RAMSEY (June 16, 2016) — Strategic use of an annuity distribution and a carefully timed payment strategy reduced an 89-year old woman’s potential tax liability and protected her children from incurring income tax on over $100,000 of income that would have been taxable after her death.
“After the passing of her spouse, a Regency client had made the decision to enter a continuing care retirement community,” explains Mark Reitsma, who has advised the widow about her finances for several years. “She chose a facility with an up-front, non-refundable fee, which partially qualified as an itemized medical expense on her income tax return.”
Since the entrance fee was larger than the amount that could be tax effected in one year and the client was set for a January move in date, Mr. Reitsma advised the client to split the fee into two payments–one in December 2015 and one in January 2016. This strategy allowed for a portion of the fee to be deducted in each tax year, for a considerable tax savings.
Unlike investments in stock and real estate, when annuities gain value the increase is considered ordinary income, not capital gain, making the amount subject to a higher tax rate. Considering this, Mr. Reitsma advised his client to take distributions from her annuities to pay the fee, rather than tapping into other investments which had significant unrealized gains. For his client, this income increase was offset by deducting the entrance fee to the assisted living facility.
The annuity, if left untouched by his client and passed to her beneficiaries as part of an estate, would not be subject to a step up in basis like other investments. Thus, her children would inherit an income tax liability along with the monetary value of the annuity.
“Annuities can be ticking tax time bombs,” Mr. Reitsma said. “I’m happy my client was able to make the best use of her annuities for quality medical care and protect her family from a burdensome tax liability.”