October is LGBT History month and I’d like to highlight a landmark moment in history: The Supreme Court ruling on legalizing same-sex marriage on the federal level.
It has been just over three years since same-sex marriage was passed and today we find ourselves in a completely different political environment that may put it at risk. For this reason, I will focus on just a few of the 1,138 federal benefits that same-sex married couples can now enjoy.
It’s important to note that for gay and lesbian couples, there are still many gray areas when setting up a financial plan. Despite same-sex marriage being legal, same-sex couples need to make sure they weigh the legal and financial differences of getting married versus opting out of marriage. To best serve clients and potential clients in the LGBT community who are wondering about the financial repercussions of marriage, be prepared to review their financial situations. I’d like to clarify the impact of same-sex marriage regarding a couple’s financial plan, whether they are married, legally single or in an alternative union such as a registered domestic partnership.
According to statistics from the FPA Annual Conference presentation by Ajamu Loving, Ph.D., 48 percent of same-sex couples already work with a financial professional, but still 77 percent worry about not having enough in retirement. But that means 52 percent of same-sex couples are not working with a financial professional, and Loving said this population is affluent, has high income, high retirement savings and many couples surveyed are debt-free. Sounds like an ideal client you might want to prepare for.
In order to get prepared to serve clients and potential clients in the LGBT community, understand the following:
Often there is a different mindset about “marriage” and “the future” among the LGBT community. Most of my gay and lesbian clients who are in committed relationships became clients without having any legal partnership and thus had endless financial liabilities. Same-sex couples wait longer to get married (if at all).
Social, cultural and political factors aside, let’s consider some of the financial consequences of marriage. One of the first benefits of marriage that same-sex couples think of is filing joint tax returns. Prior to the Supreme Court rulings on same-sex marriage, LGBT married couples had to file two sets of tax returns each: married state tax returns (assuming their state recognized same-sex marriage) and individual federal returns. Now that some LGBT married couples can file joint taxes on both the state and federal level, it’s important to know the potential “marriage penalty” taxes when spouses have similar income.
When a married couple (LGBT or not) has two high-income earners, filing joint tax returns can actually result in higher taxes than if they were to file as unmarried, single individuals. It’s only when incomes are dissimilar amongst married couples that filing joint tax returns proves to be beneficial. An option to marriage for same-sex unmarried couples who are on the fence, is to become registered domestic partners (hereinafter RDPs) as a way to avoid a higher federal tax bracket. In California, RDPs still get the benefit of filing joint state tax returns, but they must file separate federal returns. This means that same-sex couples have more room to be creative with their taxes if both earn incomes that are higher than average. Aside from being able to avoid the marriage penalty, RDPs who have very different incomes can file state taxes as “Head of Household” and “Dependent,” opening the door to higher state tax savings.
Retirement planning can also present same-sex couples with both advantages and disadvantages depending on their marital status and income. Married couples have many more rights when it comes to inheriting retirement assets. For example, if one spouse passes and leaves behind her IRA account, the surviving spouse can choose to roll that IRA into her own IRA and continue to enjoy the tax benefit of deferring capital gains taxes until cashing out in retirement. On the other side of the token, an unmarried partner (or RDP) who inherits her partner’s IRA will not be able to combine it with her own IRA. Instead, the surviving partner would have to create a separate Beneficiary IRA and be forced to take taxable withdrawals either annually for the rest of her life, within five years or immediately upon receipt of the IRA assets (which could create a huge tax bill if the IRA is large).
This also goes for employer-sponsored retirement plans such as a 401k or 403b. Another advantage that spouses have over unmarried couples is the “spousal IRA,” which is a type of IRA that allows a working spouse to contribute to a non-working spouse’s retirement savings. The main advantage to unmarried couples when it comes to retirement planning involves eligibility for the Roth IRA and its tax-free distributions at retirement. For 2018, individuals who file taxes as “Single” may contribute the maximum to a Roth IRA until their modified adjusted gross income (MAGI) reaches $120,000. For married couples, however, the ceiling is much lower because they can only have a combined MAGI of $189,000 before becoming ineligible to max out a Roth IRA. Similar to the marriage penalty with income taxes, married couples who are both high income earners have less likelihood of being able to contribute to a Roth IRA than unmarried couples or RDPs.
There are many other financial and legal issues that same-sex couples need to consider such as Social Security, Medicaid (known as Medi-Cal in California), capital gains taxes, as well as gift and estate taxes as they relate to shared property—this is exactly why planners should become more knowledgeable about the LGBT community and issues it faces.
Disclaimer: This article contains general information and is not intended as legal or tax advice. Every case must be reviewed independently with an attorney or tax adviser.
Editor’s note: A version of this blog post appeared on the Gerber Kawasaki website. You can find that version here.
Robert Castillo, ADPA® is a financial adviser at Santa Monica, Calif.-based Gerber Kawasaki, an independent investment advisory and wealth management firm where the advisers collectively manage over $656 million in assets. Castillo is also an accredited domestic partnership adviser and has been specializing in financial planning for LGBT same-sex and unmarried couples since 2009. He is also a 2018 Financial Planning Association Diversity Scholarship winner. To contact Castillo, please email him at Robert@GerberKawasaki.com, or follow him on Twitter at @RCastilloLA