Financial Planning

Financial Planning

As people grow older they become increasingly aware that “...in this world, nothing is certain but death and taxes.” Elder law underscores other sayings: “Plan ahead!” and “An ounce of prevention...” Senior citizens need to plan now, while they are able, to make sure that their estates are passed to intended beneficiaries. Planning can reduce death taxes, administrative expenses and the possibilities of disputes among family members and others. Even more important: planning gives one the peace of mind, which comes from knowing that financial affairs are in order.

Income Tax Planning

An excellent starting point for information affecting senior citizens is IRS Publication 554, “Older American Tax Guide.” This brochure is available free of charge by calling the IRS Forms Distribution Center at 800-829-3676. You may also want to check the IRS website: www.irs.ustreas.gov. Or contact your accountant or attorney for information.

• IRS Office Location:
• 1400 N. Providence Road
• Media, PA 19063
• 610-891-6002
• 8:30 a.m. to 4:30 p.m.
• (closed 1:00 p.m. to 2:00 p.m. for lunch)

Tax Preparation

Many times senior citizens, especially those with fixed incomes, find it difficult to hire a tax professional. For elderly people with limited means, volunteers are available in many areas to prepare tax returns. Your local public library is usually able to help you locate the nearest volunteer income tax assistance program. The Internal Revenue Service also provides walk-in tax preparation service free of charge. For the IRS service center nearest you, call 800-829-1040. Tax forms can also be prepared online at www.irs.ustreas.gov.

Standard Deduction at Age 65

You should be aware that you are allowed an additional standard deduction when you reach age 65. A basic chart is offered below but you will want to go over all instructions very carefully, especially as you choose between using the standard deduction and itemizing deductions.

For Individuals Who Are Not Blind and 65 Years of Age or Older

The general rule is that a person must have attained age 65 before the end of the tax year. However, if your birthday is on January first, you are permitted to increase the standard deduction for the tax year prior to reaching age 65.

Income Tax Credit Age 65 or Older

Taxpayers age 65 or older may receive a “tax credit” that is subtracted from your income tax if you have limited income. The allowable credit varies according to the taxpayer’s filing status. A single individual’s credit can be as much as $5,000, whereas a married couple’s maximum credit is $7,500. The calculations for determining your tax credit can be complicated and may require the assistance of a tax professional.

Medical Expense Deductions

Medical expenses are deductible only to the extent they exceed 7.5% of a taxpayer’s adjusted gross income and you are itemizing deductions and not using the standard deduction. The medical expense deduction is limited to un-reimbursed (that is: “out-of-pocket”) expenditures.

The entire cost of a long-term care facility, including meals and lodging, is a deductible medical expense if the principal reason for admission to the facility is the availability of medical care. However, in an assisted-care facility only a portion of the cost may be deductible.

Equipment and home modifications to accommodate the handicapped (no age limit) that do not increase the market value of the home are deductible as a medical expense. Examples of such deductible improvements include building wheelchair ramps and widening entrances to the home.

When a person dies owing medical expenses, and those expenses are paid by the estate within one year, a medical expense deduction can be taken on the decedent’s final income tax return (Form 1040) or on the federal estate tax return (Form 706). If the estate is under the federal taxable limit ($1,500,000 in 2005 and $2,000,000 in 2006-2008), or if there will be no estate tax due because of the unlimited marital deduction, it makes sense to deduct these expenses on the personal income tax return.

Sale of Residence: Exclusion of Gain from Income

Recent changes in tax laws have greatly simplified the tax aspects of selling a home. Generally speaking, capital gains are the increase in the value of a home from the date of purchase, less the cost of major improvements made over the years such as a new roof or new windows. An unmarried taxpayer may exclude up to $250,000 of capital gains realized on the sale of a principal residence; married taxpayers can exclude up to $500,000 of capital gains. To qualify for the capital gains exclusion, one must have used the real estate as their principal residence for at least two of the five years prior to sale. The majority of senior citizens will not have to pay a capital gains tax on the increase in the value of their home when they sell it. See your accountant or attorney to help you with this if you are not able to understand these and some of the other rules in this area.

Tax Basis: Special Rules for Surviving Spouse

You or your tax preparer will need to know the “tax basis” rules whenever calculating capital gains tax on the sale of appreciated property, such as stocks or mutual funds. The maximum capital gains rate for long-term investments is now 15%.

In simplified terms, capital gains tax on appreciated stocks and mutual funds is paid on the difference between the purchase price and sales price of the security. Special rules apply however, where one owner of jointly held property dies. For a surviving spouse, these rules, known as the tax basis rules, can result in significant tax savings when they sell jointly owned stock or other appreciated property after the death of a spouse.

The following illustrations show the potentially significant tax savings involved:

Illustration 1:

If during their lifetimes, a husband and wife sold jointly-owned stock worth $10,000 which they bought for $1,000, they would pay capital gains tax on $9,000, the sale price minus the purchase price. The tax due would be about $1,350 at the 15% rate.

Illustration 2:

If the husband in Illustration 1 dies and the same jointly-held stock is worth $10,000 on the date of death, the tax basis is increased from $1,000 to $5,500, one half of the date-of-death value plus half the purchase price. If the surviving spouse later sells the stock for $10,000, taxable gain is only $4,500 and the tax is then reduced to approximately $675.

Obviously these savings can be significant. Many married people own at least part, and perhaps all, of their property jointly. Since the tax basis rules are important and complicated, elder couples need to discuss these issues and their possible effects with a qualified tax professional to avoid paying more tax than necessary.

Reverse Mortgages (Home Equity Conversion)

A reverse mortgage is a special type of home loan that allows a homeowner to convert the equity in their home to cash. The lender loans money to the borrower age 62 or older using the borrower’s home as security. The loans may be dispersed in a lump sum, monthly payments, or through a line of credit. Unlike traditional mortgages, reverse mortgages are repaid upon death, or when the owner can no longer live in the home. There are no monthly payments until one of these events happens. These mortgages can be a good way to overcome the “house rich but cash poor” dilemma that confronts many elderly homeowners.

There is a federal law that authorizes home equity conversion mortgages for seniors. The purpose of the law is to meet the special needs of elderly homeowners by reducing the effect of the economic hardship caused by the increasing costs of meeting health, housing and subsistence needs at a time of reduced or fixed income, and to encourage lender participation. Your first step should be to consult with your elder law attorney and have all pertinent documents reviewed prior to signing anything.

Basic Requirements:

• Borrowers must be age 62 or older; there is no maximum age limit. If there is more than one borrower, they must both be 62 or older.
• The mortgaged property must be used as the principal residence of the borrower and can be one to four units.
• The property must be in good repair; proceeds from the reverse mortgage may be used to make needed repairs.
• The property to be mortgaged must be free and clear of a mortgage or almost mortgage-free. The borrower will be required to pay the balance of the existing mortgage from the proceeds of the reverse mortgage. Credit history is not a factor in either of these federal programs but may be in a purely private reverse mortgage loan or if Pennsylvania institutes its own program again. Liens against the property would be an issue and most likely would have to be paid off with the proceeds of the loan.

Types of Reverse Mortgages

At present, there is no program offered by the State of Pennsylvania. In the past, the Pennsylvania Housing Finance Agency (PHFA) offered a program for seniors who owned a home in Pennsylvania.

Two basic types of reverse mortgages or home equity conversion mortgages:

For the federally insured “Home Equity Conversion Mortgage” (HECM), your home must be a single-family property, a two-to-four unit building, or a federally approved condominium or planned-unit development (PUD). For Fannie Mae’s “HomeKeeper” mortgage, it must be a single-family home, PUD or condominium.

Reverse mortgage programs generally do not lend on cooperative apartments or mobile homes, although some “manufactured” homes may qualify if they are built on a permanent foundation, classed and taxed as real estate and meet other requirements.

The amount of cash you can get from your home depends on which program you select and, within each program, on your age, home and interest rates. For all but the most expensive homes, the federally insured HECM program generally provides the most cash. Those funds may be distributed as a lump sum, as a line of credit or in a monthly amount. For the monthly option, it may be for a specific number of years, or as long as you live in your home. All of the reverse mortgages have costs and almost all of them can be put into the borrowed amount so that the only up-front cost to the senior is the appraisal.

Both of these Federal programs require that the homeowner(s) undergo counseling with a HUD-approved, non-profit organization before they can obtain a reverse mortgage. For a list of HUD-approved counselors near you, contact the Division of Planning and Research, Department of Aging, 555 Walnut Street, 5th Floor, Harrisburg, PA 17101-1919, telephone: 717-783-1550, or go to the HUD website: www.hud.gov or www.aging.state.pa.us.

Impact of Reverse Mortgages

A reverse mortgage has no impact on an individual’s receipt of Social Security or Medicare benefits, but it may have an impact on an individual’s ability to receive Supplemental Security Income (SSI) and Medicaid benefits. Reverse mortgage payments to an individual reportedly may now be treated as income by the Department of Public Welfare. Additionally, if the individual receives reverse mortgage proceeds and holds them beyond the month they are received, they are considered “liquid assets” and may adversely affect eligibility for SSI and Medicaid benefits.

Another important feature of these loans is that you can never owe more than the value of the home. In banking terminology they are known as “non-recourse” loans.

You may find more information on reverse mortgages from the American Association of Retired Persons Home Equity Information Center, 601 E Street, NW, Washington, D.C. 20049, telephone: 800-424-2277 or www.aarp.org/revmot.

Occasionally, you may find a private lender, such as a bank that offers reverse mortgages and may have more flexibility in setting maximum loan amounts or placing higher age limits on borrowers, etc. However, the overall cost and interest rates may be higher.

Property Tax and Rent Rebates

In Pennsylvania, home owners or renters age 65 or older, widow/ers age 50 or older, or individuals permanently disabled during all or part of the claim year and 18 years or older during the claim year and unable to work because of a medically-determined or mental disability, with a total household income of $15,000 or less, may file a claim with the Pennsylvania Department of Revenue for a real property tax or rent rebate and inflation dividend. Claims applications are due for filing between January 1 and June of the year following the year in which the individual paid the tax or rent. Beginning in claim year 1999, claimants may exclude 50% of their Social Security/Railroad Retirement income in determining their eligibility requirements.

In addition, owners must have paid the taxes prior to filing and renters must make certain their landlords were required to pay property taxes or made payments in lieu of property taxes on the rental property. Claimants who qualify can be reimbursed up to $500 a year for the amount they paid in property taxes or rent; rebate checks are mailed beginning July 1st of each year. Proof of income is required, such as copies of the state or federal income tax returns for the claim year in which you are filing. If you are claiming a rental rebate, you must submit a “Rent Certificate”, which includes proof of the rent you paid, such as an affidavit signed by the landlord or the landlord’s agent. If the landlord’s signature cannot be obtained, the claimant must complete and submit a notarized rental Occupancy Affidavit with the Rent Certificate. Rent receipts (not cancelled checks) are also accepted.

Amount of Rebates

The amount of reimbursement is calculated as a percentage of the claimant’s income. A homeowner can be reimbursed from 10% to 100% of the total taxes paid, up to a $500 maximum. A renter might be reimbursed 2% to 20% of the total rent paid, again up to a $500 maximum. However, there are no guarantees of these payments. If you require further information on this program, you may call the PA Department of Revenue at 1-888-222-9190 to talk with a representative or 800-772-5246 or at their website: www.revenue.state.pa.us. This toll-free number provides a menu of telephone numbers whereby information specific to your area of inquiry are given. The Taxpayer Service Information Center for Tax Questions is 717-787-8201. Businesses or homeowners may call 717-787-1064, Option 5 with their rent or rebate questions.

If you qualify for the property tax and rent rebate program, you may also be eligible for PACE or PACENET, which are prescription drug programs funded by the Pennsylvania lottery. For questions or assistance regarding PACE of PA, for those who do not have access to a computer, call 800-225-7223, or visit the on-line enrollment application at www.aging.state.pa.us.