What are derogatory marks and how can you fix them?

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Having a few items on your credit report dragging down your score can be incredibly frustrating, especially if you have a good financial record.

A derogatory mark is a negative item on your credit report that can be fixed by removing it or building positive credit activity. Because derogatory marks can stay on your credit report typically for seven to ten years, it’s important to know how to fix them.

Derogatory marks can affect your credit score, your ability to be approved for credit and the interest rates a lender offers you. Some derogatory marks are due to poor credit activity, such as a late payment. Or it could be an error that shouldn’t be on your report at all.

Types of negative items include late payments (30, 60, and 90 days), charge-offs, collections, foreclosures, repossessions, judgments, liens, and bankruptcies. We’ll cover what each one of these means, and how they can impact your credit reports.

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How do derogatory marks impact my credit score?

The amount that derogatory marks lower your credit score depends on the mark’s severity and how high your credit score was before the mark. For instance, bankruptcy has a greater impact on your credit score than a missed payment or debt settlement. And, unfortunately, having a derogatory mark impacts a high credit score more than it does a low credit score.

According to CreditCards.com and CNNMoney, even a single negative on your credit could cost you over 100 points. Negative items on your credit could cost you thousands of dollars in higher interest rates, or you could be denied altogether.

negative item score decrease stats

How long a derogatory mark stays on your credit report depends on the type of mark.

How long do derogatory marks stay on my credit report?

Derogatory marks usually stay on your credit report for around seven to ten years, depending on the type. After that period passes, the mark will roll off your report and you should start seeing a change in your credit score.

Here’s how long each derogatory mark stays on your credit report:

Type of derogatory mark What is it? How long does this stay on a credit report?
Late payment Late payments are payments made 30 days or more after the payment due date. Typically, this can remain on your report for seven years from the date you made a late payment.
An account in collections or a charge-off Creditors send your account to collections or charge them off if there’s been no payment for 180 days. Typically, this can remain on your report for seven years from the date you made a late payment.
Tax lien A tax lien is when the government claims you’ve neglected or failed to pay taxes on your property or financial assets. Unpaid tax lien: Can remain on your report indefinitely.

Paid tax lien: Can remain on your report seven years from the date the lien was filed.

Civil judgment Civil judgments are a debt you owe through the court, such as if your landlord sued you over missed rent payments. Unpaid civil judgment: Can remain on your report for seven years from when the judgment was filed, but can be renewed if left unpaid.

Paid civil judgment: Can remain on your report for seven years from when the judgment was filed.

Debt settlement Debt settlement is when you and your creditor agree that you will pay less than the full amount owed. A typical time period is seven years, starting from when the debt was settled or the date of the first delinquent payment if there were missed payments.
Foreclosure Foreclosure is when you fail to pay your mortgage and you forfeit the right to the property. Typically, seven years from the foreclosure filing date.
Bankruptcy Bankruptcy is a court proceeding to discharge your debt and sell your assets. Can remain on your report for seven years for Chapter 13 bankruptcy. Chapter 7 bankruptcy can remain on your report for 10 years.
Repossession A repossession is when your assets are seized, such as a vehicle that was used as collateral. Can remain on your report for seven years from the first date of the missed payment.

Types of derogatory marks

Late payments

Late payments occur when you’ve been 30, 60, or 90 days late paying an account. Although you don’t want late payments on your credit reports, an occasional 30 or 60-day late payment isn’t too severe. But you don’t want frequent late payments and you don’t want late payments on every single account. One recent late payment on a single account can lower a score by 15 to 40 points, and missing one payment cycle for all accounts in the same month can cause a score to tank by 150 points or more.

Payments 90 days late or more start to factor more heavily into your credit score, and consecutive late payments are even more harmful to your score, as each subsequent late payment is weighted more heavily. Sometimes, creditors will report payments as late as 120 days, which can be almost as severe as charge-offs and collections. Late payments can be reported to the credit bureaus once you have been more than 30 days late on an account and these late payments can stay on your credit reports for up to seven years.

Charge offs

A charge off is when a creditor writes off your unpaid debt. Typically, this occurs when you have been 180 days late on an account. Charge offs have a severely negative impact on your credit, and like most other negative items can stay on your credit reports for seven years. When an account is charged off, your creditor can sell it to collection agencies, which is even worse news for your credit.

Creditors see a charge off as a glaring indication that you have not been responsible with your finances in the past and cannot be counted on to fulfill your financial obligations in the future. When creditors see a charge off on your credit reports, they are more likely to deny any new applications for loans or lines of credit because they see you as a financial risk. If you do qualify, this can mean higher interest rates. Current creditors can respond by raising your interest rates on your existing balances.

Tax liens

In most cases, liens are the result of unpaid taxes – whether it’s at the state or the federal level. For a federal tax lien, the IRS can place a lien against your property to cover the cost of unpaid taxes. Tax liens can make it difficult to get approved for new lines of credit or loans because the government has claimed to your property. What this means is that if you default on any other accounts, your creditors have to stand in line behind the IRS to collect.

Unpaid liens can stay indefinitely on your credit reports. Once they have been paid, however, they can stay on your reports for up to seven years. Like judgments though, the credit bureaus are strictly regulated on how they can report liens because they are also public records.

Civil judgments

Judgments are public records that are also referred to as civil claims. A judgment can be taken out against a debtor for an unpaid balance. A creditor or collection agency can file a suit in court. If the court rules in favor of the creditor, a judgment is taken out against the debtor and put on their credit reports. This, like many other negative items, has a severely negative impact, and like most other negative items can be reported for seven years.

Judgments are also another indication that a person won’t pay their debts. Lawsuits are time-consuming and costly, so they are something that creditors potentially want to avoid. When a judgment is filed though, it can impact more than credit. The judge may allow the creditor to garnish a debtor’s wages, which can heavily impact finances.

Collections

Collections are the most common types of accounts on credit reports. About one-third of Americans with credit reports have at least one collection account. Over half of these accounts are due to medical bills, but other accounts like unpaid credit cards and loans, utilities, and parking tickets can be sold to collections.

Collections arise from debts that are sold to third parties by the original creditor if a bill goes unpaid for too long. They have a severe negative impact on your credit and can stay on your reports for up to seven years. When potential creditors see collections on your credit reports, it can raise flags and cause them to think that you won’t pay your debts.

Foreclosures

A foreclosure is a legal proceeding that is initiated by a mortgage lender when a homeowner has been unable to make payments. Usually, a lender will file a foreclosure when a homeowner has been three months late or more on mortgage payments.

When a lender decides to foreclose, they begin by filing a Notice of Default with the County Recorder’s Office, which begins the legal proceedings. If a foreclosure goes through and a homeowner can’t catch up on payments, then they are evicted from their home, and the foreclosure is reported to the credit bureaus.

Bankruptcies

Bankruptcy is extremely damaging to credit. Individuals who file for bankruptcy are those who have too much debt, and not enough money to pay it. They likely have had overdue accounts for a long period of time and in some cases loss of income that prevents them from being able to pay any of their bills. Bankruptcies can also arise from huge medical debt.

Whether or not file for bankruptcy is a difficult decision, and doing so can impact your credit from seven to ten years, depending on the type of bankruptcy you file. When a bankruptcy is filed, debts are discharged and the individuals filing are released from most of their previously incurred debts (there are some exceptions). This option can give people a “clean slate” from debt, but creditors don’t like to see it on credit reports because it can imply that an individual won’t pay their debts.

Repossessions

A repossession is a loss of property on a secured loan. Secured loans are where you have collateral, like a car or a house, and the loss occurs when the lender takes back the property because of the inability to pay. Usually, when this occurs, the lender will auction off the collateral to make up for the remaining balance, although it doesn’t usually cover the remaining balance.

When there is a remaining balance, the creditor may choose to sell it off to collections. A repossession has a severe negative impact on credit because it shows a debtor’s inability to pay back a loan. Usually, a repossession follows a long line of late payments and can knock a lot of points off a credit score.

How can I improve my credit score with derogatory marks on my credit report?

If you have derogatory marks, you can improve your credit score by working to rebuild your credit. By boosting your credit score, you’re more likely to get approved for loans and credit cards.

Here’s how to improve your credit score based on the type of derogatory mark:

Derogatory mark What to do to improve your credit score
Late payments Pay off the full debt as soon as possible. If there are late fees, ask the creditor to drop the fee (they often do if it’s your first time being late).
Stay on top of your payments with other lenders to show that you’re responsible, reducing the impact of a late payment.
An account in collections or a charge-off Pay off the debt or negotiate a settlement where you pay less than the full amount owed. Making a payment doesn’t remove the negative mark from your report, but prevents you from being sued over the debt.
Tax lien Pay the taxes you owe in full as soon as possible. Continue to make timely payments with any creditors and lenders.
Civil judgment Pay off the judgment amount, ideally before it gets to court. Make other payments on time to limit the impact of the civil judgment on your credit score.
Debt settlement Pay the full settled amount to prevent your account from going to collections or being charged off.
Foreclosure Keep other credit and loans open and make timely payments to build up positive credit activity.
Bankruptcy Rebuild your credit after bankruptcy with credit cards that cater to lower credit and credit builder loans. Make timely payments to reestablish that you’re a responsible borrower.
Repossessions Continue to pay other bills on time and pay off any further debt to the creditor.

You can also remove derogatory marks if they’re inaccurate or unfairly reported. By requesting your free credit report, you can look for mistakes and inaccuracies.

For example, check to see if a missed payment was inaccurately reported or if someone else’s account got mixed up with yours. You can remove these mistakes, giving your credit score a boost. 

How do I remove derogatory marks from my credit report?

You can remove derogatory marks from your credit report by disputing inaccuracies with the credit bureaus. Here’s how:

1. Request and review your credit report

TransUnion, Equifax and Experian provide one free credit report each year. Request your credit report and review it closely for errors.

Look through both “closed” and “open” derogatory marks. Check to see if your personal information is correct and if the creditor reported payments and dates appropriately. Take note of any discrepancies.

2. Dispute derogatory marks

If you notice incorrect items, payments or dates you need to file a dispute with that credit bureau (and any bureau that lists the item on your report).

You can file a dispute through the credit bureau or have a professional assist you. It’s best to make disputes as soon as you notice them, ideally within 30 days of the incident. The credit bureaus must respond to you within 30-45 days. 

3. Follow up on the dispute

You may have to provide more information or proof to refute something on your credit report. Be sure to respond to any inquiries by the specified time. Check your credit report afterward to make sure that the error is removed.

Removing a derogatory mark from your credit report helps to repair your credit. You’ll also want to improve your credit by doing things like lowering your credit utilization rate, upping the average age of your credit and making timely payments.

If you’re unable to remove a derogatory mark from your credit report, you’ll need to wait until it rolls off of your report, usually within seven to 10 years. In the meantime, work to rebuild your credit and improve your creditworthiness.

steps to remove derogatory marks from credit report

How can I get help with derogatory marks?

You can remove derogatory marks from your credit report by yourself. However, getting help from a credit repair company can make the process easier and improve your chances of getting the negative mark removed.

Many consumers appreciate professional help as it saves time, energy and resources. Contact us for a free credit report consultation. We’ll talk about your unique situation and the ways that we can help you.

Source: lexingtonlaw.com

A Look into the Public Service Loan Forgiveness Program

The Public Service Loan Forgiveness Program is a government program that was created with the College Cost Reduction and Access Act of 2007 .

The goal was to help professionals working in public service who have more federal student loans than their public sector salaries allow them to easily repay.

It’s aim is to ensure that the best and the brightest don’t feel as though they have to leave these important jobs to join corporate America just so they can pay down their student debt.

an income-driven repayment plan .

There are four income-driven repayment plans to choose from; There’s Pay As You Earn, income-based repayment, income-contingent repayment, or Revised Pay as You Earn. This will likely allow you to pay less per month toward your loans than you would on the standard plan.

There are separate eligibility requirements for these plans, so be sure to check if you qualify.

3. Certifying your employment. To do this, print out an Employment Certification form and get your employer to fill it out and send it in for approval. The Federal Student Aid website suggests filling this form out annually or at least every time you switch jobs.

You can also use the Public Service Loan Forgiveness Help Tool to find qualifying employers and get the forms that you’ll need to fill out.

4. Making 120 qualifying monthly payments on your student loans while you’re employed by a qualified public service employer. What if you switch employers? So long as you are still working for a qualifying employer, you’ll still qualify.

5. After you make the final payment, you can apply for forgiveness. You fill out an application , send it in, and wait. Then (hopefully!) you can celebrate your loan forgiveness.

The Current State of the Program

Because the program was created in 2007, the first people to qualify to have their loans forgiven applied for forgiveness in September 2017. But while the Congressional Budget Office estimates that the program could cost just under $24 billion in the next 10 years , and the U.S. Government Accountability Office believes that more than four million student loan borrowers qualify for the program, some aren’t aware that it exists. And even more graduates have gotten bad information from loan servicers that rendered them ineligible.

In 2018, just 1% of applicants were approved for loan forgiveness through PSLF. In November 2020, the US Department of Education released updated information indicating that 2.4% of applicants have been approved for PSLF.

Pros and Cons of the Public Service Loan Forgiveness Program

The Advantages of the Program Are Pretty Straightforward:

1. Your balance of student loans are forgiven after a set time, which can be a relief. This works as a kind of bonus to make up for the low pay people working in the public sector may earn.

2. The amount forgiven usually isn’t considered income, so you aren’t taxed on it (that means you don’t have to save additional money to account for the IRS bill). There are other loan forgiveness programs that will forgive your loans, but you might see a big tax bill when they do.

3. You get rewarded for being a do-gooder (just like your mom promised you would). It will feel great to know that you’re making a difference, and your government appreciates it enough to give you a break on your federal student loans.

4. You may pay less monthly because you’re on an income-driven plan. This means paying out less of your hard-earned cash every month.

The Disadvantages of the Program Are That:

1. The program is only open to those with certain types of employers. And it’s contingent on you staying with a qualifying public service employer for 10 years, which might not be a guarantee.

2. Some people aren’t aware of the program, which is partly because of a lack of education by employers, loan servicers, and schools.

3. There are a lot of hoops to jump through to get your loans forgiven. Sounds fun, right? Plus, if you don’t jump through a hoop properly, you could jeopardize your forgiveness.

Teacher Loan Forgiveness program. This program is available to full-time teachers who have completed five consecutive years of teaching in a low-income school. This program also has strict eligibility requirements that must be met in order to receive forgiveness.

These federal forgiveness programs do not apply to private student loans. If you are looking for ways to reduce your interest rate or monthly payments on private student loans, refinancing with a private lender could be an option.

It is important to mention that refinancing your federal student loans with a private lender may make you ineligible for the Public Service Loan Forgiveness program should you choose that route.

The Takeaway

The Public Service Loan Forgiveness program can be one way for eligible borrowers to have their federal student loans forgiven. The program has stringent requirements that cna make successfully receiving forgiveness through PSLF challenging.

Refinancing is another option that can allow borrowers to secure a competitive interest rate on student loans. Refinancing federal loans eliminates them from borrower protections.

Interested in seeing if you qualify for a lower interest rate? Check out SoFi’s student loan refinancing to find out.



IF YOU ARE LOOKING TO REFINANCE FEDERAL STUDENT LOANS PLEASE BE AWARE OF RECENT LEGISLATIVE CHANGES THAT HAVE SUSPENDED ALL FEDERAL STUDENT LOAN PAYMENTS AND WAIVED INTEREST CHARGES ON FEDERALLY HELD LOANS UNTIL THE END OF SEPTEMBER DUE TO COVID-19. PLEASE CAREFULLY CONSIDER THESE CHANGES BEFORE REFINANCING FEDERALLY HELD LOANS WITH SOFI, SINCE IN DOING SO YOU WILL NO LONGER QUALIFY FOR THE FEDERAL LOAN PAYMENT SUSPENSION, INTEREST WAIVER, OR ANY OTHER CURRENT OR FUTURE BENEFITS APPLICABLE TO FEDERAL LOANS. CLICK HERE FOR MORE INFORMATION.
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SoFi loans are originated by SoFi Lending Corp (dba SoFi), a lender licensed by the Department of Financial Protection and Innovation under the California Financing Law, license # 6054612; NMLS # 1121636 . For additional product-specific legal and licensing information, see SoFi.com/legal.

External Websites: The information and analysis provided through hyperlinks to third party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
SoFi Student Loan Refinance
IF YOU ARE LOOKING TO REFINANCE FEDERAL STUDENT LOANS PLEASE BE AWARE OF RECENT LEGISLATIVE CHANGES THAT HAVE SUSPENDED ALL FEDERAL STUDENT LOAN PAYMENTS AND WAIVED INTEREST CHARGES ON FEDERALLY HELD LOANS UNTIL THE END OF SEPTEMBER DUE TO COVID-19. PLEASE CAREFULLY CONSIDER THESE CHANGES BEFORE REFINANCING FEDERALLY HELD LOANS WITH SOFI, SINCE IN DOING SO YOU WILL NO LONGER QUALIFY FOR THE FEDERAL LOAN PAYMENT SUSPENSION, INTEREST WAIVER, OR ANY OTHER CURRENT OR FUTURE BENEFITS APPLICABLE TO FEDERAL LOANS. CLICK HERE FOR MORE INFORMATION.
Notice: SoFi refinance loans are private loans and do not have the same repayment options that the federal loan program offers such as Income-Driven Repayment plans, including Income-Contingent Repayment or PAYE. SoFi always recommends that you consult a qualified financial advisor to discuss what is best for your unique situation.

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Source: sofi.com

What are derogatory marks and how can you fix them? – Lexington Law

Derogatory Marks Header Image

Having a few items on your credit report dragging down your score can be incredibly frustrating, especially if you have a good financial record.

A derogatory mark is a negative item on your credit report that can be fixed by removing it or building positive credit activity. Because derogatory marks can stay on your credit report typically for seven to ten years, it’s important to know how to fix them.

Derogatory marks can affect your credit score, your ability to be approved for credit and the interest rates a lender offers you. Some derogatory marks are due to poor credit activity, such as a late payment. Or it could be an error that shouldn’t be on your report at all.

Types of negative items include late payments (30, 60, and 90 days), charge-offs, collections, foreclosures, repossessions, judgments, liens, and bankruptcies. We’ll cover what each one of these means, and how they can impact your credit reports.

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How do derogatory marks impact my credit score?

The amount that derogatory marks lower your credit score depends on the mark’s severity and how high your credit score was before the mark. For instance, bankruptcy has a greater impact on your credit score than a missed payment or debt settlement. And, unfortunately, having a derogatory mark impacts a high credit score more than it does a low credit score.

According to CreditCards.com and CNNMoney, even a single negative on your credit could cost you over 100 points. Negative items on your credit could cost you thousands of dollars in higher interest rates, or you could be denied altogether.

negative item score decrease stats

How long a derogatory mark stays on your credit report depends on the type of mark.

How long do derogatory marks stay on my credit report?

Derogatory marks usually stay on your credit report for around seven to ten years, depending on the type. After that period passes, the mark will roll off your report and you should start seeing a change in your credit score.

Here’s how long each derogatory mark stays on your credit report:

Type of derogatory mark What is it? How long does this stay on a credit report?
Late payment Late payments are payments made 30 days or more after the payment due date. Typically, this can remain on your report for seven years from the date you made a late payment.
An account in collections or a charge-off Creditors send your account to collections or charge them off if there’s been no payment for 180 days. Typically, this can remain on your report for seven years from the date you made a late payment.
Tax lien A tax lien is when the government claims you’ve neglected or failed to pay taxes on your property or financial assets. Unpaid tax lien: Can remain on your report indefinitely.

Paid tax lien: Can remain on your report seven years from the date the lien was filed.

Civil judgment Civil judgments are a debt you owe through the court, such as if your landlord sued you over missed rent payments. Unpaid civil judgment: Can remain on your report for seven years from when the judgment was filed, but can be renewed if left unpaid.

Paid civil judgment: Can remain on your report for seven years from when the judgment was filed.

Debt settlement Debt settlement is when you and your creditor agree that you will pay less than the full amount owed. A typical time period is seven years, starting from when the debt was settled or the date of the first delinquent payment if there were missed payments.
Foreclosure Foreclosure is when you fail to pay your mortgage and you forfeit the right to the property. Typically, seven years from the foreclosure filing date.
Bankruptcy Bankruptcy is a court proceeding to discharge your debt and sell your assets. Can remain on your report for seven years for Chapter 13 bankruptcy. Chapter 7 bankruptcy can remain on your report for 10 years.
Repossession A repossession is when your assets are seized, such as a vehicle that was used as collateral. Can remain on your report for seven years from the first date of the missed payment.

Types of derogatory marks

Late payments

Late payments occur when you’ve been 30, 60, or 90 days late paying an account. Although you don’t want late payments on your credit reports, an occasional 30 or 60-day late payment isn’t too severe. But you don’t want frequent late payments and you don’t want late payments on every single account. One recent late payment on a single account can lower a score by 15 to 40 points, and missing one payment cycle for all accounts in the same month can cause a score to tank by 150 points or more.

Payments 90 days late or more start to factor more heavily into your credit score, and consecutive late payments are even more harmful to your score, as each subsequent late payment is weighted more heavily. Sometimes, creditors will report payments as late as 120 days, which can be almost as severe as charge-offs and collections. Late payments can be reported to the credit bureaus once you have been more than 30 days late on an account and these late payments can stay on your credit reports for up to seven years.

Charge offs

A charge off is when a creditor writes off your unpaid debt. Typically, this occurs when you have been 180 days late on an account. Charge offs have a severely negative impact on your credit, and like most other negative items can stay on your credit reports for seven years. When an account is charged off, your creditor can sell it to collection agencies, which is even worse news for your credit.

Creditors see a charge off as a glaring indication that you have not been responsible with your finances in the past and cannot be counted on to fulfill your financial obligations in the future. When creditors see a charge off on your credit reports, they are more likely to deny any new applications for loans or lines of credit because they see you as a financial risk. If you do qualify, this can mean higher interest rates. Current creditors can respond by raising your interest rates on your existing balances.

Tax liens

In most cases, liens are the result of unpaid taxes – whether it’s at the state or the federal level. For a federal tax lien, the IRS can place a lien against your property to cover the cost of unpaid taxes. Tax liens can make it difficult to get approved for new lines of credit or loans because the government has claimed to your property. What this means is that if you default on any other accounts, your creditors have to stand in line behind the IRS to collect.

Unpaid liens can stay indefinitely on your credit reports. Once they have been paid, however, they can stay on your reports for up to seven years. Like judgments though, the credit bureaus are strictly regulated on how they can report liens because they are also public records.

Civil judgments

Judgments are public records that are also referred to as civil claims. A judgment can be taken out against a debtor for an unpaid balance. A creditor or collection agency can file a suit in court. If the court rules in favor of the creditor, a judgment is taken out against the debtor and put on their credit reports. This, like many other negative items, has a severely negative impact, and like most other negative items can be reported for seven years.

Judgments are also another indication that a person won’t pay their debts. Lawsuits are time-consuming and costly, so they are something that creditors potentially want to avoid. When a judgment is filed though, it can impact more than credit. The judge may allow the creditor to garnish a debtor’s wages, which can heavily impact finances.

Collections

Collections are the most common types of accounts on credit reports. About one-third of Americans with credit reports have at least one collection account. Over half of these accounts are due to medical bills, but other accounts like unpaid credit cards and loans, utilities, and parking tickets can be sold to collections.

Collections arise from debts that are sold to third parties by the original creditor if a bill goes unpaid for too long. They have a severe negative impact on your credit and can stay on your reports for up to seven years. When potential creditors see collections on your credit reports, it can raise flags and cause them to think that you won’t pay your debts.

Foreclosures

A foreclosure is a legal proceeding that is initiated by a mortgage lender when a homeowner has been unable to make payments. Usually, a lender will file a foreclosure when a homeowner has been three months late or more on mortgage payments.

When a lender decides to foreclose, they begin by filing a Notice of Default with the County Recorder’s Office, which begins the legal proceedings. If a foreclosure goes through and a homeowner can’t catch up on payments, then they are evicted from their home, and the foreclosure is reported to the credit bureaus.

Bankruptcies

Bankruptcy is extremely damaging to credit. Individuals who file for bankruptcy are those who have too much debt, and not enough money to pay it. They likely have had overdue accounts for a long period of time and in some cases loss of income that prevents them from being able to pay any of their bills. Bankruptcies can also arise from huge medical debt.

Whether or not file for bankruptcy is a difficult decision, and doing so can impact your credit from seven to ten years, depending on the type of bankruptcy you file. When a bankruptcy is filed, debts are discharged and the individuals filing are released from most of their previously incurred debts (there are some exceptions). This option can give people a “clean slate” from debt, but creditors don’t like to see it on credit reports because it can imply that an individual won’t pay their debts.

Repossessions

A repossession is a loss of property on a secured loan. Secured loans are where you have collateral, like a car or a house, and the loss occurs when the lender takes back the property because of the inability to pay. Usually, when this occurs, the lender will auction off the collateral to make up for the remaining balance, although it doesn’t usually cover the remaining balance.

When there is a remaining balance, the creditor may choose to sell it off to collections. A repossession has a severe negative impact on credit because it shows a debtor’s inability to pay back a loan. Usually, a repossession follows a long line of late payments and can knock a lot of points off a credit score.

How can I improve my credit score with derogatory marks on my credit report?

If you have derogatory marks, you can improve your credit score by working to rebuild your credit. By boosting your credit score, you’re more likely to get approved for loans and credit cards.

Here’s how to improve your credit score based on the type of derogatory mark:

Derogatory mark What to do to improve your credit score
Late payments Pay off the full debt as soon as possible. If there are late fees, ask the creditor to drop the fee (they often do if it’s your first time being late).
Stay on top of your payments with other lenders to show that you’re responsible, reducing the impact of a late payment.
An account in collections or a charge-off Pay off the debt or negotiate a settlement where you pay less than the full amount owed. Making a payment doesn’t remove the negative mark from your report, but prevents you from being sued over the debt.
Tax lien Pay the taxes you owe in full as soon as possible. Continue to make timely payments with any creditors and lenders.
Civil judgment Pay off the judgment amount, ideally before it gets to court. Make other payments on time to limit the impact of the civil judgment on your credit score.
Debt settlement Pay the full settled amount to prevent your account from going to collections or being charged off.
Foreclosure Keep other credit and loans open and make timely payments to build up positive credit activity.
Bankruptcy Rebuild your credit after bankruptcy with credit cards that cater to lower credit and credit builder loans. Make timely payments to reestablish that you’re a responsible borrower.
Repossessions Continue to pay other bills on time and pay off any further debt to the creditor.

You can also remove derogatory marks if they’re inaccurate or unfairly reported. By requesting your free credit report, you can look for mistakes and inaccuracies.

For example, check to see if a missed payment was inaccurately reported or if someone else’s account got mixed up with yours. You can remove these mistakes, giving your credit score a boost. 

How do I remove derogatory marks from my credit report?

You can remove derogatory marks from your credit report by disputing inaccuracies with the credit bureaus. Here’s how:

1. Request and review your credit report

TransUnion, Equifax and Experian provide one free credit report each year. Request your credit report and review it closely for errors.

Look through both “closed” and “open” derogatory marks. Check to see if your personal information is correct and if the creditor reported payments and dates appropriately. Take note of any discrepancies.

2. Dispute derogatory marks

If you notice incorrect items, payments or dates you need to file a dispute with that credit bureau (and any bureau that lists the item on your report).

You can file a dispute through the credit bureau or have a professional assist you. It’s best to make disputes as soon as you notice them, ideally within 30 days of the incident. The credit bureaus must respond to you within 30-45 days. 

3. Follow up on the dispute

You may have to provide more information or proof to refute something on your credit report. Be sure to respond to any inquiries by the specified time. Check your credit report afterward to make sure that the error is removed.

Removing a derogatory mark from your credit report helps to repair your credit. You’ll also want to improve your credit by doing things like lowering your credit utilization rate, upping the average age of your credit and making timely payments.

If you’re unable to remove a derogatory mark from your credit report, you’ll need to wait until it rolls off of your report, usually within seven to 10 years. In the meantime, work to rebuild your credit and improve your creditworthiness.

steps to remove derogatory marks from credit report

How can I get help with derogatory marks?

You can remove derogatory marks from your credit report by yourself. However, getting help from a credit repair company can make the process easier and improve your chances of getting the negative mark removed.

Many consumers appreciate professional help as it saves time, energy and resources. Contact us for a free credit report consultation. We’ll talk about your unique situation and the ways that we can help you.

Source: lexingtonlaw.com

10 Questions Retirees Often Get Wrong About Taxes in Retirement

You worked hard for your retirement nest egg, so the idea of paying taxes on those savings isn’t exactly appealing. If you know what you’re doing, you can avoid overpaying Uncle Sam as you start collecting Social Security and making withdrawals (including RMDs) from IRAs and 401(k)s. Unfortunately, though, retirees don’t always know all the tax code ins and outs and, as a result, end up paying more in taxes than is necessary. For example, here are 10 questions retirees often get wrong about taxes in retirement. Take a look and see how much you really understand about your own tax situation.

(And check out our State-by-State Guide to Taxes on Retirees to learn more about how you will be taxed by your state during retirement.)

1 of 10

Tax Rates in Retirement

picture of tax rate arrow chart showing upward trendpicture of tax rate arrow chart showing upward trend

Question: When you retire, is your tax rate going to be higher or lower than it was when you were working?

Answer: It depends. Many people make their retirement plans with the assumption that they’ll fall into a lower tax bracket once they retire. But that’s often not the case, for the following three reasons.

1. Retirees typically no longer have all the tax deductions they once did. Their homes are paid off or close to it, so there’s no mortgage interest deduction. There are also no kids to claim as dependents, or annual tax-deferred 401(k) contributions to reduce income. So, almost all your income will be taxable during retirement.

2. Retirees want to have fun—which costs money. If you’re like many newly retired folks, you might want to travel and engage in the hobbies you didn’t have time for before, and that doesn’t come cheap. So, the income you set aside for yourself in retirement may not be much lower than what you were making in your job.

3. Future tax rates may be higher than they are today. Let’s face it…tax rates now are low when viewed in a historical context. The top tax rate of 37% in 2021 is a bargain compared with the 94% of the 1940s and even the 70% range as recently as the 1970s. And considering today’s political climate and growing national debt, future tax rates could end up much higher than they are today.

2 of 10

Taxation of Social Security Benefits

picture of a Social Security card surrounded by stacks of coinspicture of a Social Security card surrounded by stacks of coins

Question: Are Social Security benefits taxable?

Answer: Yes. Depending on your “provisional income,” up to 85% of your Social Security benefits are subject to federal income taxes. To determine your provisional income, take your modified adjusted gross income, add half of your Social Security benefits and add all of your tax-exempt interest.

If you’re married and file taxes jointly, here’s what you’ll be looking at:

  • If your provisional income is less than $32,000 ($25,000 for singles), there’s no tax on your Social Security benefits.
  • If your income is between $32,000 and $44,000 ($25,000 to $34,000 for singles), then up to 50% of your Social Security benefits can be taxed.
  • If your income is more than $44,000 ($34,000 for singles), then up to 85% of your Social Security benefits are taxable.

The IRS has a handy calculator that can help you determine whether your benefits are taxable. You should also check out Calculating Taxes on Social Security Benefits.

And don’t forget state taxes. In most states (but not all!), Social Security benefits are tax-free.

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Withdrawals from Roth IRAs

picture of a jar labeled "Roth IRA" with money in itpicture of a jar labeled "Roth IRA" with money in it

Question: Are withdrawals from Roth IRAs tax-free once you retire?

Answer: Yes. Roth IRAs come with a big long-term tax advantage: Unlike their 401(k) and traditional IRA cousins—which are funded with pretax dollars—you pay the taxes on your contributions to Roths up front, so your withdrawals are tax-free once you retire. One important caveat is that you must have held your account for at least five years before you can take tax-free withdrawals. And while you can withdraw the amount you contributed at any time tax-free, you must be at least age 59½ to be able to withdraw the gains without facing a 10% early-withdrawal penalty.

4 of 10

Taxation of Annuity Income

picture of an elderly couple discussing finances with an advisorpicture of an elderly couple discussing finances with an advisor

Question: Is the income you receive from an annuity you own taxable?

Answer: Probably (at least for some of it). If you purchased an annuity that provides income in retirement, the portion of the payment that represents your principal is tax-free; the rest is taxable. The insurance company that sold you the annuity is required to tell you what is taxable. Different rules apply if you bought the annuity with pretax funds (such as from a traditional IRA). In that case, 100% of your payment will be taxed as ordinary income. In addition, be aware that you’ll have to pay any taxes that you owe on the annuity at your ordinary income-tax rate, not the preferable capital gains rate.

5 of 10

Age for Starting RMDs

picture of elderly man blowing out candles on a birthday cakepicture of elderly man blowing out candles on a birthday cake

Question: At what age must holders of traditional IRAs and 401(k)s start taking required minimum distributions (RMDs)?

Answer: Age 72. The SECURE Act raised the age for RMDs to 72, starting on January 1, 2020. It used to be 70½. (Note that, although the CARES Act waived RMDs for 2020, they’re back for 2021 and beyond.)

As for the amount that you are forced to withdraw: You’ll start out at about 3.65%, and that percentage goes up every year. At age 80, it’s 5.35%. At 90, it’s 8.77%. Figuring out the percentages might not be as hard as you think if you try our RMD calculator. (Note that, beginning in 2022, RMD calculations will be adjusted so that distributions are spread out over a longer period of time.)

6 of 10

RMDs From Multiple IRAs and 401(k)s

picture of a spiral notebook with "Required Minimum Distributions" written on the front coverpicture of a spiral notebook with "Required Minimum Distributions" written on the front cover

Question: Are RMDs calculated the same way for distributions from multiple IRAs and multiple 401(k) plans?

Answer: No. There’s one important difference if you have multiple retirement accounts. If you have several traditional IRAs, the RMDs are calculated separately for each IRA but can be withdrawn from any of your accounts. On the other hand, if you have multiple 401(k) accounts, the amount must be calculated for each 401(k) and withdrawn separately from each account. For this reason, some 401(k) administrators calculate your required distribution and send it to you automatically if you haven’t withdrawn the money by a certain date, but IRA administrators may not automatically distribute the money from your IRAs.

7 of 10

Due Date for Your First RMD

picture of a piggy bank with "RMD" written on the sidepicture of a piggy bank with "RMD" written on the side

Question: Do you have to take your first RMD by December 31 of the year you turn 72?

Answer: No. Normally, you have to take RMDs for each year after you turn age 72 by the end of the year. However, you don’t have to take your first RMD until April 1 of the year after you turn 72. But be careful—if you delay the first withdrawal, you’ll also have to take your second RMD by December 31 of the same year. Because you’ll have to pay taxes on both RMDs (minus any portion from nondeductible contributions), taking two RMDs in one year could bump you into a higher tax bracket.

It could also have other ripple effects, such as making you subject to the Medicare high-income surcharge if your adjusted gross income (plus tax-exempt interest income) rises above $88,000 if you’re single or $176,000 if married filing jointly. (Note: Those are the income thresholds for determining 2021 surcharges.)

8 of 10

Taxation of Life Insurance Proceeds

picture of a life insurance contract with money laying on itpicture of a life insurance contract with money laying on it

Question: If your spouse dies and you get a big life insurance payout, will you have to pay tax on the money?

Answer: No. You have enough to deal with during such a difficult time, so it’s good to know that life insurance proceeds paid because of the insured person’s death are not taxable.

9 of 10

Estate Tax Threshold

picture of the words "Estate Tax" next to a judge's gavel and moneypicture of the words "Estate Tax" next to a judge's gavel and money

Question: How valuable must an individual’s estate be at death to be hit by federal estate taxes in 2021?

Answer: $11.7 million ($23.4 million or more for a married couple). If the value of an estate is less than the threshold amount, then no federal estate tax is due. As a result, federal estate taxes aren’t a factor for very many people. However, that will change in the future. The 2017 tax reform law more than doubled the federal estate tax exemption threshold—but only temporarily. It’s schedule to drop back down to $5 million (plus adjustments for inflation) in 2026. Plus, during his 2020 campaign, President Biden called for a reduction of the exemption threshold sooner.

If your estate isn’t subject to federal taxes, it still might owe state taxes. Twelve states and the District of Columbia charge a state estate tax, and their exclusion limits can be much lower than the federal limit. In addition, six states impose inheritance taxes, which are paid by your heirs. (See 18 States With Scary Death Taxes for more details.)

10 of 10

Standard Deduction Amounts

picture of a 1040 tax form with a pen laying on it next to the standard deduction linepicture of a 1040 tax form with a pen laying on it next to the standard deduction line

Question: If you’re over 65, can you take a higher standard deduction than other folks are allowed?

Answer: Yes. For 2021, to the standard deduction for most people is $12,550 if you’re single and $25,100 for married couples filing a joint tax return ($12,400 and $24,800, respectively, for 2020). However, those 65 and older get an extra $1,700 in 2021 if they’re filing as single or head of household ($1,650 for 2020). Married filing jointly? If one spouse is 65 or older and the other isn’t, the standard deduction increases by $1,350 ($1,300 for 2020). If both spouses are 65 or older, the increase for 2021 is $2,700 ($2,600 for 2020).

Source: kiplinger.com

2021 Tax Brackets Are Here: Here’s What You’ll Owe Next Year

The year 2021 is looking a lot like 2020, at least in terms of taxes.

The IRS released its inflation adjustments for 2021 federal income tax rates and brackets. While these changes are unlikely to have a huge impact on your bottom line, there are a few things you should be aware of.

Because these are the 2021 tax rates, they’ll determine your tax bill that will be due in 2022. You’ll use 2020 rates and brackets when you file your taxes on or before May 17, 2021. That’s 32 days later than usual due to the tax deadline extension.

How the 2021 Tax Brackets Break Down

There are seven tax brackets that range from 10% to 37%. The 2020 and 2021 tax brackets break down as follows:

Unmarried Individuals

Tax Bracket Taxable Income for 2020 (use when you file in 2021) Taxable income for 2021 (use when you file in 2022)
10% Up to $9,875 Up to $9,950
12% $9,875 to $40,125n $9,950 to $40,525
22% $40,125 to $85,525 $40,525 to $86,375
24% $85,525 to $163,300 $86,375 to $164,925
32% $163,300 to $207,350 $164,925 to $209,425
35% $207,350 to $518,400 $209,425 to $523,600
37% Over $518,400 Over $523,600

Married Individuals Filing Jointly or Surviving Spouses

Tax Bracket Taxable income for 2020 (use when you file in 2021) Taxable income for 2021 (use when you file in 2022)
10% Up to $19,750 Up to $19,900
12% $19,750 to $80,250n $19,900 to $81,050
22% $80,250 to $171,050 $81,050 to $172,750
24% $171,050 to $326,600 $172,750 to $329,850
32% $326,600 to $414,700n $329,850 to $418,850
35% $414,700 to $622,050n $418,850 to $628,300
37% Over $622,050 Over $628,300

Heads of Household

Tax Bracket Taxable income for 2020 (use when you file in 2021) Taxable income for 2021 (use when you file in 2022)
10% Up to $14,100 Up to $14,200
12% $14,100 to $53,700n $14,200 to $54,200
22% $53,700 to $85,500 $54,200 to $86,350
24% $85,500 to $163,300 $86,350 to $164,900
32% $163,300 to $207,350 $164,900 to $209,400
35% $207,350 to $518,400 $209,400 to $523,600
37% Over $518,400 Over $523,600
Pro Tip

Not sure of your filing status? This interactive IRS quiz can help you determine the correct status. If you qualify for more than one, it tells you which one will result in the lowest tax bill.

Tax rates apply to the income within each bracket. So if you’re an unmarried individual with taxable income of $50,000, you won’t pay 22% of that $50,000 to Uncle Sam.

According to the 2021 tax brackets (the ones you’ll use for next year’s return), you’d pay:

  • 10% on the first $9,950
  • 12% on the next $30,575 ($40,525 – $9,950 = $30,575)
  • 22% on the next $9,475 ($50,000 – $40,525 = $9,475)

2 Tax Changes That Could Affect You in 2021

The modified tax brackets aren’t the only changes for 2021. About 60 tax provisions were adjusted in the new year. A few highlights:

  • The standard deduction will rise slightly: For 2020, the standard deduction is $12,400 for single filers and people who are married filing separately. In 2021, it will rise by $150 to $12,550 for single taxpayers. For those who are married filing jointly, the standard deduction will rise by $300, from $24,800 in 2020 to $25,100 in 2021.
  • Some limited-income families can get an extra $68. The maximum Earned Income Tax Credit will increase in 2021 to $6,728, from $6,660 in 2020. You need at least three children to qualify for the maximum amount.

3 Tax Rules That Aren’t Changing in 2021

  • IRA contribution limits won’t change. The traditional IRA and Roth IRA contribution limits will remain at $6,000 for people under 50. The extra $1,000 “catch-up” contribution the IRS allows people 50 and older to make won’t change either. You can still fund your IRA for 2020 until tax day, which is May 17, 2021.
  • 401(k) contribution limits aren’t changing either: If you have an employer-sponsored tax-deferred retirement plan, like a 401(k) or 403(b), your maximum contribution is still $19,500 in 2021. The additional “catch-up” contribution workers ages 50 and older can make will also remain at $6,500.
  • There’s no limit on itemized deductions. The Tax Cuts and Jobs Act of 2017 suspended these limits.

Ready to Start Your 2021 Tax Prep?

If you’re ready to dive into your taxes, you can check out this comprehensive summary of 2021 tax changes courtesy of the IRS.

Even if you’re not ready to jump into 2021 tax planning mode just yet, keep in mind it’s a good time to check your tax withholdings and make adjustments if necessary. Just make sure you file your return or ask for an extension by the May 17 deadline. If you can’t afford your tax bill for 2020, it’s essential that you file a tax return anyway and ask for an IRS payment plan.

Robin Hartill is a certified financial planner and a senior editor at The Penny Hoarder. She writes the Dear Penny personal finance advice column. Send your tricky money questions to [email protected]

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Source: thepennyhoarder.com

Benefits of an Employer Tuition Reimbursement Program & Policy

While they may not have a line item on a balance sheet, employees are your company’s most important asset. Their knowledge, skill sets, and expertise impact your ability to keep customers or clients satisfied and improve your bottom line.

A tuition reimbursement program is an employee perk that shows you’re invested in their long-term success.

What is Tuition Reimbursement?

Just as it sounds, tuition reimbursement in an employee benefit program or policy where the employer pays back employees for education expenses. Although the program’s rules vary from employer to employer, most cover the cost of tuition as well as textbooks and other required course materials.

Employees still have to pay out of pocket for the courses they take, but when the course is over, the employee can get back some or all of their tuition expenses. At some institutions, students with financial constraints qualify to defer payment until their coursework is complete.


Advantages of an Employer Tuition Reimbursement Program

The Society for Human Resource Management (SHRM) 2019 Employee Benefits survey notes more than half of employers (56%) offer some sort of tuition or student loan repayment assistance for employees, so education is clearly a priority for businesses.

1. More Skilled Employees

As the International Labour Organization (ILO) states, “Many of today’s skills won’t match tomorrow’s jobs, and skills acquired today may quickly become obsolete.” So workers need to update their skills on an ongoing basis.

Investing in your employee’s education can help you custom-build the skills, talent, and expertise you need to grow your business today and in the future.

2. Higher Retention Rates

Employees who take advantage of tuition reimbursement tend to stay with the company longer.

The Harvard Business Review noted one powerful example: when Fiat Chrysler Automobiles partnered with Strayer University to allow its dealership employees and their families to earn a degree free of charge, participating dealerships saw employee retention rates increase by nearly 40%.

3. Lower Recruiting Costs

Companies can promote educated employees to higher-level positions, saving the company time and money compared to filling vacancies with outside talent.

According to SHRM, the average cost of hiring a new employee is $4,425, or $14,936 for hiring an executive. That includes the cost of advertising the position, training, conducting interviews, and providing new hire orientation. Plus, it can take months for the new hire to acclimate to company culture and become fully productive.

On the other hand, promoting people from within generates little if any additional cost to the company.

4. Tax Breaks

The IRS allows employers to write-off up to $5,250 of tuition reimbursements per employee per year. These reimbursements are considered a tax-free fringe benefit, so they aren’t included in the employees’ wages, and the employer doesn’t have to pay Social Security, Medicare, federal or state unemployment taxes on the reimbursement.

To qualify for this tax perk, the tuition reimbursement plan has to be in writing and meet other requirements, including:

  • The program can’t favor highly compensated employees — generally defined as someone who owns at least 5% of the business or received more than $130,000 of compensation in the prior year.
  • The program doesn’t provide more than 5% of its benefits to shareholders, business owners, or their spouses or dependents.
  • The program doesn’t allow employees to opt to receive cash or other benefits instead of educational assistance.
  • All eligible employees have to receive reasonable notice of the program.

You can find more information about the IRS requirements for educational assistance benefits in IRS Publication 15-B.


Eligibility for Reimbursement

Employers can determine their conditions for reimbursement of employee tuition. Some common conditions include:

Length of Service and Performance

The first condition that may limit eligibility is length of service. Many employers offer tuition reimbursement only to full-time employees who have worked at the company for at least six months to a year. They also require the employee to still be employed with the company when they complete the course.

Employers can also require that the employee is meeting all performance expectations for their current position or require that the employee hasn’t been formally disciplined during the previous six to 18 months. The definition of discipline can vary from company to company but typically includes written warnings, demotions, or suspensions.

Program of Study

The next condition that may hinder eligibility is course of study. Many employers require that the courses or degree program can be applied within the organization. For example, a consulting firm may broadly define relevant subjects; on the other hand, a small IT firm may only reimburse specific technology-related courses.

The program can also require the employee to take classes only at a pre-approved educational institution such as a local university or community college or an accredited online college.

Cost

Another potential condition is the level of cost the company is willing to reimburse. Most tuition reimbursement programs have an annual cap on what they’ll cover. This limit varies greatly from company to company, but most employers base their caps on IRS limits.

As mentioned above, the IRS allows employers to deduct up to $5,250 of tuition costs per employee each year. Employers who pay more than $5,250 for an employee’s educational benefits during the year have to include it in the employee’s wages and pay all applicable payroll taxes, thus negating the tax benefits of the program.

Grades

An employer can require the employee to earn a passing grade to qualify for tuition reimbursement. For example, the policy may require that the employee passes the course with a letter grade of C or better.

Employers can also have scaled grade requirements. For example, the employer’s tuition reimbursement plan may specify that an A grade receives full reimbursement, a B grade receives 80% reimbursement, a C grade garners 60% reimbursement, and anything below a C is not eligible.


Final Word

A tuition reimbursement program is an attractive benefit that can help companies find, develop, and hold on to skilled talent. How you design your program depends on the needs of your business and employees.

If you want to try it out, consider starting by reimbursing employees for one work-related course per year, subject to manager approval. This will give you an idea of how popular the program will be with your employees, and you can decide whether to expand it in the future.

Source: moneycrashers.com

Qualified Domestic Trust (QDOT): Marital Deduction

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Trusts can be a useful tool for estate planning if you’d like to preserve assets for loved ones while minimizing estate taxes. A qualified domestic trust (QDOT) is a specific type of trust that can offer tax benefits for married couples. With a QDOT, a surviving spouse can qualify for the marital deduction on estate taxes for assets included in the trust. This type of arrangement can be particularly helpful when a surviving spouse is not a U.S. citizen. Here’s more on how these trusts work, the benefits and limitations of having one and how to establish a QDOT as part of your estate plan. Estate planning is always done best in consultation with a financial advisor.

Qualified Domestic Trust (QDOT), Explained

A trust is a legal arrangement in which you transfer assets to the control of a trustee. This can be yourself or someone else you name and it’s the trustee’s duty to manage assets in the trust on behalf of the trust’s beneficiaries.

A QDOT is a specific type of trust arrangement that’s designed to benefit married couples, specifically when one spouse is not a U.S. citizen. This type of trust extends the marital tax deduction to non-citizen spouses, who would otherwise not be eligible to claim the deduction on estate taxes.

If you’re married to someone who is not a U.S. citizen, then setting up this type of trust could make sense if you’d like to minimize any tax burden your spouse may assume if you pass away first. A QDOT can essentially create a tax shelter for non-citizen spouses as part of an estate plan.

How a QDOT Works

To understand how a QDOT can benefit a non-citizen spouse, it’s helpful to understand the marital deduction and how that applies to estate taxes. Ordinarily, the Internal Revenue Code allows surviving spouses to claim a 100% marital deduction for estate taxes that may be due on assets they inherit when their spouse passes away. This is a significant tax break, as it enables surviving spouses to assume control of marital assets without getting hit with a sizable tax bill.

When a married couple consists of one spouse who’s a U.S. citizen and one who is not, the marital deduction does not apply. That means a surviving spouse could face substantial estate taxes on any assets they assume control of after their spouse passes away. Creating a QDOT and transferring assets to it with the non-citizen spouse named as beneficiary solves this problem.

Assets held in the trust would go to the surviving non-citizen spouse, allowing them the benefit of using those assets as well as any income they generate. They would pay no estate tax on assets in the trust. The surviving spouse could then pass those assets on to their children or another named beneficiary when they pass away. If applicable, the estate tax would be due on those assets at that time.

Benefits of a QDOT

The main advantage of including a QDOT in your estate plan is to extend tax benefits to your spouse if they’re not a U.S. citizen and don’t plan to apply for citizenship. A surviving spouse would be able to enjoy the marital tax deduction on estate taxes. They’d also be able to receive income distributions from the trust. Those would be subject to income tax but not estate tax. If you have a sizable estate then setting up a QDOT could be worth it to ensure that you’re passing on as much of your wealth as possible to your spouse.

While setting up this type of trust is generally more complicated and expensive than setting up a basic living trust, it may be an easier way to afford tax protections to a non-citizen spouse versus having them pursue citizenship.

Limitations of a QDOT

While there are some advantages to QDOT, there are some potential downsides to keep in mind.

First, it’s important to note that the IRS is specific about how these types of trusts are set up. The trustee must be a U.S. citizen and depending on the amount of assets that are held in the trust, a secondary trustee may be necessary. This trustee must be a U.S. bank.

Once the spouse who created the trust passes away, their executor must make a QDOT election when filing a federal estate tax return. This is necessary to qualify for the marital deduction. The IRS specifies that the estate tax return with the QDOT election must be filed no later than nine months after the individual who created the trust passes away.

Estate tax may be due if a surviving spouse receives principal from the trust, rather than income. There are, however, some exceptions to this rule. For instance, if a surviving spouse is experiencing financial hardship and has no other assets to tap into it may be possible to receive principal from the trust without being required to pay estate tax.

Perhaps most importantly, spouses should be aware that a QDOT only extends to assets held in the trust. If you have other assets you wish to pass on to a surviving spouse who’s not a U.S. citizen, those wouldn’t be eligible for the marital deduction protection offered by a QDOT if they’re not included in the trust.

How to Set Up a QDOT

Setting up a QDOT starts with determining whether it’s something you can benefit from having in the first place. If you’re married to someone who is not a U.S. citizen, then it may be worth meeting with your financial advisor to discuss the pros and cons of including a QDOT in your estate plan. Your advisor can help to assess any potential estate tax consequences associated with passing on wealth to a non-citizen spouse.

If you’ve determined that a QDOT is something you need, the next step is finding an experienced estate planning attorney who can help with setting one up. Creating a QDOT  means understanding which IRS rules apply and that’s something an estate planning attorney or a tax professional can help with.

The Bottom Line

A QDOT could be useful to have if you’re married and you want to minimize tax impacts associated with leaving assets to a non-citizen spouse. The biggest considerations to keep in mind are what assets you’ll transfer to the trust and how those will be managed on behalf of your spouse once you pass away. Again, getting help from a tax professional, estate planning attorney and your financial advisor can make creating this type of trust as smooth a process as possible.

Tips for Estate Planning

  • Consider talking to a financial advisor about the tax implications of passing on assets to a non-citizen spouse and whether it makes sense to have a QDOT. If you don’t have a financial advisor yet, finding one doesn’t have to be difficult. SmartAsset’s financial advisor matching tool makes it easy to connect in just minutes with professional advisors in your local area.  If you’re ready then get started now.
  • Wondering if you have enough to retire? Our free, easy-to-use retirement calculator can give you a good estimate of your annual, post-tax income upon retirement.

Photo credit: ©iStock.com/Robin Skjoldborg, ©iStock.com/courtneyk, ©iStock.com/monkeybusinessimages

Rebecca Lake Rebecca Lake is a retirement, investing and estate planning expert who has been writing about personal finance for a decade. Her expertise in the finance niche also extends to home buying, credit cards, banking and small business. She’s worked directly with several major financial and insurance brands, including Citibank, Discover and AIG and her writing has appeared online at U.S. News and World Report, CreditCards.com and Investopedia. Rebecca is a graduate of the University of South Carolina and she also attended Charleston Southern University as a graduate student. Originally from central Virginia, she now lives on the North Carolina coast along with her two children.
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Source: smartasset.com