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November 22, 2023 at 04:20 PM
What You Need to Know
- Some people do enjoy paying extra taxes.
- Most do not.
- Thoughts about tax bills could affect long-term care planning strategy.
Question 1: From a financial planning perspective, which is the better option: Buying a long-term care policy or self-funding that expense?
Question 2: When you gave that answer, did you consider the tax consequences for the cost basis, which is the original price paid for an investment?
Answer: Planning ahead by buying a long-term care policy means your client doesn’t have to worry about which accounts to spend down and which to preserve, or about the capital gains implications.
Fritz Ehrsam, a financial advisor in Bel Air, Maryland, handles this issue by asking his clients to think about these questions:
- What are the tax consequences if you need to pull money out of your brokerage account to pay the thousands and thousands of dollars for a long-term care event?
- What happens to the taxation of your taxable investments as a result of the potential future step-up in basis?
If a long-term care policy is providing a stream of income, there should not be a need for forced investment liquidations to cover care expenses.
“If my clients can keep their money invested and not have to liquidate it to pay for their expenses, it means that long-term gains continue tax-deferred, with an opportunity for beneficiaries to receive a stepped-up cost basis,” Fritz told me. “And it may eliminate that capital gains tax.”
This step-up in basis can effectively make gains during the original owner’s lifetime tax-free for heirs.
Consider these situations:
Scenario 1: Joe, now age 85, has $1 million invested in the stock market.
Joe needs long-term care now. He did not buy a long-term care insurance policy when he was younger. His care expenses are now $100,000 a year.
To pay for this, Joe needs to liquidate some stocks.
By selling the stocks at this time, he’s facing a significant potential capital gains tax.
The question to ask is: When Joe was younger, and he could have bought long-term care insurance, would he have really preferred to give the government up to 25% or 30% of the proceeds from the stock sales?
Scenario 2: Joe has $1 million in an IRA.
