On Retirement Finance

Kung Wai-Hon

The following summarizes some of the answers to the nine pending questions as posed by Peter Tong after our reunion seminar on Retirement or Retirement Planning.

1. Based on what I heard during the seminar, each person can give another person $10K each year ($20K per married couple). Will this amount be counted in the calculation of federal inheritance tax. Does the person receiving the money pay incoming tax on the amount received?

In U.S., Federal Tax Law pemlits each natural person to gift another natural person $10K per year as an annual exclusion or $20K with the consent of the spouse which is excluded from the final Federal Estate & Gift Taxes after death. As a gift or bequest, the money is not counted as income for income tax purpose. Typically, the taxes involved here are called transfer taxes in contrast to inheritance taxes because transfer tax is levied on the donor's right to give whereas inheritance denotes the donee's right to receive. States usually either have no transfer taxes or have their taxes coordinated with the Federal law in practically every aspect of the scheme.

2. How does a HK resident invest in the US bond and stock markets? Would he pay tax on capital gain or income tax on dividend?

Joseph Yau was to research on the HK taxation question for us.

3. How does a US resident invest in Taiwan, HK or China should he choose to do so? What about taxes on capital gain and dividend?

US residents can invest in foreign markets via brokerage accounts in those countries or via their brokerage accounts in US. The taxation is the same as if he/she is to invest in US bonds and stocks.

4. These days many companies in US have converted their defined benefit plans to defined contribution plans? For a worker who has been with the company for some years, a lump sum will be paid into his new retirement account What is a reasonable conversion scheme? What are the factors affecting this calculation?

Defined Benefit plans specify the benefits an employee is to receive at retirement, typically at age 65. The current (present) value of the benefit earned (accrued) at any given point or time period is defined in the plan document according to a set of actuarial assumptions like interest & mortality assumptions. The "lump sum" is really an actuarial calculation or discounting based on the assumptions the value of the accrued beliefit at retirement to the date of the conversion of the plan to a defined contribution plan. Other than the possibility of using assumptions more favorable to the plan sponsor, the process is normally straightforward.

5. How does one evaluate a long-term-care plan? What would be a good plan and what would be a bad one? Real life sample plans, please.

Long-term care plan is actually quite similar to normal disability income plan except that it is designed to pay home care and nursing home type of expenses not covered by Medicare. In the case of limited resources, families have in the past often resorted to Medicaid for this type of services. However, Medicaid is a state managed program with Federal grants and has its own set of rules. One should examine and plan ahead if Medicaid can be utilized to relieve without impoverishing the family especially the spouse in the process.

6. What is probate and how can it be avoided? I have the notion that probate is for the court to decide what bills one has to pay when he dies. If so, how can probate be avoided?

Probate is a court-supervised process of tabulating and valuating the estate for any beneficiaries with possible claims. In short, probate court deternfines all properties owned at death by the descendant, which is the probate estate excluding all properties jointly owned with the right of survivorship or life insurance with specified beneficiaries. However, taxable estate includes all properties the-descendant has an interest in prior to death whether such properties require probate or not.

7. What is a living trust and is this the way to avoid probate? Can an individual setup his own living trust or must he have a lawyer or accountant do it for him? After a living trust is setup, can it be modified or revoked?

A living trust is a trust set up to benefit a specific group of beneficiaries and can be changed by the donor during lifetime and the trust asset is part of the taxable estate. The trust with specified beneficiaries is free of the probate.

8. Are there any tax advantages associated with leaving different types of asset to your heir? Examples are real estate, cash, stocks, bonds, IRA bank account, IRA mutual fund account?

Generally, there are no general tax advantages in the type of assets left to heirs because the assets are valuated at market on transfer. However, tax-qualified assets like IRA's, pension assets which have not been income taxed can be taxed on both income and estate taxes if the estate is to exceed 1 million after 2002, the level of exemption. Although transfer between spouses is totally tax-free, for assets in excess of the exemption, it would be wise to plan to distribute to other beneficiaries upon the 1st spouse's death to avoid doubling tip the taxes upon 2nd death in addition to other reasons.

9. What is a custodian account and what are the rules of a custodian account?

A typical custodian account is a trust account for a minor child who is legally not a person under the law. The account is usually turned over to the minor upon his/her attaining majority. For children over age 14, the earnings are reported under their names with low or no tax consequences for "small" accounts.