You wrote in your Nov. 1, 1987, column that even though a person has withdrawn in one lump sum all the contributions made earlier to the federal retirement system, subsequent payments would include taxable and nontaxable components, with the latter as a "nontaxable return of your contribution." Is this true for contributions withdrawn in the lump sum payment?
You're missing an important element of that lump sum withdrawal. Although you are allowed to withdraw a sum equal to your total contributions to the system, technically the payment is not a return of those contributions. The lump sum distribution is partly taxable and partly nontaxable, based on the same ratio between contributions and expected return that is applied to all subsequent payments.
The Civil Service Commission looks at this initial lump sum distribution as a return of your contributions. The Internal Revenue Service, however, considers it simply the first, though larger, installment of what will be a lifetime series of retirement payments.
For tax purposes, therefore, you must apply the refund-of-contributions ratio to each payment, including the first.
Remember that you are now required to keep track of the accumulating total of nontaxable funds. When that total equals the total of your lifetime contributions to the fund, all future retirement payments are 100 percent taxable. But there are different effective dates for these two new rules. The first change, which was the termination of the three-year recovery rule and application of the contribution ratio to all payments, applies to workers who retired after July 1, 1986. The second change, which was the loss of the partial exclusion after recovery of total contributions, applies to those retiring after Dec. 31, 1986.
In 1981, when interest rates were very high, my wife and I borrowed from the cash loan value of our insurance policies, at 5 percent, to buy a $30,000 single-premium insurance policy for her. In the light of the reduction of personal interest to 65 percent of actual interest cost, would the fact that the borrowing was done to make an investment in the single-premium policy make the interest 100 percent deductible on schedule A?
I've got bad news for you -- and it isn't related to the 35 percent exclusion of personal interest under the Tax Reform Act of 1986. Since 1981 interest expense on money borrowed to buy or carry single-premium life insurance has not been an authorized schedule A deduction. If you claimed the deduction, you owe the IRS an amended return by using form 1040X to correct the error.
In your Sept. 28 column about a return gift to a parent, you listed the wrong form. The form should be 709, not 709A. Also, the estate tax credit is $192,800, not $600,000.
You're right on the form number. Form 709A, the short form for the gift tax, is generally used only for gifts of $20,000 or less to show spousal concurrence. In the case discussed, the son should use the long form 709. The two dollar figures, however, are correct. The unified gift and estate tax "credit" is $192,800, but that credit is taken against the tax itself. The amount of the credit is equivalent to an exemption -- or exclusion, as I called it -- of $600,000 in asset value.
Please clarify the tax implications of switching among funds of a mutual fund sponsor holding a rollover individual retirement account. I have three funds with the same sponsor, and they tell me how easy it is to switch. Would such a switch be a rollover, of which only one can be made once a year?
As I explained, when you make a switch of this type -- where you don't get the funds and redeposit the money yourself -- it is a trustee-to-trustee transfer rather than a rollover, and there is no limit on the number you can make a year. And within an IRA account, there are no tax consequences.
But a word of caution: If you switch fund assets outside an IRA, each switch represents a sale and purchase, and each is taxable.
Abramson is a family financial counselor and tax adviser. Questions of general interest on tax matters, insurance, investments, estate planning and other aspects of family finances will be answered in this column. Advice cannot be given on an individual basis. Address all questions to E.M. Abramson, The Washington Post, Business &Finance News, 1150 15th St. NW, Washington, D.C. 20071.