November 28, 2012

What HNW Familes Can Do Before Taxes Shoot Up

Wilmington Trust offers strategies on wealth transfer, investment and tax planning

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If you had any thoughts of selling your stocks between now and 2017, doing so within the next month may be strongly advisable from a tax point of view, says Wilmington Trust.

That is because it would take a minimum five-year holding period to outpace the advantage of today’s 15% capital gains rate, says the century-old wealth advisory firm founded to manage the DuPont family fortune in a year-end report.

The report’s authors, trust attorney Carol Kroch and financial analyst Sam Fraundorf, note that central bank intervention in financial markets has not only produced low inflation-adjusted returns, but has also narrowed return differences among asset classes–a trend they expect to persist.

But while the final results of current fiscal cliff negotiations in Washington remain unknown, the upward direction in tax rates is a certainty.

“… If you have been waiting to better position your investments, now is the time to make those improvements, since we do not think it will ever be cheaper from a tax standpoint to do so,” Kroch and Fraundorf write.

Without a legislative fix, capital gains taxes are scheduled to rise from 15% to 20%; the tax on dividends will rise from to 15% to as high as 39.6%; the highest rate on income tax will rise from 35% to 39.6%; and the wealthiest taxpayers will pay an additional 3.8% rate on income tax and 0.9% on wages and self-employment income.

For those reasons, the Wilmington Trust report suggests that, generally speaking, high-net-worth clients will benefit from both realizing gains this year and deferring deductions until 2013.

But the report stresses that individuals need to “run the numbers,” particularly since an itemized deduction phase-out for high-income earners is expected to be reinstated in 2013.

Not only will that rule limit the value of common deductions, but fiscal cliff negotiators are considering additional measures to cap deductions, such that deductions, unexpectedly, could have greater value to wealthy Americans this year than next.

The report also points out that accelerating income into 2012 will have the advantage of keeping some affluent individuals from falling under the new investment income surtax that kicks in in 2013 for families earning $250,000 or more.

The report’s authors also highlight estate-planning issues and opportunities in the coming year, noting that in the remaining weeks of the year, a married couple still has the ability to transfer up to $10,240,000.

Barring congressional action, the current individual exemption of $5.12 million will drop to $1 million and the highest estate tax rate will rise from 35% to 55%. Kroch and Fraundorf therefore advise affluent households motivated to give to consult with legal experts on the appropriate gift (Delaware dynasty trust versus a QPRT, for example) and with investment experts on how best to fund the trust (i.e., which assets have the greatest appreciation potential).

Because of the time involved in estate planning, the report’s authors advise clients to finalize any trust documents by early December.

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