement. And so generally, what’s coming out of the 11th Circuit has been very positive.

Zamerski: And I just want to throw on there, as well Tom, from the Washington side of things and not to confuse with the popular ESPN show, but we have President Biden’s 30 by 30 plan where he wants to conserve 30% of U.S. lands and coastal waters by 2030. And honestly, I don’t see any way this can come close to being accomplished without these types of programs.

Gibson: Absolutely not. I mean, there are – and I don’t have the number right in front of me –tens of millions of acres that have gone into permanent conservation because of Code Section 17(h). It is one of those situations where Congress makes a law to try to accomplish something. Taxpayers cooperate and help them accomplish it, and then they try to penalize the taxpayers. So it’s kind of a catch 22. But, I agree, Ted. There’s no way people out of the goodness of their hearts, although that is certainly a component in all of this, are ever going to be able to conserve that much land apart from incentivizing it in the tax code.

Taylor: Right. To Tom’s point, it’s an economic impossibility. No matter how much they’d like to conserve that property, they just don’t have the means in most cases.

Zamerski: Let’s also talk a little bit, Tom, about the bills introduced in the Senate that would tax property transferred at death, basically trying to eliminate the step-up in basis and rewrite the thresholds. There’s going to be far-reaching ramifications on that. Can you touch on those and maybe some of the steps that we need to be taking if these were to pass?

Gibson: Absolutely. There are actually two Acts and both of them have very misleading names. I love the names that they give these bills because they should just call it the Legalized Theft Act of 2020. The first one introduced by Senators Sanders and Whitehouse is called For the 99.5% Act. It sounds great if you don’t read anything but the title. The issue is this has to do with estate taxes. It reduces the estate and generation-skipping transfer tax exemption down to $3.5 million per person. Spouses, taken together, would be $7 million. The current limits are $23.4 million for two spouses together. So a huge drop in the estate tax exemptions. The rates kick off for estates over $3.5 million at 45% of the value of the estate and it only goes up from there. It tops out at 65%. The limits on the gift tax annual exclusion is now $10,000 per donee and $20,000 per donor. Again, that’s dropping the current limits by about a third. They’re limiting the use of valuation discounts on non-business assets, which has been a part of estate planning, mainly due to lack of marketability. They’ve eliminated the step-up in basis for assets that are held in grantor trusts. A kind of bread-and-butter estate planning tactic has been what’s called an intentionally defective grantor trust and they pretty much rendered that useless. So that’s the first act and that’s the good news.

The bad news is having not done enough, there is a second act called the STEP Act. And STEP stands for Sensible Taxation and Equity Promotion Act. Equity promotion. Any time you hear the word equity, put your hand on your wallet because they’re about to try to get in it. It was Senators Sanders and Whitehouse again along with Cory Booker and Elizabeth Warren who came up with this particular act and it eliminates the step-up in basis. Typically, what happens is when you die, let’s say you’ve got 1,000 shares of Apple you bought on the opening day. You’ve held on to it. And your children, when they inherit it, they get a step up in their basis to what the stock is worth on the date of your death, fair market value of the stock. This would completely eliminate that. And it would up-end a few generations of estate tax planning that’s been done up to this point. Also, if you have a trust that is a non-guarantor trust, every 21 years, this act would tax any unrealized gains in those trusts. And so, again, just an absolutely horrible piece of legislation.

Now, we have a 50-50 split in the United States Senate between Republicans and Democrats. The Democratic majority in the House as of beginning of this week is two seats. And we have a mid-term congressional election next fall. If Republicans can simply manage to hold things together, we may get a much less egregious piece of legislation. I don’t have a lot of confidence in that, but it certainly is a possibility. So that’s something that. But again, most of this will not take effect until January 1st of next year. That means between now and the end of the year, we will, for the most part, be operating under the current law and may want to do some things to try to mitigate the impact of what’s coming down the road next year.

The pendulum will swing at some point, we hope. But if we pass tax legislation this year – which we are going to do – good, bad, it doesn’t matter. We’re going to get legislation this year. You need to expect for that to be in place for at least 2 more years and probably 3 – 4 more years because, even if Republicans retake the House and Senate in the midterms, we still have a Democratic president. And they’re not going to have sufficient votes to override a veto. Even if Republicans were to retake the whole shebang in 3 years, the likelihood of getting legislation in the first 6 months is going to be slim and none. So we’re stuck with whatever we get for the next three or four years.

I hope I brightened everybody’s morning but that’s where we are.

Zamerski: Can you touch on asset protection and the roles of LLCs, management companies, and insurance?

Gibson: We like LLCs for two reasons. One, it provides you asset protection, which is very similar to a corporation. Typically they’re easier to administer. There aren’t as many rules and, from a tax planning standpoint, over time an LLC can choose how they would like to be taxed. So you can, as circumstances warrant, change the tax treatment of an LLC within some limit.

The management company strategy that some of you are currently using, is something that we used a great deal more in the past, and I alluded to this earlier. It has a lot to do with the C corporation tax laws. As I said, we’re just going to have to monitor the legislation. Right now, on the corporate side of things, what is getting all the press is taking the C corporation tax rate from 21% up to 28%. But we’ll get more details going forward. If they bring back some of the features that were part of the law prior to the 2017 Tax Cut and Jobs Act, then there might be some things we can do there. And I’ll let Brian speak to the insurance issue.

Zamerski: I think this question, being a little different than some of the others, was really coming from the point of view, again, of asset protection.

Shey: From an asset protection standpoint, if you want to talk regarding life insurance, cash value inside of a life insurance policy in most states, obviously you do need to look at the state-specific, is creditor approved. So, from an asset protection standpoint, it’s there.

Since I’m talking and had maybe 10 or 15 minutes just to listen to Kevin and Tom, who are extremely intelligent men that know their craft and where they operate, at the same time, I was looking for a bottle of Advil. I say that because if you’ve ever had a meeting with me, you know that I talk about two different types of environments. One is sophisticated confusion and the other is mature simplicity. I’m not as smart as Tom or Kevin, so I try to stay in mature simplicity. But as I sat here listening to Kevin with the grits and the grats, and the trust, and the this and the that, and the attorney can do this, and they put it all together. And then Tom said, “Yeah, but that grit is getting taken out because of the tax change and that grat is getting taken out, and the unified credit is going from $23 million down to $7 million for a husband and a wife. And the estate tax, they’re talking about all the way up to 65%, and valuation discounts.” See, I told you that sounded like a bottle of Advil was needed. And I sat here and I said, “Boil it down into one question.” And I say this because nobody likes hearing about life insurance. It’s not sexy. But describe to me the circumstances surrounding your death. Do we have a Democratic president, a Congress, a Senate? What is your marital status on the day that you die? Are you single? Are you divorced? Did you go first? Did she go first? What’s the estate tax? What’s the stock market? Is it up or down? What’s the real estate market? Up or down? Have you sold your business or do you still own your business on the day that you die? Describe to me the circumstances surrounding your debt. What’s the tax rate? What’s the government look like? Is it Republican or Democrat? All of those things. And then Tom talked about, “Well, next fall things could change and in 3 years things can change. But then, 4 years later things can change again”.

All of that is, to me, sophisticated confusion, when the only thing I have to go do is go fill out a life insurance application, find out whether or not I can buy enough life insurance, put a policy in place, maybe figure out who should own it if I’m really, really wealthy. But outside of that, I’m done. And again, I don’t talk a lot about the need; I talk a lot about the value and do your values line up with how you’re living your life currently, and have you done what you needed to do to make sure that the nightmare doesn’t start tomorrow, God forbid something happens. It’s not a fun conversation, but I can tell you this. It’s a conversation I’ve been having for almost 20-plus years with people. And I do it in a mature simplicity way.

Zamerski: And Brian, let’s stay here for just a second with this question. “I’ve heard life insurance is a terrible investment. Can you expand on that a bit?”

Shey: It is. It’s absolutely a terrible investment because it’s not an investment. For the people out there, listen. You have an incredible tax team with Tom and his team. In the Family Office environment– again, try to make it simple. Life insurance is not an investment. It’s insurance. It’s insurance against your investments not working out. It’s that simple. We believe marginal income tax rates are going to be higher in the future, so we really direct people to pay their taxes today and then everything down the road will be tax-free.

Very few advisers understand life insurance. And even less insurance people actually understand how life insurance works.

It has to be designed the right way. It has to be properly funded and properly crafted. And when you do that, it plays a role, 2%, 3%, 5%, 10% of your overall portfolio allocation. It’s not an investment. It’s insurance against your investments not working out. Think about it. Is the stock market down 40% or up 40% six months prior to your death? If you can tell me that, then you’re better than me. Life insurance is not an investment. Does it grow in value? Is there a cash value? Can you do different things with it? Absolutely. And written into the 7702 IRC tax code, it’s one of the greatest tax shelters still left out there for high-income earning individuals.

Gibson: And just from an estate tax-planning standpoint, if you do have an estate tax issue – and a lot of you are going to – you know what it takes to have a $3.5 million estate. Having a business that makes about $1.5 million. And now you have an estate tax problem. But a great way to mitigate that is to have insurance to pay the estate tax. Again, that’s just a planning technique that we’ve gotten away from, just because we didn’t need to do it as much.

Shey: Don’t get into a right of return conversation. If you’re a client out there, you have a financial advisor, or if you want to have a conversation with me, that’s fine. But we’re not going to compare rates of return. It’s not going to be a rate of return conversation because if you can absolutely tell me that you’re going to get 10% on your investment account every year for the next 20 years and you know what the tax rates are going to be and you know what the tax brackets are going to be and you’re going to pay your 1099 at the end of the year, or whatever you’re going to do, then you’re better than I am. But you can’t tell me that you’re not going to have a catastrophic health event. Eleven years ago, the insurance industry integrated long-term care benefits into permanent life insurance. So do you realize that if you have a $1 million policy and you have a stroke, that you can access 80% of your life insurance while you’re still alive to pay for everything? There are so many things that life insurance policies do that investment accounts have absolutely no answers for. So, again, it’s not an investment, it’s not a rate of return conversation.

Zamerski: So quick shifting of gears here, Tom. I’m going to answer the first half of this, and then you can put the why on the back end in a sentence. “What do you think about taking more PPP money?” The easy answer is, “Take every penny you’re entitled to take.”

Gibson: Absolutely. We know that it’s not going to affect your taxable income at this point. Congress settled that in January of this year. And I promise you, you are going to get to help pay back all this money that’s going out in the last year. They’re looking to you to help pay it back. So if you can get it, take every nickel you can get.

Zamerski: “I would appreciate any of your opinions on tax loss harvesting and moving sold investments into different investments that perform similarly to avoid a wash sale.”

Really briefly, a wash sale occurs when you sell an investment at a loss and you purchased a substantially similar investment within 30 days before or after that sale. If that happens, then that loss is actually disallowed. The first way to avoid the disallowance is to sell something at a loss, book the tax loss, and wait 31 days and buy the same security back. Different investments that perform similarly have what’s called high correlations. They move generally in the same direction at the same time. This could allow you to still participate in a general market rise after there was a similar kind of decline while you’re waiting out that 31 days. For example, you might own Lowe’s and the price drops, so you sell it and you book the loss. That’s the tax loss harvesting piece. And then rather than wait the 31 days to repurchase it, you buy Home Depot and maybe a couple of weeks later there’s a good report on housing and the stock jumps. So you get to still participate in that.

I’d say there’s really just two points that you want to keep in mind. If you’re doing this with particular stocks, then you have what’s called company specific risk. So instead of having bought Lowe’s and Home Depot, or Coke and Pepsi, for example, suppose you sold Exxon back in 2010 but bought BP. And then you had the Horizon oil rig explosion. That went on for months. And the environmental cost and impact and cleanup and lawsuits depressed their stock for a significant amount of time.

Also, looking ahead to what we’ve been talking about, these potentially higher tax rates looming in the future, we’ve actually gone opposite from conventional wisdom and have been intentionally harvesting gains, paying the lower capital gains rate we have right now, and then saving those losses for a future year when they could be worth more.

Gibson: This is kind of just a weird year general because we’re expecting the tax rates to go up. Normal tax planning involves deferring income into next year and accelerating expenses in the current year. This year, the advice I’m giving is the exact opposite of that. We want to pull income into this year, which means Roth conversions and a lot of different things. And we want to push expenses out to next year because those expenses are going to be worth more. Ted did a great job of covering wash sales, and you don’t want that to happen. But it’s going to be an unusual year for all of us.

Shey: A lot of our clients are physicians. Make no mistake, what Tom, Kevin, myself, and Ted do is the exact same job. We examine, diagnose, and treat. And because of what the government’s doing, everyone needs to come and get an exam. We’ll examine your situation, diagnose the problem, and prescribe a treatment. Now, whether or not you want to take the pill or not, that’s up to you, but sometimes that pill is, “Hey, you’ve got $2 million in your 401(k) plan that is going to be taxed at a higher marginal income rate at a later time, so let’s help you try to reposition those assets.”

There’s no free lunch. You have to pay the taxes. However, if Tom can get you into a lower tax bracket today than you’re going to be in another year or 2, or 3, or 4, or ten, unless you can tell us what the marginal tax rates are going to be, that’s the treatment. Are you okay with it? All right. Let us show you how to do it. It’s just that simple. It’s not hard.

Zamerski: So, Brian, you talked about what happened when Tom and Kevin were talking: you were looking for the Advil. Sometimes I do that when you start talking, but it’s so important. We hear so many things and you’ve touched on a number of those. There’s so much that people hear and you need to have an intelligent conversation, but somebody gives them a quick one-liner and undoes all the hard work you’ve done. Are there any resources or references you could provide to people, suggest for them, that if they wanted to learn more about some of these topics, on the tax-free income or retirement insurance type planning, something that they can go and read as opposed to just being told these sound bites, if you will?

Shey: You can Google permanent life insurance and you’ll find 500.000 articles that say it’s the devil and it’s the worst thing that you could ever do. And then you could probably find another half a million articles that are going to say it’s good. There’s a guy by the name of Patrick Kelly who wrote a book called “Tax Free Retirement Income” back in maybe 2010. He put out a couple of different revised copies of that or if you will, or different books, but that’s some decent material. If you’re the analytical guy and you want to get into privatized banking, how to use life insurance as a bank and things like that, anything by Nelson Nash. He passed away about two years ago, but he really was the pioneer or the early adopter of that plan. And probably my favorite and certainly mature simplicity from a book standpoint is a book called “The Power of Zero” written by David McKnight. Very easy read, about 160 pages long. But it’s to the point. It’s very clear. And it’s truly in line with most of the strategies or concepts that we talk about here at TSP.

Zamerski: Before we wrap up, Kevin, what are some things that you can do for clients to at least help them get started and moving in the right direction with their estate planning?

Taylor: There are quite a few things we can do. But more importantly, we can take a look at what you have, or what you don’t have in some cases, and give you our take on it.

More importantly, we don’t want you going into an attorney’s office or even approaching this conversation or this task of estate planning while you’ve got questions. What do I ask? Who do I go to? How much is this going to cost? What are we going to be doing? Is what we really do going to matter? Is it going to work? We don’t want you to have those questions. So reach out to us; have a conversation with us. Let us take a look at what you’ve got. Let us find you a competent attorney in your area that practices and specializes in the estate planning arena. And then we’ll all have a conversation.

Really our goal is to work with you and get you started thinking about a few important things. And we’ve said it a couple of times here. What would happen if you were no longer here tomorrow? What would happen if you and your spouse were no longer here tomorrow? Where would your kids be? Mine are college age. Doesn’t matter. Where would they be? What would the outcome of your family be? And then another couple of the general questions that we want you to start thinking about are:

  • Who do you know that you would trust to keep your financial house in order?
  • Were you and or your spouse incapacitated?
  • Who do you know that you would trust to make medical decisions for yourself and or your spouse if you were unable?

We know these questions and conversations are uncomfortable. We appreciate that. But the fact of the matter is, we don’t want to avoid a very necessary conversation because it’s simply uncomfortable. We’re here to help you. We don’t want to push you off a cliff into this abyss of estate planning. We’re all for putting on a parachute and going with you. We’re not going to leave you. We’ll walk beside you. And we look forward to the opportunity to help you and serve you.

Zamerski: Thanks, Kevin, and Tom, and Brian. Really appreciate your time and the conversation that we’ve had. I know we covered a lot of material in a relatively short period. Hopefully, you got a little bit today of being able to see not only the importance and complexity of these issues, but their interconnectedness as well regarding tax, estate, financial, retirement, and protection planning. The good news is that with your Family Office Team addressing each of these items for you, you’re able to leverage our collaborative planning process in securing your legacy.

To learn more about how Tax Saving Professionals can help you with your Family Office needs, give us a call today at (772) 257-7888.