Opportunities and Challenges: Valuation in the Age of COVID-19

Valuation and estate planning go hand in hand. After all, the tax implications of various estate planning strategies depend on the value of your assets at the time they’re transferred.

The COVID-19 pandemic has had a significant impact on the value of many business interests and other assets, which may create some attractive estate planning opportunities. It also presents unique challenges for valuation professionals. As a result, it’s more important than ever to involve experienced valuation experts in the estate planning process.

What are the opportunities?

With the value of many assets depressed (in many or most cases temporarily), now may be an ideal time to gift them, either directly to family members or to irrevocable trusts and other estate planning vehicles. Transferring assets while values are low also allows you to use as little of your gift and estate tax exemption as possible, maximizing the amount available for future gifts or bequests. As the economy fully recovers and assuming your asset values rebound, your beneficiaries should enjoy substantial growth outside your taxable estate.

What are the challenges?

The pandemic has created a situation that’s truly uncharted territory for the valuation profession. Unlike other economic crises in recent years, most of the damage to the economy resulted from business closures and restrictions and other measures designed to help contain the virus.

For business valuations, the current environment presents several challenges, including:

Known or knowable. A fair market valuation generally doesn’t consider “subsequent events” — that is, events that occur after, and weren’t “known or knowable” on the valuation date. Experts generally agree that the COVID-19 pandemic wasn’t known or knowable as of December 31, 2019. Yet for valuation dates after that, determining whether the pandemic was known or knowable and should be considered in valuing a business or other asset can be a formidable task.

Valuation approaches. Generally, valuators consider all three of the major valuation approaches: the income, market and asset approaches. The pandemic may affect the relative appropriateness of each approach and the amount of weight they should be assigned.

For example, market-based methods, which rely on data about actual transactions involving comparable businesses, may be less relevant today if the underlying transactions predate COVID-19 (although it may be possible to adjust to reflect the pandemic’s impact).

Many valuators are emphasizing income-based methods, such as the discounted cash flow (DCF) method, which involves projecting a business’s future cash flows over a defined period (such as five years) and discounting them to present value. The advantage of DCF is that it provides a great deal of flexibility to model a business’s expected financial performance based on current conditions as well as assumptions about its eventual return to “normal” over the next several years.

Regardless of the method or methods used, it’s important for valuators to consider a business’s available cash and expected cash needs to assess its viability as a going concern. These considerations will be critical in evaluating a business’s risk and the impact of that risk on value.

What’s it worth?

Depressed asset values can create attractive estate planning opportunities. While the pandemic has dropped the value of some assets, others haven’t been affected or have even increased in value. Contact us with questions regarding the valuation of your assets.

About the author

Brady is the owner of Ramsay & Associates. He specializes in financial statement preparation and personal, fiduciary and corporate tax and accounting.

His professional experience includes seven years' experience for local and national CPA firms before joining Ramsay & Associates in 2006.

He has a Bachelor of Accounting degree from the University of Minnesota Duluth. He is a Certified Public Accountant, a member of the Minnesota Society of CPA's, an Eagle Scout, as well as an active volunteer in the community.

Maximize your 401(k) plan to save for retirement

Maximize your 401(k) plan to save for retirement

Contributing to a tax-advantaged retirement plan can help you reduce taxes and save for retirement. If your employer offers a 401(k) or Roth 401(k) plan, contributing to it is a smart way to build a substantial sum of money.

If you’re not already contributing the maximum allowed, consider increasing your contribution rate. Because of tax-deferred compounding (tax-free in the case of Roth accounts), boosting contributions can have a major impact on the size of your nest egg at retirement.

With a 401(k), an employee makes an election to have a certain amount of pay deferred and contributed by an employer on his or her behalf to the plan. The contribution limit for 2020 is $19,500. Employees age 50 or older by year-end are also permitted to make additional “catch-up” contributions of $6,500, for a total limit of $26,000 in 2020.

The IRS recently announced that the 401(k) contribution limits for 2021 will remain the same as for 2020.

If you contribute to a traditional 401(k)

A traditional 401(k) offers many benefits, including:

  • Contributions are pretax, reducing your modified adjusted gross income (MAGI), which can also help you reduce or avoid exposure to the 3.8 percent net investment income tax.
  • Plan assets can grow tax-deferred — meaning you pay no income tax until you take distributions.
  • Your employer may match some or all of your contributions pretax.

If you already have a 401(k) plan, take a look at your contributions. Try to increase your contribution rate to get as close to the $19,500 limit (with an extra $6,500 if you’re age 50 or older) as you can afford. Keep in mind that your paycheck will be reduced by less than the dollar amount of the contribution, because the contributions are pretax — so, income tax isn’t withheld.

If you contribute to a Roth 401(k)

Employers may also include a Roth option in their 401(k) plans. If your employer offers this, you can designate some or all of your contributions as Roth contributions. While such contributions don’t reduce your current MAGI, qualified distributions will be tax-free.

Roth 401(k) contributions may be especially beneficial for higher-income earners, because they don’t have the option to contribute to a Roth IRA. Your ability to make a Roth IRA contribution for 2021 will be reduced if your adjusted gross income (AGI) in 2021 exceeds:

  • $198,000 (up from $196,000 for 2020) for married joint-filing couples, or
  • $125,000 (up from $124,000 for 2020) for single taxpayers.

Your ability to contribute to a Roth IRA in 2021 will be eliminated entirely if you’re a married joint filer and your 2021 AGI equals or exceeds $208,000 (up from $206,000 for 2020). The 2021 cutoff for single filers is $140,000 or more (up from $139,000 for 2020).

Contact us if you have questions about how much to contribute or the best mix between traditional and Roth 401(k) contributions. We can discuss the tax and retirement-saving strategies in your situation.

About the author

Brady is the owner of Ramsay & Associates. He specializes in financial statement preparation and personal, fiduciary and corporate tax and accounting.

His professional experience includes seven years' experience for local and national CPA firms before joining Ramsay & Associates in 2006.

He has a Bachelor of Accounting degree from the University of Minnesota Duluth. He is a Certified Public Accountant, a member of the Minnesota Society of CPA's, an Eagle Scout, as well as an active volunteer in the community.

Putting together the succession planning and retirement planning puzzle

succession planning and retirement planning

Everyone needs to plan for retirement. But as a business owner, you face a distinctive challenge in that you must save for your golden years while also creating, updating and eventually executing a succession plan. This is no easy task, but you can put the puzzle pieces together by answering some fundamental questions:

When do I want to retire?

This may be the most important question regarding your succession plan, because it’s at this time that your successor will take over. Think about a date by which you’ll be ready to let go and will have the financial resources to support yourself for your postretirement life expectancy.

How much will I need to retire?

To maintain your current lifestyle, you’ll likely need a substantial percentage of your current annual income. You may initially receive an influx of cash from perhaps either the sale of your company or a payout from a buy-sell agreement.

But don’t forget to consider inflation. This adds another 2% to 4% per year to the equation. If, like many retirees, you decide to move to a warmer climate, you also need to take the cost of living in that state into consideration — especially if you’ll maintain two homes.

What are my sources of retirement income?

As mentioned, selling your business (if that’s what your succession plan calls for) will likely help at first. Think about whether you’d prefer a lump-sum payment to add to your retirement savings or receive installments.

Of course, many business owners don’t sell but pass along their company to family members or trusted employees. You might stay on as a paid consultant, which would provide some retirement income. And all of this would be in addition to whatever retirement accounts you’ve been contributing to, as well as Social Security.

Am I saving enough?

This is a question everyone must ask but, again, business owners have special considerations. Let’s say you’d been saving diligently for retirement, but economic or market difficulties have recently forced you to lower your salary or channel more of your own money into the company. This could affect your retirement date and, thus, your succession plan’s departure date.

Using a balance sheet, add up all your assets and debts. Heavy spending and an excessive debt load can significantly delay your retirement. In turn, this negatively affects your succession plan because it throws the future leadership of your company into doubt and confusion. As you get closer to retirement, integrate debt management and elimination into your personal financial approach so you can confidently set a departure date. We can help you identify all the different pieces related to succession planning and retirement planning — and assemble them all into a practical whole.

About the author

Brady is the owner of Ramsay & Associates. He specializes in financial statement preparation and personal, fiduciary and corporate tax and accounting.

His professional experience includes seven years' experience for local and national CPA firms before joining Ramsay & Associates in 2006.

He has a Bachelor of Accounting degree from the University of Minnesota Duluth. He is a Certified Public Accountant, a member of the Minnesota Society of CPA's, an Eagle Scout, as well as an active volunteer in the community.

Thinking about moving to another state in retirement? Don’t forget about taxes

retiring to another state

When you retire, you may consider moving to another state — say, for the weather or to be closer to your loved ones. Don’t forget to factor state and local taxes into the equation. Establishing residency for state tax purposes may be more complicated than it initially appears to be.

Identify all applicable taxes

It may seem like a no-brainer to simply move to a state with no personal income tax. But, to make a good decision, you must consider all taxes that can potentially apply to a state resident. In addition to income taxes, these may include property taxes, sales taxes and estate taxes.

If the states you’re considering have an income tax, look at what types of income they tax. Some states, for example, don’t tax wages but do tax interest and dividends. And some states offer tax breaks for pension payments, retirement plan distributions and Social Security payments.

Watch out for state estate tax

The federal estate tax currently doesn’t apply to many people. For 2019, the federal estate tax exemption is $11.4 million ($22.8 million for a married couple). But some states levy estate tax with a much lower exemption and some states may also have an inheritance tax in addition to (or in lieu of) an estate tax.

Establish domicile

If you make a permanent move to a new state and want to escape taxes in the state you came from, it’s important to establish legal domicile in the new location. The definition of legal domicile varies from state to state. In general, your domicile is your fixed and permanent home location and the place where you plan to return, even after periods of residing elsewhere.

Each state has its own rules regarding domicile. You don’t want to wind up in a worst-case scenario: Two states could claim you owe state income taxes if you established domicile in the new state but didn’t successfully terminate domicile in the old one. Additionally, if you die without clearly establishing domicile in just one state, both the old and new states may claim that your estate owes income taxes and any state estate tax.

How do you establish domicile in a new state? The more time that elapses after you change states and the more steps you take to establish domicile in the new state, the harder it will be for your old state to claim that you’re still domiciled there for tax purposes. Some ways to help lock in domicile in a new state are to:

  • Buy or lease a home in the new state and sell your home in the old state (or rent it out at market rates to an unrelated party),
  • Change your mailing address at the post office,
  • Change your address on passports, insurance policies, will or living trust documents, and other important documents,
  • Register to vote, get a driver’s license and register your vehicle in the new state, and
  • Open and use bank accounts in the new state and close accounts in the old one.

If an income tax return is required in the new state, file a resident return. File a nonresident return or no return (whichever is appropriate) in the old state. We can help with these returns.

Make an informed choice

Before deciding where you want to live in retirement, do some research and contact us. We can help you avoid unpleasant tax surprises.

About the author

Brady is the owner of Ramsay & Associates. He specializes in financial statement preparation and personal, fiduciary and corporate tax and accounting.

His professional experience includes seven years' experience for local and national CPA firms before joining Ramsay & Associates in 2006.

He has a Bachelor of Accounting degree from the University of Minnesota Duluth. He is a Certified Public Accountant, a member of the Minnesota Society of CPA's, an Eagle Scout, as well as an active volunteer in the community.

Beware if your estate plan leaves specific assets to specific heirs

planning your estate

Planning your estate around specific assets is risky and, in most cases, should be avoided. If you leave specific assets — such as homes, cars or stock — to specific people, you may inadvertently disinherit them.

Illustrating the problem

Let’s say Debbie has three children — Abbie, Mary Kate and Lizzie — and wishes to treat them equally in her estate plan. In her will, Debbie leaves a $500,000 mutual fund to Abbie and her home valued at $500,000 to Mary Kate. She also names Lizzie as beneficiary of a $500,000 life insurance policy.

When Debbie dies years later, the mutual fund balance has grown to $750,000. In addition, she had sold the home for $750,000, invested the proceeds in the mutual fund and allowed the life insurance policy to lapse. But she neglected to revise her will. The result? Abbie receives the mutual fund, with a balance of $1.5 million, and Mary Kate and Lizzie are disinherited.

Even if Debbie continued to own the home, it could have declined in value after she drafted her will (rather than increased), leaving Mary Kate with less than her sisters.

Avoiding this outcome

It’s generally preferable to divide your estate based on dollar values or percentages rather than specific assets. Debbie, for example, could have placed the mutual fund, home and insurance policy in a trust and divided the value of the trust equally between her three children.

If it’s important to you that specific assets go to specific heirs — for example, because you want your oldest child to receive the family home or you want your family business to go to a child who works for the company — there are planning techniques you can use to avoid undesired consequences. For example, your trust might provide for your assets to be divided equally but also provide for your children to receive specific assets at fair market value as part of their shares. If you have questions regarding the division of your assets to your heirs, contact us. We can review your plan and address your concerns.

About the author

Brady is the owner of Ramsay & Associates. He specializes in financial statement preparation and personal, fiduciary and corporate tax and accounting.

His professional experience includes seven years' experience for local and national CPA firms before joining Ramsay & Associates in 2006.

He has a Bachelor of Accounting degree from the University of Minnesota Duluth. He is a Certified Public Accountant, a member of the Minnesota Society of CPA's, an Eagle Scout, as well as an active volunteer in the community.