Episode 9 – Upside Insights: Estate Planning Tips with Justin Buddy Arce

Wealth Manager, Justin Buddy Arce, RICP®, NSSA®, from NWF Advisory, is back to give us expert estate planning tips on avoiding probate and estate taxes.

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Jessica: Welcome everyone and thank you for joining our Upside Avenue Educational Webinars Series. This series is developed with your input. We surveyed our investors and followers to find out what financial investment topics everyone is interested in learning about, and then we provide-then we look for subject matter experts all over the world in order to provide you with the investment and financial knowledge that you can-you need to be able to make confident decisions with your financial and investment decisions. And we do this in hopes of providing you with knowledge and confidence to discover your Upside. So, watch your email for information on our next webinar and we’ll also share that on our social media channels. So, today we have an absolutely fantastic guest speaker who is no stranger to sharing his knowledge in the finance and investment industry. He has spoken at various career centers and business clubs on financial wellness and literacy, and he’s been around for a while. He’s been a financial advisor since 2010 and he specializes in wealth management and wealth transfer. He enjoys being an independent advisor, particularly in helping his clients reach their financial goals through comprehensive and holistic advice and when he’s not helping his clients, Justin can be found caring for his new pandemic pump-puppy named Pumpkin. So please help us give a warm welcome from NWF Advisory Group, our guest speaker and friend Justin Buddy Arce. Justin, welcome again. Thanks for joining us.  

Justin: Yeah, thank you for having me and thank you for the well-warm welcome. I appreciate it Jessica. I hope everyone is doing well. You know, happy afternoon. Happy morning. Good morning for everyone that’s sitting in today and we’re going to go ahead and be covering information on estate planning. Today, we’re going to go through tips and tricks, talk about how to minimize Uncle Sam’s share, but before we jump into the information, just want to let you guys know that I’m going to do my best to monitor questions along the way. I want it to be as interactive as possible, so, if you have questions, please don’t hesitate to ask them along the way, and if we don’t get to any during the presentation, will open up to Q&A at the end. So, we’ll start off with a couple of polls to get our brains warmed up here. So, go ahead and answer a question. Having a will keeps in the state from passing through probate. Is that true or false? I’m going to give you guys some time to answer that. Alright, I’ll give you 5 more seconds for some more answers to come in. Three. Two. One, alright we’re going to go ahead and ned that poll and share the results. And it looks like the majority of people got that correct. That is false. Having a will, will not keep in a state from passing through probate, and if you’re not too sure what probate is, we’re going to cover that a little bit later. It’s gonna go through a second question. And this question is going to be centered around a trust. And the question here is everyone needs a trust: true or false? 

Going to wait a little while for people to submit their answers. Gonna get five more seconds. Five. Four. Three. Two. One. Alright, looks like a majority of people got that correct too and I guess it depends on how you view this, but false. Everyone does not need a trust. We’re going to cover some of the scenarios today where-where someone might need to trust someone might want to think about it, but that is false. Everyone does not need a trust. Alright last question. And then we’re going to jump into some good information centered around estate planning this is going to be centered around and an inheritance. And so here we have a wealthy man dies and leaves behind $9 million. His wife is to get a third. His son is to get a third and his Butler is to get a third. What does each get? Is the answer 2 million, 3 million, 4 million? So again, a wealthy man dies and leaves behind $9 million. His wife is to get a third. His son is to get a third and his Butler is to get a third. What does each get? Is a 2 million, 3 million or 4 million? Will get five more seconds. Five. Four. Three. Two. One. Alright and share the results. Alright, so sorry guys it’s actually a little bit of a trick question. What each of them gets is a lawyer, so that’s the joke in itself, you know. To make light of a heavy situation, you know they say where there’s a will there’s a way, but when it comes to a estate planning where there’s a will, there’s 500 relatives, so, let’s talk about estate planning and-and what-what exactly is the state planning? Alright, so a estate planning can be summed up into three prongs of a stool, so to speak, and the first prong is going to be the management of personal financial affairs, so, here we take a look at having things like a living will power of attorney, health care directives, etc. The second prong of a estate planning is the distribution of wealth, and here we’re taking a look at having the proper registrations of accounts, making sure that beneficiaries are updated and that we have the right types of trust documents if they are needed. 

And also to help mitigate taxes. Thirdly, and probably most importantly, just my personal opinion would be the avoidance of probate. Now keep in mind that today’s information in education is not to be a recommendation as to what you should do, but this should just be education for your knowledge. You would want to take this information and speak to a law professional and how that may apply to you. But when we talk about probate and the avoidance of it, I think we have to understand what probate is. And the definition of probate is the proving of a will. So, the process of probate is an actual proving to the courts on what to do with someone’s estate, especially if they don’t have a trust. Keep in mind that when someone goes through probate. It makes the process public record so people can know. In addition, when someone goes through probate, there are costs associated with it that are specific to the state that you reside in, but a good rule of thumb is that probate generally costs between 4 to 7% of someone’s gross estate, so, to put that in perspective, I know a lot of people on the webinar today are in Texas. But to give you a California example, probate is somewhere around 4%. It’s on the gross value of an estate. So, let’s say someone owns a home and that home is worth $500,000, but they have a mortgage on it for $300,000. Let’s say they pass away. They have a kid, the kids going to inherit the home. Probate tax is going to be owed on the full 500,000, not the 300,000. So, it’s a 4% probate tax on 500,000. That’s $20,000 in probate taxes in addition to whatever attorney fees that there may be. This probate tax has to be paid before the house is inherited and also has to be paid in a short term timeframe, usually somewhere between 6 to 9 months. So, one of the first tips is that when someone has real estate or significant amount of assets, might want to consider having a trust, but not everyone needs a trust. So, before we get into the conversation of having their trust, we start with registration of accounts and registration of accounts can be done a number of different ways. 

One of the most common ways is joint ownership of accounts, so these are going to be for accounts that don’t sit in retirement accounts, so, these would be non-retirement brokerage accounts. There are a lot of different types of joint ownership out there. There’s Community property. There’s with rights of survivorship. There’s tenants in common, each one kind of has their own uniqueness to it in terms of how that money is going to pass to a surviving joint owner, and then also how taxes will be implemented on that money once it’s passed. Will it get a half step up basis or a full step up basis? And if you’re not sure what stepped up cost basis is, don’t worry. We’re going to cover it in two slides. But keep in mind that every state is different, so depending on the state you reside in will determine what type of joint ownership you should have on account, especially if you’re married or have a partner. Other types of registration of accounts to help avoid probate would be POD’s or TOD’s. These are payable on death accounts and also transfer on death account. So, the most common types of payable on death accounts are bank accounts. Checking, savings, money market CDs, those types of things and then also 401k’s and IRA’s. And with these accounts you want to make sure that beneficiaries are updated. You have a date of birth, you have a Social Security number and in most cases if that information is updated, that should pass down to your beneficiary and avoid probate. For accounts that don’t sit in retirement accounts so you can register these accounts as a transfer on death, which is an additional registration which should also help avoid probate if it’s not a significant amount of assets where a good rule of thumb here will be about $100,000 where someone doesn’t have a trust and they have accounts worth under $100,000, they want to slap a transfer on death registration onto it to help avoid probate. If there’s significant assets, 100,000 or more, may want to consider registering that account to a trust. So, again, before we get into trusts, let’s go through some examples of what stepped up cost basis is and why it’s important to understand is your account going to give you a half step up or a full step up? Because depending on this will determine how much in taxes is owed. If someone inherits an investment and goes to sell that investment. And again we want to help minimize Uncle Sam share as much as possible. So, let’s go through an example of someone paying $100,000 for an investment. And on the day of their demise, the market value of that investment is $500,000. 

This investment could be anything. Let’s say it’s a real estate property. Let’s say it’s a stock. Let’s say it’s a mutual fund, but they paid 100,000 for it. It’s grown to 500,000, and now let’s say that that account is registered as joint ownership. Now, depending on the type of joint ownership and depending on the state this person is going to qualify for, whoever surviving in 1/2 step up or full step up. So, if we focus on the left side and go through. Half step up. First, let’s say a partner passes away. They’re going to get a half step up in basis, which is going to be the original cost basis of 100,000 added to the market value of the day of demise of the partner that passed away. That total 600,000 divided by 2 ’cause there were two owners. The new half step up basis is $300,000. Now let’s say that that investment goes to be sold. If the step up basis is 300,000, it’s worth 500,000. That’s growth of $200,000. That’s going to be taxed as a short term or long term capital gain, depending on how long the investment was sold after the day of death. If it’s under a year that will be taxed as a short term capital gain and be taxed as income. If it’s over a year, it will be taxed as a long term capital gain and in most cases is the lower tax rate than income tax. Now on the right side, if someone gets a full step up basis. As the title says it in itself. It’s a full step up, so, let’s say a partner passes away. Original cost basis was 100,000. The market value on day of death is 500,000. The new step up basis for the surviving partner becomes $500,000. It’s the market value on the day of death. Now if this individual goes to sell the investment, there is no growth. If the market value is 500,000 because their cost basis is 500,000. So, we can see that the difference between half step up and full step up cost basis is taxes owed on $200,000 in this specific scenario. Now, other ways to avoid probate is to have a trust, right? So not only to avoid public record, but to also avoid the emotional burden and the financial burden of going through probate. Having trust can also help manage estate taxes and understanding that if someone has a large estate in the year 2020, so current year, the exemption on an estate that can pass down tax free is 11,580,000. Anything over that dollar amount is assessable to up to a 40% estate tax. So, then that brings in a conversation. If someone’s going to own an estate tax, does it make sense to utilize something like an irrevocable life insurance trust to help pay a 40% of state tax on anything over? It’s something to kind of just plant the seed on, and we’ll cover a little bit more in depth in a couple of slides as well. Other things that take into consideration when it comes to creating a trust is whether you have kids or someone who’s dependent on you that special needs, because that’s a whole other conversation in itself, and making sure that your wishes are sought out. If someone is going to be considering doing charitable gifting, charitable donating does a charitable gift trust makes sense? But back to estate taxes and the size of someone’s estate. And what is state taxes can mean at the end of the day, let’s go through a quick example. And let’s say that a couple has an estate valued at $13 million. That’s the gross value of their estate. They both pass away. The maximum exemption today is 11.58 million. Their overages 1.42 million so there 1,420,000 over the exemption. That’s going to-that overage is going to be [unsure what is said] to a 40% estate tax. 40% of 1.42 million is an estate tax of $568,000 which is a lot of money and that money’s got to be paid before assets are then dispersed. Keep in mind this brings in another talking point of double taxation, because in these types of scenarios when someone has this large of an estate, usually the first asset that becomes liquid and accessible are POD accounts and the most common type of POD accounts payable on death are going to be retirement accounts. Because they don’t have to pass through probate, they’re usually the first available assets someone has access to. So, if someone touches retirement money to help pay an estate that acts. Well, then they’re paying taxes to only pay taxes because to provide yourself $568,000 in tax free money from a taxable retirement account. Someone would have to liquidate $1,000,000 account. Because 40 to 50% of its going to be lost in the form of taxes. So, it’s something to keep in mind. We want to try to avoid double taxation as much as possible and to better understand taxes. We’re going to go through a quick review and how taxes affect someone’s monies as it grows. But then also when it passes down and this slide probably looks familiar to you. If you’ve sat in on the webinar on how to invest more tax efficiently. 

So, when we look at investment, the investment world as a whole, there are tons of investments out there. But we can try and simplify taxes for all these different investments in three different categories and how someone pays taxes on their investments. They can either pay taxes along the way, they can defer taxes until later, or that money can grow tax advantage. So, in the taxable bucket. Here money goes in after tax money will grow taxable so someone gets a 1099 each year to pay taxes on that growth. Dividends capital gains. When they pull money out money is then going to be taxable if there is a capital gain or there could be a capital loss, but we’re assuming gain here. The second bucket is the tax deferred bucket, so, this is where money goes in. Pre-tax money grows tax deferred and then once money is taken out it’s fully taxable. So, examples here are going to be like someone’s 401K. Their IRA 403b, those types of vehicles. Where is the taxable bucket. This is going to be non-retirement vehicles such as brokerage accounts, banking accounts, those types of vehicles. Third and last bucket is going to be the tax advantage bucket where money goes in after tax money grows tax deferred, but money comes out tax free, so, examples here would be Roth types of vehicles. Roth IRA, Roth 401K municipal bonds, educational savings accounts, and maybe even cash value life insurance. So, we look at how someone can pay taxes: they can pay taxes along the way, defer them until later, or have money grow tax free. One of the most popular ways, and one of the best ways to accumulate money is through the tax deferred process because someone gets tax deferred compounding growth, we can help exponentially grow someone’s money. But when we take into consideration how that money passes down, if you notice at the bottom of the screen we add an additional row here. 

Well, with the taxable bucket someone will get stepped up cost basis and as we mentioned before, stepped up cost basis can be halfway or full way depending on the registration of the account. In the tax deferred bucket, monies are fully taxable and something else to throw in here in December of 2019. So, just this past December, the Secure Act passed and with the Secure Act passed it added an additional rule to passing tax deferred monies down. So, IRAs, 401Ks. Where prior to 2019, if someone inherited an IRA or 401K, they used to be able to stretch out payments for their entire life to help ease the tax burden. Now the federal government says that you have to pay taxes within a 10 year timeframe, so, it shortens the amount of time that someone has to pay taxes, which actually hurts this bucket when it comes to passing money down. Tax advantage will all pass tax free, so, as we mentioned in the prior slide, one of the best ways to accumulate money is through tax deferred growth. One of the most hurtful ways to pass money down to the next generation is through tax deferred growth. The more appropriate buckets might be the taxable income tax advantage bucket, so, it brings up a conversation of maybe rearranging buckets as time goes on. Someone gets through retirement and then they’re now looking at that estate planning process. So, I’ll pause there, and before I go ahead and cover these concepts, take a sip of water and see what questions have come up so that we can start to get to those. 

Jessica: Great. Justin, I still can’t see the questions like any questions that pop up in the Q&A window, so, I’m going to rely on you to look at the questions and it doesn’t look like any questions have come up yet, so, we’ll go ahead and put that down as you guys are formulating your questions. Have a few more things to go through. Yeah, I mean that’s-that’s a lot of information there and some other estate planning concepts that are out there would be through the forms of gifting. So, some other things to keep in mind when someone is going through the estate planning process is that they are able to gift up to $15,000 a year without incurring additional taxes. They can even sum of five years worth of gifting once every five years so they can total 75,000 of gifting once every five years. So, let’s go through an example to better understand this, let’s say myself and my wife have two kids and we’re going through the estate planning process. We want to start giving money to our kids so that way they can enjoy it while we’re alive. Well, I can give 75,000 per child and my wife can give 75,000 per child. We can gift up to $300,000 to our to two kids jointly once every five years, so, it’s a good way to maybe start thinking about how to get money out of someone’s in estate, especially if they’re going to be assessable to probate or estate taxes. We talked about a state taxes, you know, one of the problems with people that have large estates and when they’re over the exemption is that life insurance traditionally gets counted as an asset where life insurance is supposed to pass down tax free. One of the exemptions, and when it doesn’t pass down tax freeze when someone is over the estate tax exemption. So, one of the ways to help leverage life insurance to pay a state tax and make sure that that death benefit is still tax free. They can remove the life insurance from their estate, put it in a separate trust through the form of an irrevocable life insurance trust, which is also known as an ILIT. So, that way they can use tax free dollars to pay an estate tax. On that same note, there are such things, such as Second to Die Policy’s where life insurance traditionally covers one life well, second, to die policy. As it sounds, it pays out when the second dies. 

So, this is great for couples that maybe also looking for a different way to help pass down tax free monies to help with the state planning settling. Other ways could be through charitable gifting, charitable donations, and one of the unique ways of someone’s already planning on giving to a charity already and they want to reap some of the benefits while they’re alive and give to charity while they’re alive well with retirement accounts, at age 72, it used to be age 70 1/2, but now at age 72 because of the Secure Act, if someone doesn’t need money that is within their retirement accounts, that’s when Uncle Sam says, hey, you have to start pulling money out through the form of required minimum distributions. They have to start taking distributions and add that to their taxable income. Well, if someone wants to give to a charity, they can funnel that money. They can use some of that RMD, give it to a nonprofit to a charity or even funnel it through a life insurance to provide a leverage dollar amount to pass down tax free to the charity. It qualifies for their RMD amount and they don’t have to claim that for income so, it satisfies RMD and they don’t add additional income to their taxes. So, if someone is planning on doing charitable donations, it’s a unique way to do what’s called a QCD from your RMD, which is a qualified charitable donation trip-qualified charitable donation from your required minimum distribution. That’s a mouthful, so, these are just a few concepts to then start to piece together. What are some of the different ways that we can do multi-generational planning and there’s a lot out there. So, in summary. We want to avoid probate as much as possible to avoid costs. It’s going to be dependent on your state. Try to avoid public record. Have trust where it’s appropriate, so, then that way your wishes are sought out. But most importantly, probably use a professional team utilizing a state attorney, a CPA, a financial planner, and get all these individuals planning together. Because if you’re going through the estate planning conversation, you’ve probably worked very hard to accumulate what you have. You don’t want to make sure that you keep it as whole as possible. It goes to whom you want and we minimize Uncle Sam share as much as possible. So, I’ll go ahead and pause right there and see if any questions have come in. Alright, so we got a question here says if an inherited IRA was inherited 10 years ago, do the new rules apply? Very good question and the answer is no. The new rules do not apply, so, you’re grandfathered in, so to speak, so, the Secure Act will only affect IRAs that are inherited after December of 2019. Very good question. Thank you for-for asking that. Go ahead and wait a couple more minutes to see if any other questions come up. Alright, well I don’t-I don’t see any other questions coming up – 

Jessica: Well, I have a question, Justin. When it comes to QCDs and using that into RMD’s, What-what qualifies as a tur-the QCD? Are there certain charities that don’t qualify or— 

Justin: Very good question. Yeah, most cases has to be 501c3, so, they them self-qualify for the tax exempt status. Very good question. Alright, so no other questions. I mean, I guess I’m going to turn it over to Jessica. You guys are more than welcome to reach out to me with any questions. I’m usually available by phone, email if I don’t get back to you: I’m usually really responsive within one to two business days. 

Jessica: Yeah, this is really great information. Justin, I know I-I have to digest everything too, but thank you again for coming and sharing your knowledge and providing some really helpful tips to our listeners with their estate planning and making sure it says as tax efficient as possible. And thank you to our listeners for joining us. If you’d like to contact Justin, we’ve shared his contact information on the screen. So, let us know how helpful this content was by taking the survey that you’ll see pop up at the end of today’s session. And also let us know if there are any other financial or investment topics you’d like us to cover. And will go and find subject matter experts like Justin who can speak on these topics because it Upside Avenue we’re committed to helping you live your Upside. So, watch your email for next month’s webinar. Will also share recording of this webinar and we invite you to also follow us on our social media accounts: Facebook, Twitter, LinkedIn and now Instagram for the latest industry news and insights. So, discover your Upside with Upside Avenue through our non-traded rate you can enjoy the benefits of real estate investing for as little as $2000 and you can visit our website upsideavenue.com. Send us an email or call us with any questions. Thank you again everyone for joining us. Stay safe and see you next time. 

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