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Maximizing The Step-Up In Basis By Gifting Assets Between Spouses

February 2, 2022 07:04 am 5 Comments CATEGORY: Taxes

While President Joe Biden’s recently proposed “Build Back Better” brought the possibility of a reduced estate tax exemption for 2022, insufficient support for the bill precluded the reduction, leaving taxpayers with an exemption of $12,060,000 per person. Which means that under the current rules, most taxpayers will not be subject to a Federal Estate tax liability and can instead focus their tax planning efforts on reducing their Federal income tax liability. As such, the step-up in basis at death can be a powerful planning tool for minimizing an individual’s capital gains taxes from the sale of appreciated assets. For married couples, though, the death of one spouse often only results in a partial step-up, reducing the value of this tax benefit (and thereby potentially increasing taxes on the subsequent sale of assets) for the surviving spouse. But with some proactive planning, couples can take greater advantage of the step-up rules by titling their assets in a way that maximizes their likelihood of a full step-up.

The concept of the step-up is that, when an individual dies, the basis of the assets that they owned is increased (or “stepped up”) to their value as of the date of the individual’s death. And while the concept is fairly straightforward for assets owned solely by the decedent, it can become more complicated when the assets are owned jointly with a spouse. Because in most states (which treat jointly-owned assets as “separate property”), even though the assets are owned in both spouses’ names, the amount that is included in the decedent’s estate – and therefore eligible for the step-up – is only 50% of the assets’ value, leaving the original basis intact on the surviving spouse’s remainder. Notably, ten “community property” states allow for a 100% step-up in basis on all jointly-held assets (as long as they meet the definition of community property). Which means that, based on whether or not a couple happens to live in a community property or a separate property state, they may receive a full (or just a partial) step-up in basis on their jointly-owned assets when one spouse passes away.

Fortunately, for the majority of couples who live in separate property states, there is a simple strategy that can be used to potentially receive a full step-up in basis of assets upon the death of a spouse. For couples where one spouse is expected to live longer than the other, it may be possible to transfer all of the couple’s assets solely into the name of the spouse anticipated to die first. Upon that spouse’s death, 100% of those assets would be subsequently included in their estate and therefore subject to a full step-up when the surviving beneficiary spouse receives the assets.

As with many seemingly simple strategies, however, the transfer-and-inherit strategy between spouses comes with complications and exceptions to watch out for. For example, the IRS requires that the spouse who receives the transfer of assets must own them for at least one year before they pass back to the original donor in order to receive the step-up in basis, making the strategy less useful when the spouse’s death is anticipated more imminently. Additionally, gifting assets means giving up control over how they are used and bequeathed, and so the strategy requires the surviving spouse to trust that the shorter-lived spouse will not spend the assets, give them away, or leave them to someone other than the surviving spouse at death (however unlikely that may seem at the time). And lastly, if a spouse is enrolled in Medicaid (or plans to enroll in the future), transferring assets into their name could exceed the allowable asset limit set for Medicaid eligibility, thereby disqualifying them from the program and requiring them to spend down the assets to re-enroll (making the strategy a moot point, as the assets would likely not last long enough to be stepped up at all!).

Ultimately, the difference between a full step-up in basis and a partial one (or none at all) can end out being a significant increase in the after-tax value of assets for some clients. Advisors can help deliver this value to their clients by planning and aiding with the retitling of assets (when appropriate) to take full advantage of the basis step-up. Which is important, especially because the subject of death (and repositioning assets in anticipation of death) may be complex and emotional for clients, and the role of the financial advisor often involves aiding clients to find objective solutions through difficult situations… to help clients – and their loved ones – stay on track with their goals to maximize and enjoy their wealth!Read More...

#FA Success Ep 266: Reinventing The Wirehouse Model As An Employee-Owned Locally-Managed Partnership, With Jim Gold

February 1, 2022 07:06 am 0 Comments CATEGORY: Financial Advisor Success Podcast

Welcome back to the 266th episode of the Financial Advisor Success Podcast!

My guest on today's podcast is Jim Gold. Jim is the CEO and Co-founder of Steward Partners Global Advisory, an independent advisory firm that supports nearly 180 financial advisors managing more than $16B of assets under management and serving close to 10,000 client households in multiple locations around the country.

What’s unique about Jim, though, is how he and his firm are attempting to re-create the wirehouse model of old, by offering locally-managed ‘large firm’ infrastructure to financial advisors but utilizing an employee-owner partnership model to provide all the benefits of independence.

In this episode, we talk in depth about how Jim and Steward Partners offer financial advisors the wirehouse framework of access to proprietary investment products, research, and technology, but without the constraints of large firm compliance and the conflicts of a parent firm trying to manage its own risk over its clients, how the firm leverages its partnership equity plan to give a wide base of employees a stake in the company and its culture, and how the firm’s foundation is built to grant flexibility to advisors, allowing them to affiliate as W2 or 1099 employees and to still take their book of business with them if they ever decide to leave.

We also talk about how Jim’s firsthand experience as a complex manager of a major wirehouse helped him realize how the national wirehouses were evolving from a connection-focused support system into more impersonal and overly systematized corporation, how the benefits advisors gained from associating with the wirehouse were becoming increasingly outweighed by a lack of growth opportunities and an excess of damage control from corporate scandals, and how these realizations inspired Jim to build his own firm based on a partnership model akin to the true Wall Street and Big-8 accounting firm partnerships of old.

And be certain to listen to the end, where Jim shares how he has found delight in creating a business model that gives advisors opportunities to go beyond large firm red tape, the challenges that Jim faced in spending down his personal assets and mortgaging his house to build the firm he dreamt of, and how Jim believes having a clear vision, confidence, and motivation to push past unforeseen challenges is what leads to better, more fulfilling accomplishments.

So whether you’re interested in learning about how Jim and Steward Partners built an advisory firm with the benefits of a wirehouse without intrusive large firm compliance and risk management, how Jim has created a true partnership culture for financial advisors, or how he follows inspiration to create the opportunities he wants to see in the world, then we hope you enjoy this episode of the Financial Advisor Success podcast, with Jim Gold.

Announcing The New Kitces AdvisorTech Directory And The State Of The (Nerd’s Eye View) Blog

January 31, 2022 12:35 pm 0 Comments CATEGORY: Nerd's Eye View

While 2020 was the year that the pandemic disrupted everything, 2021 seems to have been the year where we all collectively tried to adapt to a more virtual working world and return to some semblance of normal. Which, in the financial advisor world, that benefitted from the dual tailwinds of rising markets and increased demand from consumers for financial advice, meant a new wave of growth for most advisory firms. Here at Kitces.com, we too adapted to the more virtual world of advisor education in 2021, culminating in what ultimately was a near-doubling of the platform and Kitces team, and the opportunity to reinvest even more into both our Members Section, and the broader Financial Advicer community that reads the Nerd’s Eye View blog.

And as a result of these reinvestments, I’m excited to announce the launch of our new Kitces AdvisorTech Directory. The Directory was built as an extension of our popular AdvisorTech Solutions Map, which originally started out as a way to categorize the breadth of advisor technology tools to make it easier to find and select what an advisory firm needed, but over the past 4 years has grown so much that now it has a nearly overwhelming number of solutions! Now, with the Directory, advisors will be able to search directly by category, see both the primary and ‘secondary’ categories that a software solution can address, and even build (and save and share) their own hypothetical tech stack. In the coming year, we expect to add even more to the Kitces AdvisorTech Directory, including pricing and major feature details of vendors, ratings on AdvisorTech integrations, and data on advisor adoption and satisfaction ratings from our recent Kitces Research study on AdvisorTech usage!

In the meantime, we’re also rolling out a number of new features for both our Members Section, and our broader readership, including the most-requested “Save Favorite Articles” feature (and a process to create a Reader account so you can come back to your saved articles later!), a new “Suggest Topics” area of the Members Section to request what you’d like us to Nerd Out on for you with a future Nerd’s Eye View blog post, and the upcoming rollout of Kitces CE credits for the new state IAR CE requirements that are beginning for some RIAs in 2022.

Ultimately, though, we are still just getting going with the ongoing growth of the Kitces platform. In fact, in 2021 alone, our team working behind the scenes to make it all happen nearly doubled (from 11 to 21!), and there are now 3 new openings to join the Kitces Team of Nerds (an Education Systems Manager, an Associate Curriculum DesigNerd, and a new Director of Advisor Research opportunity!), as we continue to execute on our four strategic pillars of Navigational resources for advisors, Education for advisors, Research on advisors, and skills training for the Development of advisors (and yes, our organizational strategy really does spell out N-E-R-D!).

All in pursuit of our mission: Making Financial Advicers Better, And More Successful. I hope you’ll continue the journey along with us in 2022 and beyond!

Weekend Reading for Financial Planners (Jan 29-30)

January 28, 2022 02:03 pm 1 Comment CATEGORY: Weekend Reading

Enjoy the current installment of “Weekend Reading For Financial Planners” - this week’s edition kicks off with the news that the SEC is considering updating several of its regulations regarding cybersecurity to address modern threats and vulnerabilities, which for SEC-registered investment advisors, could lead to increased preparedness and reporting requirements (though it remains to be seen whether any new rule would constitute a more clear and comprehensive policy than the current patchwork of cybersecurity regulations that RIAs must follow).

Also in industry news this week:

The SEC has started sending deficiency letters to broker-dealers who fail to comply with Reg BI’s requirements to assess and document rollovers to ensure they are in clients’ best interests – which portends even greater issues with the DOL set to enforce its own rollover rules starting February 1
The Public Investors Advocate Bar Association (PIABA) is lobbying the SEC to prohibit forced arbitration clauses in RIA advisory contracts and require firms to cover more of the costs of arbitration (which currently can run upwards of $30,000 for clients just to start the arbitration process)

From there, we have several articles on Medicare strategies:

How advisors can help their clients select the best Medicare agent
Why it is important for clients to look past the premiums and consider the total potential costs when selecting Medicare plans
How Medicare’s general enrollment period, which runs through March, is an opportunity for eligible clients to sign up for Medicare if they missed their initial enrollment period (but still comes with late enrollment penalties)

We also have a number of articles on advisor-client communication:

A new study assessing the role of qualitative data gathering in developing client trust and commitment shows that most planners overestimate how much effort they’re really putting in to learn about their clients (at least when compared to their clients’ perception of those efforts)
Why financial advisors often cost themselves business by focusing more on themselves and their expertise in conversations with prospects, when in reality most prospects are more interested in what the advisor can do to make them feel important
Why the phrase “financial planning” itself can cause resistance to financial planning conversations by conjuring unpleasant feelings about change, aging, and death; while reframing those conversations around “investing” (e.g., in oneself for the future) can make clients feel more positive about planning and saving

We wrap up with three final articles, all about self-improvement:

How you can more effectively ask for feedback
How we can combine seemingly unremarkable skills to produce extraordinary outcomes
Why creating a ‘personal monopoly’ of leveraging your best personal properties is a better option than trying to win the ‘metagame’ by chasing the latest advisory industry trend

Enjoy the ‘light’ reading!

Kitces & Carl Ep 78: Communicating Hard News To Clients (When You Plan To Relocate The Business)

January 27, 2022 07:05 am 1 Comment CATEGORY: Kitces & Carl Podcast

When financial advisors are faced with the decision to relocate their firm to another state, there is often an immediate tendency for the advisor to worry about losing clients who signed on with the expectation of being able to meet with the advisor in person throughout the engagement. But in today’s environment, with the availability of convenient virtual meeting technology and the increasing normality of working from home, do advisors really need to worry that much about losing their clients due to relocation? Even with the accommodations to conduct remote meetings, advisors can still find it difficult to have the conversation of ‘leaving’ clients behind when they need to relocate – even when they intend to maintain the relationship remotely.

In our 78th episode of Kitces & Carl, Michael Kitces and client communication expert Carl Richards discuss how advisors can approach the conversation with confidence and honesty to quell the fears and anxiety of their clients, while remaining calm themselves.

As a starting point, it’s important to put the idea of jeopardizing client relationships into perspective, because even though clients may have been onboarded in person, many will likely be open to continuing the relationship on a virtual basis, especially in our current era of remote work and digital communication. And while it is easy to imagine any number of scenarios where clients may want to leave their advisor, unless there are serious issues in the advisor-client relationship itself, clients actually tend to prefer staying with an advisor they trust – regardless of where their physical office may be – and aren’t generally looking for a reason to leave the relationship at any given moment. Because the trust a client has in their advisor is usually a function of the advisor’s ability to provide outstanding service… and not so much of the physical location of the advisor’s office.

To maintain that trust, advisors can arrange a meeting or phone call with the client to discuss the transition and reassure the client that they can still expect the same level of service and attention as before. Sending an email prior to the meeting to initiate the conversation can be a good opportunity for the advisor to reassure the clients that the relationship will, in fact, continue, and to provide an overview of what, if anything, will need to change. This gives clients a chance to absorb the news and identify any questions or concerns they may have that can be discussed in more depth during the meeting.

Ultimately, the key point is that communicating with clients about intentions to move a firm begins with being honest, compassionate, and confident. Even if a few clients may be lost in the process, advisors will undoubtedly have opportunities to find more clients in their new location. But by taking to heart the tremendous value they offer to clients, advisors can trust that they will always be able to maintain their client relationships potentially anywhere they may choose to go!

Why High Equity Valuations And Low Bond Yields Won’t (Necessarily) Break The 4% Rule

January 26, 2022 07:03 am 6 Comments CATEGORY: Retirement Planning

For nearly 30 years, the so-called ‘4% rule’ has been a starting point for retirement planning conversations between financial planners and their clients. But as equity valuations such as the Shiller CAPE ratio have ratcheted up to nearly all-time highs in recent years, with bond yields simultaneously reaching all-time lows (suggesting below-average future returns in both asset classes), some experts have questioned whether a 4% initial withdrawal rate will continue to be ‘safe’ in the future. A new white paper by Morningstar feeds into this speculation, with its much-publicized conclusion stating that, given today’s market conditions, the future safe withdrawal rate should be lowered to 3.3%.

The Morningstar paper’s key insight is that expectations for future safe withdrawal rates should be adjusted based on current market conditions (which other research has supported). Accordingly, the paper’s authors use forward-looking return projections to calculate their future safe withdrawal rate estimates. But the investment return assumptions that Morningstar used for its analysis were so low – with real returns averaging just 5.7% for equities and 0.5% (!) for fixed income over 30 years – that, if those projections were to come to pass, the next 30 years would be among the very worst market environments in U.S. history.

While such conservative return estimates might make sense over a 10- to 20-year time horizon (since research has shown that CAPE ratios are strongly predictive of returns over that time range), extending those assumptions out to 30 years is arguably unrealistic. This is because there is no precedent – even in other eras with high equity valuations – for 30-year returns that low (other than the period spanning the late 19^th and early 20^th centuries, when financial panics and global war created a far more tumultuous and unpredictable environment than the comparatively stable world today). In reality, markets tend to revert to the mean, meaning that even the periods with the worst safe withdrawal rates in history contained intervals of offsetting below- and above-average returns, causing each to end out with near-average returns over the full 30-year horizon.

In this way, Morningstar’s choice to focus on (historically low) 30-year returns for its analysis disregards the evidence of what really drives safe withdrawal rates, which is the sequence of returns. Because the periods that have tested the 4% rule in the past were not necessarily those with the worst 30-year returns, but those whose returns in the first 10-15 years were so bad that retirees needed to withdraw too much of their portfolio to be able to recover once conditions improved. So in reality, Morningstar’s results may have been more realistic if they had only forecast 15-year instead of 30-year returns, since the 15-year period is both easier to predict on current market data and more predictive of safe withdrawal rates.

Ultimately, however, Morningstar’s conservative return assumptions – which are comparable to some of the worst periods in the past 140 years – actually serve to highlight the strength of the 4% rule, which was created to withstand just those types of worst-case scenarios. Which means that, even if their historically low projections do come to pass, resulting in returns equal to the worst return scenarios in history, a 4% initial withdrawal rate would still hold up. And while today’s market conditions do merit caution (as there is reason to believe that the next 15 years could experience below-average portfolio returns), in reality, such conditions were precisely what the 4% rule was created for, to begin with!