Posts Tagged ‘financial statements’

A time-tested method for making a tax-advantaged investment

Tuesday, April 28th, 2009

Do you have a large amount of retained earnings and excess cash in your corporation, but the double taxing power of the law has your cash locked in the corporation? Most business owners think they are stuck, but there’s an easy way out.

Here’s a true story of one way to get the job done and I think you’ll like it. Joe called me with this problem. He and his brother Jeff each owned 30 percent of Success Co., which they managed. Their mom (age 66) owed 20 percent in her own name, and a trust (created when their dad died) owned the other 20 percent. Mary’s professional advisors recommended that Mary obtain $2 million of life insurance using an irrevocable life insurance trust (ILIT) to pay the estate tax liability that would be due at her death (because of the value of the assets she owned directly in her own name and indirectly as a beneficiary of her deceased husband’s trust).

The advisors were right. Mary needed the insurance, but she did not have a ghost of a chance of coming up with the annual premium requirements of $32,000 per year for as long as she lived.

I asked Joe lots of questions, conferred with the advisors and requested a large pile of information — stuff like tax returns, financial statements, etc. After discovering that Success Co. had $2.5 million in excess cash, this is what I recommended.

Mary gifts $1.2 million of her Success Co. stock (the total value of Success Co. was appraised at over $8 million) to a charitable remainder trust (CRT). The CRT agrees to pay Mary $72,000 per year for as long as she lives. At Mary’s death, the balance (called the “remainder”) in the CRT will go to charity. Each year Mary must pay $25,000 in income tax (on the $72,000 of income from the CRT) and $32,000 in premiums (for the $2 million policy, which is owned by an irrevocable life insurance trust, ILIT for short), or a total of $57,000. This leaves Mary an extra $15,000 per year to buy presents for her grandchildren.

The ILIT will give Mary’s children $2 million (in insurance proceeds) when she dies. The entire $2 million will be tax free — no income tax, no estate tax.

But where does the CRT get the income to pay Mary? The CRT sells the gifted stock back to Success Co. for $1.2 million. Let’s summarize Mary’s tax picture: Mary avoids all capital gains tax on the sale of the Success Co. stock. The balance in the CRT (estimated at $1.1 million) at Mary’s death goes to Mary’s favorite charity and is free of income tax and estate tax. In addition, Mary gets an immediate income tax deduction of about $200,000 for her charitable contribution to the CRT. Simply put, even though Mary avoids both the capital gains tax and the estate tax, the IRS writes her a check. For what, you ask? For the present value of the remainder (of the $1.2 million) gifted to the CRT.

This $200,000 (immediate deduction) results in about $70,000 in cash income tax savings for Mary. Lots more expensive presents for the grandchildren. (Note: If Mary had sold the $1.2 million of Success Co. stock directly to the company, it would have been taxed as a dividend, resulting in a whooping tax of $180,000.)

A side note before concluding: There are many other ways to get cash (or other types of property out of your C corporation) in a tax-effective manner. If you have such a problem, as a service to readers of this column, contact me.

The use of a CRT in tandem with an ILIT is a time-tested method for making a tax-advantaged investment for your family. You actually create wealth (make a real economic profit) by gifting to charity.

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Posted in Corporate Tax, Family Tax Issues, Featured, Insurance | No Comments »

A Time-Tested Method For Making A Tax-Advantaged Investment

Friday, April 17th, 2009

Do you have a large amount of retained earnings and excess cash in your corporation, but the double taxing power of the law has your cash locked in the corporation? Most business owners think they are stuck, but there’s an easy way out.

Here’s a true story of one way to get the job done and I think you’ll like it. Joe called me with this problem. He and his brother Jeff each owned 30 percent of Success Co., which they managed. Their mom (age 66) owed 20 percent in her own name, and a trust (created when their dad died) owned the other 20 percent. Mary’s professional advisors recommended that Mary obtain $2 million of life insurance using an irrevocable life insurance trust (ILIT) to pay the estate tax liability that would be due at her death (because of the value of the assets she owned directly in her own name and indirectly as a beneficiary of her deceased husband’s trust).

The advisors were right. Mary needed the insurance, but she did not have a ghost of a chance of coming up with the annual premium requirements of $32,000 per year for as long as she lived.

I asked Joe lots of questions, conferred with the advisors and requested a large pile of information — stuff like tax returns, financial statements, etc. After discovering that Success Co. had $2.5 million in excess cash, this is what I recommended.

Mary gifts $1.2 million of her Success Co. stock (the total value of Success Co. was appraised at over $8 million) to a charitable remainder trust (CRT). The CRT agrees to pay Mary $72,000 per year for as long as she lives. At Mary’s death, the balance (called the “remainder”) in the CRT will go to charity. Each year Mary must pay $25,000 in income tax (on the $72,000 of income from the CRT) and $32,000 in premiums (for the $2 million policy, which is owned by an irrevocable life insurance trust, ILIT for short), or a total of $57,000. This leaves Mary an extra $15,000 per year to buy presents for her grandchildren.

The ILIT will give Mary’s children $2 million (in insurance proceeds) when she dies. The entire $2 million will be tax free — no income tax, no estate tax.

But where does the CRT get the income to pay Mary? The CRT sells the gifted stock back to Success Co. for $1.2 million. Let’s summarize Mary’s tax picture: Mary avoids all capital gains tax on the sale of the Success Co. stock. The balance in the CRT (estimated at $1.1 million) at Mary’s death goes to Mary’s favorite charity and is free of income tax and estate tax. In addition, Mary gets an immediate income tax deduction of about $200,000 for her charitable contribution to the CRT. Simply put, even though Mary avoids both the capital gains tax and the estate tax, the IRS writes her a check. For what, you ask? For the present value of the remainder (of the $1.2 million) gifted to the CRT.

This $200,000 (immediate deduction) results in about $70,000 in cash income tax savings for Mary. Lots more expensive presents for the grandchildren. (Note: If Mary had sold the $1.2 million of Success Co. stock directly to the company, it would have been taxed as a dividend, resulting in a whooping tax of $180,000.)

A side note before concluding: There are many other ways to get cash (or other types of property out of your C corporation) in a tax-effective manner. If you have such a problem, as a service to readers of this column, contact me.

The use of a CRT in tandem with an ILIT is a time-tested method for making a tax-advantaged investment for your family. You actually create wealth (make a real economic profit) by gifting to charity.

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Posted in Corporate Tax, Insurance, Investment Strategies | No Comments »

Irv Didn’t Invent Taxes, Just 227 Ways To Beat Them

Saturday, March 28th, 2009

There are three main ways the federal tax law picks your pocket and becomes your legal partner: payroll taxes, the income tax and the estate tax. So, how can you fight back?  Here are five areas in which you can save money from taxes.

Column from: Modern Machine Shop, Contributed by: Irving L. Blackman

Would you believe that the basic tax law, the Internal Revenue Code and regulations, is about 50,000 pages long with no logical, organized theme? There’s also a constant stream of Internal Revenue Service rulings and case law. No one person can know it all—not Congress, which passes the law, nor the IRS, which enforces it.

There are three main ways the federal tax law picks your pocket and becomes your legal partner: payroll taxes, the income tax and the estate tax. So, how can you fight back? One day, just for fun, we (four tax guys) started to count the ways to legally get around paying the three taxes listed. We were just getting warmed up when we counted 227 options and stopped. The following are five areas in which you can save money from taxes:

1. Payroll Taxes. This money-stealing parasite is persistent and expensive: This year, $16,404 on the first $106,800 of your earnings goes to the tax man. That’s a scandalous 9.76 percent. For earnings of more than $106,800, you pay an additional 2.9 percent.

Here are examples of the three most common ways to lose payroll taxes to the IRS: The first mistake involves Joe, the owner of an S corporation who taxes a large salary (often $500,000 or more) and takes a huge bonus at the year’s end to bring down profits. For this S corporation, a tax-free dividend instead of compensation would save a bundle of unnecessary payroll taxes and would cost no more in income taxes. A second payroll tax mistake is when owners’ wives and moms take a salary when they either don’t work or are overpaid. It is much better tax-wise to give them a gift. The third mistake is operating a business as an LLC, which makes all income to the owner(s) subject to payroll taxes.

2. Asset Protection. In a heartbeat, your family wealth, including your business, can be depleted or even destroyed by a lawsuit.

Keep your business thin by keeping only those assets—typically, necessary cash, inventory and receivables—needed for operations in your business. Here are some basic sub-strategies: Elect S corporation status; personally own (via separate LLCs) any new real estate or expensive equipment, and lease it to your operating company; and never own delivery vehicles in your operating company. Put the vehicles into a separate corporation or LLC.

The sad fact is, we can’t protect the assets inside of your operating company, but we can protect you and your spouse. All of your significant assets are simply retitled using typical lifetime planning documents—such as family limited partnerships, LLCs and appropriate trusts.

3. Life Insurance. You can save money in taxes whether you, your spouse or your kids own the insurance.

Critical issues concerning life insurance are premium cost, the death benefit and the tax due on the benefit at death (usually the estate tax). The following are common ways to modify insurance plans to save premiums or increase the death benefit without additional costs:

• For single life or second-to-die insurance, you can get a cash-surrender value of more than $200,000 on a policy that is 9 years old or older. This results in significantly more death benefit for the same premium cost or a significantly reduced premium cost for the same death benefit.

• If you, the husband, are at least 55 years old, worth more than $5 million and have insurance on your life only, you are wasting premium dollars. Second-to-die coverage with your wife will typically give you the same death benefit for about 35 percent less premium cost.

• If you have more than $400,000 in a qualified plan such as a 401(k) or IRA, that amount is subject to a double tax (income and estate) of as much as 73 percent to the IRS. On average, you can turn every $270,000 of after-tax dollars into $3 to $5 million (tax-free), depending on your age and health. This plan works for second-to-die or single life insurance.

4. Business Succession. This affects your business and your business kids. The typical business owner wants to transfer the business to his kid(s) so that he and his kid(s) don’t get killed by taxes. He also wants to treat his non-business kids fairly, ensure that he controls his business for as long as he lives and ensure that the company stock stays in the family by never going to a kid’s ex-spouse. Every one of these goals is easily accomplished. Best of all, the business can be transferred tax-free, with no income tax, gift tax or estate tax for the owner or the kids.

5. Estate Plan. A proper estate plan is actually two plans: a lifetime plan and a death plan. The plans are designed to cover every significant tax-saving possibility—from the minute the lifetime plan is created until after you get hit by the final bus (covered by the death plan).

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Posted in Estate Tax, General Tax Strategies, Irv Talk, Retirement Tax Advice | No Comments »

Gaining wealth is easy when compared with human aspect of tax game

Saturday, March 28th, 2009

Recently, I read an article titled What Makes for Success? by Kemmons Wilson, the founder of Holiday Inn. He said, “It is great to attain wealth, but money is really just one way — and hardly the best way — to keep score.”

Interesting quote, huh?

Most readers of this column call me with tax problems because they have attained wealth (no doubt they have and do keep score with money) and they don’t want to share that wealth with the IRS — perfectly normal. Yet, it’s amazing. Once the reader realizes that we really do know how to pass their wealth — all of it and intact — to their family, the conversation turns to other ways that they might keep score. Sure, they are delighted to find there are legal ways to totally win the estate tax game. But they readily admit that they don’t know how to deal with the other problems (other ways to keep score).

The other problems fall into the general category of little kids, little problems; big kids, big problems.

Stuff like which of my kids should run the business? How do I treat the kids fairly? What about the non-business kids?

What happens if one (or more) of my kids get divorced? How do I take care of my wife (the second one who is 15 years — or more — younger than the caller)? The callers tell me about family problems, business problems and/or assorted personal problems. To me every word is important, even though I’ve listened to so many tales of woe before. But, although similar, each problem has its own peculiar twists and turns.

Let’s face it — stuff happens. After years of solving wealth transfer problems, business succession (usually the business is at center stage) and estate planning problems, experience has taught me that solving only the money problems can never yield a perfect plan.

The human stuff — your spouse and kids support your plan — must be solved too.

What about your son-in-law or daughter-in-law? I know. It sounds like cornball. But if you really want to win the game of life after you have won the money game (really the easy part), you must attempt to solve the human part, the emotional stuff.

Here’s my suggestion to start the process. Make two lists: the money-problem list and the human-problem list.

Solve the money problems first (usually you are home free if you solve these three money problems:

• maintain your lifestyle — and your spouse’s — for as long as you live;

• transfer your business to the business kids — tax-free; and

• kill the estate tax.

Then, it’s easier to tackle the human-problem list. Interesting, many times solving the money problems also solve some (often all) of the human problems.

Finally, you must work with experienced professionals who know how to solve both problems: the money problems and the emotional human problems that come with accumulating wealth and trying to pass it on.

One more thing: Each piece of your plan must be part of a single comprehensive and integrated plan, all implemented at the same time. Piecemeal planning, based on my 50 years of experience, is a disaster that not only enriches the IRS, but fails to satisfy the normal human desires of a typical family and its business.

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Posted in Estate Tax, Family Tax Issues, General Tax Strategies | No Comments »

One happy Mom learned that the right planning can be tax magic.

Friday, March 27th, 2009

Do you have a large amount of retained earnings and excess cash in your corporation, but the double taxing power of the law has your cash locked in the corporation? Most business owners think they are stuck, but there’s a way out.

Here’s a true story of one way to get the job done. You’ll like it. Joe called me with this problem. Joe and his brother Jeff each owned 30 percent of Success Co., which they managed.

His mom, Mary, 66, owned 20 percent in her own name, and a trust created when Joe’s dad died owned the other 20 percent. Mary’s professional advisors recommended that she obtain $2 million of insurance using an irrevocable life insurance trust to pay the estate tax liability that would be due at her death — because of the value of the assets she owned directly in her own name and indirectly as a beneficiary of her deceased husband’s trust. The advisors were right. Mary needed the insurance, but she did not have any chance of coming up with the annual premium requirements of $32,000 for as long as she lived.

I asked Joe lots of questions, conferred with the advisors and requested a large pile of information — stuff like tax returns, financial statements, etc. After discovering that Success Co. had $2.5 million in excess cash, this is what I recommended.

Mary gifts $1.2 million of her Success Co. stock — the total value of Success Co. was appraised at over $8 million — to a charitable remainder trust. The charitable trust agrees to pay Mary $72,000 per year for as long as she lives. At Mary’s death, the balance, called the “remainder,” in the trust would go to charity. Each year Mary must pay $25,000 in income tax on the $72,000 of income from the charitable trust and $32,000 in premiums for the $2 million policy, which is owned by the life insurance trust, or a total of $57,000. This leaves Mary an extra $15,000 per year to buy presents for her grandchildren.

The life insurance trust will give Mary’s children $2 million in insurance proceeds when she dies. The entire $2 million will be tax free: no income tax and no estate tax.

But where does the charitable trust get the income to pay Mary? The charitable trust sells the gifted stock back to Success Co. for $1.2 million.

Let’s summarize Mary’s tax picture. Mary avoids all capital gains tax on the sale of the Success Co. stock. The balance in the charitable trust estimated at $1.1 million at Mary’s death goes to Mary’s favorite charity and is free of income tax and estate tax.

In addition, Mary gets an immediate income tax deduction of about $200,000 for her contribution to the charitable trust.

Simply put, even though Mary avoids both the capital gains tax and the estate tax, the IRS writes her a check. For what, you ask? For the present value of the remainder of the $1.2 million gifted to the charitable trust. This $200,000 (immediate deduction) results in about $70,000 in cash income tax savings for Mary — more expensive presents for the grandkids.

(Note: If Mary had sold the $1.2 million of Success Co. stock directly to the company, it would have been taxed as a dividend, resulting in a whopping tax of $180,000.)

A side note before concluding: There are many other ways to get cash or other types of property out of C corporations in a tax-effective manner. If you have such a problem, as a service to readers of this column, call me with your problem (847) 674-5295.

The use of a charitable remainder trust in tandem with an irrevocable life insurance trust is actually a method for making a tax-advantaged investment for your family. You may actually create wealth and make a real economic profit by giving to charity.

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Posted in Estate Tax, Family Tax Issues, General Tax Strategies | No Comments »

Don’t flip your lid if you have too many FLIP accounts.

Thursday, March 26th, 2009

Professionally, my second love is writing this column; my first love is consulting with the people who read it.

Every family I work with is different. So are its business, its situations and its problems. Despite these differences, I’m rarely surprised by anything totally new. But one reader sent me something I had never seen before.

Here’s the story. After about an hour on the phone, Sam, calling at the request of his dad, Joe, agreed to send me the typical information: some tax returns and financial statements and a copy of the existing estate plan.

About one week later, a large, heavy box arrived with a 5-inch stack of documents. Most of the documents had to do with nine separate family limited partnerships, or FLIPs. All were identical, except each FLIP owned a different asset, like the family business, a residence or investments.

As I thumbed through the papers, I couldn’t help thinking about the drunk who was told, “A shot of whiskey each day is good for you.” The guy who did Joe’s estate plan was clearly FLIP drunk.

One thing should be made clear: I am an enthusiastic cheerleader for the use of FLIPs in estate planning. I use ‘em all the time. But this overkill of a single strategy just didn’t do the best possible job.

The proof: Using the computations of the adviser, the IRS still would cash in for more than $2 million in estate taxes.

Another $1.1 million of IRS enrichment was likely because of a gross misuse of the FLIP strategy.

What does a FLIP accomplish? It allows you to totally control the use of any asset transferred (a tax-free transfer) to the FLIP as the general partner, yet reduce the value of the bundle of assets transferred for tax purposes.

For example, $1 million of assets transferred to a FLIP is usually worth only about $650,000 for tax purposes. That $350,000 discount in a 55 percent estate tax bracket will reduce your estate tax burden by $192,500. Not bad!

A FLIP also is a great asset-protection strategy. Creditors can’t get at the assets in the FLIP. Neither can divorcing spouses of your kids, who are usually the limited partners.

Used properly, a FLIP is almost a perfect tax tool.

In general, a FLIP should not be used to own the stock of your family business. Nor should it be used for non-income-producing personal as sets, like a residence or auto.

It’s a valuable strategy for almost every other asset you might own — publicly traded stocks and bonds, real estate, you name it.

In short, we terminated the FLIPs that held the family business and two family residences.

The business elected S corporation status and was transferred to an intentionally defective trust (IDT), and the residences were transferred to qualified personal residence trusts (QPRTs). An IDT and a QPRT are similar concepts that allow you to heavily discount the value of the assets transferred to them.

We used the liquid assets in two other FLIPs to pay the premiums on second-to-die life insurance (on Joe and his wife), which was owned by an irrevocable life insurance trust (ILIT) that we created. An ILIT removes life insurance from the taxable estate of the husband and wife.

When all the smoke clears, Joe and his four children, including Sam, will be enriched $4 million to $7 million more than the original overkill FLIP plan (depending on how long Joe and his wife live).

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Posted in Estate Tax, Tax Strategies | No Comments »