For this week’s in review, we are covering updates and news releases on the CARES act, how IRS audits have dropped due to COVID-19, and a practitioners insight how COVID-19 has impacted the way people should approach their estate plans.
Specifically, we will be covering the following this week—
- A practitioner’s insight on estate planning and life insurance after COVID-19;
- The $521 billion of virus relief provided and the CARES Act expansion;
- How the chance that a taxpayer will be audited has dropped; and
- IRS updates on how to file a tentative claim for a refund.
Practitioner Insight: Estate and Life Insurance Considerations After COVID-19 and the SECURE Act
The year of 2020 has brought about a large impact on the way people think about their estate planning. Not only were there large changes brought about as to how qualifying retirement plans work under the SECURE Act, the COVID-19 pandemic hit and has many persons concerned about whether they have a plan in place in case the worst happens
What Your Core Estate Plan Should Address
The impact of COVID on people’s lives now-a-days has a lot thinking about their estate planning and whether their loved ones will be secure if they pass. If this is not something that has come to top of mind, it should be strongly considered. While no plan can remove the emotional hurt of seeing a loved one dealing with a medical or cognitive issue, a plan can and should be put into place to guide a person and their family to handle the financial, legal, and planning aspects first, so as to avoid a crisis in the event a client or a family member is directly impacted by this pandemic.
Generally, a sound estate plan will include the following–
- Last Will and Testament: The document that directs administration of the probate estate at time of death.
- Revocable living trust: A “will” substitute that directs for administration of the estate at time of death and avoids the requirement of probate for assets titled therein while alive or assets designating the trust as a beneficiary.
- Durable general power of attorney: A critical lifetime advance directive to designate an agent to have authority to act on your behalf if you are unable to do so for yourself, for whatever reason.
- Health Care Declaration: This is a directive that allows you to sign a living will, authorizing your release from life support after two physicians certify that you are in a vegetative or terminal state that it is irreversible with no possible chance of recovery. There is also a health care proxy where you designate an agent to act on your behalf (when you cannot) for purposes of all medical matters.
If you do not have an estate plan in place that addresses some or all of the cores pieces of an estate plan listed above, this is something you should consider implementing right away. Just like with the COVID-19 pandemic arising, it is almost impossible to predict when the worst can happen.
Retirement Planning and Life Insurance Considerations after the SECURE Act
As of Jan. 1, 2020, the rules regarding inherited IRA’s significantly changed with the passing of The SECURE Act on Dec. 20, 2019. Most extraordinary is that, required minimum distributions (RMD’s) stretched over the course of the inheriting beneficiary’s lifetime are no longer possible and the balance of the retirement account (IRAs, Roth IRAs, 401ks, 403(b)s) must be entirely paid out to the beneficiary within a 10-year period.
This change will create an additional income tax liability for future generations of beneficiaries who may not be ready to address the said income tax liability. However, there are strategies out there to combat this and put future generations in a better position to deal with the increased tax liability.
Some of the more popular planning strategies to address this issue can include converting all or a part of the proceeds of a traditional IRA to a Roth IRA to take advantage of the recent declines in asset values which will result in a reduced tax bill.
Additionally, other advisors are looking at the utilization of life insurance in one’s estate plan. This is because, if properly structured, a life insurance policy can be paid tax-free to a beneficiary while avoiding the imposition of the US’s estate tax. Many advisors have seen life insurance become a “best use” strategy to offset the increased tax liability because of changes brought about by the SECURE Act.
One way advisors are utilizing life insurance is for the IRA owner to gift IRA distributions from their required minimum distributions (RMD’s) to purchase sufficient life insurance to pay for the additional taxes. These additional taxes are likely to take place when higher income tax rates are in effect, due to the necessary bunching of distributions caused by the 10-year rule, and the fact that beneficiaries themselves will often be receiving these increased distributions during their peak earning years.
However, it’s critical to understand that life insurance is a “buy and manage” asset, not a “buy and hold” asset, as many mistakenly believe. This is especially so if a decision is or was made to purchase one of the non-guaranteed life insurance policies. Keep in mind that ratings, crediting rates, and financial information, including internal costs, can and often do change, resulting in one’s coverage expiring prematurely, and not being available to accomplish the wealth transfer task to the next generation it was initially intended to accomplish.
Taking Advantage of Increased Lifetime Exemption Through Gifting Strategies
Since many asset classes have suffered a severe decline, this offers the opportunity to maximize the use of your lifetime gift tax exemption (temporarily $11,580,000 (($23,160,000 between U.S. citizen spouses) until the end of 2025).
There are many ways to “gift,” but the best “bang for your buck” is to do so in a way to take advantage of a discount in the value of that already depressed-value gift. For example, a ”family limited partnership” is formed so there are two classes of owners—the “general partners” and the “limited partners.” You are the general partner and fund with marketable securities. You then gift a percentage of limited partnership interests to your children (outright or in trust). The marketable securities are already devalued due to the impact of Covid-19. The value of the actual gift can be further discounted because of the nature of what a limited partner is. The limited partner has no control. You, as general partner, do. A limited partner has no voting or managerial rights. The limited partners may not use their interest as collateral. For these reasons, the IRS allows for an additional discount for the value of the gift. It is a wonderful opportunity.
Intra-Family Loans
Historically low interest rates mean that there is an opportunity to do intra-family loans. Proceeds then can be applied to an investment opportunity. It is an “arbitrage” through which parents can lend assets to their children. You apply the applicable federal rate of interest (for May that was 0.25% if the term is for three or less years, for June that is now 0.18%). Your children can invest otherwise and either you can forgive the loan or extend it. People with existing intra-family loans should review with their estate planning attorney to explore perhaps a refinance.
Over 521.5B in Virus Aid provided; Paycheck Protection Program Extended
July 6 – The Trump administration released details of almost 4.9 million loans to businesses – from sole proprietors to restaurant and hotel chains – under the federal government’s largest coronavirus relief program so far, the $669 billion Paycheck Protection Program.
The data, including the names of the program’s biggest borrowers, were posted Monday morning on the website of the Small Business Administration, which ran the program with the Treasury Department.
The program’s supporters say it has kept tens of millions of workers employed during the pandemic and contributed to the surprising 2.5 million U.S. jobs added in May, with an additional 4.8 million jobs in June. The SBA and Treasury said borrowers reported that PPP loans supported 51.1 million jobs, or as much as 84% of all small business employees before the pandemic. Treasury Secretary Steven Mnuchin has said the program supported at least 72% of the small business payroll in all 50 states.
For those loans below $150,000, the agencies are disclosing specific loan amounts along with industry codes, ZIP codes, number of jobs supported and other data — but no personally identifiable borrower information.
Critics want to see which larger firms and chains took PPP loans after reports that entities such as Shake Shack Inc. and the Los Angeles Lakers got loans ahead of mom and pop borrowers, prompting those two and others to return their loans. The public outcry spurred the Trump administration to promise to review all loans greater than $2 million and to tell companies that had access to other sources of capital that they likely didn’t qualify for the bailout program.
The Paycheck Protection Program Extended
Monday’s release reflects loans totaling almost $521.5 billion, which were approved between the launch of the program on April 3 and June 30, when the SBA temporarily stopped accepting new applications. Congress voted last week to extend the program until August 8, 2020, and it reopened Monday morning.
The SBA was overwhelmed by initial demand for the loans, and the initial $349 billion in funding was exhausted in just 13 days. Demand waned after Congress approved a second round of $320 billion, and almost $132 billion remained — after bank fees and processing costs — as of June 30, according to SBA and Treasury. Proposals to repurpose the funds for small firms that still need aid are expected to be debated in negotiations for an additional round of stimulus later this month.
CARES ACT Update: Filing Tentative Claims for a Refund
July 1, 2020 – One main tool that many taxpayers have resorted to utilizing during the COVID-19 pandemic is the filing for a “tentative claim for a refund” in order to utilize and carry “net operating losses” from 2018 – 2020 back to prior years. The carrying back of these losses allows taxpayers to offset earlier years in which they had income and generate a refund.
Instead of filing a traditional amended return to take advantage of these loss carrybacks, which can take months to process, an alternative method of expediting the process is through the filing of a tentative claim for a refund on IRS Form 1045. Instead of months, the claim for a refund is being processed within weeks.
On July 1, 2020, the IRS released updated instructions to account for changes brought under the CARES Act legislation. The instructions note new rules for net operating loss (NOL) carrybacks, a new election to exclude tax code Section 965(a) inclusion years, extension of time to file Form 1045 for NOLs arising in 2018, filing Form 1045 with a carryback to a Section 965 inclusion year, and annual losses not limited for 2018.
You can view the updated instructions here.
The Chance of Facing an Audit has Dropped SIGNIFICATNLY Since COVID-19
June 29, 2020 – There are two big facts that you should keep in mind had you been worried of coming under audit:
- Individual audits dropped 65% amid IRS office shutdown due to COVID-19; and
- The IRS is currently preparing for a July 15 tax day, after the normal April 15 was extended.
If you have an income of $1 million or more there’s less than a 1% chance that the IRS has called you in for an audit, according to new figures from the agency.
So far, the Internal Revenue Service has audited 0.05% of those earning $1 million to $5 million in 2018, according to data released Monday. For those reporting $10 million or more, that figure drops to 0.03%.
In total, the IRS has audited about 0.15% of individual returns from 2018, with people claiming the earned income tax credit most likely to face an examination at a rate of 0.6%. An IRS official said the audit rates appear to be lower than in previous years because of a new way of calculating audits. Those figures will increase in coming years as auditors open more cases before the three-year statute of limitations runs out.
The new calculations mean that the audit data is complete for returns filed in 2015 or earlier. That’s because the statute of limitations has run its course on those returns so the agency isn’t conducting further audits for those years. But for returns filed in 2016, 2017 and 2018 — the last year covered by the new report — the IRS will update the figures annually until the statute of limitations runs out.
Still, IRS audit rates have been trending downward for years as budget cuts and staff reductions have hobbled the agency’s ability to conduct widespread audits. The IRS audited nearly 14.5% of returns reporting $10 million in 2012, for returns filed in 2015 that rate fell to about 8.2%.
This decrease in audits has stemmed from a lack of resources.
For the past decade, the IRS has seen an increase in the number of returns filed as well as a decrease in resources available for examinations. For example, in fiscal year “2010, the IRS received 230.4 million returns and employed 13,879 revenue agents, compared to 253.0 million returns and 8,526 revenue agents in FY 2019.”
Audit rates could further decline in future reports as the coronavirus pandemic has halted many agency operations. The IRS initiated 71% fewer corporate audits this spring compared with the same time period a year ago, according to a separate report released June 29, 2020.
The IRS began 718 corporate audits from April 1 to June 1 this year, compared with 2,445 in 2019, according to a National Taxpayer Advocate report. The number of partnership audits fell 79% and individual examinations dropped 65%, the report said.
The reduction is a result of an IRS decision to delay starting many new audits between April 1 and July 15, unless the statute of limitations would run out and keep the agency from pursuing a case later. The IRS continued to work on existing audits remotely “where possible,” but significant delays were caused by phone line closures and closed IRS offices where mail went unopened, according to the report.
The IRS is unlikely to make up for the decline during the coronavirus pandemic, when many employees have been unable to fully do their jobs from home because of laws protecting sensitive taxpayer data. The data was included in the National Taxpayer Advocate’s annual report to Congress. The office is an independent unit within the IRS that helps taxpayers with significant problems. You can read the full report here.