Former Lottery Winners Are Broke?
Are you kind of stunned when you see headlines talking about how people who won big lottery prizes in the past are now broke? Are you like most of us and think, “How can anyone blow through what seems like an un-spendable amount of money?”
Well let’s take a look at some numbers. The jackpot for the March 30 drawing was a whopping $656 million. There were apparently three winners. Each could choose to receive an annuity that would pay out about $219 million over 26 years. However if a winner selects the cash option (‘give me the $$ now, not over 26 years’), he or she would collect about $128 million before taxes. The key words are "before taxes."
The Tax Man Cometh
So now let’s take a look at what happens to those numbers when the tax man at various levels get involved. Starting at the top:
Federal Income Tax
Lotto jackpots are fully taxable. And huge jackpots are currently taxed at a maximum federal rate of 35%. So the winner of $128 million will owe the Internal Revenue Service about $45 million. That leaves about $83 million.
State Income Tax
Say a new Mega Millionaire is "unlucky" enough to live in a state with a personal income tax. In most states, the tax rates on high-income individuals range from 5% to 10%. So for the purposes of this discussion let’s use the rate of 7%. Our winner of $128 million will owe the friendly state tax collector about $9 million. That leaves about $74 million.
Now let’s face it, one of the first things that comes to mind now is ‘I can’t spend that much money in a life-time!” Plus all of us are going to want to share our new found wealth. Well, guess what? One of the big reasons why many lotto winners wind up bankrupt is failure to realize that the tax man is going to get his, and there are no tax loop-holes on that.
Generosity Is Expensive
The second big ‘gotcha’ which really sneaks up on a lot of lottery winners is the costs of being generous with their winnings. You, like most people, would probably decide you want to help out family and loved ones by ‘spreading the wealth’. Let’s take a look at some ‘reasonable’ assumptions.
Federal Gift Tax
Despite having already lost $54 million to the IRS and the state tax collector, your tax situation can quickly deteriorate even further if you share your newfound wealth generously with loved ones. That's because you'll owe a 35% federal gift tax on money given away over the $5.12 million gift tax exemption. So if you say “I have $74 million, I’ll give away $25 million to siblings, children, parents, aunts, uncles, and friends”, the gift tax bill would be about $7 million [($25 million - $5.12 million exemption) x 35% = $6.958 million].
Plus let’s say you give away another $25 million to your grandkids. You will now get socked with a 35% generation-skipping transfer tax (GSTT) on gifts in excess of the $5.12 million GSTT exemption. Worse yet, the GSTT is on top of the gift tax. The gift tax on the gifts to your grandchildren is about $9 million ($25 million x 35% = $8.75 million), and the GSTT is about another $7 million [($25 million - $5.12 million GSTT exemption) x 35% = $6.958 million].
Bottom line: you owe $77 million in taxes and you've given away $50 million to loved ones. Guess what? You only have $1 million left for yourself ($128 million - $77 million - $50 million = $1 million). Oops! So another big reason why some lotto winners wind up bankrupt is failure to understand the gift tax rules before it's too late.
So Play It Cool and Hang On To Your Money?
Now let's assume you don't give away any of your $128 million. You just pay the $54 million in income taxes and break even for the rest of your life, dying with a cool $74 million.
Federal Estate Tax
If you kick the bucket this year, your estate will owe federal estate tax equal to 35% of the excess over the $5.12 million exemption. That would amount to about $26 million [($74 million - $5.12 million exemption) x 35% = $25.9 million]. Your heirs would get $48 million (nothing to sneeze at), but $80 million was lost to taxes. That's a whooping 62.5% of what you started with. Ouch!
State Estate Tax
We're not done yet. If you live in one of the 22 states with a state death tax, your estate could be whittled down even more. The tax hits just keep on coming!
And It Could Get Even Worse
Unless Congress takes action and the president (whoever he is at the time) approves, the maximum federal income tax rate for 2013 and beyond will go up to 39.6% (up from the current 35%). And, the maximum federal gift and estate tax rate will be 55% (up from the current 35%). Plus the gift and estate tax exemptions will be only $1 million (versus the current $5.12 million). If these changes come to pass, the tax hits on future Mega Millionaires will be far bigger than what I've shown here.
Feel warm and fuzzy now?
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My Book – ‘Angels in Panama’
My book is still available in paperback from the publisher.
The book is also now available in e-book form as well from both Amazon (for the Kindle) and Barnes & Noble (the Nook).
The links below are for the various formats of my book.
I have also included a link to my website where you can read excerpts of ‘Angels in Panama’ if you want.
Paperback from Publisher $9.95
Nook (Barnes/Noble) $15.95
Till Next Time. Pura Vida! (Click on thumbs to view)
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