by Mat Sorensen | Oct 24, 2017 | News
The IRS announced new contribution amounts for retirement accounts in 2018, and there are some winners and losers in the bunch.
The biggest win goes to 401(k) owners, including Solo K owners, who saw employee contribution amounts go from $18,000 to $18,500. Health savings account (HSA) owners won a small victory with individual contribution maximums increasing $50 to $3,450 and family contribution amounts increasing by $150 to $6,900.
However, IRA owners lost with no increase in the maximum contribution amount for Traditional or Roth IRAs. The IRA maximum contribution amount remains at $5,500 and hasn’t increased since 2013.
Breakdown
Here’s a quick breakdown on the changes:
- 401(k) contributions also increased for employees and employers: Employee contribution limitations increased from $18,000 to $18,500 for 2018. The additional catch-up contribution for those 50 and older stays the same at $6,000. The annual maximum 401(k) (defined contribution) total contribution amount increased from $54,000 to $55,000 ($61,000 for those 50 and older).
- HSA contribution limits increased from $3,400 for individuals and $6,750 for families to $3,450 for individuals and $6,900 for families.
- IRA contribution limitations (Roth and Traditional) stayed at $5,500, as did the $1,000 catch-up amount for those 50 and older.
There were additional modest increases to defined benefit plans and to certain income phase-out rules. Please refer to the IRS announcement for more details here.
These accounts provide tax advantageous ways for an individual to either save for retirement or to pay for their medical expenses. If you’re looking for tax deductions, you should determine which of these accounts is best for you. Keep in mind there are qualifications and phase out rules that apply, so make sure you’re getting competent advice about which accounts should be set up in your specific situation.
by Mat Sorensen | Sep 4, 2017 | News
Do you have tuition or other college expenses due for yourself, your spouse, or your child? Would you like to use your IRA to pay for these expenses? Would you like to avoid the 10% early withdrawal penalty for accessing your IRA funds before you are age 59 ½? This article outlines how you can avoid the 10% early withdrawal penalty when using your IRA to pay for higher education expenses.
Whether you should actually take a distribution from your IRA to pay for the higher education expenses of your child is another topic. Sadly, too many parents have raided their own retirement savings to pay for their children’s college education expenses. They then reach retirement age with a sliver of what savings or retirement accounts they could’ve otherwise relied on. Everyone’s situation and goals are unique but if you have decided to use IRA funds to help pay for educational expenses here’s how you can avoid the 10% penalty for accessing your own money.
10% Penalty Exception Rules for Higher Education Expenses
Here’s a quick breakdown on how the 10% withdrawal penalty can be avoided when you use IRA funds to pay for qualifying higher education expenses.
1. Who can the IRA money be used for?
Your IRA funds may be used for qualifying higher education expenses of the IRA owner, their spouse, children, and their descendants.
2. What schools qualify?
Any school eligible to participate in federal student aid programs qualifies. This would include public and private colleges as well as vocational schools. Any school where you, your spouse, or your child completed a FAFSA application will qualify.
3. What expenses qualify?
There is a broad list of qualifying expenses. These include tuition, fees, books, supplies, and equipment. Also, room and board is included if the student is enrolled at least halftime.
4. How much is exempt?
The amount of your distribution that is exempt from tax is computed in three steps. First, determine the total qualifying expenses (tuition, fees, books, room and board, etc.) Second, reduce the qualifying expenses by any tax-free education expenses. These include Coverdell IRA distributions, federal grants (e.g. Pell grants), and any veterans or employer assistance received. Third, subtract and tax-free education assistance from the total qualifying expenses incurred and this gives you the total qualifying amount that you may take an early withdrawal from your IRA and avoid the 10% penalty.
Example
Here’s a quick example to illustrate theses rules: You’re age 53 and have an IRA you’d like to access to help cover your daughter’s education expenses. Your daughter Jane is attending Harrison University, a private college that participates in federal student aid programs.
Her expenses for the year are as follows:
- Tuition: $22,000
- Room and Board: $13,000
- Books: $1,000
- Supplies: $500
- Equipment: $500
- Total Qualifying Expenses: $37,000
Jane received the following aid:
- Federal Grant: $2,400
- Coverdell IRA Payment: $5,000
- Federal Student Loan: $10,500 (loans do not reduce the qualifying expenses)
- Total Tax-Free Assistance: $7,400
- Total Amount Eligible for a Penalty-Free 10% Early Withdrawal: $29,600
You decide to take a $10,000 withdrawal from your IRA. Since the total amount eligible is $29,600, the entire distribution will be penalty-free. Keep in mind that while the $10,000 distribution is penalty-free it is still included into the taxable income of the IRA owner.
For more details on the 10% early withdrawal exception for higher education expenses, refer to IRS Publication 970. Also, the above example presumes the IRA owner has a traditional IRA. If the IRA owner has a Roth IRA, there are different considerations and distribution rules.
by Mat Sorensen | Jul 3, 2017 | News
Every year, there is at least one case when the IRS attempts to distribute a self-directed IRA for failing to meet a single technical requirement. This common situation arises when an IRA owner uses their standard, non-self-directed IRA to purchase assets that only self-directed IRA custodians allow. This was the case of McGaugh v. Commissioner, as Mr. McGaugh owned a Merrill Lynch IRA, and requested Merrill Lynch acquire FPFC shares for his IRA. Merrill Lynch sent the funds for the purchase to FPFC, but unfortunately considered the purchase a distribution from Mr. McGaugh’s IRA, and sent him a 1099-R.
TIP: When buying non-publicly traded assets, such as private stock or LLC units, make sure that you use a self-directed IRA custodian who allows such assets to be held by an IRA.
Mr. McGaugh intended for the shares to be owned by his IRA, and in fact had them titled as “Raymond McGaugh FBO Raymond McGaugh IRA.” The shares were sent to Merrill Lynch, who refused them and attempted to send the shares to Mr. McGaugh. In the end, Merrill Lynch did not recognize the shares as assets of Mr. McGaugh’s IRA, and Mr. McGaugh was forced to dispute the 1099-R with the IRS in Tax Court. The IRS alleged that the assets were distributed from Mr. McGaugh’s IRA since Merrill Lynch, his custodian, refused the shares and sent them to Mr. McGaugh. The 7th Circuit Court of Appeals ruled against the IRS, and in favor of Mr. McGaugh. The Court ruled that Mr. McGaugh never took personal possession of the FPFC private stock, and stated that the shares were not in his personal name. Consequently, he never had constructive possession of his IRA assets and they were not considered distributed. It is important to note that had the shares been titled to his personal name (not FBO his IRA), the case likely would’ve gone the other way. Also, it is important to note that shares should never be titled in the IRA owner’s name FBO their IRA. This was presumably done by FPFC or requested by Mr. McGaugh, since Merrill Lynch refused the shares.
TIP: Make sure that self-directed assets (e.g. real estate, private stock, LLC units) are owned in the name of your IRA. The typical titling of a self-directed IRA is as follows, “ABC Trust Co. FBO Mat Sorensen IRA.”
by Mat Sorensen | Apr 11, 2017 | News
If you have a self-directed IRA with non-publicly traded assets like real estate, private stock, or an LLC interest, you’ve definitely been asked for an annual fair market valuation for the assets in your account. Why does your IRA custodian ask for this every year? Because they have to.
An IRA must report its fair market value to the IRS annually. Fair market value is reported to the IRS by your IRA custodian via IRS Form 5498. For standard IRAs holding stocks or mutual funds, those account values are automatically determined as they simply take the stock or fund price as of the close of the market on December 31st each year, and they use these amounts to set the year-end account fair market value. For self-directed accounts, such fair market values are not readily available and it becomes the IRA account owner’s responsibility to obtain their self-directed investment values so that their custodian can properly report the account’s fair market value. The value of an account is important for a few reasons. First, the IRS requires it to be updated annually. Second, it is used to set required minimum distributions (“RMDs”) for those account holders over the age of 70 ½ with traditional IRAs. Lastly, the account value is used when converting an entire account, or a particular investment or portion of the account, from a traditional IRA to a Roth IRA.
WHAT IS FAIR MARKET VALUE
Fair market value of an investment has been broadly defined by the Court as:
“The price at which property would change hands between a hypothetical willing buyer and a hypothetical willing seller, neither being under any compulsion to buy or to sell, and both having reasonable knowledge of relevant facts.” U.S. v. Cartwright, 411 US 546 (1973).
Now here’s the hard part: Even though the IRS requires IRAs to update their fair market value on an annual basis, the Government Accountability Office noted in their recent report that:
“Current IRS guidance includes NO [emphasis added] guidance or advice to custodians or IRA owners regarding how to determine the FMV [fair market value]”. United States Government Accountability Office, GAO-17-02, Retirement Security Improved Guidance Could Help Account Owners Understand the Risks of Investing in Unconventional Assets. (Dec. 2016).
The absence of guidance, however, has not relieved IRA owners or their custodians from obtaining and reporting this information. While there is no specific fair market valuation guidance for IRAs, there are commonly accepted methods of reporting value used by professionals and companies within the self-directed IRA industry. Most of these methods have been adopted from law and regulations governing employer retirement plans or estates.
METHODS TO BE USED BY ASSET TYPE
The table below outlines preferred valuation methods that are commonly used in the industry for the most common self-directed IRA assets. As you will note, when the valuation is needed for a taxable event, such as a distribution or Roth conversion, greater detail and supporting information will be required as the valuation will result in tax being due.*
| Asset |
Non-Taxable (Annual FMV) |
Taxable (RMD, distribution or conversion) |
|
|
|
| Real Estate |
Comparative Market Analysis (CMA) from a real estate professional is preferred. Some IRA custodians accept property tax assessor values or Zillow reports in non-taxable situations. |
Real estate appraisal is preferred. Some IRA custodians accept a broker’s price opinion. |
| Promissory Note |
Value of a note can be reported by calculating the principal due plus any accrued and unpaid interest. This is the valuation method used for calculating the value of a note for estate tax purposes. |
Same as non-taxable, principal amount due plus accrued and un-paid interest. For notes in default, a third-party opinion as to value is typically required in order for the note to be written-down below face value. |
| Precious Metals |
For bullion, use the spot value of the metal in question times the ounces owned. Spot value is widely reported on a daily basis on financial sites.
For acceptable coins, use market data for the coin in question via the Grey Sheets available at www.bullionvalues.com. |
Same as non-taxable. |
| LLC, LP, or Private Company Interest |
Obtain a third party-opinion of value of the LLC interest. The opinion should rely on IRS Revenue Ruling 59-60. For asset holding companies, the valuation should focus on the value of the assets. For operating companies, the valuation should focus on earnings. |
Similar requirement, but the detail of the opinion should be more significant. For example, for an asset holding company where the IRAs interest is determined by the assets of the LLC. A CMA would be acceptable for calculating that assets value in the company in an annual valuation. However, an appraisal of the real estate to calculate in that asset would be required in a taxable situation. |
Since the valuation reporting policies of custodians vary, IRA owners should make sure that they understand their IRA custodian’s policies for valuations for the assets in question.
Our firm routinely assists clients with obtaining third-party opinions of value and can assist IRA owners who need to produce a report or third party opinion as to an LLC or other investment interest held by an IRA.
* Please note that there are clearly differences of opinions on these matters, and since there is no specific legal guidance for IRA valuations, please keep in mind that the table above is based on my own industry experience and opinions. Seek a licensed professional in all instances for your specific situation.
by Mat Sorensen | Mar 28, 2017 | News
You have until April 18th, 2017 to make 2016 IRA contributions for Roth and Traditional IRAs. If you’re self-employed and are using a SEP, your deadline is determined by your company’s tax filing deadline (e.g. s-corp, partnership, or sole prop). So, if you were an s-corp or partnership in 2016, then your filing deadline was March 15th, 2017. II you are a sole prop, then the deadline is April 18th, 2017. If you extended your company return, that extension will also apply to your SEP IRA contributions. The table below breaks down the deadlines and extension options for Traditional, Roth and SEP IRAs.
| Type of IRA |
Contribution Type |
Deadline Details |
| Traditional IRA |
Traditional, Deductible |
April 18th, 2017: Due Date for Individual Tax Return Filing (not including extensions). IRC § 219(f)(3); You can file your return claiming a contribution before the contribution is actually made. Rev. Rul. 84-18. |
| Roth IRA |
Roth, Not Deductible |
April 18th, 2017: Due Date for Individual Tax Return Filing (not including extensions). IRC § 408A(c)(7). |
| SEP IRA |
Employee, Deductible |
N/A: Employee contributions cannot be made to a SEP IRA plan. |
| Employer Contribution, Deductible |
March 15/April 15th: Due Date for Company Tax Return Filing (including extensions). IRC § 404(h)(1)(B). |
|
|
|
As outlined above, you have until the 2016 individual tax return deadline of April 18th, 2017 to make 2016 Traditional and Roth IRA contributions. The deadline for Traditional and Roth IRAs, however, does not include extensions. So, even if you extend your 2016 tax return, your 2016 Traditional and Roth IRA contributions are still due on April 18th, 2017.
SEP IRA contribution deadlines are based on the company tax return deadline, which could be March 15th if the company is taxed as a corporation (“c” or “s”) or partnership, and April 15th if it is a sole proprietorship. Keep in mind that this deadline includes extensions, so if you extend your company tax return filing, you will extend the time period to make 2016 SEP IRA contributions.
by Mat Sorensen | Feb 21, 2017 | News, UBIT & UDFI Tax
The IRS recently released updated the extension rules for 990-T tax returns that are required for certain self-directed IRAs. Form 990-T is a tax return that must be filed by an IRA when it receives what is known as unrelated business taxable income (“UBTI”). For a description on UBTI and 990-T returns in general, see my prior article here.
The new rules allow an IRA to receive a automatic 6 month extension of time to file by filing IRS Form 8868. Previously, IRAs required to file a 990-T, were only allowed an automatic 3 month extension. The new extension procedures were released in January 2017 and apply to 2016 990-T returns. To claim the extension, the IRA must take the following steps.
- Obtain a Tax ID/EIN for the IRA. Generally, IRAs do not have their own Tax ID/EIN and they should not obtain one, except when a 990-T return needs to be filed. The Tax ID/EIN can be obtained at IRS.gov.
- Complete and File the Extension Request Using IRS Form 8868. The automatic 6-month extension for the filing of a 990-T is obtained by filing IRS Form 8868.
- File the Extension by April 15th. The regular filing deadline for form 990-T is the 15th day of the fourth month following the tax year (e.g. April 15th each year). Make sure the extension is filed by April 15th and keep a copy as you’ll need to send a copy with the extended return. Keep in mind, the extension to file is not an extension to pay so if you end up owing UBIT and if your IRA hasn’t made any tax deposits you may have a small amount of penalty and interest due when you later file and pay.
If your self-directed IRA investments are running into UBIT, make sure you’re reporting and paying any applicable UBIT via form 990-T to the IRS. Failure to do so can result in penalties, interest, and potentially loss of the IRA’s tax preferred status. If you’re not ready to file by April 15th, make sure you file the automatic extension request to give yourself 6 more months to file.
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The IRS announced new contribution amounts for retirement accounts in 2018, and there are some winners and losers in the bunch.
