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A Quarterly Update on Financial and Family Issues for Women

A Quarterly Update on Financial and Family Issues for Women

April 05, 2019

Stretching an IRA into Future Generations

Imagine that you could wave a magic wand and turn your new grandchild into a millionaire for a head start in life. Believe it or not, even a relatively modest amount tucked away using a “stretch” IRA strategy could, under certain market conditions, evolve into a rather substantial nest egg that your grandchild, or other beneficiary, may enjoy in years to come.

A Long-Term Strategy

The stretch IRA strategy is an Individual Retirement Account (IRA) in which earnings are allowed to grow tax deferred over a beneficiary’s lifetime. If you have an IRA that you do not need for retirement income, you can opt to restrict your withdrawals to the minimum annual distribution required by the Internal Revenue Service (IRS) starting at age 70½. Required minimum distributions are based on your life expectancy and the amount of funds in your account.

If you decide you want to stretch your IRA into future generations, you can establish a trust that allows for the distribution of IRA assets to primary, and possibly secondary, beneficiaries. Upon your death, your beneficiary will be permitted to take distributions over time, based on his or her age and life expectancy. This not only gives the investments in the account a chance to grow and compound, but it also means that income taxes owed on the IRA can be paid over an extended period of time.

If you choose a very young beneficiary, such as a grandchild, the funds in the IRA may compound substantially over the course of a lifetime. Provided the beneficiary does not access funds in the account along the way, due to a disability or other hardship, a considerable sum could amass by the time he or she reaches retirement.

Risks Involved

Before you integrate the stretch IRA strategy into your estate plan, it is important to note that this approach does carry some risk. If IRA assets decline in value, or if inflation erodes the value of your savings, the substantial returns for your heirs may not materialize. Should you live a very long life, it is also possible that the funds in your IRA may not grow because you must continue to take required distributions. If, for example, longevity is on your side and you live to age 95, the amount you leave to a grandchild may be less than if you had passed on a decade earlier.

Keep in mind, too, that a stretch IRA strategy works appropriately when only the required minimum distributions are withdrawn. If your beneficiary were to withdraw additional funds to buy a car or pay the rent, the account could be quickly depleted.

Finally, it is important to consider the tax implications of including a stretch IRA strategy in your inheritable estate. Under the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (2010 Tax Relief Act), the Federal estate tax and generationskipping transfer (GST) tax, which was repealed in 2010, has an exemption amount of $11.4 million and a top tax rate of 40% through 2019.

Despite the inherent risks, a stretch IRA strategy can be a tax-efficient means for passing on savings to future generations. While there is no guarantee that
inheriting a stretch IRA can turn your grandchild into a millionaire, it could help contribute toward making his or her retirement more comfortable.

Policy Loans: A Borrowing Option

Taking a loan from a cash value life insurance policy can be a simple method for borrowing money quickly, without some of the qualification issues one may face with other types of loans. The earliest policy loan practices, for example, which were permitted back in the 19th century, took the form of loans to pay policy premiums. Later on, cash loans were made available. Today, a policy loan provision is required for policies issued in any state in which the Uniform Standard Provisions Law is in effect for all but short-term policies. While policy loans may fulfill a short-term financial need, they can also affect your long-term
goals. Knowing the details will help you make the best decision for your unique situation.

A Closer Look

Basically, a life insurance policy loan is not a loan at all, but rather an advance of some of the cash value to which the policyowner is entitled by contract. In general, a policyowner has no accumulated funds in his or her name, but policies do illustrate specific values, allowing the holders to appreciate the benefits. However, borrowing from the policy may permanently reduce future proceeds for the policyholder’s beneficiaries. Therefore, it is important to determine how a loan, and your repayment schedule, may affect your death benefits.

Like most loans, policy loans accrue interest. For tax purposes, interest on a policy loan is considered “personal,” and therefore, is not tax deductible. Interest is charged primarily because the policy premium is computed on the assumption that all funds not used for current costs will be invested by the insurance company at not less than a specified rate of interest. Unpaid interest will be added to, and become part of, the loan principal. In certain circumstances, the accumulation of unpaid interest may cause the amount of a loan to surpass the cash value of the policy. Understanding the implications this may have on your current financial situation, as well as the potential effect it may have on your beneficiaries, is essential.

One can never be sure when the need for immediate funds will arise. So, you should consider borrowing from your life insurance cash values only for worthwhile purposes and plan on promptly repaying borrowed money. In general, many who contemplate borrowing against life insurance policy cash values
consider it a last resort. Be sure to consult with a qualified insurance professional to learn more about your policy and tax implications a loan may have in
your particular circumstances.

Living Together: Are There Strings Attached?

Unlike marriage, which involves numerous legal obligations and rights, a couple living together outside of marriage may be unaware of concerns unique to their domestic partnership, and could possibly face the following challenges over the course of their relationship: What happens when property is
purchased together, or when one partner financially supports the other and then both individuals go their separate ways? What about assets accumulated while the couple lives together? Does a former partner have a right to such property? Suddenly, cohabitation could become more than a mere living arrangement and turn into an issue of asset protection or lifestyle preservation.

Untying the Knots of Obligation

Perhaps the most significant problem facing unmarried domestic partners is a potential claim to property, if and when the relationship ends. The issue of property rights can sometimes create major disagreements that, in some states, have resulted in palimony lawsuits.

“Palimony,” which means the division of property and/or support payments as a result of the break-up of two unmarried individuals, does not have its origins in the law. The media coined the term in the 1970s amid several high-profile celebrity lawsuits. Although palimony suits generally occur in a limited number of states, unmarried couples could learn valuable lessons from such cases when planning a life together. In states where palimony suits are prevalent, cohabitation agreements are an increasingly popular method for unmarried couples to clarify their expectations and obligations. The parties can determine how comprehensive the contracts need to
be, taking into consideration their combined assets. When properly drafted, these agreements may be enforceable in a number of states.

A carefully written agreement can outline everything from how jointly owned property will be distributed to what support will be provided by one partner to the other, in the event the relationship terminates. Like any contract, a written cohabitation agreement should be prepared with the assistance of legal counsel to ensure that both parties’ wishes are equally and fairly represented.

For whatever reasons, one or even both partners may not wish to enter into a formal agreement. If one party is of substantial means, a personal asset protection plan may be an option for that individual to explore in further detail. However, there are other ways to help avoid potential problems. For example, it may be unwise to purchase significant assets together, title assets in joint names, regularly give money to a partner (unless it is made as a “gift” using the annual gift tax exclusion), place money into a joint account, or use a partner’s last name.

In today’s tax environment, estate planning for unmarried partners is complex. Although such planning can be challenging, it may be less difficult if both individuals have a realistic understanding of their rights regarding asset protection and lifestyle preservation.

Commit Yourself to “Fiscal Fitness”

Most women know that the best way to stay in shape is to develop an appropriate fitness regimen and then stick to it. If you start a fitness program and then drop out, you never give yourself a chance to become physically fit. In the long run, regular workouts pay off. The same goes for fiscal conditioning. To achieve fiscal fitness and the financial independence it can bring, it is necessary to adhere to a regular program of sound financial practices. Here are some tips to help you “shape up” your finances:

Set short- and long-term financial goals. With physical fitness, small accomplishments can lead to big successes. The same holds true for fiscal fitness. Set one-, three-, and 10-year financial goals and evaluate your progress yearly. Make adjustments, as your circumstances change, to achieve long-term financial independence.

Look for that savings edge.
 Just as trainers are available to guide you at the gym and improve your progress, qualified financial professionals are available to guide you toward appropriate vehicles to help facilitate savings. Contribute to an IRA, 401(k) plan, or any other retirement plan you qualify for that offers you an edge: tax-deferred savings.

Pump up your savings. Before spending your paycheck, put savings first. Earmark a set amount out of each paycheck for the future. Like regular repetitions
at the gym, this habit will build financial strength that can help support you for the long term.

Trim high interest rates and finance charges. Just as you trim excess fat from your diet, shop around for credit cards and loans with low rates beyond the introductory offer. Pay off your credit card balances monthly to avoid high finance charges. If you must carry a balance, only use cards with low interest rates.

Schedule periodic insurance and estate planning checkups. You most likely visit your doctor for annual physical exams. Similarly, consider meeting with a qualified insurance professional periodically to review and update your insurance needs. Also, consult with your legal professional to evaluate and update your will and trusts to accommodate any relevant tax law changes.

Monitor your progress regularly. To get in top physical shape, it is important to chart your progress; to be inspired and motivated by your own progress and see how far you have come. By the same token, it is essential to monitor your financial progress regularly. Be sure to meet, at least yearly, with a qualified financial professional to help ensure you are on track to reaching your long-term goals.

By committing yourself to fiscal fitness, you will be taking the initial steps toward achieving financial independence. Remember, the sooner you get started, the better.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments.

“Stretch IRA” is a marketing term implying the ability of a beneficiary of a Decedent’s IRA to withdraw the least amount of money at the latest allowable time in order to maintain the inherited IRA assets for the longest time period possible. Beneficiary distribution options depend on a number of factors such as the type and age of the beneficiary, the relationship of the beneficiary to the decedent and the age of the decedent at death and may result in the inability to “stretch” a decedent’s IRA. Illustration values will greatly depend on the assumptions used which may not be predictable such as future tax laws, IRS rules, inflation and constant rates of return. Costs including custodial fees may be incurred on a specified frequency while the account remains open.

The information contained in this newsletter is for general use, and while we believe all information to be reliable and accurate, it is important to remember individual
situations may be entirely different. The information provided is not written or intended as tax or legal advice and may not be relied on for purposes of avoiding any Federal
tax penalties. Individuals are encouraged to seek advice from their own tax or legal counsel. This newsletter is written and published by Liberty Publishing, Inc., Beverly, MA.
Copyright © 2018 Liberty Publishing, Inc. All rights reserved. Distributed by Financial Media Exchange.