To start with, trust beneficiaries typically need to pay tax on the interest income they get from a trust, but not on any distribution from the principal. The logic is that whoever placed the principal in the trust already paid taxes on it. However, trustees cannot decide on their own which part of the trust monies is principal, thus skipping the tax for the beneficiaries. Any funds distributed in a given year are assumed to be that year’s taxable interest income. Only then are distributions considered to be principal. (However, principal may still be subject to capital gains taxes.)

Each year, the trust must send the beneficiaries an annual IRS Form K-1, which breaks down principal from interest income. The trust itself has to file Form 1041, which is similar to the Form 1040 most individuals have submit, except it’s for estates and trusts. If the trust doesn’t distribute all the interest income, then the trust itself has to pay taxes.

Getting into the details

Those are the basics, but trust taxation can get as complex as individual taxes — in fact, there are some similarities. For example, trusts can:

• Take advantage of preferential capital gains rates.
• Earn tax-exempt income.
• Be subject to the alternative minimum tax.
• Deduct certain expenses to reduce taxable income.

However, the organization of each trust makes a difference in how the taxes are handled. For example, with revocable grantor trusts, the grantors pay any taxable income on their returns. It’s the same with an irrevocable grantor trust: The IRS considers trust income as earned by the grantor, even if it is distributed to a beneficiary. Such trusts may give a break on estate and gift taxes, however, which is a boon for the very wealthy. An irrevocable trust that is not a grantor trust, however, is considered a separate entity. In this situation, the beneficiary must pay the taxes.

Charitable remainder trusts are tax-exempt — for the most part. There’s no tax on any income the trust retains. However, any noncharitable beneficiary is still subject to tax.

This is just the beginning; other factors can affect the tax situation. For example, a trust can be the beneficiary of an IRA, but this technique can restrict management of the IRA and requires special trust language.

The bottom line? Families setting up trusts should work with professionals who understand the tax implications of each trust decision — when they’re first set up, and as they start paying out to beneficiaries.

© 2020

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Professional organizers are providing organizational advice and instructions based on photos of customers’ spaces. Real estate agents offer video tours of homes for clients who don’t want to visit in person.

A.J. Hastings, a 106-year-old college gear and office supply store in Amherst, Massachusetts, serves three area universities but saw foot traffic down by at least half as colleges restricted the number of students on campus and there was reluctance to shop in person.

So co-owners took action: For five months, they didn’t allow customers inside, using the time to reconfigure the store, widening aisles to make it more conducive to social distancing; ditching a card rack, a magazine display, a counter and a soft-drink refrigerator; and separating two checkout registers so customers waiting to pay wouldn’t come in contact.

Feedback? Customers say it’s a better, safer shopping experience. Among other business owners’ actions:

• A designer who didn’t head to New York Fashion Week noted that his collection would be heavy on sweatsuits and quarantine-friendly leisure wear. With no runway show, he created an online version, filming videos of looks and explaining each one.
• A designer shop for street wear in Los Angeles is also an art gallery. The modus operandi here is to produce a clothing line featuring muted colors to match the somber mood. Monthly art shows — festive events that used to draw crowds — have been canceled as owners put together shows held during the day without alcohol and with a limited number of people in the store. Gradually, the owners are moving to an online model, at least for now, focusing more on their video work, creating art tutorials and filming street artists.
• To eliminate crowded waiting rooms, some veterinarians offer curbside appointments, checking dogs or cats in the backseat without close contact with their humans.
• Ice cream and coffee shops similarly went curbside, allowing customers to text or call in orders for drive-up or walk-up service.

And when companies see that customers don’t need their regular products or services, they’ve pivoted operations to deliver things that are needed. A number of craft beer distilleries across the country produced hand sanitizer when it was in short supply globally. Clothing manufacturers and other textile companies produced face masks and other personal protective equipment for health care workers and the rest of us.

It’s been a good opportunity for firms to use this time to develop new products and service lines that they may have been postponing when they were busier.

Small businesses have been continuing to pay for masks, sanitizers and new HVAC filters, raising their costs at the same time that sales are down. Companies have been retrofitting their game plans, figuring out how to relax fixed costs using creativity and flexibility.

© 2020

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• Services performed by someone who is not your employee (including parts and materials) (box 1).
• Cash payments for fish (or other aquatic life) you purchase from anyone engaged in the trade or business of catching fish (box 1).
• Payments to an attorney (box 1).

The IRS has provided additional guidance about what exactly is nonemployee compensation. If the situation meets all four of the following cases, it’s an NEC situation:

• You made the payment to someone who is not your employee.
• You made the payment for services in the course of your trade or business (including government agencies and nonprofit organizations).
• You made the payment to an individual, partnership, estate or, in some cases, a corporation.
• You made payments to the payee of at least $600 during the year.

A partial list of payments that belong on a Form 1099-NEC includes the following:

• Professional service fees, such as fees to attorneys (including corporations), accountants, architects, contractors, engineers, etc.
• Fees paid by one professional to another, such as fee-splitting or referral fees.
• Commissions paid to nonemployee salespersons that are subject to repayment but are not repaid during the calendar year.
• A fee paid to a nonemployee, including an independent contractor, or travel reimbursement for which the nonemployee did not account to the payer if the fee and reimbursement total at least $600. (To help you determine whether someone is an independent contractor or an employee, see Pub. 15-A.)

This is not a complete list, and the choice between the NEC and MISC forms can be confusing. Be sure to keep clear, comprehensive records so your tax professional can help you decide how various payments should be reported. Form 1099-NEC is due on Jan. 31 or the next business day if that date falls on a weekend or holiday.

© 2020

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Can you predict the future? I suspect most of you reading this would say no. For those that would say yes, perhaps you need some therapy (humor intended).

Imagine Your Future Financial Self

What if I asked you: “do you feel connected to your financial future?” Behavioral finance, like any young science or field of knowledge, is a work in progress. It is now moving into its second generation and attracting bright young minds furthering our collective cause in this space. Two such individuals at Kansas State University have just published a study that suggests we might be able to predict our financial future or at least impact it depending on our ability to visualize our future financial self. The more vividly we can imagine our future financial self or the more connected we are to that mental model, and the related details of financial goals, the more we influence behavioral changes that will make it more likely we will accomplish those goals.

The “future self-continuity framework” is a new psychological framework used to investigate intertemporal choices – the process by which people make decisions about what and how much to do at various points in time when choices at one time influence the possibilities available at other points in time.

Change Your Ways?

In other words, let’s say you are 20 years from retirement and your financial advisor says you are spending too much and will not have enough assets to produce retirement income so you may live at the lifestyle of your choice. This study shows a correlation to suggest that when you hear this, most of you will change your evil ways (obscure reference to Santana) to be more likely to produce the intended outcomes in retirement, while some of you will say: “damn the torpedoes!” and continue to live it up now, as long as your vision of the future financial self is compatible.

Some people view their future self as a completely different person. However, we happen to think that visualizing exercises are very productive and necessary. The more you can do this, the greater the likelihood you can produce those results. If you can see it, you can make it happen.

How can we help you? Let’s talk about your goals — and what you, your family and your business need to thrive.

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Think of it Just Like an IRA

Once the account is set up, you can contribute up to $3450 per individual and $6900 per family to a pre-tax account that will grow as tax-deferred. Think of it just like an IRA, except one that allows you use to use the funds for health care costs not covered by an HDHP. The Health Savings Account gives you control, it empowers you to regulate your own health care expenses.

Distributions are not taxable

The beauty of the HSA is that your contributions are not subject to federal tax. California does tax the account, but it is a much better tax result than relying on deducting your medical expenses as itemized deductions. When used for qualified medical costs, your distributions are not taxable. Any money remaining continues to soak up deferral until the age of 65 when they are then subject to ordinary tax. Once you sign up for Medicare Part A at the age of 65, you can withdraw on the account without any tax.

Numerous Benefits Not to Be Ignored

The true beauty of an HSA is that contributions are tax-deductible.  When you need to withdraw from the account for qualified medical costs, your expenses are also tax-free, and as long as the savings account is left to grow, the growth is not taxable.  They perform better than a Flexible Savings Account and they can be used when needed. In other words, the benefits of an HSA are numerous, abundant, and not to be ignored.

How can we help you? Let’s talk about your goals — and what you, your family and your business need to thrive.

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Ask Yourself Some Questions

Ask yourself why? Why are you doing this? Why are you Training/Planning? What brought you to this point? What do you hope to accomplish because of working with your Trainer/Planner? How will you recognize success when you see it? Can you visualize it? Are you prepared to set some goals? Have some accountability?

Be SMART with your Goals

Whether you are training to lose extra weight, to run for a marathon, or planning for retirement, change of careers, or building a comprehensive financial plan as a road map for your life, it all starts with goals. But it’s not enough to say: “I want to lose weight” or “I want to save for retirement”. For goals to be effective, they must be SMART:

Specific, Measurable, Achievable, Relevant, and Time-bound. If any one ingredient is missing, the rest of the plan won’t work. Also, we should note how each item is interconnected. For instance, Relevance and Achievability must be gauged within the context of Time. If you want to lose 30 pounds in one month, that will likely not be achievable or relevant in that time frame. Nor would it be reasonable to expect that you could amass $1 Million starting from 0, within a year, by putting in $500 a month. It may seem simple, but you’d be surprised how many people have unrealistic expectations.

Distinguish Between Needs and Wants

In a fitness plan, you typically have a target number of calories to hit per day. As long as you are burning more calories than you take in, your weight goes down. In financial planning, we work with a budget. If you spend less than the budgeted amounts of income and asset values, your net worth goes up. It just means sometimes you have to say no to that dessert, the same way you say no to that expensive vacation.

In both cases, exercising discretion in your favor helps you increase that ROI – Return on Investment.

How can we help you? Let’s talk about your goals — and what you, your family and your business need to thrive.

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Cash Flow & Leverage – Double Edge Sword

Real estate can be costly to acquire and as a result, it begs for leverage, which is directly related and impactful to cash flow. Fortunately, in the US there is an abundance of capital, and if you have good credit, you can obtain a mortgage to acquire real estate. If you don’t have good credit, chances are you will still find a mortgage but it will cost you more to service.

The goal of any real estate investor is to produce positive cash flow each month.  Think of your mortgage like a partner who put up a big chunk of cash and reduced your risk, but you must pay them one month at a time until your loan is paid off. If you want to reduce your costs of financing, you may have to put more of your own capital at risk. In turn, this may reduce the allure of a real estate investment, as it becomes riskier.

CAP Rates = ROI

Cap rate is just another term for ROI or return on investment as applied to real estate. Cap rates allow you to compare the relative economic benefits of different real estate investments. It will indicate the efficiency of that investment. The calculation is Net Operating Income (without regard to depreciation – see next section) of the property divided by its Purchase Price. Sort of the equivalent to the P/E (Price/Earnings) ratio in the case of a stock.

As an investor, the more you have to pay for leveraging the investment, the less attractive the CAP rate of a real estate investment is, indicating a higher risk to obtain a reward.

Depreciation

Depreciation has the effect of reducing or sometimes eliminating otherwise taxable income. Since investing in real estate provides significant tax benefits in the form of depreciation write-offs, the theory is you can amortize the economic benefit of the long term investment over time, allowing you as an investor to recover due to its long term features. Real estate is the only investment that offers this benefit.

If properly positioned, real estate can offer attractive features to investors and belongs as an asset class in every portfolio.

How can we help you? Let’s talk about your goals — and what you, your family and your business need to thrive.

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Lowering the Family’s Effective Tax Rate

If you have children that can operate a computer (most of them do), make phone calls, photocopies, or have other skills pertinent to your business, making them your employees has the effect of reducing your tax liability. This is so because you are downloading taxes computed at your rate, effectively deducting money that you would likely give to the child anyway, but without a deduction. This deduction reduces your Federal, state and Self-employment tax.

Besides the benefits to you, the child benefits also since the tax rate could be as little as zero if the income is $12,000 or less, the amount of the Standard Deduction.

But wait, there’s more…

As they say in the infomercials: “but wait, there’s more!”. As if the above wasn’t enough, if you operate your business as a sole proprietor or a husband and wife LLC, you can hire your son or daughter that is younger than 18, and their wages will be exempt from Social Security, Medicare and Federal unemployment tax (FUTA). The FUTA exemption lasts until age 21.

If you are incorporated, then the child’s wages are still deductible, though no longer exempt from Social Security, Medicare and FUTA.

The gift that keeps on giving…

Now, for the pièce de résistance, what if we socked away $5500 a year of your child’s earnings into a ROTH IRA and they never paid tax on that money for the rest of their lives? Would that offend you? Is it legal? Yes, absolutely! The only rule pertinent here is that your child has to have earned income, their age doesn’t matter!

A word of caution

The above-mentioned rules work beautifully when sensibly constructed. But, we should warn against carelessness. For instance, you shouldn’t pay your 2-year-old a $50,000 salary and expect to get away with it. Teenagers can be very capable and as long as you document their hours and the work they do, you should be OK.

Summary

Hiring your kids can be profitable, tax-efficient and educational for the kids. If you also make it fun for them (the younger they are, the more important fun is as an ingredient), they will be productive and worthy employees and carry that experience into their other careers or they will be more receptive to working in the business, when and if the time comes to plan a succession.

How can we help you? Let’s talk about your goals — and what you, your family and your business need to thrive.

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The Genesis of the 4% Rule 

Approximately 25 years ago, a planner named Bill Bengen penned an article called Determining Withdrawal Rates Using Historical Data. This was the first time that anyone had suggested a paradigm of withdrawals for a smooth glide path in retirement. The implication was made that 4% was a “safe” withdrawal that would ensure the retiree wouldn’t run out of money. Keep in mind this was the early 90’s, when academic papers of this kind were scarce, and there was a belief that the “stock market” could deliver an average of 7%. The theory was, if you make 7% and only withdraw 4%, your money kept growing. Around the same time, Peter Lynch (yes, that Peter Lynch) was suggesting 7% was a safe withdrawal rate.

What is the Desired Withdrawal Rate?

A comfortable withdrawal rate is one that is derived after taking into consideration the following factors:

• Life expectancy
• Living expenses in retirement, discretionary & non-discretionary
• Assets starting with and projected growth rates.
• Income& savings rates
• Inflation rate

As you can see, this is a much more complicated answer than a specific rate that can be thrown out as a rule of thumb, as if one size could fit all. In fact, it is a factual and more scientific answer, because everyone is different and one size does not fit all.

It has been said that some folks spend more time planning a 2-week vacation than they do their retirement, which could last over 3 decades. Do you have a roadmap for this long trip?

The only way to feel comfortable about your retirement is to test the numbers using a variety of assumptions, subjecting them to scientific methods and analyses that will flush out and expose risks, and identify opportunities along the way.

We would strongly encourage to abandon the use of rules of thumb. Your unique withdrawal rate is whatever makes you feel comfortable. We work to separate fact from fiction, probable from unlikely, emotion from science.

How can we help you? Let’s talk about your goals — and what you, your family and your business need to thrive.

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We have seen many businesses go through this, some by design, and others by default. I promise not to preach but here are a few simple ideas to keep in mind. They may come in handy to keep things in perspective.

1. Have the right team – “Great things in business are not done by one person. They’re done by a team of people.” This is critical; talk to your CPA, Attorney, Banker. Have strategy meetings. Listen and take notes, give yourself enough time to process and have a focused plan of execution.
2. You don’t have to clone yourself – You did not start out knowing everything you know now. The new head honcho will get there. The important thing is to be philosophically aligned on the major elements.
3. Strengthen the numbers -scale means opportunity and everyone gets motivated by that. The financials will lead to better valuations and more options to grow.
4. It’s not about you, it’s the Market – Listen to logic – understand you may not know it all and your business may be worth more or less than what you think, and it may not matter what you think, it’s about the market.
5. Don’t let them kick you out – Don’t be that guy – you don’t want to stick around too long. It does present a number of problems.

Engage with your clients – if you run a service business, they are all thinking: ‘what happens to me if something happens to you?’ They will be encouraged, relieved and impressed that you have been so thoughtful.

How can we help you? Let’s talk about your goals — and what you, your family and your business need to thrive.

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