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Archive for the ‘Taxes’ Category

When you agreed (if you agreed) to become someone’s executor, I don’t know if everyone is really ready for the work that’s required of you.  If you have some money, there’s usually a trust company who will happily charge you a fee to help you through the process.  If the estate is large or complicated, I recommend looking at these services because as executor you have now taken on legal responsibility to ensure the will is executed and not to scare anyone, if it’s found that not everything has been done properly the estate and government CAN (not would) legally seek compensation.

The Ontario government has a pretty good website to help you to deal with the situation:  http://www.ontario.ca/government/what-do-when-someone-dies

So first you need to determine if the person has died intestate which is the legal term for someone who died without a will.  If that’s the case the government will seek out an executor (most likely a close relative) and ask them if they want to be executor and if the answer is yes, the estate will be disposed of and distributed according to a government formula.  Usually it works like this (I have listed Ontario law, but most other provinces follow something similar):

  • If have spouse and no children  (issue – don’t have to be legitimate) – everything to spouse
  • If spouse and issue  AND estate less than 200K – everything to spouse
  • If spouse and  One issue AND estate greater than 200K – first 200K to spouse and remainder 50/50 to spouse and issue
  • If spouse and multiple issues AND estate greater than 200K – first 200K to spouse remainder 2/3 equally divided among children and 1/3 to spouse
  • No spouse and no issue – parents first and if no parents then equal among siblings  and if no siblings then nieces and nephews and if no close relative then next of Kin and there’s a whole table to see who’s down the line.

The government will be happy to deal with the estate for you (for a fee with set rates).

Say you are an executor for someone who died testate (have a will) then you as the legal representative is there to ensure the will gets executed the way the deceased intended.

But before you get happy handing out money, you need to ensure the following are done:

  1. Get a death certificate  and the will (originals) – this will be your ID as you act as executor.
  2.  Determine if the estate needs to be probated.  The probate will affirm your position as an executor but it is not legally required and often it’s avoided to save some money.  In Ontario the probate fee is approx 1.5%.  General rule of thumb is that if the estate is simple (cash, RRSP) and the amount are small, usually around 50-100K you maybe able to get away with out filing probate.  If that’s not the case then probate will be required before you will be able to sell property or take money out of bank accounts etc from financial institutions.  If probate is required you will have to head to court and fill appropriate paperwork and pay the fee.  Again fee structure vari province to province so look up your local rules.

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Over the last few weeks, it seems every article I read is about taxes.  There are articles discussing the merits of the Paul Ryan tax plan; there are articles about President Obama’s Buffet rule tax plan and of course there are the articles about the tax rates of both Mr. Romney and President Obama.

The issue I have with all these discussions about taxes and tax rates is that they never tell you if they are talking about marginal or effective tax rate.  Why does it matter?  It matters because using one versus the other can lead to very different conclusions about what is a reasonable tax rate and how much someone pays at the end of the day. There is a lot of loose talk about marginal tax rates and average tax rates (also called effective tax rates).   The intermingled and often incorrect usage of these two different rates is distorting the numbers bantered about in the tax debate and confusing the whole discussion.

So what is the difference?

  • Your marginal tax rate is the rate of tax you pay on each additional dollar of income you earn.  In most news stories this is the tax rate being discussed  because it requires no calculation.  The top marginal tax rate for federal taxes in 2012 is 35%. So if that is your marginal tax rate and you get a $100 dollar raise, you will pay 35 dollars more in tax than before.
  • Your effective or average tax rate is the rate of tax you actually pay on your whole income.  It is affected by the different brackets of income you have earned and needs to be calculated (see below). The discussion of how much taxes Mr. Romney and President Obama pay is all about their effective tax rate — the rate of tax they actually pay.

Now how can these two different rate distort the tax debate?  Let’s look at an example.

Let’s say you are single and you make $50,000 from a salaried job with no investment income and no deductions; then your marginal federal tax rate is 15%. This means you pay 15% on ‘the next dollar’ after $50,000 and every dollar thereafter.  You will then add your state tax of say 9% and payroll taxes (social security and medicare) of 7.65% (temporarily reduced to 5.56% for 2011 and 2012).  Now, you might think that your effective tax rate is around 32% (15+9+7.65=31.65%). This is wrong but this is exactly the way that the media, clients and writers of comments on news article often talk about taxes. I think this is the basis for a lot of the idea that taxes are too high.

Now, lets look at the actual effective tax rate of our hypothetical tax payer. If we assume for simplicity that you have no deductions, at an income level of $50,000 then your effective federal tax rate is actually 8.96%.  How is that you ask? First, everyone gets the standard deduction and personal exemption which totals to $9,500.  This is an amount you don’t pay taxes on at all.  This means your taxable income is really only $40,500. Next, because the tax code is progressive you actually pay a 10% marginal rate on income under $17,400. You only pay the 15% marginal rate on income above $17,401.  Therefore, once you average all of this out, your effective rate of federal tax is lower than the 15% marginal rate, just 8.96%.

You can use a calculator such as this take-home-pay calculator from calculator.net to find out what your total effective tax rate from earned income will be before deductions including state and payroll taxes. I ran the same state rate as in my marginal tax rate calculations and the effective overall tax rate is 24% (23.6%)  and not 32% derived from using only marginal rate figures.

So without doing anything different in income or rates I have shaved 8% off “your tax.”  This is why it is important to know when people are quoting tax rates which one they are using.  It’s the same reason there are laws to require discussions about interest rates to be done in APR. There are many other ways to discuss interest, but to allow consumers fair comparison among lenders they need to be using the same calculations so you can be sure you are comparing apples to apples.

To allow a fair discussion about tax policy and fairness we all need to be using the same numbers.

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