Congress responded to the public criticism and has now repealed both of these requirements, retroactively.  The House passed the legislation first and the Senate passed it on April 5 by a veto proof vote of 87-12.  Businesses and landlords can breathe a sigh of relief in light of this repeal.

Personal Income Taxes

Payroll tax holiday in place. Employees will pay only 4.2% (instead of the usual 6.2%) OASDI (Social Security) tax on compensation received during 2011 up to $106,800 (the wage base for 2011). Similarly, for tax years beginning in 2011, self-employed persons will pay only 10.4% Social Security self-employment taxes on self-employment income up to $106,800. In either case, the maximum savings for 2011 will be $2,136 (2% of $106,800) per taxpayer. If both spouses earn at least as much as the wage base, the maximum savings will be $4,272.

Stricter rules apply to energy saving home improvements. You can claim a tax credit for energy saving home improvements you make this year, but stricter rules apply for 2011 than for 2010. You can only claim a 10% credit for qualified energy property placed in service in 2011 up to a $500 lifetime limit (with no more than $200 from windows and skylights). What’s more, the credit you claim for any year can’t exceed $500 less the total of the credits you claimed for all earlier tax years ending after Dec. 31, 2005. The amount you claim for windows and skylights in a year can’t exceed $200 less the total of the credits you claimed for these items in all earlier tax years ending after Dec. 31, 2005. The credit is equal to the sum of: (1) 10% of the amount you pay or incur for qualified energy efficient improvements (such as insulation, exterior windows or doors that meet certain energy efficient standards) installed during the year, and (2) the amount of the residential energy property expenses you paid or incurred during the year.

The credit for residential energy property expenses can’t exceed: (A) $50 for an advanced main circulating fan; (B) $150 for any qualified natural gas, propane, or hot water boiler; and (C) $300 for any item of energy efficient property (advanced types of energy saving equipment, such as electric heat pumps, meeting specific energy efficient standards).

Partial annuitization of annuity contracts. When you receive non-retirement-plan annuity payments from an annuity contract, part of each payment is a tax-free recovery of your basis (cost of the annuity contract for tax purposes), and part is a taxable distribution of earnings. For amounts received in tax years beginning after Dec. 31, 2010, taxpayers may partially annuitize such an annuity (or endowment, or life insurance) contract. If you receive an annuity for a period of 10 years or more, or over one or more lives, under any portion of an annuity, endowment, or life insurance contract, then that portion is treated as a separate contract for annuity taxation purposes. The net effect is that the annuitized portion is treated as a separate contract, and each annuity payment from that portion is partially a tax- free recovery of basis and partially a taxable distribution of earnings. Absent this rule, the payments might have been treated as coming out of income before recovery of any basis. The portion of the contract that is not annuitized is also treated as a separate contract and will continue to earn income on a tax-deferred basis.

Restricted definition of medicine for health plan reimbursements. Beginning this year, the cost of over- the-counter medicines can’t be reimbursed with excludible income through a health flexible spending arrangement (FSA), health reimbursement account (HRA), health savings account (HSA), or Archer MSA (medical savings account), unless the medicine is prescribed by a doctor or is insulin. This new rule applies to amounts paid after 2010. However, it does not apply to amounts paid in 2011 for medicines or drugs bought before Jan. 1, 2011. Also, for distributions after 2010, the additional tax on distributions from an HSA that are not used for qualified medical expenses increases from 10% to 20% of the disbursed amount, and the additional tax on distributions from an Archer MSA that are not used for qualified medical expenses increases from 15% to 20% of the disbursed amount.

Retirement Plan Changes

Small employers may establish “simple cafeteria plans. For years beginning after Dec. 31, 2010, small employers (those having an average of 100 or fewer employees on business days during either of the two preceding years) may provide employees with a “simple cafeteria plan. An employer that uses this type of plan gets a safe harbor from the nondiscrimination requirements for cafeteria plans as well as from the nondiscrimination requirements for certain types of qualified benefits offered under a cafeteria plan, including group term life insurance, benefits under a self-insured medical expense reimbursement plan, and benefits under a dependent care assistance program.

Election to treat January 2011 charitable distributions as made in 2010. If you are age 70 1/2 or older, you can make tax-free distributions to a charity from an Individual Retirement Account (IRA) of up to $100,000. This applies for charitable IRA transfers made in tax years beginning before Jan. 1, 2012. In addition, if you make such a distribution in January of 2011, you can treat it for income tax purposes as if it were made on Dec. 31, 2010. Thus, a qualified charitable distribution made in January of 2011 may be treated as made in your 2010 tax year and count against the $100,000 exclusion for 2010. It is also may be used to satisfy your IRA required minimum distribution for 2010.

Tax Changes for Businesses and Investors 

Electronic filing rules now in place. Beginning Jan. 1, 2011, employers must use electronic funds transfer (EFT) to make all federal tax deposits (such as deposits of employment tax, excise tax, and corporate income tax). Forms 8109 and 8109-B, Federal Tax Deposit Coupon, cannot be used after Dec. 31, 2010.

Up-to-$1,000 credit for retained workers in 2011. Employers may claim a retention credit for retaining qualifying new employees (certain formerly unemployed workers meeting specific requirements). The amount of the credit is the lesser of $1,000 or 6.2% of wages you pay to the retained qualified employee during a 52 consecutive week period. The qualified employee’s wages for such employment during the last 26 weeks must equal at least 80% of wages for the first 26 weeks. The credit may be claimed for a retained worker for the first tax year ending after Mar. 18, 2010, for which the retained worker satisfies the 52 consecutive week requirement. However, the credit applies only for qualifying employees hired after Feb. 3, 2010, and before Jan. 1, 2011.

New basis and character reporting rules. Generally effective on Jan. 1, 2011, every broker required to file an information return reporting the gross proceeds of a covered security such as corporate stock must include in the return the customer’s adjusted basis in the security and whether any gain or loss with respect to the security is short-term or long-term. The reporting is generally done on Form 1099- B, Proceeds from Broker and Barter Exchange Transactions. A covered security includes all stock acquired beginning in 2011, except stock in certain regulated investment companies (i.e, mutual funds) and stock acquired in connection with a dividend reinvestment plan (both of which are covered securities if acquired beginning in 2012).

Corporate actions that affect stock basis must be reported. Effective Jan. 1, 2011, issuers of “specified securities must file a return describing any organizational action (e.g., stock split, merger, or acquisition) that affects the basis of the specified security, the quantitative effect on the basis of that specified security, and any other information required by IRS. The issuer’s return (and information to nominees or certificate holders) must be filed within 45 days after the date of the organizational action or, if earlier, by January 15th of the year following the calendar year during which the action occurred. Nominees or certificate holders must (unless the IRS waives this requirement) be given a written statement showing (1) the name, address, and telephone number of the information contact of the person required to file the return, (2) the information required to be included on the return for the security, and (3) any other information required by the IRS. In general, a specified security is any share of stock in an entity organized as, or treated for federal tax purposes as, a foreign or domestic corporation.

Reporting requirement for payment card and third-party payment transactions. After 2010, banks generally must file an information return with the IRS reporting the gross amount of credit and debit card payments a merchant receives during the year, along with the merchant’s name, address, and TIN. Similar reporting is also required for third party network transactions (e.g., those facilitating online sales).

Information reporting for real estate. For payments made after Dec. 31, 2010, for information reporting purposes, a person receiving rental income from real estate is treated as engaged in the trade or business of renting property. As a result, recipients of rental income from real estate generally are subject to the same information reporting requirements as taxpayers engaged in a trade or business.  In particular, rental income recipients making payments of $600 or more during the tax year to a service provider (such as a plumber, painter, or accountant) in the course of earning rental income must provide an information return (typically Form 1099-MISC) to the IRS and to the service provider.  The rental property expense payment reporting requirement doesn’t apply to: (1) an individual who receives rental income of not more than a minimal amount (to be determined by the IRS); (2) any individual (including one who is an active member of the uniformed services or an employee of the intelligence community) if substantially all of his or her rental income is derived from renting the individual’s principal residence (main home) on a temporary basis; or (3) any other individual for whom the information reporting requirement would cause hardship (to be defined by the IRS).

The new law brings back the estate tax, for 2011 and 2012 anyway. During 2011 and 2012, the top rate is 35%. For 2011, the exemption amount is $5 million per individual (indexed for inflation after 2011). At those levels, the vast majority of estates (all but an estimated 3,500 nationwide in 2011) will not be subject to any federal estate tax and the tax will raise about $11.4 billion for the government. By way of comparison, the 55% tax with a $1 million exemption would have resulted in about 43,540 taxable estates in 2011 and raised about $34.4 billion. Tax historians would also note that except for the temporary repeal of the estate tax in 2010, the estate tax rate has not been less than 45% since 1931.

The new law also gives heirs of decedents dying in 2010 a choice of which estate-tax rules to apply 2010′s or 2011′s. That’s important because although there is no estate tax in 2010, some inherited assets are subject to higher capital gains tax under the 2010 rules, a situation that actually raises the tax burden for some heirs. Inherited assets under the 2010 rules have a tax basis equal to the price when they were purchased (referred to in tax parlance as “carryover basis”) rather than the price at death. That could lead to a significant tax burden for heirs who sell assets such as stocks that had been held for many years and have greatly appreciated in value. Under the 2011 rules, by contrast, heirs are allowed to inherit assets with a “stepped-up basis.” While most heirs would choose the 2011 regime ($5 million exemption from both estate and generation-skipping tax and an unlimited step-up in the basis of assets to their current market value), the heirs of superrich decedents could find it more advantageous to elect the 2010 law (limited step-up in the basis of assets and no estate tax). If the executor makes the election to have the 2010 rules apply, the estate tax return’s due date will not be earlier than the date that’s nine months after the new law’s enactment date.

For gifts made after December 31, 2010, the gift tax is reunified with the estate tax. Under the new law, the estate and gift tax exemptions is reunified starting in 2011, which means that the $5 million estate tax exemption is also be available for gifts. The law in effect prior to 2010 provided a $3.5 million lifetime exemption for estates, but only $1 million for gifts. The gift tax rate, starting in 2011, is 35%. The exemption from the generation-skipping tax (GST) the additional tax on gifts and bequests to grandchildren when their parents are still alive also rises to $5 million from the $1 million it would have been without the new law. The GST tax rate for transfers made in 2011 and 2012 is 35%.

From a planning standpoint, a nice feature of the new law is that it makes it easier to transfer the $5 million exemption to a surviving spouse, so married couples can shield $10 million of their assets from taxes. In the language of tax professionals, the estate tax exemption will be “portable.”

If you would like more details about the estate and gift tax or any other aspect of the new law, please do not hesitate to call our office.

Final regulations on stock reporting rules. The IRS has issued final regulations explaining the complex basis and character reporting requirements that apply for most stock acquired after 2010, for shares in a regulated investment company (i.e., a mutual fund) or stock acquired in connection with a dividend reinvestment plan after 2011, and for other specified securities acquired after 2012. In brief, brokers will have to report to the IRS the customer’s adjusted basis (cost for tax purposes) in the security and whether any gain or loss is short- or long-term. When these rules are fully implemented, the IRS will be in a much better position to monitor whether taxpayers are properly reporting investment gains and losses.

More guidance on the small business health care credit. The IRS issued a second wave of detailed guidance on the small employer health insurance credit created by last year’s health reform legislation. For tax years beginning after Dec. 31, 2009, an eligible small employer (ESE) may claim a tax credit for nonelective contributions to purchase health insurance for its employees. An ESE is an employer with no more than 25 full-time equivalent employees (FTEs) employed during its tax year, and whose employees have annual full-time equivalent wages that average no more than $50,000. However, the full credit is available only to an employer with 10 or fewer FTEs and whose employees have average annual full-time equivalent wages from the employer of not more than $25,000. And, in general, the ESE must pay not less than 50% of the premium cost of the employee health plan. The new guidance examines which employers qualify for the credit and which employees may be counted for credit purposes. It includes new rules for satisfying the complex uniform contribution requirement with special transition rules for 2010. The IRS also issued the final version of Form 8941 (Credit for Small Employer Health Insurance Premiums), which is used to claim the credit.

Medical residents do not qualify for FICA student exception. Under the so-called student exception, FICA doesn’t apply to students’ work for a college if they are regularly enrolled in and attending classes at the college. The Supreme Court has upheld the validity of IRS regulations that generally prevent medical residents from qualifying for the FICA student exception. Under these regulations, an employee for FICA purposes includes a medical resident who works 40 hours or more per week for a school, college or university. This decision has important ramifications for the many teaching hospitals and their residents.

Electronic funds transfer (EFT) rules now in place. Beginning Jan. 1, 2011, employers must use EFT to make all federal tax deposits (such as deposits of employment tax, excise tax, and corporate income tax). Forms 8109 and 8109-B, Federal Tax Deposit Coupon, cannot be used after Dec. 31, 2010.

Standard mileage rates up. The optional mileage allowance for owned or leased autos (including vans, pickups or panel trucks) is 51¢ per each business mile traveled after 2010. That’s 1¢ more than the 50¢ allowance for business mileage during 2010. Further, the 2011 rate for using a car to get medical care or in connection with a move that qualifies for the moving expense deduction is 19¢ per mile, 2.5¢ more per mile than the 16.5¢ for 2010.

More interest deductions for debt on the purchase of an expensive home. In new guidance on rules for deducting qualified residence interest, the IRS has determined that acquisition debt incurred by a taxpayer to buy, build, or substantially improve a qualified residence can also qualify as home equity debt to the extent it exceeds $1 million. As a result, a taxpayer can deduct up to $1.1 million of the debt securing the purchase of his principal residence.

Basis overstatement can trigger 6-year limitations period under new regulations. The IRS has issued final regulations under which an understated amount of gross income reported on a return resulting from an overstatement of unrecovered cost or other basis is an omission of gross income for purposes of the 6-year period for assessing tax and the minimum period for assessment of tax attributable to partnership items. The 6-year limitations period applies when a taxpayer omits from gross income an amount that’s greater than 25% of the amount of gross income stated in the return. Several courts had held that a basis overstatement is not an omission of gross income for this purpose. In response to these decisions, the IRS issued the new regulations to clarify that an omission can arise in that fashion. After it initially issued these regulations as temporary ones, the Tax Court found them to be invalid. How other courts will react to the clarification remains to be seen.

Withholding on government payments delayed. For payments made after Dec. 31, 2011, governments at the federal, state and local levels will have to deduct and withhold tax in an amount equal to 3% of any payments they make to a person providing property or services. However, the IRS has announced that withholding and reporting requirements will not apply to any payment made by payment card, including credit cards, debit cards, and stored value cards, for any calendar year beginning earlier than at least 18 months from the date further guidance on this subject is finalized. Thus, the new requirements will not apply to payment card payments for the 2012 calendar year.

New law delays start of filing season for some taxpayers. Some taxpayers planning to file their 2010 tax returns early have been advised by the IRS to wait until mid- to late-February, 2011. Affected taxpayers are those planning to file Schedule A or claim above-the-line deductions for higher-education tuition and fees or educator expenses. The culprit is Congress’s late passage of the 2010 Tax Relief Act. The IRS needs time to reprogram its computers to reflect the changes.

Extended due date this year. Because of the Emancipation Day holiday in the District of Columbia, the due date of Form 1040 for 2010 is Apr. 18, 2011, instead of Apr. 15, 2011. The Apr. 18 due date applies even for taxpayers who do not live in the District of Columbia.

Non-compete contracts are on the mind of employers and employees alike recently with the passage of a constitutional amendment that dictates a new framework for enforceable restrictive covenants in Georgia.  What does this mean for employers and employees? Georgia law, previously only established through court decisions and not under valid Georgia statutes, was restrictive toward the enforcement of non-competition and other restrictive covenants in employment agreements.  For example, if a prior restrictive covenant in an employment contract was considered too broad by time, territory, or activity, the entire restrictive covenant would be thrown out and the court would not be able to blue-pencil or modify the covenant in order to make it more reasonable.  In addition, if either the non-compete or non-solicitation clause was found to be invalid, the other non-compete or non-solicitation clause in the same employment contract would also be invalid. 

With the passage of the new constitutional amendment, courts will now be permitted to modify restrictive covenants in an employment contract entered into on or after January 1, 2011, so as to make them enforceable rather than invalidate an entire provision that is deemed too broad.  The new statute specifically applies to employment contracts between employers and three types of employees:  1) executive employees; 2) research and development personnel and persons in possession of important confidential company information; and 3) persons in possession of selective or specialized skills, learning or abilities, customer contacts and information, or confidential information if such skills, learning, abilities, contacts or information were obtained by working for his or her employer.

Types of Restrictive Covenants in Employment Contracts

Non-Compete Covenant

Under prior law, a non-compete agreement would be enforceable only if its restrictions involved nothing more than was reasonably necessary to protect an employer’s legitimate business interests, and if the agreement reasonably and specifically defined limitations with respect to duration, activity, and territory.  Under this type of provision, the employee could agree that for a certain duration after his or her employment ended, such employee would refrain from conducting an activity that was competitive with the activities engaged in by the employee for the employer within the geographic territory or areas where the employee conducted such activities. 

Since courts previously did not have the power to modify these provisions, if any of them were deemed to be too broad, then the entire provision would be invalid.  For example, if an employee worked for an Atlanta, Georgia company doing business only in Georgia, he or she could not be restricted from carrying on a similar business in Tucson, Arizona since the employer did not conduct activities in Arizona.  This type of restriction would be considered too broad and the entire non-compete provision would be invalid regardless of the duration and activity.

Under the new law, however, the court can modify the provision so that it is not overly broad and, in turn, validate the entire provision rather than throwing it out.  A good example of what will now be allowable under the new law is a springing territorial provision.  A number of non-compete agreements restrict sales associates from competing within the sales territory assigned to them within the last 12 months of their employment.  Since this specific geographic territory could not be determined until the time the employee left the firm, it was not specific at the time the contract was signed and, therefore, was unenforceable under prior law.  Under the new law, this type of specificity is not required and these springing territorial provisions will be upheld as valid non-compete agreements.

Non-Solicitation Covenant

A non-solicitation provision differs from a non-compete provision in that it restricts employees from soliciting customers or clients of their prior employer rather than restricting the activities or territory in which the employee can conduct business.  Also, unlike non-compete clauses, it is not necessary to place a geographic limitation on the covenant if it is limited to those customers or clients which were being serviced by the employee. 

Previously, employers including both non-compete and non-solicitation covenants in their employment contracts risked having no protection for the reason that if one of the covenants failed, then both were deemed to be invalid.  Under the new statute, since courts now have the discretion to modify the covenants, they can be modified to be reasonable.  In addition, a non-solicitation covenant will not be voided merely because an invalid non competition covenant is contained in the same employment agreement.

Confidentiality Covenant

The third type of restrictive covenant found in most employment contracts is the confidentiality or non-disclosure covenant.  This differs from the non-solicitation provision in that rather than preventing the solicitation of customers, it prevents the sharing or usage of confidential information at the employee’s new place of employment.  Some types of confidential information include customer lists, marketing techniques, and trade secrets.

Under prior Georgia law, if such a covenant did not contain a reasonable time limit during which such information must remain confidential, it would be deemed invalid.  With the change in law, however, the time restraint requirement is now eliminated and businesses are permitted to protect the confidentiality of their information for as long as there is a reasonable business need to keep such information confidential.

Considerations

Prior to the recent changes to Georgia law governing employment contracts, it was exceedingly difficult for an employer to draft restrictive covenants that adhered to all of the requirements dictated under case law.  The failure to comply with even a minor requirement could cause the entire covenant to be voided, leaving the employer with no contractual protection for legitimate business interests.

The new Georgia statute certainly relieves the burden on employers when drafting employment contracts, but it does not give them a free-for-all to enforce outlandish restrictive covenants on former employees.  The statute establishes parameters from which employers can draw and grants courts the authority to modify any overbroad covenants in order to limit them to what is reasonably necessary to protect the employer’s business interests. 

All employment contracts entered into on or after January 1, 2011 will be viewed in the fresh light created under the new amendment.  Conversely, employment contracts already in effect will continue to be viewed in light of the much more restrictive existing case law.  In that regard, it would be advisable for employers to enter new employment agreements with all of its employees beginning in 2011, so as to ensure that such agreements will be interpreted and enforced in accordance with the new law.

Even though these Forms 1099 will not actually be issued until the beginning of 2012, this is a requirement that rental property owners need to be focused on now.  Any payments made over the $600 minimum will need to be tracked, including such information as the name, address, and taxpayer identification number of the service provider so that the correct forms can be issued at a later date.  Not only did the new Act impose this new obligation, it also increased the penalties for non-compliance.  These changes and the effect they will have on rental property owners will be felt beginning January 1, 2011.  If you own rental property, we recommend discussing these changes and how they will impact you in the coming years with us or your other tax planning professional.

http://blogs.ajc.com/atlanta-bargain-hunter/2010/12/06/wes-moss-estate-planning-not-just-for-the-rich/

BACKGROUND

Uncertainty has been the catchword in 2010 to describe the state of tax laws governing gifts and estates.  In 2001, Congress enacted a law designed to slowly repeal the estate tax.  Under this law, the highest estate tax rate gradually declined to 45% in 2009, and the tax-free exempt amount gradually increased to $3.5 million in 2009.  To everyone’s surprise, Congress allowed the estate tax to “lapse” in 2010.  On January 1, 2011, the tax laws will revert to pre-2002 form with the highest tax rate at 55% and a tax-free exempt amount of only $1 million.  There has been some talk of retroactively imposing estate taxes on 2010 estates, although it seems unlikely at this point.  Many observers believe that Congress will establish the highest rates between 35% and 45% and exempt between $3.5 million and $5 million from taxes, but politics may get in the way of this result.

Congress did not repeal the gift tax or its exclusions.  Therefore, individuals are still allowed an exclusion from the gift tax for gifts of up to $13,000 per donee each year to an unlimited number of donees.  Spouses can combine their annual exclusion amounts through “gift splitting,” allowing a married couple in 2011 to give gifts of up to $26,000 per donee tax-free.  Gifts in excess of the annual exclusion amount may also be offset by an individual’s lifetime gift tax exemption of $1 million in 2011.  In addition, payments of qualified tuition and health care expenses are not subject to gift tax.  If a gift tax does apply, the rate in 2011 will be the highest individual income tax rate, which is expected to be 35%.

ESTATE PLANNING

There is always uncertainty in the law, and the year 2011 will be no exception.  Yet, whatever Congress does in 2011, it will likely result in a tax regime that is familiar to estate planning professionals.  Therefore, traditional strategies for an effective estate plan will not change.  What will change are the number of clients impacted by the estate tax.  If Congress does not act, a single client with net assets of $1 million, or married clients with net assets of $2 million, will certainly be subject to estate taxes.  Consequently, more clients will be able to save their family hundreds of thousands of dollars with a tax sensitive estate plan.  Many clients do not realize that a taxable estate often includes life insurance, retirement accounts, joint accounts, and the residence, as well as other probate assets.  Including these other assets means that accumulating a “taxable estate” of a couple million dollars is not as out of reach as it might seem.  The following are a few tools that we have historically recommended to our clients and will continue to recommend in 2011:

Last Will and Testament

Every client should have a will to provide for the orderly distribution of property, to reduce probate expenses, and to arrange for the care of minor children.  A married couple with a taxable estate has even more of a reason for having well drafted wills.  By incorporating a bypass trust into their wills, a married couple can both defer any estate taxes until the survivor’s death and reduce the estate taxes due at the survivor’s death.

A bypass trust is an arrangement whereby a married client has some or all of his or her property put into trust upon his or her death.  The objective of a bypass trust is to decrease the aggregate total estate taxes paid by a couple upon their deaths by maximizing the use of the tax-free exempt amount available to every individual.  For example, a married couple with $2 million in assets could save $400,000 in taxes by using this tool instead of leaving the entire estate outright to the surviving spouse.

Lifetime Gifts

Individuals are allowed an annual exclusion from the gift tax for gifts of up to $13,000, per donee (to an unlimited number of donees).  Spouses can combine their exclusion amounts, allowing a married couple in 2011 to give gifts of up to $26,000 per donee tax-free.  Gifting techniques, with varying complexity, allow individuals to transfer wealth prior to their death.  Starting a program early is the key to transferring large amounts of wealth.  For example, a married couple with 2 children and 4 grandchildren could give away  $156,000 each year ($26,000 x 6) without ever paying gift or estate taxes on the transferred assets.  If they start this program at 65 years of age, and both die 20 years later, they could protect over $3 million from estate taxes at their death.

Trusts and Partnerships

There are several legal arrangements, besides a will, that can reduce estate tax liability.  A properly drafted life insurance trust that owns a life insurance policy will keep the proceeds from being included in the client’s or the client’s spouse’s taxable estate at death.  After the client’s death, the trustee invests the insurance proceeds and administers the trust for one or more beneficiaries (typically, the surviving spouse, children, and grandchildren).

A family limited partnership is another useful way to transfer wealth during a client’s life.  Typically, the client is the general partner and his or her children are the limited partners.  The general partner retains control of the assets owned by the partnership while he or she gifts value to the children, reducing future estate taxes.  At the client’s death, the children can obtain access to the underlying assets or continue to operate the partnership as a form of “mutual fund.”

Capital Gains and Loss

If Congress fails to act, long-term capital gains will revert to pre-2003 rates starting on January 1, 2011.  The pre-2003 rates were 20% for taxpayers in tax brackets higher than 15%, and 10% for taxpayers in lower tax brackets, a large increase over the 15% and 0% rates of 2010.  Therefore, the timing of capital gain and loss recognition may have a major impact on a client’s taxes.

Financial Power of Attorney

Many clients were advised to have their wills and trust agreements reviewed in 2010 to be certain the repeal of the estate tax did not produce unwanted results.  Those clients should again visit their estate planning professional in 2011 to ensure their plan is still intact with the return of the estate tax.  Clients should also be prepared to adjust their plans, if necessary, when Congress acts.  Executing a financial power of attorney is recommended to ensure that changes to an estate plan can be made when the time is right, even if the client has lost capacity in the interim.

Advance Directive for Health Care

Not all estate planning in 2011 will be tax related.  Having an advance directive for health care, which combines what was historically known as the health care power of attorney and the living will, may be more important for a client than any tax planning.  Choosing a health care agent prior to incapacity can save a client’s family from the delay, expense, and emotional toll of petitioning for a court-appointed guardian.  Any year is a good year to plan for health care issues, and 2011 is no exception.

CONCLUSIONS

Estate planning is as important as ever in 2011.  More clients and their families will be affected by the changes, both anticipated and unexpected, in the law.  If Congress does not act, there will be an opportunity to help more clients transfer more wealth to their loved ones.  Applying proven estate planning techniques with personalized modification is an approach that we believe will serve our clients best.  We recommend meeting with an estate planning professional in early 2011 to discuss the right plan for you.

What’s so attractive about a Roth IRA? Here’s a summary:

• Earnings within the account are tax-sheltered (as they are with a regular qualified employer plan or IRA).
• Unlike a regular qualified employer plan or IRA, withdrawals from a Roth IRA aren’t taxed if some relatively liberal conditions are satisfied.
• A Roth IRA owner does not have to commence lifetime required minimum distributions (RMDs) after he or she reaches age 70 1/2 as is generally the case with regular qualified employer plans or IRAs.
• Beneficiaries of Roth IRAs also enjoy tax-sheltered earnings (as with a regular qualified employer plan or IRA) and tax-free withdrawals (unlike with a regular qualified employer plan or IRA). They do, however, have to commence regular withdrawals from a Roth IRA after the account owner dies.
• The catch, and it’s a big one, is that the rollover will be fully taxed, assuming the rollover is being made with pre-tax dollars (money that was deductible when contributed to an IRA, or money that wasn’t taxed to an employee when contributed to the qualified employer sponsored retirement plan) and the earnings on those pre-tax dollars. For example, if you are in the 28% federal tax bracket and roll over $100,000 from a regular IRA funded entirely with deductible dollars to a Roth IRA, you’ll owe $28,000 of tax. So you’ll be paying tax now for the future privilege of tax-free withdrawals, and freedom from the RMD rules.

Should you consider making the rollover to a Roth IRA? The answer may be yes if:

• You can pay the tax hit on the rollover with non-retirement-plan funds. Keep in mind that if you use retirement plan funds to pay the tax on the rollover, you’ll have less money building up tax-free within the account.
• You anticipate paying taxes at a higher tax rate in the future than you are paying now. Many observers believe that tax rates for upper middle income and high income individuals will trend higher in future years.
• You have a number of years to go before you might have to tap into the Roth IRA. This will give you a chance to recoup (via tax-deferred earnings and potentially tax-free payouts) the tax hit you absorb on the rollover. In other words, the future potentially tax-free withdrawals can more than offset the tax paid up front.
• You are willing to pay a tax price now for the opportunity to pass on a source of tax-free income to your beneficiaries.

You also should know that Roth rollovers made in 2010 represent a novel tax deferral opportunity and a novel choice. If you make a rollover to a Roth IRA in 2010, the tax that you’ll owe as a result of the rollover will be payable half in 2011 and half in 2012, unless you elect to pay the entire tax bill in 2010.

Why on earth would you choose to pay a tax bill in 2010 instead of deferring it to 2011 and 2012? Keep in mind that absent Congressional action, after 2010 the tax brackets above the 15% bracket will revert to their higher pre-2001 levels. That means the top four brackets will be 39.6%, 36%, 31%, and 28%, instead of the current top four brackets of 35%, 33%, 28%, and 25%. The Administration has proposed to increase taxes only for those making $250,000, but it is difficult to predict who will get hit by higher rates. What’s more, there’s a health reform proposal before the House of Representatives right now that would help finance healthcare reform with a surtax on higher-income individuals.

So if you believe there’s a strong chance your tax rates will go up after 2010, you may want to consider paying the tax on the Roth rollover in 2010.

The attorneys at Cohen & Caproni will be glad to review your and your family’s entire financial situation before you plan for a large rollover to a Roth IRA. There also are many details that we should go over, such as whether the amounts you are thinking of switching to a Roth IRA are eligible for the rollover (technically, they are called eligible rollover distributions), whether you can make rollovers from your employer sponsored plan (for example, there are restrictions on rollovers from 401(k) plans), and the tax impact of rolling over amounts that represent nondeductible as well as deductible contributions.