Estate Taxes and those pesky Pay on Death Accounts

Let’s say granny wanted to avoid probate and also keep her FDIC insurance exposure low and ran around to fifty banks buying CD’s and names children and grandchildren as pay on death beneficiaries of each account. There is no will and no probate of her estate and no executor qualified.

So, one of the POD beneficiaries figures out that granny was maybe worth over $5 Million and there is a necessity to file an estate tax return.

So he goes to Head in the Sand Credit Union and asks for details of any CD’s owned by the decedent and even gets his siblings to give him a notarized permission to find out the information in the accounts.
HITSCU says, “no way” we cannot accept that permission slip and we have to follow our own procedures and protect their privacy.

This little cautionary tale, points out the problem with pay on death accounts. Yes, they avoid probate, but they also create a mess in trying to locate the decedent’s assets when there may be an estate tax due. In such situations a revocable trust is more beneficial as the owner and provides more centralized control of the assets if granny wants to avoid probate.

Presidents and releasing tax information

No President prior to Franklin Roosevelt released tax returns. Since that time, Presidents Eisenhower, Kennedy, Johnson did not. President Ford disclosed information, not the returns. A couple of thoughts about tax returns and their publicity.
The IRS has a strict policy against disclosure by the Service of individuals tax return data. Such a disclosure carries a $5,000 penalty against the Government if willful and possible criminal sanctions (as well as administrative) against the employee who does it. The concept is that people will be less than honest on their returns if their information is disclosed to the public. People might pay too much in taxes by padding incomes, or too little by failing to disclose business arrangements that might be shady (mobsters for example).

In our history there have been two schools of thought on this as pointed out in a 2012 IRS study.

“The arguments for and against disclosure of individual income tax information haven’t changed much over time. Former President Benjamin Harrison (his term ended in 1893) said this,in making the case for disclosure in an 1898 speech:

“Each citizen has a personal interest, a pecuniary interest in the tax return of his neighbor. We are members of a great partnership, and it is the right of each to know what every other member is contributing to the partnership and what he is taking from it.”

For an alternative view, here’s Secretary of the Treasury Andrew Mellon, commenting in the aftermath of the 1924 income tax disclosures:

“While the government does not know every source of income of a taxpayer and must rely upon the good faith of those reporting income, still in the great majority of cases this reliance is entirely justifiable, principally because the taxpayer knows that in making a truthful disclosure of the sources of his income, information stops with the government. It is like confiding in one’s lawyer. … There is no excuse for the publicity provisions except the gratification of idle curiosity and filling of newspaper space at the time the information is released.””
This leads to two points of view about Presidential candidates disclosing their tax returns. One view is that we are electing a President and that person should tell the world everything about him or herself, so that we can make a decision about the character and background of the person. The other view is that we already have trouble attracting candidates from the business world as opposed to the political class. Do we want to exacerbate that divide?

As James Madison penned in Federal Paper #10:
“…the smaller the number of individuals composing a majority, and the smaller the compass within which they are placed, the more easily will they concert and execute their plans of oppression. Extend the sphere, and you take in a greater variety of parties and interests; you make it less probable that a majority of the whole will have a common motive to invade the rights of other citizens[.]” (No. 10)”

This inevitably leads to the question that all citizens should ask themselves. Would you want the world to see you tax return? The answer from most people is “no”. In a country with 300 Million people who have to decide who should be their leader and without the ability to conduct a person interview with the candidate, do we want the comfort in knowing more about the candidate?

Did Richard Nixon’s tax return disclose his paranoia that led to the Watergate break in? No. Did Bill Clinton’s tax returns disclose his past dalliances with women? No. Did knowing the fact that Mitt Romney gave a greater portion of his income to his church and charity than Barak Obama have any real effect on the outcome of the election? Did not knowing John Kennedy’s or Lyndon Johnson’s taxes have any impact their respective histories?

So, in the end, releasing tax information by candidates seems to have no effect on their qualifications for office, their electability, or their performance when they get there. In other words, its ” the gratification of idle curiosity and filling of newspaper space at the time the information is released.”

So you want to get married?

In a somewhat remarkable ruling the 9th Circuit ruled in the case of Sophy v. Commissioner that unmarried couples living together and both owning the same residence, each get to deduct the entire amount of mortgage interest not one-half. So, let’s say that you have a $1 Million mortgage and the interest was $30,000 for the year. Inhabitant #1 gets to deduct $30,000. Inhabitant #2 gets to deduct $30,000. Now by failing to get married, each would be taxed at single filer rates and there would be no multiplication of exemptions. So, you have to run the numbers to see if this works for your situation. Further, the IRS acquiesced in the decision in AOD 2016-02. Obviously you would lose other benefits in estate taxes, social security survivor benefits, IRA rollovers and otherwise by not being married. Additionally those living in the 7 jurisdictions which adhere to common law marriages, still have to tread carefully that you are not deemed to be married.

That said, the marriage “penalty” just got worse.

Virginia Sales and Use Tax Penalties

Be alert. The Virginia Department of Taxation has taken the position that if at the end of an audit there is a tax owed a penalty will be assessed under Section 58.1-635. There is a problem with the Department’s logic. The statute reads as follows:

“A. When any dealer fails to make any return and pay the full amount of the tax required by this chapter, there shall be imposed, in addition to other penalties provided herein, a specific penalty to be added to the tax in the amount of six percent if the failure is for not more than one month, with an additional six percent for each additional month, or fraction thereof, during which the failure continues, not to exceed thirty percent in the aggregate.”

This has the conjunctive word “and”. That means that a penalty can only be assessed if the dealer fails to file any return and fails to pay the full tax.

Therefore, the penalty should not be assessed under this section in a situation where a return is filed, is audited, and a tax is deficiency is found. However, the Commissioner has viewed it another way.

What if you won the $1.5 Billion Powerball

So, you take the cash option of $930 Million. What do you do now?
Let’s say you want to put some into a business, some into investment (including say buying your own tropic island). After taxes state and federal you will have approximately $490 Million left. So, let’s say you invest $400 Million. Assume an average 5% return on investment. At the end of 20 years you’d have $660 Million to play with after taxes.

If instead you took the money and put 1/2 into a Foundation that you controlled, the other half kept, you’d have about $245,000,000 left to invest, etc. However, if you were planning on giving to charity anyway, this allows you to use the money for charitable purposes and it grows tax free which allows more money to go to charity than using aftertax money to make gifts later. At the end of 20 years assuming a modest 5% growth rate, the charitable funds would be worth approximately $930 Million. The $245 Million which you’ve invested would be worth about $392 Million due to taxes on your investment income.

The moral is that if you are charitably minded do it at the beginning. That way, you have instead of $660,000 to give away over time, you have $1.17 Billion to control and of that $930,000 is available to charity.