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What is a Grantor Letter and how is it different from a K-1?

Financial Planning Dentist

A grantor letter and a Form 1065 Schedule K-1 are essential documents in taxation and financial reporting, each serving distinct purposes.

The grantor letter, also known as a grantor statement or grantor trust letter, is issued by the creator (grantor) of a trust to its beneficiaries. It furnishes details on the tax treatment of income generated within the trust, including earned income, deductions, and other relevant tax information. This letter enables beneficiaries to accurately report their share of the trust’s income on their personal tax returns.

On the other hand, the Form 1065 Schedule K-1 is utilized by partnerships, LLCs, and S corporations to inform partners, members, or shareholders of their portion of the entity’s income, deductions, credits, and other pertinent tax items. Each recipient receives a personalized form tailored to their specific income distribution or ownership interest, aiding them in their individual tax filings.

Although both documents facilitate tax reporting and promote transparency, they differ in origin and focus. Grantor letters originate from trust creators and center on trust income tax treatment, while K-1 forms are issued by entities to their stakeholders, providing comprehensive details on income distribution and tax-related matters specific to the entity.

When establishing trusts, tax management is crucial, with the grantor’s tax responsibilities often influencing trust structure. Grantor trusts, which allow the grantor to retain certain powers or ownership benefits, necessitate the issuance of grantor letters for tax reporting purposes. Even though revocable trusts may streamline asset distribution post-mortem, they typically do not alleviate the grantor’s tax obligations during their lifetime, requiring them to include trust income details in their personal tax filings.

In summary, while both grantor letters and K-1 forms play pivotal roles in tax compliance and financial transparency, their issuance, focus, and applicability differ significantly, reflecting the distinct contexts in which they are employed.

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Definitions: Assets

Asset An asset represents a positive economic value owned in whole or in part by a company or individual. It represents ownership over the positive benefits and values that the entity inherently has, could have or creates continuously. Generally speaking it is any positive value on the balance sheet.  Types of used as investments: Current Assets Current assets are short-term economic resources that are expected to be converted into cash within one year. Current assets include cash and cash equivalents, accounts receivable, inventory, and various prepaid expenses. Cash and cash equivalents are the easiest assets to value as there is very little time value or fluctuation in their inherent value. Cash and cash equivalents should have zero liquidity risk. Fixed Assets Fixed assets are long-term resources, such as plants, equipment, and buildings. An adjustment for the aging of fixed assets is made based on periodic charges called depreciation, which may or may not reflect the loss of earning powers for a fixed asset. Generally accepted accounting principles (GAAP) allow people and companies to depreciate fixed assets under two methods:  The straight-line method assumes that a fixed asset loses its value in proportion to its useful life. Think buildings. The accelerated method assumes that the asset loses its value faster in the first years of its use, and less in the latter. Think equipment or cars. Financial Assets Financial assets represent stocks, bonds and other investments in the assets and securities of institutions and enterprises. Financial assets include stocks, sovereign and corporate bonds, preferred equity, and as those elements are combined into other securities includes exchange traded funds and mutual funds. Financial assets are valued using the capital asset pricing model (CAPM). Financial assets can be both marketable (sold broadly with a robust market) or non-marketable where there is no active bid for the asset and a market must be formed.  Intangible Assets Intangible assets are legal representations of ownership of elements that have no physical presence, but their ownership can produce a sale or cash flow. They include patents, trademarks, copyrights, and royalties. Accounting for intangible assets differs depending on the type of asset, and they can be either amortized or tested for impairment each year. Valuation and marketing of intangible assets is by far the hardest category of assets to own and manage. 

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December 13, 2020 No Comments
Articles
Kevin Taylor

What might a Russian war do to markets?

It feels so good to write an article about something other than the virus that shall not be named. And I feel I have a better understanding of geopolitical movements and markets than I did with the nuance of microbiology. Additionally, we have far more applicable historical references for the Russian invasion scenario than we do for global pandemics. If you are not interested in geopolitics and markets, this is one of my favorite moments in Seinfeld that will sum up the below with brevity:   Phase 1: Short Sharp Shock Markets hate uncertainty, war and conflict certainly provide that. And while markets react quickly and usually down to news like this, they are short-lived. Additionally, markets are made of many different companies and commodities and several react positively in times of uncertainty. The market is resilient, and while near-term moves are disruptive, they don’t change the economics of the world. Historically, markets shrug off geopolitical upheavals. More so in the last two decades. Removing the domestic attacks in New York and Boston total stock market moves on the heels of global conflict is less than 1% on average. We are likely between 2 weeks and 3 months of a lack of clarity in the Russia/Ukraine invasion. The inflation expectations and federal rate hikes will have a larger impact on pricing in the market that window. Inflation will not be resolved in the short run and is being adjusted in the market. Also,  the rate hikes we expect will create volatility are running their course. These are more critical to the health of the markets than the whims of eastern European dictators. There is not a recession on the horizon, employment is too low, and demand is too high.= Phase 2, Russia is not economically important (neither is Ukraine) Forgetting the fact that many of us have grown up on James Bond and his constant runs with the KGB, Russia is a 3rd world dictatorship with a limited capacity to alter global commerce and economics. Russia is a failed democratic state in eastern Europe (there are several to choose from) it just has a larger landmass than the others we can name. Russia is a large oil exporter, and Ukraine is 61st on that list. This may cause a spike in the near-term costs of crude as a result, but the economic size of these companies is small and limited in reach. I think people are too soon to forget, the last invasion of Ukraine by Russia was in 2014 (and they still occupy Crimea today). While an oil spike has historically caused distortions in the equity markets. It also brings margins into several of the United States oil producers. But the OVX (oil volatility index) has moved from the low 40’s to the high 40’s, which is not a signal that oil traders are buying up the oil panic. Sanctions, particularly on those who do business with Russia post-invasion, will hamper those companies and countries. But few of them are not prepared for this event that has been weeks in the making. And very few of the SP500 companies, and our portfolio for you, have major exposures to eastern Europe. Russia and its decisions to be “anti-western” and “anti-capitalist” have mitigated its ability to be an important economic center for almost my whole life (there was a brief window from 1991 to 1997 where it was possible, but that’s gone). Markets will move on from today’s press conference. Phase 3, a Return to fundamentals The actions of the FOMC are allowing markets to reprice risk and growth. And while this is causing a short-term drop in the multiples companies are trading at, it doesn’t change the underlying fundamentals of the economy. Labor inflation is here to stay, it is a stubborn number. But the by-product is more money in the hands of workers and the employed which is good for the economy. The inflation caused by supply chain issues will be corrected by the market in the near term. This means wages rise for the foreseeable future, but prices of products eventually come down (but not below pre-pandemic levels). Fundamental investing is volatile, mostly because it is dependent on the earnings of specific companies and sectors which change. As we remove the nearly limitless supply of money coming into the economy, it will prove that some companies with wide, defensible margins, will survive and others won’t. This is not a market for heroes! The last 3 years have produced +28%, +16%, and +26% in upside for equities, some pullback was inevitable. Fixed income is still not a great play. Bonds are selling off wildly, and the expectation that the Fed leaves this market will only accelerate the bond woes. Short duration and corporate bonds are the only suitable investments for fixed income and even those sectors will require a strong stomach. The fed will not be able to raise rates seven times in the next 18 months. There will be setbacks where rates are left to pause as markets get frustrated. Jerome Powell is a market-centric fed chair. He, and others, will adjust to accommodate capital markets.

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February 11, 2022 No Comments

Investment Bias: Anchoring

Everyone has heard a mantra about first impressions and their lasting impact. That works for investors too. Because our brains thrive on recognizing patterns and the relationship one element has with another. This mental phenomena is called anchoring.  This want for your brain to resort to a reference point and “work form there” is helpful when trying to process new information. But it’s negative when trying divine the “value” of something. Traditionally investors think of an investment as being good or bad, by looking at the point where they bought it. This is anchoring, and backwards looking. Telling me where you purchased a stock tells me very little about its current value. Anchoring bias is the tendency to rely too heavily on, or anchor to, a past reference or one piece of information when making a decision. In this case, the purchase price.  Many studies work with anchoring to prove how the mind works. He’s an example: Take the last two digits of your phone number and answer this questions: A good bottle of wine should cost how much more or less than those two digits?  _ Your digits  _ wine bid The bias has already taken place and caused the brain to focus on the arbitrary number. The impact is done. It should come as no surprise the people with lower phone numbers bid less for the wine as a group, those with higher digits bid more. All come from an arbitrary reference point that contaminates the valuation process.  This happens a lot in investing, a person buys a stock at $10, and the other person buys the stock at $15, the stock has recently dropped from $25 to $20, the person with a $15 entry is more likely to sell then the person at $10. But both are wrong because they use the purchase price in their valuation. The $10 buys may hold too long, and the $15 buyer may sell too soon, but the valuation of the stock should be determined regardless of the entry. The bias has taken its toll on both investors.

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December 17, 2020 No Comments

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