The Secret to Creating Lifetime Wealth (Part 4)
Image sourced by Tierra Mallorca @tierramallorca
Welcome back!
This blog post covers one of the most important and fundamental financial concepts and money concepts about building lifetime wealth; what wealth is; and what wealth can do for you.
In this segment in the series, we’re exploring the scenario in which Dad sold the real estate.
This would convert an unrealized gain or unrealized loss into a realized gain or realized loss.
In his case, thankfully a realized gain, although upon the sale, he would be subject to capital gains taxes.
I want you to think of wealth, prosperity, and abundance. Let’s get to it!
If you’re just joining this blog post series, click here to see Part 1, Part 2, Part 3, and Part 5.
Now, let’s suppose Dad sold his real estate.
Here’s the rub for Dad:
Under current US tax law according to the IRS (Internal Revenue Service), Internal Revenue Code (IRC), upon the death of a person, the tax basis of their assets will be increased (or decreased) to the asset’s fair market value on the date of death.
Assuming the IRS doesn’t change the tax laws (amend the IRC), if Dad dies Before he sells the real estate, the tax basis in the real estate would be increased to the fair market value of the real estate on the date of death.
This means that if the executor of his estate sells the real estate for $250,000 After Dad dies, the capital gains tax would equal Zero ($250,000 fair market value or selling price minus the adjusted tax basis of $250,000).
Zero gain and therefore Zero capital gains taxes. Good work if you can get it!
Although there might be estate taxes.
Regardless, Be Sure to consult your tax advisors and financial advisors to help you figure all this out!
BUT, if the real estate is Sold BEFORE Dad Passes Away, then he would have to pay capital gains taxes on the capital gain.
In other words, a selling price of $250,000 minus tax basis of $130,000 means Dad would have a realized capital gain of $120,000 [$250,000 minus $130,000, which would be taxable].
THIS MEANS that absent any adjustments, offsets or exemptions, Dad has to pay capital gains taxes on the $120,000 gain.
Let’s assume the tax rate on capital gains is 30%. This is a very rough estimate of the current US Federal capital gains tax rate plus the State and local capital gains tax rate.
In this example, Dad would have to pay taxes of $36,000 ($120,000 capital gain multiplied by 30% tax rate).
AND the value of his investment portfolio or investable dollars drops from $1,000,000 to $964,000 ($1,000,000 minus $36,000).
AND THIS MEANS his Income Declines!
From $57,500 to $48,200 ($964,000 multiplied by 5%).
It’s also worthwhile to note that in this example, the decline in income is due to the reduction in investable capital (principal) AND the decline in the rate of return from 8% (on the real estate which Dad sold) which he then/now invests at a rate of only 5%.
A change in investment income like this, up or down, is not unusual.
A Decline in income means that Dad would Need More Money to cover his living expenses; and/or have to cut back on his lifestyle and standard of living.
So he may have to cut back his spending; reduce his lifestyle; save less money; and/or withdraw [more] principal from his investments (principal).
To drive the point home, spending principal reduces our investable assets on which we can earn investment income. And the cycle continues.
Or go back to work, which at 92 years of age is not really feasible.
So it goes. . . SO We Go!
And that’s exactly WHY we need to plan ahead; balance saving and spending; and set aside some money for a rainy day.
Which we cover in Part 5 of this wealth creation series.
Let’s start thinking about wealth, prosperity and abundance and design a plan to help us get there. Right now!
See you next week.
Arthur V.
P.S. To Create More Free Cash, Save More Money on Groceries Every Day – click here.
To grab the other blog posts in this special Budget and Grow Rich® series, click here to see Part 1, Part 2, Part 3 and Part 5.
Disclaimer: OH and Please Remember, we are Not attorneys or financial advisors and are Not providing any specific financial, tax or legal advice here. Be sure to consult your own professional advisors to get sound professional advice that’s specific to your financial and personal circumstances!
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