TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

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Topic Author
jdouge
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Joined: Thu Jul 30, 2009 2:15 pm

TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by jdouge »

I am asking these questions from my perspective as DPOA for both of my parents in order to make sure I do the best I can for them with my self-educated, Boglehead-informed but otherwise limited financial knowledge.

My parents have about 300k each remaining in IRA accounts, invested in Vanguard's Target Retirement Income (VTINX) based on their input and consultation with a Vanguard CFP back when they first retired (and the accounts were much larger!).

4 years ago they sold their house and moved into a long term care home, each with with degenerative neurological disorders and I became full DPOA. I placed the $500k from the home sale in a brokerage account and invested it in Target Retirement Income as well. Since then, the fund has accumulated (both from gains and from excess income for two of those years due to overlapping indemnity payouts coming from LTC insurance policies -- one of these policies is now expired, the second will be in two years). It currently holds 800k.

VTINX made sense to me at the time since that is the one they had chosen while still cognitively functional, it fit their risk profile, and it generated income to fund their costs of long-term care. However, I read through these boards once a week, and I recently saw a thread that suggested that target date funds (or, at least, their component bond funds) are unwise placements in taxable (e.g., my parents' brokerage) accounts. Further research has confirmed this, since it exposes the underlying bond funds to my parents' highest tax rate.

The problem of a sizeable amount of bond funds sitting in a taxable account for an indefinite period is compounded by them having 45k in annual pension and SSI income that places them in a reasonably high tax bracket, especially when RMDs are factored into their income. (And when the second LTC insurance runs out in two years I will need to start making additional withdrawals again to pay for their care.)

It seems that the obvious move is to exchange their VTINX into its component funds, placing the stock funds and the bond funds in decreasing order of tax exposure into the brokerage account, and the most exposed bond funds into the IRAs, rebalancing each year going forward.

My concern is that this will result in a huge tax hit this year, although that tax hit will take place when the brokerage funds are liquidated to fund their care in any case. It will also be an additional logistical task for me -- my father was a "keep it simple" Boglehead without knowing it when he was making his own financial decisions -- but that is not a significant issue.

Nonetheless, it seems like the responsible thing to do? Looking for advice before making a move that involves hundreds of thousands of dollars of someone else's money.

Additional information that may not be necessary: Currently their care and miscellaneous expenses run 120k a year. My mother is in memory care, 10 years into Alzheimer's. My father has a rare physical degenerative disease (Multiple Systems Atrophy) that requires full skilled nursing care and has already outlived his most optimistic prognoses. Both are otherwise healthy and in their early 80s but completely unable to participate in these kinds of decisions. In February of 2023 their second LTC policy will run out and their care will increase to 240k/year. Then they will be in Medicaid territory (the contract they have with the current LTC facility they are in guarantees them Medicaid slots if available). With 45k in fixed income and indefinite but not life spans, it is arguable that the ultimate financial impact of this decision will be on their estate. The key is to ensure that they can pay for their care as long as possible (my father would hate having to rely on Medicare) and still have supplemental income to pay for miscellaneous quality of life goods and services not covered by their facility.

Thanks for any feedback! Let me know if I have left anything important unclear or omitted any needed information.
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cchrissyy
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Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by cchrissyy »

i'm sorry they are in that condition!
My concern is that this will result in a huge tax hit this year, although that tax hit will take place when the brokerage funds are liquidated to fund their care in any case.
i don't see the point in paying a load of tax this year for the benefit of not paying tax in future years. furthermore, i think when one of them passes away the cost basis will step up. of course this depends on how the account is titled and their state and if there are community property laws. but i think you should look into that first and consider doing nothing until one has passed away.
even if i am wrong, you don't know how long anybody will live and so the ongoing tax cost you hope to avoid by prepaying might be nothing, in the case where both pass away and the brokerage account is inherited by somebody else with the standard step-up basis.
Makefile
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Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by Makefile »

Have you looked into how much of the medical expenses qualify for the medical expense deduction when itemizing deductions?

Perhaps the tax rate is not as high as it appears.
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galawdawg
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Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by galawdawg »

VTINX is a great conservative fund which is generating the income they require. Taking a significant tax hit now to save what may be a very modest amount of taxes annually is, IMO, not the wisest course of action. And the potential savings will be even smaller when their expenses and need for funds from their portfolio increases in February. I'd say leave it as is.
mkc
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Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by mkc »

Makefile wrote: Wed Jun 16, 2021 3:40 pm Have you looked into how much of the medical expenses qualify for the medical expense deduction when itemizing deductions?

Perhaps the tax rate is not as high as it appears.
This.

Depending on the portion of LTC that is seemed medically-necessary, there is likely a significant amount that is considered a medical deduction. It sounds like your father's entire LTC cost might be considered a medical expense (since it sounds like he requires skilled nursing assistance for all ADLs).

https://www.irs.gov/faqs/itemized-deduc ... 20expense.

in certain instances nursing home expenses are deductible medical expenses.

If you, your spouse, or your dependent is in a nursing home primarily for medical care, then the entire nursing home cost (including meals and lodging) is deductible as a medical expense.
NancyABQ
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Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by NancyABQ »

I'd say leave it how it is. It sounds to me like they will need the income.

I'd turn off dividend/cap gain reinvestment, if you haven't already. Just send the proceeds to their checking account for spending. If they don't need it to spend, you could reinvest that part in a stock index fund -- this might mean you need to rebalance at some point, but you can do any rebalancing in their IRA, if necessary.

The recommendations on tax efficient placement of funds are all well and good, especially if in the accumulation phase, but I don't think a non-optimal placement justifies causing a large capital gains tax bill just to fix it at this stage. I don't think you've made some horrible mistake by choosing that fund for them.

Also check out what the tax situation will really be with large medical deduction after LTC insurance is depleted. It probably isn't as bad as you fear.
Topic Author
jdouge
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Joined: Thu Jul 30, 2009 2:15 pm

Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by jdouge »

Thanks for the feedback. It sounds like the VTINX is a reasonable option to stick with.
NancyABQ wrote: Wed Jun 16, 2021 4:48 pm I'd say leave it how it is. It sounds to me like they will need the income.

I'd turn off dividend/cap gain reinvestment, if you haven't already. Just send the proceeds to their checking account for spending. If they don't need it to spend, you could reinvest that part in a stock index fund -- this might mean you need to rebalance at some point, but you can do any rebalancing in their IRA, if necessary.

The recommendations on tax efficient placement of funds are all well and good, especially if in the accumulation phase, but I don't think a non-optimal placement justifies causing a large capital gains tax bill just to fix it at this stage. I don't think you've made some horrible mistake by choosing that fund for them.

Also check out what the tax situation will really be with large medical deduction after LTC insurance is depleted. It probably isn't as bad as you fear.
I will switch the reinvestment option to a deposit into their checking account. It will be needed there. Thanks for the reassurance on my past decision, as well.

However, it looks like I now have another issue to deal with:
mkc wrote: Wed Jun 16, 2021 4:11 pm
Makefile wrote: Wed Jun 16, 2021 3:40 pm Have you looked into how much of the medical expenses qualify for the medical expense deduction when itemizing deductions?

Perhaps the tax rate is not as high as it appears.
This.

Depending on the portion of LTC that is seemed medically-necessary, there is likely a significant amount that is considered a medical deduction. It sounds like your father's entire LTC cost might be considered a medical expense (since it sounds like he requires skilled nursing assistance for all ADLs).

https://www.irs.gov/faqs/itemized-deduc ... 20expense.

in certain instances nursing home expenses are deductible medical expenses.

If you, your spouse, or your dependent is in a nursing home primarily for medical care, then the entire nursing home cost (including meals and lodging) is deductible as a medical expense.
I will deduct them for him going forward* (and refile his for 2020; he moved into skilled nursing just before his LTC expired so there is no doubt he qualifies for the deduction) as well as for my mother (who is in a memory care wing and also certainly qualifies) once hers expires in 2023.

*I am assuming the LTC costs would not be deductible medical expenses while the LTC insurance was still paying out? I actually can't find any information to support that, but I notice that my parents' tax preparer in 2016 and 2017 did not deduct any medical expenses due to his assisted living costs (I have done them since 2018 and have not deducted these costs either). It would not seem to make sense that they could deduct the expenses while simultaneously being reimbursed for them, but often the tax code does not make sense! If so, I would be refiling all the way back through 2016! I have just done a bunch of online research and cannot find that answer, I assume because it is (a common-sense) no.

Thanks to everyone who responded. This community is amazing. I don't know how people like me, with limited financial knowledge, catch and deal with these situations without this kind of support and advice.
mkc
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Joined: Wed Apr 17, 2013 2:59 pm

Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by mkc »

jdouge wrote: Wed Jun 16, 2021 6:09 pm
However, it looks like I now have another issue to deal with:
mkc wrote: Wed Jun 16, 2021 4:11 pm
Makefile wrote: Wed Jun 16, 2021 3:40 pm Have you looked into how much of the medical expenses qualify for the medical expense deduction when itemizing deductions?

Perhaps the tax rate is not as high as it appears.
This.

Depending on the portion of LTC that is seemed medically-necessary, there is likely a significant amount that is considered a medical deduction. It sounds like your father's entire LTC cost might be considered a medical expense (since it sounds like he requires skilled nursing assistance for all ADLs).

https://www.irs.gov/faqs/itemized-deduc ... 20expense.

in certain instances nursing home expenses are deductible medical expenses.

If you, your spouse, or your dependent is in a nursing home primarily for medical care, then the entire nursing home cost (including meals and lodging) is deductible as a medical expense.
I will deduct them for him going forward* (and refile his for 2020; he moved into skilled nursing just before his LTC expired so there is no doubt he qualifies for the deduction) as well as for my mother (who is in a memory care wing and also certainly qualifies) once hers expires in 2023.

*I am assuming the LTC costs would not be deductible medical expenses while the LTC insurance was still paying out? I actually can't find any information to support that, but I notice that my parents' tax preparer in 2016 and 2017 did not deduct any medical expenses due to his assisted living costs (I have done them since 2018 and have not deducted these costs either). It would not seem to make sense that they could deduct the expenses while simultaneously being reimbursed for them, but often the tax code does not make sense! If so, I would be refiling all the way back through 2016! I have just done a bunch of online research and cannot find that answer, I assume because it is (a common-sense) no.

Thanks to everyone who responded. This community is amazing. I don't know how people like me, with limited financial knowledge, catch and deal with these situations without this kind of support and advice.
Assisted living costs are not deductible unless there are medically-necessary costs. Then only those medical-related (skilled nursing, etc.) portions charged during assisted living would be deductible. LTC costs where skilled nursing is involved are different.

Recalling walking through TurboTax on this, first you list the medical expenses in their entirety, then there is a section where you put in any reimbursements (this would be the LTC insurance reimbursement). So, let's say the cost was $100K and the reimbursement was $80K. $20K is the net amount that can be applied to medical deductions (well, once you exceed the 7.5% AGI amount). So yes, LTC costs in excess of the reimbursement amount count towards the medical deduction (which is the grand total, less any reimbursements, that's above your parents' AGI).
Topic Author
jdouge
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Joined: Thu Jul 30, 2009 2:15 pm

Re: TDF in taxable in parents account -- DPOA needs advice on potential reallocation of assets

Post by jdouge »

mkc wrote: Wed Jun 16, 2021 7:05 pm
Assisted living costs are not deductible unless there are medically-necessary costs. Then only those medical-related (skilled nursing, etc.) portions charged during assisted living would be deductible. LTC costs where skilled nursing is involved are different.

Recalling walking through TurboTax on this, first you list the medical expenses in their entirety, then there is a section where you put in any reimbursements (this would be the LTC insurance reimbursement). So, let's say the cost was $100K and the reimbursement was $80K. $20K is the net amount that can be applied to medical deductions (well, once you exceed the 7.5% AGI amount). So yes, LTC costs in excess of the reimbursement amount count towards the medical deduction (which is the grand total, less any reimbursements, that's above your parents' AGI).
Since I think TurboTax (and the 1040 and schedules in general) separates out the LTC insurance benefits by partner when filing jointly, but not overall expenses, I may have to file them separately? I guess I'll find out when I go through it. Their situation is complicated by another factor that actually was a financial windfall: they had an "indemnity" policy that paid a fixed amount, usually well in excess of their incurred costs. So in 2021, my mother's LTC insurance will pay out close to 120k while her costs will be around 72k, none of that deductible because it is all reimbursed (and then some). Meanwhile my father will incur well over 100k (in skilled nursing, yes) with none of it reimbursed. It seems like virtually all of my father's costs will qualify to be deducted, minus consumables like OTC medications and diapers, etc. Here's the IRS publication above quoted more fully, with some additional commentary:

IRS Pub 502: "Nursing Home: You can include in medical expenses the cost of medical care in a nursing home, home for the aged, or similar institution, for yourself, your spouse, or your dependents. This includes the cost of meals and lodging in the home if a principal reason for being there is to get medical care. Don't include the cost of meals and lodging if the reason for being in the home is personal. You can, however, include in medical expenses the part of the cost that is for medical or nursing care.
Nursing Services: You can include in medical expenses wages and other amounts you pay for nursing services. The services need not be performed by a nurse as long as the services are of a kind generally performed by a nurse. This includes services connected with caring for the patient's condition, such as giving medication or changing dressings, as well as bathing and grooming the patient. These services can be provided in your home or another care facility."

Looks like it will apply for my mother when her LTC runs out as well (Kiplinger Tax Newsletter expanding on the IRS language above): "The care must also be for a chronically ill person and provided under a care plan prescribed by a licensed health care practitioner. A person is “chronically ill” if he or she can’t perform at least two activities of daily living—such as eating, bathing or dressing—without help for at least 90 days. This condition must be certified in writing within the last year. Anyone with a severe cognitive impairment, such as dementia, is also considered chronically ill if supervision is needed to protect his or her health and safety.” They definitely qualify under those descriptions (albeit for unfortunate reasons).

That will significantly reduce their tax bracket, especially after my mother's insurance runs out, and the discussion above has clarified that for me as well as what regarding their care is now deductible. Thanks very much everyone again!
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