Personal Finance Archives - Page 7 of 15

The tax implications of lending to family

Posted on March 3, 2010 by Evan in Taxes

As I blogged about back on September 14th many first-time hombuyers have received gifts or loans from family members over the past year so that they can take advantage of historically low interest rates, affordable housing prices, and the government’s tax credit. The onslaught of familial generosity is great for homebuyers who would otherwise be unable to buy a home. However, I get the impression that many of the parents and grandparents who are making gifts or loans are doing so haphazardly without consulting their tax advisers. Furthermore, most mortgage professionals are not properly schooled in this topic and are not providing adequate guidance to the parties involved. As a result I foresee many people getting a surprise when it comes time to file their tax returns.

Back on September 14th I covered the gift tax rules for those who make an outright gift to others. However, I also want to cover loans.

In general loans to family members (or anyone else) are not considered gifts when a reasonable interest rate is charged. However, there are gift tax implications when “below market” or “interest free” loans are made. In this instance the IRS will require that the lender recognize the “imputed interest” as a gift to the recipient of the loan. “Imputed Interest” is the term used in the IRS tax code to describe interest considered to be paid for income tax purposes, even though the interest payment was not actually made. You can think of it as phantom interest. The imputed interest is included in the lender’s income even though the lender did not receive any money. Furthermore, the lender is also considered to have made a gift to the recipient in the amount of the imputed interest. If the funds are used as acquisition indebtedness to purchase a home then often times the recipient will be able to deduct the imputed interest as mortgage interest even if they didn’t actually pay it.

Imputed interest is based on the loan amount and is calculated by taking the difference between the actual interest collected on the loan and the “Applicable Federal Rate” (AFR) which is the rate the IRS deems as the market rate. AFR can be accessed at this link and varies depending on the term of the loan.

If a loan was for $10,000 or less then there is no imputed interest and no gift tax implication.

If a loan amount of $10,0001-$100,000 is made then the imputed interest is the lesser of the net investment income of the recipient in that year (if the recipient’s net investment income is less than $1,000 then imputed interest is deemed to be $0) or the difference between the actual interest collected and the AFR.

If the loan amount is in excess of $100,000 then the imputed interest is the difference between the actual interest collected and the AFR.

It is always wise to discuss your gift giving or generous loan plans with a tax adviser or estate planner before writing the checks. There is significant flexibility in the gift and estate tax code to allow most households to escape tax liability but it may require some careful planning.

Types of Property Ownership

Posted on February 17, 2010 by Evan in Home Purchase

I’m in the midst of the Estate Planning module in my financial planning curriculum and we are currently studying types of property ownership. Since this is an important piece (although often overlooked) of buying and holding real estate I thought I would provide a quick run down of the various types. I need to warn you that I am not a lawyer and am not licensed to practice law so seek qualified legal counsel if you are wondering how this applies to you.

*Fee Simple Ownership: This type of ownership implies complete ownership of property by one individual who possesses all right associated with ownership of the property, including right to use, sell, gift, alienate, convey, or bequeath the property. Upon death the property will transfer via the decedent’s estate via will or probate.

*Tenancy in Common: This is ownership held between two or more related or unrelated parties that can be of equal or unequal proportions (i.e. 50%/50% or 25%/75%). Each parties ownership is undividable but may be conveyed without consent of other interested parties. Upon death of an owner usually 100% of the value of their fractional ownership is included in their estate and transferred via probate or will.

*Joint Tenancy: This form of ownership is similar to Tenancy in Common in that it is held by two or more related or unrelated parties, is undividable, and may be transferred freely without consent of other joint owners. However, under Joint Tenancy their is usually an automatic transfer of interest to the surviving tenants upon death. Therefore, it is commonly referred to as Joint Tenancy with Rights of Survivorship or “JTWROS”. The value to be included in the decadents estate is based on the current fair market value but is pro-rated based on the original contribution the decedent made to acquire the property. This form is often used between related parties.

*Tenancy by the Entirety: This form of ownership may only occur between two spouses and is similar to JTWROS. The difference with this form of ownership is that one spouse’s ownership interest may not be transferred without the joint spouse’s consent. Upon death of one spouse 50% of the fair market value of the property is transferred to the spouse automatically. The surviving spouse retains their adjusted basis on their 50% ownership interest regardless of contribution when the property was acquired.

*Community Property: This is a statutory regime in which married individuals own an equal undivided interest in all property accumulated during their marriage. Property acquired before the marriage union and/ or inherited by one spouse is not considered community property. Community property cannot be transferred without consent from both spouses. Upon death community property is not automatically transferred to the surviving spouse because it is transferred through will or probate. Community property has special “stepped up basis” rules in which the surviving spouse receives a “stepped up basis” for their 50% ownership interest AND the inherited 50% interest. The community property statutory regime only applies to Louisiana, Texas, New Mexico, Arizona, California, Idaho, Washington, and Wisconsin.

How to Opt Out of phone, mail, and phone books

Posted on February 5, 2010 by Evan in Personal Finance

If you’re like me then you don’t appreciate junk mail, phone solicitations, and receiving big bulky phone books that immediately get tossed in the recycling bin. Here’s how to opt out of each:

Phone solicitations- Click HERE.

Credit solicitations via mail- Click HERE.

Phone book delivery (Dex)- Click HERE.

1. go to www.dexknows.com

2. click on the link at the very bottom that says “select your dex”

3. enter your zip code

4. read through your Dex options and click through to your personal options page

5. enter your information and make your selection for personal delivery (you can receive between 0 and 3 of each kind of phone book at your house).

6. you’re done!

Does the Roth conversion make sense for you?

Posted on January 15, 2010 by Evan in Saving-Spending

I am not a wealth manager or retirement planner but I do have a passion for personal finance and as I’ve mentioned before on this blog I am currently enrolled in an Executive Certificate in Financial Planning class at the University of Portland Pamplin School of Business.

I am currently in the middle of our retirement planning module learning about qualified benefit plans, IRA’s, 401(k)s, etc.. One of the big questions in the retirement planning community this year is whether or not it makes sense for a traditional IRA owner to convert their account to a Roth IRA.

In the past this option was only available to households with adjusted gross income’s <$100,000. However, this year it’s available to anyone.

The NY times published a good summary of the decision making process here. By coincidence, my investments module professor is quoted near the end of the story.

If you are thinking about converting I would encourage you to read the article.

Factoring inflation into investment returns

Posted on December 28, 2009 by Evan in Investing

The WSJ ran this article today on WSJ.com. I can’t tell if the author is trying to employ scare tactics or is genuinely trying to educate investors. The thesis of the article is that when you factor in inflation to the returns of the Dow Jones Industrial Average the results are not as attractive.

This seems fairly obvious but it is an important concept in making calculations used in financial planning. For example, if a person is trying to calculate how much they’ll need to invest each month in order to have enough to retire they not only need to consider how much they’ll money will grow but they also need to factor in the impact of inflation. This is accomplished by using the “real return” instead of the “nominal return” or “average return” as the expected rate of return for the calculation.

Here’s how real return is calculated:

real return= (((1+r)/(1+i))-1)*100

where r=expected nominal return, i=expected inflation rate

For example, let’s assume the expected return on an investment is 9.00% and expected inflation is 4.0%:

real return=(((1+.09)/(1+.04))-1)*100=4.81%

In this instance the investment is expected to grow at a 4.81% annual rate after adjusting for the impact of inflation. It’s important that investors use reasonable assumptions because it will have a tremendous impact on the end result.

Give the gift of homeownership & philanthropy

Posted on December 18, 2009 by Evan in Philanthropy

The other day my wife shared with me a great story about a college student who borrowed $10,000 from her parents to pay for college expenses. Much like a bank provided student loan the student was expected to begin repayment after graduation. After the student graduated and it was time for them to begin repaying the loan her parents decided to use the repayment period as an opportunity to teach their daughter about the importance of philanthropy in the community. Instead of having their daughter make payments to them they had her make the scheduled payments to the college endowment.

When my wife shared a cup of coffee with the daughter in this story she found out that the daughter not only continued to make regular contributions to the college after the $10,000 was repaid but actually went to work for the college development office as well.

In hearing this story I couldn’t help but think about all the first-time homebuyers who are currently receiving monetary gifts from family to make a down payment. I know that in order for these transfers of money to be “qualifying gifts” that no expectation of repayment can exist. However, I suspect that many of these family gifts may come with informal repayment programs even if the lender never finds out about it.

That said, for parents who are in a financial position to offer such an arrangement I think it would be a great way to not only help a child purchase a home but to also leave a legacy of giving back to the community.

Enrolling in Medicare or helping someone else with this task?

Posted on November 15, 2009 by Evan in Insurance

Brent Hunsberger of the Oregonian wrote this piece for the paper today. It is a great guide for preparing you for the process.

Jeremy Siegel makes compelling case for stocks

Posted on November 12, 2009 by Evan in Investing

I had the pleasure of sitting in on a lecture yesterday by Dr. Jeremy Siegel (Thanks Gavin!). If you’re not familiar with Dr. Siegel he is a professor, economist, author, and all around expert on the stock market. He has degrees from Columbia University & MIT and has taught at the University of Chicago & the Wharton School of Business. He is probably most famous for writing a book called Stocks for the Long Run.

In his talk yesterday Dr. Siegel made one of the most compelling cases for stocks that I’ve heard in today’s market. He had a lot of interesting points. Here are my cliff notes from his presentation:

*If an investor would have invested $1 in 1802 and “let it ride” until today in the following asset classes here is what that $1 would be worth today (note: this is inflation adjusted, assumes dividends/ interest are reinvested):

Stocks: $495,522 (6.6% annual inflation adjusted return)
Bonds: $1,295
T-bills: $302
Gold: $2.69
US Dollar currency: $.06

Based on Jeremy’s research he believes that the S & P 500 has another 25-30% rally before it gets back to the 1802-2009 trend line (the regression of returns over those 200+ years).

*Dr. Siegel predicts that inflation in the US economy will remain tame for the next 2 years but creep up to 4-5% by 2012.

*He is predicting that the Fed will begin raising short-term interest rates in the Spring of 2010.

*He forecasts 4-5% GDP growth for the 4th quarter of this year.

*He expects the headline unemployment rate to increase even though the economy is improving as we head into 2010. Why? The current unemployment rate of 10.2% is based on people currently looking for work who can’t find it. As job prospects improve with the economy more discouraged workers (those who are unemployed but NOT looking for work and not counted in the 10.2% rate) they will reenter the jobs market but companies will be slow to rehire. As a result, the unemployment rate will rise. This is not a bad sign.

*Dr. Siegel pointed out that with low home prices and low interest rates home affordability is at an all-time high.

*He is bullish on emerging markets such as China & India. He thinks that a stock portfolio allocation of 30%-60% in foreign stocks is NOT out of line.

*Lastly, he is not surprised to see the US Dollar weakening. Before the financial crisis the US dollar was at all-time lows versus foreign currencies (summer 2007). With the crisis investors sought safety in the US Dollar driving it up from 2007-2009. However, as the economy improves investors are accepting greater risk which means the Dollar is reverting to the levels of 2007.

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