Ask Liz Weston

Get smart with your money

Taxes

Q&A: Reporting caregivers’ pay to the IRS

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Dear Liz: We have a gardener, pool man and caregivers. We pay the gardener, pool man and some of the caregivers directly, while we pay an agency for the other caregivers. Do we have an obligation to report payments to the IRS?

Answer: As an individual taxpayer, you typically don’t have to report payments to businesses. Your gardener and pool cleaner probably either are self-employed or work for a company that takes care of reporting requirements for its workers. Likewise, the caregiving agency should handle reporting requirements for its employees.

The caregivers you pay directly, however, are generally considered your household employees. That means you may be responsible for reporting their wages to the IRS and paying their employment taxes. That responsibility kicks in if a caregiver receives at least $1,000 in any calendar quarter or at least $2,400 per calendar year for 2022 (or $2,300 per calendar year for 2021), says Mark Luscombe, principal analyst for Wolters Kluwer Tax & Accounting. IRS Publication 926, Household Employer’s Tax Guide, has details.

Q&A: Taxes on trust’s income

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Dear Liz: My father passed away last year leaving an estate that will make us comfortable through the foreseeable future. His holdings are mostly securities that are traded either on the NYSE or the Nasdaq. From our investments, we currently have non-earned income of between $75,000 and $100,000 annually without any other income. After estate taxes are paid for my father’s estate, the annual yield (mostly dividends) will be in the $225,000 to $250,000 range. My question for you is should we keep my father’s holdings within his trust and let the trust pay the taxes on the income, or should we take the income and pay the taxes ourselves?

Answer: Tax rates on trusts are notoriously high. If you have a choice, you probably would want to pay the taxes yourself rather than letting the trust do so. The question is whether you have a choice, and that will be determined by the wording of your father’s trust, Los Angeles estate planning attorney Burton Mitchell says.

Speaking of estate planning attorneys, you need to hire one, along with a tax pro and a fee-only financial planner, so you can get solid, personalized advice on questions like this. You already had substantial income, and you just inherited an estate worth multiple millions, so you’re long past the point when doing it yourself makes sense.

Q&A: What is the capital gains tax, and how big a bite does it take?

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Dear Liz: We own stocks with enormous capital gains — as in, six figures or more. The tax would be a lot. Any advice on how to limit the tax bite? Our income consists of Social Security and a teacher’s pension.

Answer: Capital gains taxes may be less of a problem than you fear. If your taxable income as a married couple is less than $83,350 in 2022, your federal tax rate on long-term capital gains is zero. (Long-term capital gains apply to profits on stocks held one year or more.) If your taxable income is between $83,350 and $517,200, your federal capital gains tax rate is 15%.

In addition, you may owe state taxes. California, for example, doesn’t have a capital gains tax rate and instead taxes capital gains at the same rate as ordinary income.

Capital gains aren’t included when determining your taxable income, by the way, but they are included in your adjusted gross income, which can affect other aspects of your finances. A big capital gain could determine whether you can qualify for certain tax breaks, for example, and could inflate your Medicare premiums. That’s why it’s important to get good tax advice before selling stocks with big gains.

A tax pro can discuss strategies that might reduce a tax bill, such as offsetting gains with capital losses by selling any stocks that have lost value since you purchased them. You also could consider donating appreciated shares to qualifying charities. If you itemize your deductions, you can deduct the fair market value of these shares. The write-off is typically limited to 30% of your adjusted gross income for the year, although if you donate more you can carry forward the excess deduction for up to five years.

All this assumes that these shares aren’t held in retirement accounts. Withdrawals from retirement accounts are typically taxed as ordinary income and don’t benefit from the more favorable capital gains rates. If the stocks are in an IRA and you’re at least 70½, however, you could make qualified charitable distributions directly to nonprofits and the distributions wouldn’t be included in your income. Again, this is something to discuss with a tax pro before taking action.

Q&A: Taxes on retirement account withdrawals

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Dear Liz: I would love to give my grandchildren money, but I don’t want to pay the income tax on withdrawals from my IRA or 401(k). Will they get it tax-free when I die?

Answer: Unfortunately, no.

Withdrawals from retirement accounts are generally taxable, whether the person making the withdrawals is the original contributor or an heir. Furthermore, non-spouse beneficiaries of retirement accounts generally must withdraw the money within 10 years.

Q&A: Understanding the gift tax

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Dear Liz: I am 83 and have always been employed and a regular saver. I find myself in the unusual position of having amassed a considerable estate and, barring a financial or medical catastrophe, probably having more assets than I will use in my lifetime. Of course these assets will pass to my wife or other heirs on my death, but I would like to help them now. I am considering passing on monies to my sons and grandchildren. I find it hard to believe, but is it correct that I can give up to a total of $15,000 per year ($30,000 for a husband and wife) to my children and grandchildren in a given calendar year without federal or state tax implications for either party? Also, does the recipient need to be a close relative for this transaction to take place without creating a tax liability for either entity?

Answer: Right now you can give away millions of dollars without owing gift taxes. Gifts are tax-free to the recipient, and there’s no requirement that they be a relative.

The annual gift exemption limit of $15,000 is how much you can give away per recipient without having to file a gift tax return. You and your wife together could give $30,000 to as many people as you wanted without having to file such a return. If you have two married sons who have three children each, you and your wife could give each family of five $150,000 or a total of $300,000 without having to file a gift tax return.

Gift taxes aren’t due until the amount you give away over the annual limit exceeds the lifetime gift and estate exemption limit, which currently is $11.7 million per person.

Given your age and affluence, you should be working with an experienced estate planning attorney to make sure your assets go where you want after your death. The attorney can discuss smart gifting strategies for your individual circumstances.

Q&A: Gift taxes vs. estate taxes

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Dear Liz: A reader recently asked about passing a $500,000 inheritance to their children. You mentioned the option of disclaiming, or refusing the inheritance so that it would go to their kids. You wrote, “If you decide not to disclaim and later give the entire $500,000 to your kids, you wouldn’t have to pay gift taxes until you gave away considerably more. Plus, gifts are tax free to the recipients.” Are you possibly mixing up gifting and inheriting? As I understand it, gifting to your kids is limited to something like $15,000 per parent per kid. Unless you have a huge family, that’s not going to add up to $500,000 of tax-free giving.

Answer: Many people get confused about how gift taxes work. The gift and estate tax systems are intertwined, causing further confusion.

There’s no limit on how much you can give away during your lifetime: You can give as much money as you want to as many people as you want. If you give more than $15,000 to any one recipient in a given year, however, you’re required to file a gift tax return. That doesn’t mean you owe gift taxes.

The amounts over $15,000 count against your lifetime estate and gift tax exemption, which is currently $11.7 million per person. So if you give someone $20,000, the extra $5,000 would be deducted from your $11.7-million lifetime exemption. Only after you exhausted that lifetime exemption would you owe gift taxes.