What Advisers Should Know about Education Planning · benefit planning purposes (spousal benefit...
Transcript of What Advisers Should Know about Education Planning · benefit planning purposes (spousal benefit...
What Advisers Should Know about Education PlanningPresented by:Ross A. Riskin, CPA/PFS, CCFC
Personal Financial Planning Section
Tax | Retirement | Estate | Risk Management | Investments
Today’s Speaker
Ross A. Riskin, CPA/PFS, CCFC
• Assistant Professor
The American College of Financial Services
• Vice President
Riskin & Riskin, PC
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Relevant Updates from TCJA
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Updates from TCJA
• Tuition and Fees Deduction
– No structural changes. This deduction was extended for the 2017 tax year and is
set to expire in 2018 unless it is extended again in the future.
• Student Loan Interest Deduction
– No structural changes
• American Opportunity Tax Credit
– No structural changes; permanently extended
• Lifetime Learning Tax Credit
– No structural changes
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Updates from TCJA
• Distributions from Coverdell Education Savings Accounts (CESA)
– No structural changes.
• Distributions from US Savings Bonds
– No structural changes
• Distributions from ROTH IRAs
– No structural changes
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Updates from TCJA
• Deductibility of Home Equity Indebtedness Interest
– No longer deductible as an itemized deduction for taxpayers
– Reduces effectiveness of using HEL, HELOC, or proceeds from cash-out refinance to pay
college costs or pay off existing federal/private student loans
• Death or Disability Discharge of Student Loan Indebtedness
– Amounts discharged after 12/31/2017 will not be included in gross income of the borrower
for federal and state income tax purposes
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Updates from TCJA
• Distributions from Qualified Tuition Programs (529 College Savings Plans)
– Can be used to pay for Qualified Higher Education Expenses at eligible
institutions
– Eligible institution must participate in the Federal Student Aid program
– Tuition, Room and Board, Books, Supplies
– Can now also be used to pay for public, private, or religious elementary or
secondary school tuition
– Up to $10,000 in the aggregate per year per beneficiary may be treated as a
qualified distribution
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529 College Savings Plan Example
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Conor Sarah Michael
Grade 5th 7th HS Freshman
Type of School Private Private Private
Tuition Expenses $6,500 $9,000 $18,000
529 College Savings Plan Distribution $7,500 $9,000 $18,000
Qualified Distribution $6,500 $9,000 $10,000
Non-Qualified Distribution $1,000 N/A $8,000
Potential Issue with 529 College Savings Plan Changes
• Need to see if client still plans on using funds for college or wishes to use them earlier
• May need to reconsider age-based portfolios if the family plans on using funds to pay for
pre-college education expenses
• Already limited to two investment changes per calendar year
• Prediction: more accounts will be depleted before the students enroll in college
– Difficult for people to plan for the future when current obligations are expensive
– More people are questioning the value of a college degree
– Many still believe saving will ruin their chances of receiving financial aid
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Financial Aid for Business Owners
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Concept of Financial Need
• COA – EFC = Financial Need – Resources = Adjusted Financial Need
– $65,000 - $25,000 = $40,000 - $2,000 = $38,000 Adjusted Financial Need
• Expected Family Contribution (EFC)
– Student’s Contribution + Parents’ Contribution = Expected Family Contribution
– Federal Methodology (FAFSA) and Institutional Methodology (CSS Profile)
– Parents’ Income (FM): 22% - 47% (Taxable and Untaxed; Allowances Available)
– Parents’ Assets (FM): Up to 5.6% (Allowances Available)
– Student’s Income (FM): 50% (Taxable and Untaxed; Allowances Available)
– Student’s Assets (FM): 20%
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Assessment of Business Net Worth
• Federal Methodology (FAFSA)
– Net worth of family-owned businesses with :
– fewer than 100 employees will not be assessed
– greater than 100 employees will be assessed
– Net worth of non-family-owned businesses will be assessed
– Family-owned = > 50% in the aggregate of all related persons (parents, kids, cousins, etc.)
– Net worth = What the business could be sold for today – debt owed on the business
– IRS Quick Sale Value Method allowed (20% discount)
– Combination of asset approach, market approach, and income approach
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Assessment of Business Net Worth
• Federal Methodology (FAFSA)
– Assessed even more favorably than other assets
– Business with a net worth of $250,000 would be adjusted to $112,000
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Assessment of Business Net Worth
• Institutional Methodology (CSS Profile)
– Net worth of family-owned and non-family
owned businesses will be assessed
– CollegeBoard Business/Farm Supplement
may be required as well
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Assessment of Business Income
• Federal Methodology (FAFSA)
– Income is reported from the following business entities:
– Sole Proprietorship or Single Member LLC (Schedule C)
– Partnership (K-1 Information)
– S Corporation (Salary and K-1 information)
– C Corporation (Salary Only)
– Income is not reported from the following business entities
– C Corporation (Net Income)
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Assessment of Business Income
• Institutional Methodology (CSS Profile)
– Income is reported from the following business entities:
– Sole Proprietorship or Single Member LLC (Schedule C)
– Partnership (K-1 Information)
– S Corporation (Salary and K-1 information)
– C Corporation (Salary Only)
– Income is not reported from the following business entities
– C Corporation (Net Income)
– Parents’ portion of gross receipts of businesses are reported
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Assessment of Business Income
• Institutional Methodology (CSS Profile)
– CollegeBoard Business/Farm
Supplement may be required
– Need to report three years of
information!
– Will also request copies of business
tax returns and supporting schedules
(1065, 1120, 1120S) - IDOC
– Business losses and certain
deductions will generally be
disallowed and added back to
assessable incomePersonal Financial Planning Section
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Brown University (RI) Example
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Strategies for Business Owners
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Consider Hiring Their Children
• Consider hiring their children if they are able to perform legitimate job functions in
the family-owned business
• Keep income below $6,660 (2019-2020 FAFSA income allowance) and be aware
that all student income is assessed on the CSS Profile
• Not required to withhold Social Security or Medicare taxes if children are under the
age of 18 and employed in family-owned business
• Children can use earned income to open and contribute to a Roth IRA (non-
assessable asset, but be careful with distributions)
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Consider Hiring Spouse
• Consider hiring spouse to perform legitimate job duties in the family-owned business
• May be beneficial to shift earned income to non-earning spouse for Social Security
benefit planning purposes (spousal benefit may be more, but it does not earn
delayed retirement credits!)
• While AGI should be as low as possible to qualify for need-based financial aid,
earned income should be as high as possible
– Higher earned income allows for higher Social Security and Medicare tax
allowance
– Employment Expense Allowance is only available when both spouses are
working in a two-parent household
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Employment Expense Allowance
• Allowance is calculated as follows (two-parent families with two working parents):
– Lesser of:
– 35% x lesser of Parent 1 or Parent 2’s earned income
– $4,000 (Hit at $11,429 of income)
• Allowance is calculated as follows (two-parent families with one working parent):
– $0!
• $4,000 allowance alone automatically translates into an EFC reduction of $1,880
($4,000 income reduction x 47% income assessment rate)
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Treasury Regulation 1.163-10T(o)(5) Election
• Effective strategy for business owners looking to borrow money to grow their
business
• Election treats HEL or HELOC debt as not being secured by the home
• Funds from HEL or HELOC should be used solely for business purposes
• Even more valuable due to the TCJA changes
• Can now make non-deductible below the line interest payments (HEL, HELOC)
deductible above the line (Deductible business expense)!
• May be a smart strategy to consider if client can qualify for more favorable loan
rates and repayment terms as compared to those available on unsecured business
loans or lines of credit
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IRC Section 127 Educational Assistance Program
• Beneficial tax planning tool
– Tax-free assistance for employees ($5,250 maximum annual exclusion)
– Not subject to Social Security or Medicare Taxes
– Can be used for undergraduate or graduate studies that are not business related
• Requirements
– Written plan must be in place
– Cannot be discriminatory in favor of HCEs or their dependents
– Employees cannot be given a choice of educational assistance or monetary compensation
– 5% limitation for greater than 5% owners/shareholders
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IRC Section 127 Educational Assistance Program
• Additional requirements for children employees/participants of the business owner:
– Must be a legitimate employee of the business
– Must be 21 years of age or older
– Must not be claimed as a dependent of the parent owners for tax purposes
– Must not be more than a 5% owner of the business
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IRC Section 127 Educational Assistance Program
• Detrimental financial aid planning tool
– Assistance received is counted as a Resource for financial aid planning purposes
– Assistance received reduces eligible expenses for qualified 529 college savings plan
distributions
• Better tool for families that won’t qualify for need-based financial aid
• Better tool for families that won’t qualify for education tax credits
• Better tool for business owners who wish to pay for graduate school
• Better tool for Grandparent clients who are also business owners
– No age requirement!
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IRC 127 Educational Assistance Program Example
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IRC Section
127 Plan Scenario
Company
Deduction
Income
Inclusion
Out-Of-Pocket Cost to
Company
K-1 Tax
Deduction
Net Income Reported by
Individual
Tax Liability/(Refund)
Incurred
No Paying $5,000 of Tuition $5,383 $5,000 $5,383 ($215) $4,785 $1,947
Yes Paying $5,000 of Tuition $5,000 $0 $5,000 ($200) ($200) ($60)
$383 $2,007
Out-Of-Pocket Company Cost Savings Net Tax Savings for Employee
Employer Assumptions:
45.3% Federal, State, and FICA Combined Tax Rate (Out-Of-Pocket)
7.65% Employer's Portion of FICA Taxes (Employer Liability)
Employee Assumptions:
4% S Corporation Owner
37.65% Federal, State, and FICA Combined Tax Rate (Employee Liability)
Business Entity Choice
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Business Entity Choice – Tax Planning Considerations
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Sole Proprietorship Partnership S Corporation C Corporation
Parent 1's Salary $50,000 $50,000 $50,000 $50,000
Parent 2's Salary N/A N/A $70,000 $50,000
Guaranteed Payments N/A $70,000 N/A N/A
Net Business Income (Parent 2) $100,000 $30,000 $24,645 N/A
1/2 Self-Employment Tax Deduction $7,065 $7,065 N/A N/A
Adjusted Gross Income (AGI) $142,935 $142,935 $144,645 $100,000
Standard Deduction $24,000 $24,000 $24,000 $24,000
QBI Deduction (20% x Net Business Income) $20,000 $6,000 $4,929 N/A
Net Taxable Income $98,935 $112,935 $115,716 $76,000
Federal Income Tax $13,645 $16,725 $17,337 $8,739
Self Employment Tax $14,130 $14,130 N/A N/A
Total FICA Taxes (Employee Only) $3,825 $3,825 $9,180 $7,650
Total Personal Tax Liability $31,600 $34,680 $26,517 $16,389
Business Entity Choice – Tax Planning Considerations
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Sole Proprietorship Partnership S Corporation C Corporation
Net Business Income $50,000
FICA Tax Deduction $3,825
Net Taxable Income $46,175
Federal Income Tax $9,697
Total FICA Taxes (Employer Only) $5,355 $3,825
Total Personal and Business Tax Liability $31,600 $34,680 $31,872 $29,911
Business Entity Choice – Financial Aid Planning Impact
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Sole Proprietorship Partnership S Corporation C Corporation
Projected Gift Aid (University A) $24,000 $24,000 $24,000 $33,000
Total Personal and Business Tax Liability (4 Years) $126,398 $138,718 $127,488 $119,643
Tax Liability Attributed to Dividend Distribution (5th Year) N/A N/A N/A $21,707
Total Projected Gift Aid (4 Years) $96,000 $96,000 $96,000 $132,000
Net Benefit (Total Gift Aid - Total Tax Liability) -$30,398 -$42,718 -$31,488 -$9,350
Sole Proprietorship Partnership S Corporation C Corporation
Parents' Cash and Savings $50,000 $50,000 $50,000 $50,000
Parents' Net Worth of Investments $100,000 $100,000 $100,000 $100,000
Parents' Net Worth of Business $100,000 $100,000 $100,000 $100,000
Family Size 4 4 4 4
Age of Oldest Parent 45 45 45 45
Number of Children in College 1 1 1 1
State of Residence CT CT CT CT
Student's Income and Assets 0 0 0 0
Federal Methodology EFC $36,296 $34,848 $36,387 $21,633
Institutional Methodology EFC $27,322 $25,981 $27,338 $16,468
Business Entity Choice – Financial Aid Planning Impact
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Sole Proprietorship Partnership S Corporation C Corporation
Projected Gift Aid (University B) $8,606 $8,606 $8,606 $16,116
Total Personal and Business Tax Liability (4 Years) $126,398 $138,718 $127,488 $119,643
Tax Liability Attributed to Dividend Distribution (5th Year) N/A N/A N/A $21,707
Total Projected Gift Aid (4 Years) $34,424 $34,424 $34,424 $64,464
Net Benefit (Total Gift Aid - Total Tax Liability) -$91,974 -$104,294 -$93,064 -$76,886
Sole Proprietorship Partnership S Corporation C Corporation
Parents' Cash and Savings $50,000 $50,000 $50,000 $50,000
Parents' Net Worth of Investments $100,000 $100,000 $100,000 $100,000
Parents' Net Worth of Business $100,000 $100,000 $100,000 $100,000
Family Size 4 4 4 4
Age of Oldest Parent 45 45 45 45
Number of Children in College 1 1 1 1
State of Residence CT CT CT CT
Student's Income and Assets 0 0 0 0
Federal Methodology EFC $36,296 $34,848 $36,387 $21,633
Institutional Methodology EFC $27,322 $25,981 $27,338 $16,468
Retirement Contribution Considerations
• FAFSA and CSS Profile add back employee tax-deferred contributions to retirement
accounts (IRAs, SEP IRAs, 401(k), 403(b), etc.)
• Amounts reported on Lines 28 and 32 of the 1040 will be treated as untaxed income
• Employer contributions are not added back
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Sole Proprietorship S Corporation
Net Business Income before Owner Salary $100,000 $100,000
Salary Paid to Owner N/A $80,000
Net Business Income before Other Deductions $100,000 $20,000
Employer's Portion of FICA Taxes N/A $6,120
1/2 Self-Employment Tax Deduction $7,065 N/A
Maximum SEP IRA Contribution $18,587 $20,000
Net Business Income $100,000 ($6,120)
AGI $74,348 $73,880
Retirement Plan Contribution Add-Back $18,587 N/A
Adjusted Available Income for Financial Aid Purposes $92,935 $73,880
*Note that this example does not factor in Federal, State, FICA, FUTA, or SUTA tax liabilities or other financial aid income allowances
Questions?
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