Law News and Tips
It is common knowledge that through advances in medicine and (in some cases) better living habits, we are all living longer than in prior generations. For a person who made it to 65 in 1900, they could reasonably hope to live to 77. For a person who makes it to 65 now, they can reasonably hope to live to 83. And more people are making it to 65 now than ever before. That’s the good news.
The bad news is that we are not really prepared. One-third of Americans reaching 65 have no retirement savings. They were led to believe that Social Security would take care of them. The other two-thirds have saved something, but according to studies, not nearly enough.
Many baby boomers had dreamed of early retirement, but after the Great Recession, that is now a pipe dream. Instead, people are working later and later in life. For many, this is a real burden, but they have no real option.
For those lucky enough to have some retirement savings, one concern is whether the money will last long enough. You have to start taking your required minimum distributions (“RMDs”) at 70 and 1/2, but you may still have some other sources of income you can use. For instance, you may still be in reasonably good health and can work a few more years. Maybe it would make sense to defer some of your retirement income? But how?
Last year, the IRS addressed this issue by modifying the Regulations that apply to RMDs. They did this by allowing what are called Qualified (or qualifying) Longevity Annuity Contracts (“QLACs”). If you reach 70 and 1/2 in reasonably good health and don’t need your full RMD’s right away, you can defer (but not beyond age 85) up to 25% of your retirement account (not to exceed $125,000). Depending on your situation, this may or may not make sense. You’ll need to talk to your financial advisor about that.
QLACs may not be for everyone. However, they are one more weapon in our arsenal for retirement planning. Talk to your financial advisor about whether this would make sense for you. If you don’t already have one, give me a call, and I can give you some recommendations. I just thought this would be good for you to know.
When you open an IRA, your financial advisor will ask you who you want to name as your beneficiary. Typically for a married couple it will be the employee’s spouse. If the employee were to die before the complete distribution of the IRA, then the surviving souse can roll the IRA over into his or her own name. In a way this creates a new IRA, and distributions will be based on the surviving spouse’s life.
If the emplyee or surviving spouse were to die without naming a beneficiary, then the IRA will typically be distributable to a probate estate. This results in probate fees. In addition, it accelerates the taxes that haven’t been paid on the remaining balance in the IRA. The entire balance will have to be taxed within five years. Your heirs would lose the tax deferral.
So the question then is who to name as the contingent beneficiary or beneficiaries?
What I have seen from people more often than not is that after their spouse, they name their children. On the death of the IRA recipient, the IRA gets divided among the children. They each get what is called an inherited IRA, and it will be paid out over their own life expectancies beginning immediately. Distributions are not delayed until they reach 70 1/2. If they die in the meantime, they can name a beneficiary, but the distributions are locked in place and cannot be changed.
One problem with an inherited IRA is that they can be attached in bankruptcy. That is a pretty recent decision from the US Supreme Court. If they can be attached in bankruptcy, then I wonder how long before a judge decides they can be attached in any lawsuit.
Another problem with an inherited IRA is that a young beneficiary (whether a child or a grandchild) would be able to withdraw all of the IRA principal at any time. When they do that, they will lose the tax deferral benefit. In addition, large sums in young hands often lead to ruin.
In order to protect against the poor judgement of youth and lawsuits and bankruptcies, I tell clients to have their IRAs flow through a trust. By putting a trustee between the beneficiary and the IRA principal, it makes it hard for a young person to get their hands on the money for something they really don’t need or that might even hurt them. In the case of litigation, although a judge can order the beneficiary to pay a judgement, the trustee is not a party to the lawsuit and has duties to multiple beneficiaries. Judges typically respect this distinction.
So after setting up a trust, I tell clients that they need to name their spouse as the initial benefidiary on their IRA to allow for the maximum flexibility and tax planning, but to name their trust as the contingent. That is the best of both worlds to me.
I recently met with a couple who came in to update their estate planning documents. They asked me to review their current documents that had been prepared by another attorney almost ten years earlier. What I found kind of surprised me.
In looking at their powers of attorney, the maker of the power had appointed his or her spouse as her or his attorney-in-fact. On the death or disability of the other spouse, the eldest daughter would become the attorney-in-fact. On the death of the eldest daughter, the youngest daughter would become the attorney-in-fact.
The problem was that these powers of attorney were immediate, and not springing powers. In an earlier newsletter I linked to an article that talked about the difference between these two types of power of attorney. As that article pointed out, a springing power of attorney is not effective until a doctor certifies that you (the maker of the power) are incompetent. You retain complete control of your affairs until you really can’t handle things. With an immediate power of attorney, you immediately give the designated person the listed powers.
The powers of attorney that my clients had were not a problem as they sat across from me in our meeting. I had two competent, loving spouses facing me. The problem that I foresaw was what would happen when one of them became incompetent. When one of them became incompetent, then the powers he or she had over the competent spouse’s property would then immediately pass to the oldest daughter. So what happened on the incompetency of one of the clients was the eldest daughter would gain control of the assets of the competent spouse. It was a strange result. When I pointed this out to my clients, there were more than a little disturbed which was understandable. It was not what they had been led to believe they were doing when they signed the documents several years earlier. Fortunately, we still had time to fix things.
This is not the first time that I have had clients come to me to review the work of other attorneys. Every once in a while I come across things like this where the documents don’t do what the client wants. Fixing them when the clients are alive and competent is costly but doable. Once a person is incompetent or dead, it becomes much more difficult. The regular review of documents is important.
When buying a business, you want to try to minimize your costs throughout the process. In the best of all possible worlds, you would prefer to just write a simple contract from the get-go and not have to go through the song and dance of negotiating.
That’s not realistic. The initial contract can be expensive to put together, go through several variations, and ultimately be rejected.
The alternative a lot of clients use is the letter of intent. With a letter of intent, you hit the high points to make sure you know the deal before you go to the expense of investigations and writing a contract. Letters of intent can vary significantly, depending on the deal, but several things should be covered:
1. Identify the assets you are buying with adequate specificity.
2. State what you are willing to pay, and how. If you are going to need to get financing, you need to state that.
3. Require the Seller to continue business as usual.
4. If the Seller will stay on as an employee or consultant, briefly state the terms of the agreement of continued employment.
5. Some letters of intent include warranties and representations and conditions to close, but that is typically with larger deals. However, even in smaller deals, it may be worth giving some thought to these issues.
6. Agree to work towards a definitive agreement.
7. Agree on generally when closing is to occur.
8. Have the Seller agree that while you are doing your investigation, the Seller can’t negotiate with anyone else.
9. Agree that any information obtained during the investigations and negotiations will be maintained in strict confidence.
10. State whether any brokers are involved, and if so, who, what’s their fee, and who’s paying.
11. Generally, a letter of intent is nonbinding, but typically certain provisions are. You need to state what provisions are binding. In the above list, typically numbers 3, 9, and 10 would be binding.
Once the parties agree to the contents of a letter of intent, you can start moving toward your investigations, preparing the definitive agreement, and ultimately the closing. The tricky part with a letter of intent, is making sure that you state the critical deal points and make them binding if that would be appropriate. And these deal points can vary significantly.
Starting off with a letter of intent can help you find out if the Seller is serious and if the deal points are realistic. If neither of these are true, then you need to walk on by and look for the next opportunity. No need for you to waste your time or money.
Bill and Sandy came into see me several months ago. They had four young kids, including a couple of teenagers. Two were very good with money. One was okay, though, Bill had his concerns. The fourth never saw a nickel he couldn’t spend.
Bill’s dad had died several years ago, and he left his mom pretty well-off. His mom had just recently died. Although she had spent a couple of years in a nursing home, Bill still inherited a nice sum. Between that and what Bill and Sandy had saved, their kids stood to inherit quite a bit of money as well. Bill and Sandy were worried.
When Bill was in high school and college, one of his best friends was Joe. Joe’s mom had died when he was young, and Joe’s dad had been pretty frugal and saved a lot of money. Because of his mother’s early death, Joe had no brothers or sisters. His dad never remarried.
Soon after college, Joe’s dad died tragically. He’d been young, so he had never thought to do any estate planning. Everything went outright to Joe, and his life began a steep downhill spiral. I refer to these kids as trust babies. They have no real direction or goal in life except to get more money out of their trust. I recently had a probate case where one of the sons had a drug habit. By law, we had to give him the money, but we know that this is not going to end well. Bill and Sandy did not want that to happen to their kids.
The estate plan, we developed for Bill and Sandy used a trust to avoid probate. Their assets were completely under their control during their lives. On the death of the second of them to die, everything would be divided equally between their kids, but not distributed to them outright. Instead, Sandy’s brother would be in control of the inheritance, and they could only get distributions for health, education, and maintenance in their standard of living. When the kids turn 35, they would get control. Bill and Sandy hoped that by then even the spender would have some money sense. In order to protect the kids from divorce claims and possible from lawsuits, they decided to leave the kids money in trust while making the kids their own trustees at that time.
There are several ways that a person can go into business, but all involve some loss of privacy. For women, in particular, this may be a critical issue.
Sole Proprietor: The easiest way to go into business is just to start your business. This is a sole proprietorship. One problem with this is that you are fully exposed from a liability perspective. Another problem is that if you use a fictitious name, you will have to list a business or home address. Also, any tax forms that are needed will have your Social Security number. That is a bad thing. You could get an employer identification number (and “EIN”), but that doesn’t solve your problems.
Partnership: If you going into business with someone else, you are in a partnership. Typically you will get an EIN. Assuming you adopt a business name, you’ll have to register it as a fictitious name. The fictitious name registration requires a physical address.
Corporation: Another option is to form a Corporation. Again, you’ll need to get and EIN, so your personal tax information will not be exposed. However, there are several places we may have to list your home address. If you are doing this by yourself, when you file your articles of incorporation you may have to list your physical home address both as the incorporator and as the registered agent. In addition, you’ll have to file an annual report with the Missouri Secretary of State that lists the names and physical addresses of your officers and directors.
Limited Liability Company: The other form of business is a limited liability company. Like a Corporation, the articles of organization require the name and a physical address of the organizer and the registered agent. The good thing, though, is that you don’t have to file an annual report.
Some people mistakenly think that these forms that are filed with the Secretary of State’s office are private. In fact, they are publicly available. With a few internet searches, anyone can find the name and address of a business incorporator/organizer, the fictitious name registrant, the registered agent, and the officers and directors of a corporation. For some people, that’s more public exposure than they want.
To me, the best privacy solution is to work with an attorney to establish an LLC. The attorney can be the organizer and the registered agent using his or her office address. The attorney will prepare an operating agreement (this is a required document), identifying you as the owner. This is a private document. The attorney or your CPA can apply for an EIN for the company.
LLCs are funny little creatures. In America, they originated out of Wyoming (of all places) in 1977. One of the last states to pass, LLC legislation was Hawaii in 2010. Now all 50 states have laws authorizing LLCs, and it is fair to say that most new small businesses are formed as LLCs. But what is an LLC?
To answer that question, we need to consider the pre-LLC landscape of business entities. Before LLCs, if you wanted to start a business, you had three basic options: sole proprietorship; partnership; or incorporation.
With a sole proprietorship or a partnership, you had a lot of flexibility. Any structure you had was self-imposed. Aside from taxes, there was very little required state reporting. It’s the easy way to run a business. But in both of these situations, all of your assets were exposed to lawsuits. You could lose your house and all your savings if someone slipped in your store.
To limit liability, people went with a corporation. But with corporations, there is structure and reporting. Generally, you need a board of directors, a president, and a secretary. You have to have annual meetings of your shareholders and directors. You have to file annual reports with the state. But at least your assets are safe.
The lawmakers in Wyoming (and later every other state) thought there had to be a better way. They decided to blend the flexibility of a partnership with the limited liability of a Corporation, and they came up with limited liability companies.
To form a limited liability company, the business owner(s) (who is called a member(s)) has to file articles of organization in a state, typically the state where the business is located. To organize the LLC (and this is required for all LLCs), the member(s) generally has to execute an operating agreement. Operating agreements can be very simple in the case of a single member LLC, but they can be fairly complicated for multimember LLCs. For multimember LLCs, the members generally need to agree on who runs things; whether a member can sell his or her interest; and what happens when a member dies.
Members can form LLCs in two basic ways: member-managed; and manager-managed. Member-managed LLCs are like general partnerships where each member usually has equal authority to run the business, although even here the members can provide for officers with different duties. In the case of manager-managed LLCs, the manager (who may or may not be a member) will run things. The non-manager member is like a limited partner, but generally with certain reserved powers.
We are seeing more and more second marriage situations. Whether they are the result of a divorce or the early death of a spouse, second marriages are becoming more common, and they come with their own risks.
Typically with a second marriage, there are children by a prior marriage. The new couple usually have very mixed allegiances. They want to take care of one another, that they also want to protect their separate children.
Doing nothing is not a good option. Doing nothing might mean leaving premarital assets in separate names. What happens on the death of the first spouse depends on how his or her assets were held, and whether there were beneficiary designations. If the assets were the name of the deceased spouse alone, the surviving spouse will get the first $20,000 and half the balance. This is true whether there was a will or not, but it will probably require litigation. If the deceased spouse designated beneficiaries on assets, then the surviving spouse may have rights in those assets, but probably not without a fight.
On the other hand, doing nothing might mean putting all of their property in joint names. In that case, the surviving spouse and his or her children get everything. That is a tough half conversation to have with the children of the deceased spouse when they find out that they are getting nothing.
One way to avoid this problem is for the couple to enter into a prenuptial agreement. In the agreement, both parties would have to list their assets in some detail and state what is supposed to happen on death or divorce. This process can be a little chilling for the couple. Most couples at that point in their relationship want to avoid talking about either dying or divorce.
Another option is for each spouse to create his or her own separate trust and to fund those trusts with their separate premarital assets before they get married. According to my family law partners, this is safe even in the case of divorce. Making it an irrevocable trust only strengthens your position, but that also limits the rights of the trust grantor. Most people try to avoid that.
So when a second marriages in your future, it is important to think about and plan for that future. What do you do for your spouse? What do you do for your kids? What do you do if there was a divorce? Hard questions, yes. But necessary ones.
Interfaith Partnership annual dinner celebration on October 30, 2014. I don’t have the name of the Rabbi right now, but I’ll add it as soon as I get it:
“I’d like to tell you about a young adult friend of our family, a young man named Rafi, who grew up with my stepchildren in St. Paul, Minnesota. Our friends, Mari and Jeremy, adopted both of their children as babies from Central America. Both of the children have very dark skin. But that is not what we saw when we looked at them. They were close friends, weekly attendees at our synagogue, students at our Jewish day school, virtually members of our extended family. Rafi was a sweet, thoughtful, loving kid. It was a pleasure to have him in our lives.
Shortly after Ferguson, Rafi, now 28 years old, gave a sermon at our synagogue and told the story I don’t believe I’d heard years ago when it happened. Rafi said that he had never before seen himself as different from his friends or schoolmates, until one day in middle school, a member of an opposing team at a school soccer game referred to him as “burnt toast.” He said that, with that racial slur, he experienced “the sting of being different for the first time,” and that he was completely alone: different from the white Jews who had always been his friends and his family, but also, as it turned out, different from the kids of color in the public school to which he transferred, because after all, he’d grown up at a private Jewish day school, in a close-knit Jewish suburb. Rafi spent years in a difficult journey of sorting out the different strands of his identity.
In Rafi’s own words: “I understand why the police are there [at our synagogue on the holy days]. I know the risk that comes with openly celebrating Judaism. They are there to protect us! And trust me, I appreciate their presence – until all eyes are on me…. Even my gold Star of David necklace doesn’t seem to faze them. When I arrive, the officers usually stop what they’re doing, get out of their cars, get right up behind me, and follow me as I walk in, as if I am the threat. I am dressed for the occasion, including a kippah on my head. I am greeted with smiles and warm welcome embraces from old friends and fellow congregants as I walk through the parking lot. The police officers usually don’t stop pursuing me until I have hung up my code in the coat room, and the [congregant volunteering as a] greeter [at the door] has given the officers a thumbs up, to let them know that I am “safe.”
I’ve never seen this happen to anyone else, for as long as I’ve come to the synagogue. I’m left to think that the only possible sign of threat would be the color of my skin….
Rafi continued in a sanctuary so quiet one could hear the sound of breathing and crying. He needed to tell us some
“safety tips that every person of color should follow when stopped by an officer of the law:”
[he said these things entirely without anger, animus or disrespect. He was simply telling us fax that he had learned about being a black man in America.]
• Place both hands where they are clearly visible. Do not reach in your pockets or purse.
• Do not reach into your jacket. And do not move without informing the officer first.
• If you’re in a car, take the keys out of the ignition and place them on the dashboard so that they are clearly visible.
• Leave your seat belt on, and slowly turn on your interior lights so that you’re fully visible. This proves that you pose no threat.
• Speak clearly and respectfully, and stick to these four phrases: “yes, officer”, “no, officer”, “thank you, officer”, and “I want a lawyer.”
Individual retirement accounts (“IRAs”) are used for retirement savings. In the case of a regular IRA (we are not talking about Roth IRAs here), pretax income is put into an IRA and allowed to grow tax-free until retirement, or at least until the owner reaches 70 ½. At that time, the owner has to take out a minimum amount referred to as the “required minimum distribution.”
IRAs typically are invested in publicly traded stocks and bonds. However, in what is called a self-directed IRA, it is possible to invest in other assets. Recently, after attending seminars, a number of clients have talked to me about investing their IRAs in real estate. Although this is a permitted investment, IRA investors need to be very careful.
The first rule to note is that an IRA owner cannot be paid a salary or fee from his or her IRA for any services provided. That simply is not permitted.
Then there is the question of income. IRAs are generally taxed on any income from a trade or business. There are certain exceptions: dividends, interest, rents, royalties, and gains from the sale or exchange of property other than inventory or property held for sale in the ordinary course of a trade or business. The trade or business limitation requires frequency, so a one time or infrequent sale is not going to run afoul of this rule. However, we don’t really know how many sales you can have before the IRS is going to treat the activity as a trade or business.
If an IRA owner wants to buy a single family or multifamily residence, the owner must pay cash (loans create other problems). If the IRA owner then rents the property, the rent is tax-free to the IRA.
If, however, the IRA owner wants to buy property, rehab it, and then sell it, there is a risk that the IRS will treat the income as taxable. If it does, then the IRA is taxed at the trust tax rates, which means any income over $12,150 is taxed at 39.6%.
An alternative to this would be to form a corporation, pay taxes at the 15% corporate rate, and distribute tax-free dividends to the IRA. This might seem like adding an unnecessary layer, but it may be the best option out there if you are going to rehab and sell property.