Making a Section 83(b) election: The Hot Internet Stock Employee Conundrum

Some days I think the past constantly repeats itself. The recent news of there being the most initial public offerings since 2004, Facebook's purchase of Whatsapp for $19 billion, or this week's announcement of Zillow's purchasing of Trulia for $3.5 billion jogs my memory of the heady pre-Internet bubble days. One of the constants in these transactions is that many of the employees associated with these companies are given stock in a company as a form of compensation. Now, the smart person will ask how that relates to estate planning? Well, there is a strong correlation to smart business planning and estate planning.

Smart business planning is crucial to an entrepreneur's success in a new venture, and avoiding mistakes commonly made in start-up companies can help an individual preserve wealth for his or her estate. One such mistake, which can have serious tax consequences depending on the circumstances, is failing to timely make the Section 83(b) election. This scenario refers to an often overlooked tax election pursuant to Section 83(b) of the Internal Revenue Code that must be made in a very narrow time window by employees, directors and others who have received "restricted stock awards" in the company's early stages. This stock is "restricted" in the sense that it is non-transferable and subject to a condition that the company can repurchase it upon the occurrence of certain events. The most notably restriction is if the stockholder's employment with the company ends. These types of awards are typical of start-up companies because they are offered in lieu of direct compensation (which may be preferable in a situation in which funds are not available or have been diverted to other functions). These awards are tied to the performance of the company (presumably in order to encourage a high level of effort and standard of commitment on the part of the individual).

As the stock awarded vests over time, the restrictions lapse. For example, a transfer providing that the 25% of the total award will vest every year for four years lapses every year with regard to a quarter of the stock. In this scenario, in the absence of a Section 83(b) election, the recipient would owe tax each year on the difference between the fair market value of the vesting stock at the time it vests and the price he or she paid for it. Assuming that the value of the stock continues to increase as time goes on. The value of the stock going up is likely, since start-up stock is typically worth little at the company's inception. Thus, the individual's tax bill would increase with each successive year.

This is where the Section 83(b) election comes in. Instead of deferring payment of the tax as the stock continues to appreciate, the recipient may elect to pay tax on the entire amount of stock received, even though it remains unvested at the time. Depending on how much the stock could be worth down the road, this simple process could save the individual thousands of dollars in taxes. Of course, if the value of the stock stays the same or decreases during the vesting period, the election could potentially have no effect. However, prudence dictates making the election no matter what the anticipated value of the stock will be - there's no downside. As an added benefit, without the Section 83(b) election the taxpayer will be subject to ordinary federal income tax rates. If the election is made, he or she will pay the more favorable capital gains rate.

A word to the wise - the reason that failing to make the election is one of the most common mistakes made by start-up companies is that, as alluded to earlier, the recipient must file the election with the IRS no more than 30 days after receiving the stock. While filing the required form is easy to do, many people either neglect to do so entirely or miss the 30 day window - and are later hit with a tax bill that they didn't expect. Once the window passes, there is no second chance to make the election. Thus, while Section 83(b) may not apply to many people, it is vitally important for those in the situation described in this post. The Section 83(b) election is another example of how smart planning can pay off big in reducing taxes and preserving wealth.

Basics of Estate Planning: How to use 529 Plans in Estate Planning?

As college tuition continues to skyrocket upward, Americans with young children attempt to deal with the rising costs. And, when you just had your third child, college costs are always on the mind. One important tool to deal with the costs is also an effective estate planning tool - a 529 savings plan.

Section 529 of the Internal Revenue Code authorizes "qualified tuition programs" to be run by a state, a state agency, or certain eligible educational institutions. The funds placed into these accounts are invested, and returns on the investment are exempt from federal and state income taxation (when conditions on use of withdrawn funds are followed - if not, taxes and penalties apply). While the details of each plan differ, they are widely available - in every state plus the District of Columbia, an individual has access to a 529 plan to pursue a tax-advantaged path to saving for college.

There are two main subsets of 529 plans, both contemplated in section (b). The first is called a pre-paid tuition plan. Under this type of plan, a person can buy tuition "credits" on behalf of a designated beneficiary to be used in the future, generally only for tuition but potentially also for room and board, depending on the provisions of the particular plan. Be aware, however, that these plans are often subject to conditions: residency requirements, age limitations on the beneficiary, and limited periods of enrollment during the year.

The second type of 529 plan is called a "college savings plan," which is in many ways broader in coverage than a pre-paid tuition plan but also carries more risk. College savings plans are not subject to many of the limitations found in pre-paid tuition plans (i.e. residency requirements, age limitations, and restrictions on use of funds), and they can generally be used at any university, public or private. However, this freedom comes with tradeoffs: these types of plans do not lock in current tuition rates, and they are subject to the swings in the market - meaning that they can lose money just like any other investment.

In choosing a college savings plan, there are typically various options that carry different levels of risk. One option is to select a plan whose investment declines in risk as the beneficiary gets closer to college age. Of course, the variety of choices available and their terms will vary by state. For example, Virginia has one pre-paid tuition plan available but three different college savings plans with various features. For Virginia, click here. For more detailed information on 529 plans and other tools to help you save for college, click here.

Now, how does this related to estate planning? Simple. 529 plans can be recipients for gift planning purposes. For example, a grandparent making gifts into a 529 plan for use by a grandchild to attend college. There are a couple of issues to be aware of when gifting to a grandchild's 529 plan or any 529 plan.

Contribution made to a grandchild's 529 plan is treated as a gift to the named beneficiary for gift tax and generation-skipping transfer tax purposes. Thus, in 2014, a gift to a 529 plan qualifies for the $14,000 annual gift tax exclusion. If the grandparents are married, you can still gift split with each grandparent donating $14,000 each.

Moreover, a person can contribution between $14,000 and $70,000 for a beneficiary in one year and the donor can elect to treat the contribution as made over a five calendar-year period for gift tax purposes. This allows you to utilize as much as $70,000 in annual exclusions to shelter a larger contribution and potentially leverage any potential future gains if using a college savings 529 plan. The money gifted and the growth of the account gets out of your estate faster than if you made contributions each year.

Further, the money gifted into a 529 plan leaves your estate for estate tax purposes, it doesn't leave your control. Many people making gifts hate that thought of irrevocably giving away their assets because the person can't retrieve the gift back once made. Or, I guess it could be come a Seinfeld episode. If you decide to later revoke the account its value comes back into your estate. Your estate will also have to include a portion of any contribution made with the five-year averaging election if you don't live past the fourth year. You might also have to pay potential tax penalties when it returns from the 529 plan.

Estate of the Month: Casey Kasem - An Estate with Its Feet in the Mud and Reaching for Messy Litigation

While there is plenty more to talk about as the Sterlings continue to battle it out in court, the spotlight has now unfortunately come to rest on Donald's mental health instead of on the estate planning strategies that I had previously discussed. That's why I'm turning my focus this month to the estate of Casey Kasem, the celebrated disc jockey and radio personality who passed away last month at the age of 82.

Over the last several years, Kasem had been suffering from what was thought to beParkinson's or Alzhemier's but was actually Lewy body dementia. He died amidst an ongoing feud between his widow and C-star actress best known as Nick Tortelli's wife in Cheers, Jean Kasem, and his three children. I don't think you will be surprised to learn that Jean Kasem was Kasey's second wife and the dispute with Jean is with his three children from Kasey's marriage to Linda Myers. Prior to his death, Kasem's children had challenged Jean for control of decision-making power over Kasem's medical care. Eventually, Kasem's daughter Kerri was granted a conservatorship over her father, which allowed her to make day-to-day decisions about his treatment and, ultimately, led to the removal of Kasem's feeding and hydration units.

As I've said many times (see Sparky Anderson's estate), the importance of executing an advance medical directive at a time when a person has full capacity to make choices regarding his or her health is imperative, and its importance is clearly not just limited to situations like Kasem's. Internal feuds can happen in any family, and without clear direction as to a person's wishes in the event that he or she does become incapacitated, that individual runs the risk of placing control over his or her medical care in the hands of a judge. In Kasem's case, the judge was faced with choosing between his wife of 34 years, who was exhibiting increasingly erratic behavior (including allegations of throwing meat at people) and had closed Kasem off from the rest of his family and friends once he became seriously ill. While one would like to think that motives on each side were strictly driven by love for Kasem, public statements made by each camp demonstrated that the animosity extended to the point of personal attacks on each other.

Jean Kasem reportedly told the press that the children were looking to "collect on [Kasem's] sizable life insurance policy," while the children respond that they have never asked for money and that Jean is "coming after their trust - the only thing our dad left us." Kasem's estate is worth approximately $80 million, although the distribution details have not been publicly disclosed. It is known that he executed several documents addressing his medical care in the last years of his live.

It seems that even though Kasem is gone, this feud is still far from over. The Kasem children held a memorial service for their father a week after his death, which was attended by other family and friends but not Jean or her daughter with Kasem, Liberty. What's more, a month after his death, Kasem has reportedly still not been buried. His body remains in Washington with Jean, though there was a claim the Kasem's body was missing. Kasem's children allege that he had requested to be buried in California. Unfortunately, this animosity has overshadowed the celebration that Kasem's life surely deserves. Hopefully, each side will remember Kasem's sign off "[k]eep your feet on the ground, and keep reaching for the stars" and reach for a settlement.