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Hi, this is Keith Davidson from Albertson & Davidson.  In this video, we’re discussing real property taxes. When a person passes away and they transfer assets, real property, from themselves to their children, under California law, the children are allowed to file a parent to child exclusion.  And what that does, it prevents the house or the real property from being reappraised for real property tax purposes.  And that can be a real benefit to the child.  If the parent bought the house many years ago, the tax valuation for real property tax purposes might be very low.  Whereas, if you were to reappraise the property at current values, the value would be much higher and resulting in more property tax rather than less property tax the way the parent had it.

So that property tax basis, that appraised value that they used to determine the amount of tax, it can remain intact if property passes from parents to children.  But you have to file the proper exclusion form.  And the question is does the trustee have the responsibility for filing that form and that all depends.  It depends on the type of trust that you’re dealing with and how long these assets are going to remain in trust.

So the property is supposed to pass out quickly to the beneficiary and it happens in a manner of a few months, but it might be the responsibility of the beneficiary to file the parent to child exclusion.  If, however, the property is going to be held in trust for a significant amount of time, then the trustee would have the obligation to file that parent to child exclusion.  So it really depends on the facts and circumstances of your case as to who has the responsibility for filing the exclusion.

But the thing you should and always remember is that if you’re receiving real property from your parent, be sure that some way, somehow, somebody files the parent to child exclusion.

Death may be certain, but estate taxes are not.  At least not at the end of 2012 when the current Estate Tax exclusion of $5.12 million is set to expire and be automatically reset to $1 million.  With proper planning, married couples can combine their exclusions for a total amount in 2012 of $10.24 million.  At that rate, there aren’t too many estate subject to estate tax.  But if the estate tax exclusion falls back to $1 million ($2 million for couples who plan), there will be far more people affected by this tax.  Worse yet, the tax rate, currently set at 35%, will increase to a staggering 55% of asset value at time of death.

The size of your estate is based on the total fair market value of all your assets measured from your date of death.  But there are a few surprises thrown in as well.  For example, your estate inlcudes the total death benefit of all life insurance policies you own.  So if you have a $1 million term life policy (an asset that does you little good while alive) it counts towards your total estate value.  Add in a house, a retirement account, and a few bank accounts, and your estate could top $1 million easier than you think.

If you own your own business, that must be valued as well.  Your estate could end up owning a 55% tax on assets that are highly valued, but not highly liquid.  That can cause a financial hardship for your family after your gone.

So now is the time to take advantage of the increase Estate and Gift tax exclusion amount of $5.12 million. But what action should you take?  That depends on your situation.  There are quite a few different ways in which to reduce the size of your estate while also benefitting your family members.  

For example, you can fund a Trust for your children or grandchildren that can be used for educaitons, health, and support items.  You can fund a life insurance trust that allows you to pass the death benefit of an insurance policy to your children free of estate tax.  You can even create a family business (referred to as a family LLC) that could provide a way to share the wealth while also reducing your estate value.

For a few other interesting ideas, check out this article from’s personal financial management blog (quoting some expert advice that you may find interesting).  

I recently had the pleasure of speaking with Kate Ashford, a freelance journalist who occasionally writes “The Help Desk” column for CNNMoney online.  Her question was a common one: how are gifts taxed?  There is a lot of confusion on how gifts are taxed, and to whom they are taxed.  Here’s a few tips to sort out taxes relating to gifts:

What type of tax are you talking about?

There are different types of taxes that could potentially apply to gifts, namely, income tax and gift tax. 

Income Taxation of Gifts.

As a general rule, gifts you receive from others are not included in your income tax.  In other words, any amount received by you as a gift is completely tax-free (same rule applies to inheritances too).  Of course, this assumes that the amount received is actually a bona-fide gift.  You can’t try to fool the IRS by passing off a large bonus from your work as a gift.  But if you honestly receive a gift from a family member, for example, then there’s no income tax to you.  It doesn’t matter if its $1.00 or $1,000,000, it’s a tax-free gift to the recipient.

Don’t confuse gifts with things such as gambling winnings, lottery prizes, game-show loot, or receiving the HGTV Dream Home (if you are so lucky)—all of those cash and prizes are subject to income tax when, or rather if, you receive them.

Gift Tax.

Gifts are subject, however, to our Gift and Estate Tax rules, which obligates the grantor (that is the person GIVING the gift) to pay tax on all gifts made.  Read that again: the person making the gift is obligated to pay the tax—not the person receiving it.  Sounds ridiculous?  Maybe.  But that’s our gift tax system; if you’re going to be generous by giving a gift, then you may have to give an extra gift to Uncle Sam.

To begin with, you should also think that all gifts are taxable.  There are a few exceptions, but if you don’t fit within one of the exceptions, then prepare to be generous to the IRS.

The Exceptions to Gift Tax.

Annual Gift Tax Exclusion.  Every person has the right to gift up to $13,000, per person, per year.  These annual exclusion gifts do not have to be reported to the IRS.  The “per person, per year” requirement means that a single person can make multiple gifts to different people each year.  So a grandfather could gift up to $13,000 to each of his children, and each of his grandchildren and not have to report the gifts, provided that no one person received more than $13,000 in a given year.

Many people remember the annual exclusion gifts as being the annual $10,000 gifts.  That is the prior gift tax exclusion amount before they were indexed for inflation.  The annual gift amount is now $13,000.

Marital Deduction.  Spouses can gift each other an unlimited amount of gifts and pay no gift tax whatsoever.  The only requirement is that the couple must be legally married.  Sounds simple, but it can be tricky at times. 

For example, California does NOT recognize common-law marriage, unless such marriage is established in another State that does recognize common-law marriage (such as Texas).  Also, California does not recognize same-sex marriage (remember Proposition 8?).  California does allow same-sex partners to register and thereby receive many of the same benefits and obligations as married couples, but not the status of legal marriage. 

Gift Tax Exclusion.  Under our current Estate and Gift Tax laws, every individual is allowed an exclusion from gift and estate tax equal to $5,000,000.  This means that you can give up to $5,000,000 away and not have to pay a gift tax on that transfer.  However, any amount of exclusion you use during your lifetime by making gifts, reduces what you have left for your estate.  So if you gift $2,000,000 during your lifetime, you pay no gift tax, but your Estate Tax exclusion is reduced from $5,000,000 to $3,000,000 to account for the $2,000,000 of exclusion you used while alive.

Gifts in any single year to a single person that exceed $13,000 must be reported to the IRS using a Gift Tax Return (Form 709) even though no tax will be due on the return.  This reporting requirement allows the IRS to track gifts made over your lifetime to determine when, and if, you exceed you tax-free limit.

Charitable Gifts.  As you would expect, gifts made to charity, in any amount, are free of gift tax.  Luckily the IRS is not so callous as to require a generous donor to pay tax on gifts to charity. 

But beware, the charity must be recognized as a valid charity by the IRS under Internal Revenue Code Section 501(c)(3).  Always ask to see proof of a charity’s determination letter before making any large gifts to charity, and then confirm the charity’s status with the IRS because sometimes charitable status can be revoked by the IRS.

Tax Law Changes.

Tax laws these days are very fickle things.  The current set of laws for Estate and Gift Tax are set to expire at the end of 2012, meaning that a whole new set of rules will be put in place.  We have no way of knowing if the rules will be better or worse than what we have now.  So you have to keep an eye out for future developments.

The bottom line: no good dead goes unpunished.  Giving ‘till it hurts really can hurt if you don’t plan out your gifting ahead of time.

Shaun Maritn, in his blog entitled California Appellate Report (which I read regularly and enjoy), posts a recent Ninth Circuit Appellate Court decision penned by District Judge Timothy M. Burgess, sitting by designation with the Ninth Circuit Court of Appeals.

The case, entitled Baccei vs. United States, revolves around a request for extension of time to file an Estate Tax return and pay the dreaded Estate Tax (Form 4768).  Apparently, in Baccei, the taxpayer’s CPA filed his request for an extension of time to file a return and pay the tax.  Both the return and tax payment are due nine (9) months after the decedent’s death.  An extension of time to file an Estate Tax return six (6) months is almost always granted as a matter of course upon filing a request on Form 4768—easy.  An extension of time to pay the estimated Estate Tax is not so easily obtained.  The Government will wait for the paperwork, but not the money.  A sufficient explanation must be made before the IRS grants an extension of time to pay Estate Tax.

Unfortunately for Mr. Baccei, his CPA filled out Part II of Form 4768 requesting an extension of time to file, but did not complete Part III requesting an extension of time to pay.  As a result, the IRS imposed penalties and interest for late payment.  And since the tax came to over $1 million, the penalty was $58,954 and the interest came to $69,801, for a total hit of $128,755—all for not checking a box on Form 4768.

The taxpayer argued that he had substantially complied with the form by filing the form in the first place and completing the entire form other than Part III.  The taxpayer also argued it would be unfair to impose a penalty and that the taxpayer had “reasonable cause” to ask that the penalty and interest be abated given his reliance on the CPA to file the form properly.

The IRS disagreed with the taxpayer, the Federal District Court disagreed with the taxpayer and the Ninth Circuit Court of Appeals did the same.  Taxpayer loses for failure of his CPA to check a box on a tax form.  Shaun Martin in his blog post stated “this couldn’t be more right.”  I have to strongly disagree.  This couldn’t be more disturbing.  You don’t have to be a tax expert to know that tax forms are confusing!  Even the so-called “simplified” forms leave one puzzled at times.  And I speak from experience, having filed a good number of Estate Tax Returns and requests for extensions of time to file and pay in my career.

Luckily, I have never forgotten to request an extension of time to pay when one was required, but I can see how it could be done.  Quit easily in fact.  Primarily because payment is typically made at nine months and only the time to file is extended.  It’s true that the CPA should have filed the form correctly, but we all make mistakes (even the IRS).  What purpose is served by forcing a taxpayer to pay a hefty penalty when his CPA missed that portion of the form? 

Judge Burgess states that the unchecked box was essential to request an extension of time to pay even though the CPA’s cover letter to the IRS specifically stated that they were asking for an extension of time to pay.  While IRS forms should not be disregarded, failing to fill in all of the particulars should not lead to such a harsh and draconian penalty in every case—especially where a tax professional was retained on behalf of Mr. Baccei to file the form in the first place.  The Court reasoned that Mr. Baccei should have made certain the form was prepared correctly, but who would look over a form their CPA prepared?

The end result is that this particular decedent paid his share of Estate Tax and then some.  I don’t think the decedent would think this “couldn’t be more right.”  Apparently tax form technicalities can cost a decedent’s estate a bundle.  The lesson being that we must all submit perfectly completed tax form every time, no exceptions.  But does this “perfection” requirement equally apply to the IRS?  Hard to imagine it does.

As a follow-up to yesterday’s blog post, the House of Representatives passed a package extending the Bush-era tax cuts for two more years and substantially revising the estate tax.

Writing for the Non Profit Times, Mark Hrywna reports that had Congress not acted, the estate tax would have returned to its 2001 rates beginning January 1, 2011–$1 million exemption amount with a flat tax of 55% for all amounts in excess of $1 million.

But now that Congress has passed President Obama’s negotiated package, the estate tax, for at least the next two years, is as follows: a $5 million exemption amount per individual (or $10 million per married couple), with a flat tax of 35% for all amounts in excess of $5 million for individuals (or $10 million for married couples).

For example, an individual dying in 2011 with a net estate of $6 million can pass $5 million tax-free to his/her heirs and beneficiaries. The remaining $1 million would be taxed at a flat rate of 35% or $350,000.

Married couples are allowed to combine the $5 million exemption (with the proper estate planning) allowing them to transfer $10 million tax-free to their heirs and beneficiaries. Thus, if a married couple both pass away in 2011, and their net estate is worth $12 million, then $10 million would pass tax-free to their heirs and beneficiaries. The remaining $2 million would be taxed at a flat rate of 35% or $700,000.

Much of this analysis is academic as Janet Novack, writing for Forbes, points out that fewer than 4,000 families will pay estate tax next year. But, Ms. Novack goes on to point out that individuals and couples who are not affected by the estate tax should still complete an estate plan. You can read Ms. Novack’s full article here.

How does the estate tax affect you? Likely, it does not affect a majority of us in the last few days of 2010. But it may begin to impact more of us, beginning January 1, 2011, if Congress does not pass the current tax-cut extension package recently negotiated by President Obama and the Republicans.

Writing for the LA Times, Lisa Mascaro and Michael Muskal report that liberal Democrats in the House of Representatives are protesting the proposed estate tax provisions of President Obama’s negotiated package. Without any action by Congress, the estate tax will return to its 2001 rates beginning January 1, 2011. The 2001 rates have a flat tax up to 55% of any net estate value over $1 million. For example, under the 2001 estate tax rates, an individual’s net estate of $2 million would likely incur an estate tax of approximately $500,000.

Under President Obama’s negotiated plan, individuals would receive a $5 million exclusion amount that would pass tax-free to heirs and beneficiaries, or if married $10 million would pass tax-free. Any amount over $5 million per person would incur a flat tax of 35%. For example, under this plan an individual’s net estate of $6 million would likely incur an estate tax of approximately $350,000 (because the first $5 million is tax-free, and the remaining $1 million is taxed at a flat tax of 35%). Additionally, under the plan, if a married couple had a net estate of $12 million, then the first $10 million would pass tax-free, and the remaining $2 million would be subject to a flat tax of approximately $700,000 (assuming the married couple properly set up an estate plan to ensure both $5 million exclusion amounts could be used).

In contrast, under the House Democrats plan, individuals would receive a $3.5 million exclusion amount, and married couples a $7 million exclusion amount, and the any amount over those values would be subject to a flat tax of 45%. Using the same examples under the President’s and the Republican’s plan (referenced above) evidences the differing estate tax impact between the two plans: An individual with a net estate of $6 million would likely incur an estate tax of approximately $1.125 million under the House Democrats plan. A couple with a net estate of $12 million would likely incur an estate tax of approximately $2.250 million.

There is not much time to fix the estate tax before the Republicans take control of Congress on January 4, 2011. Hopefully a package will be passed before January 1, 2011 so individuals will know how they may be impacted by the estate tax.