The Tax Loophole That Helps America’s Richest Families Stay That Way

The longer we fail to constrain inherited wealth, the sooner the dream of a democratic society dies.

#american-families-plan-2021, #capital-gains-tax, #democratic-party, #high-net-worth-individuals, #income-inequality, #inheritance-and-estate-taxes, #lobbying-and-lobbyists, #united-states-politics-and-government

House Democrats’ Plan to Tax the Rich Leaves Vast Fortunes Unscathed

The House Ways and Means Committee’s proposal to pay for trillions in social spending leaves wealth gains and inheritances largely alone. It focuses instead on a more traditional target: income.

#biden-joseph-r-jr, #capital-gains-tax, #democratic-party, #federal-taxes-us, #high-net-worth-individuals, #house-committee-on-ways-and-means, #income-tax, #inheritance-and-estate-taxes, #law-and-legislation, #neal-richard-e, #senate-committee-on-finance, #taxation, #united-states-politics-and-government

Democrats and Lobbyists Gird for Battle Over Far-Reaching Tax Increases

Congressional committees this week begin drafting tax increases on the wealthy and corporations to pay for a $3.5 trillion social policy bill, but the targets are putting up a fight.

#biden-joseph-r-jr, #capital-gains-tax, #corporate-taxes, #democratic-party, #federal-budget-us, #federal-taxes-us, #heitkamp-heidi, #high-net-worth-individuals, #house-committee-on-ways-and-means, #income-inequality, #income-tax, #inheritance-and-estate-taxes, #law-and-legislation, #lobbying-and-lobbyists, #senate-committee-on-finance, #tax-shelters, #taxation, #united-states-chamber-of-commerce, #united-states-politics-and-government, #wyden-ron

You can’t afford to make poor decisions about incentive stock options

One of the big reasons you’re giving 110% of your talent and effort to your private company is because you’re hoping to eventually cash in on all those vested incentive stock options (ISOs) that have been sitting in some account, waiting for the day your company goes public.

There’s nothing wrong with that. Who doesn’t dream of reaping an options windfall and using it to retire early, buy a house, pay off their college loans, travel around the world or become a full-time philanthropist?

Unfortunately, when it comes to figuring out how to cash in their stock awards, most employees are on their own.

Their employers can’t always provide the answers they need — especially when the questions relate to personal finances. Most companies admit they need to be better at explaining how ISOs work in general, but they can’t legally work one-on-one with employees to help them exercise and sell shares the right way.

Most companies admit they need to be better at explaining how ISOs work in general, but they can’t legally work one-on-one with employees to help them exercise and sell shares the right way.

That’s why, when the time is right, many employees actively look for help from a qualified fiduciary financial adviser who can walk these could-be “options millionaires” through various cash-in scenarios.

Here’s a real-life example (using a pseudonym).

Kurt is a 50-year-old VP of product management at a healthcare startup that just went public. Over his three years with the company, Kurt had amassed 350,000 ISOs worth approximately $6 million. Unlike many options millionaires, he didn’t intend to cash in everything and retire early. He planned to stay with the firm but wanted to liquidate enough ISOs to pay for a vacation home and add greater diversification to his investment portfolio. This presented significant tax risks that Kurt wasn’t aware of.

If Kurt exercised his ISOs and sold the shares before a year had passed, his profits would be characterized as short-term capital gains, which are taxed as ordinary income.

To illustrate the potential tax implications of this action, we created a hypothetical scenario that showed if Kurt exercised all of his ISOs and sold the shares immediately, he would incur approximately $6 million in ordinary income, which would push him into the top tax bracket and put him on the hook for almost $3 million in combined federal and state taxes.

#capital-gains-tax, #column, #ec-column, #ec-future-of-work, #finance, #opinion, #options, #startups, #stock, #tc

Infrastructure Bill Talks Collide With Democrats’ Goal to Tax the Rich

Many Democrats see the push for an infrastructure package as an opportunity to raise taxes on rich individuals and corporations. But resistance is coming from multiple directions.

#american-families-plan-2021, #american-jobs-plan-2021, #capital-gains-tax, #democratic-party, #federal-taxes-us, #high-net-worth-individuals, #income-tax, #infrastructure-public-works, #sanders-bernard, #senate, #tax-credits-deductions-and-exemptions, #tax-cuts-and-jobs-act-2017, #united-states-politics-and-government, #warren-elizabeth, #wyden-ron

How Private Equity Conquered the Tax Code

How a powerful industry conquered the U.S. tax system.

#antitrust-laws-and-competition-issues, #bitcoin-currency, #capital-gains-tax, #federal-taxes-us, #musk-elon, #private-equity, #vaccination-and-immunization

How Private Equity Firms Avoid Taxes

The I.R.S. almost never audits private equity firms, even as whistle-blowers have filed claims alleging illegal tax avoidance.

#apollo-global-management, #bain-capital, #biden-joseph-r-jr, #blackstone-group-the, #capital-gains-tax, #carlyle-group-lp, #federal-taxes-us, #government-accountability-office, #high-net-worth-individuals, #income-inequality, #income-tax, #internal-revenue-service, #kirklandellis, #kkrco-lp, #mnuchin-steven-t, #private-equity, #rettig-charles-p, #schwarzman-stephen-a, #tax-cuts-and-jobs-act-2017, #tax-evasion, #tax-shelters, #tpg-capital, #treasury-department, #trump-donald-j, #united-states-politics-and-government, #whistle-blowers

ProPublica Report Has Congress Rethinking How to Tax Superrich

A report showing that the richest Americans, including Jeff Bezos, Elon Musk and Warren Buffett, pay almost no taxes has refocused attention on the tax code.

#alternative-minimum-tax, #biden-joseph-r-jr, #capital-gains-tax, #corporate-taxes, #democratic-party, #federal-taxes-us, #high-net-worth-individuals, #income-tax, #internal-revenue-service, #pro-publica, #propublica, #republican-party, #senate-committee-on-finance, #stocks-and-bonds, #tax-credits-deductions-and-exemptions, #tax-cuts-and-jobs-act-2017, #tax-shelters, #taxation, #toomey-patrick-j, #united-states-economy, #united-states-politics-and-government, #warren-elizabeth, #wyden-ron

Investors Fret as Biden Takes Aim at a 100-Year-Old Tax Loophole

The administration wants to rein in a tax deferral on gains from the sale of real estate. Opponents worry that the move would stifle investment.

#biden-joseph-r-jr, #capital-gains-tax, #federal-taxes-us, #high-net-worth-individuals, #real-estate-commercial, #real-estate-and-housing-residential

Biden Banks on $3.6 Trillion Tax Hike on the Rich and Corporations

The White House is proposing substantial increases in personal income tax rates for those earning about a half-million dollars and higher tax rates on large corporations.

#biden-joseph-r-jr, #capital-gains-tax, #corporate-taxes, #federal-taxes-us, #income-inequality, #income-tax, #taxation, #united-states-economy

Advanced tax strategies for startup founders

As an entrepreneur, you started your business to create value, both in what you deliver to your customers and what you build for yourself. You have a lot going on, but if building personal wealth matters to you, the assets you’re creating deserve your attention.

You can implement numerous advanced planning strategies to minimize capital gains tax, reduce future estate tax and increase asset protection from creditors and lawsuits. Capital gains tax can reduce your gains by up to 35%, and estate taxes can cost up to 50% on assets you leave to your heirs. Careful planning can minimize your exposure and actually save you millions.

Smart founders and early employees should closely examine their equity ownership, even in the early stages of their company’s life cycle. Different strategies should be used at different times and for different reasons. The following are a few key considerations when determining what, if any, advanced strategies you might consider:

  1. Your company’s life cycle — early, mid or late stage.
  2. The value of your shares — what they are worth now, what you expect them to be worth in the future and when.
  3. Your own circumstances and goals — what you need now, and what you may need in the future.

Some additional items to consider include issues related to qualified small business stock (QSBS), gift and estate taxes, state and local income taxes, liquidity, asset protection, and whether you and your family will retain control and manage the assets over time.

Smart founders and early employees should closely examine their equity ownership, even in the early stages of their company’s life cycle.

Here are some advanced equity planning strategies that you can implement at different stages of your company life cycle to reduce tax and optimize wealth for you and your family.

Irrevocable nongrantor trust

QSBS allows you to exclude tax on $10 million of capital gains (tax of up to 35%) upon an exit/sale. This is a benefit every individual and some trusts have. There is significant opportunity to multiply the QSBS tax exclusion well beyond $10 million.

The founder can gift QSBS eligible stock to an irrevocable nongrantor trust, let’s say for the benefit of a child, so that the trust will qualify for its own $10 million exclusion. The founder owning the shares would be the grantor in this case. Typically, these trusts are set up for children or unborn children. It is important to note that the founder/grantor will have to gift the shares to accomplish this, because gifted shares will retain the QSBS eligibility. If the shares are sold into the trust, the shares lose QSBS status.

QSBS tax strategy

Image Credits: Peyton Carr

In addition to the savings on federal taxes, founders may also save on state taxes. State tax can be avoided if the trust is structured properly and set up in a tax-exempt state like Delaware or Nevada. Otherwise, even if the trust is subject to state tax, some states, like New York, conform and follow the federal tax treatment of the QSBS rules, while others, like California, do not. For example, if you are a New York state resident, you will also avoid the 8.82% state tax, which amounts to another $2.6 million in tax savings if applied to the example above.

This brings the total tax savings to almost $10 million, which is material in the context of a $40 million gain. Notably, California does not conform, but California residents can still capture the state tax savings if their trust is structured properly and in a state like Delaware or Nevada.

Currently, each person has a limited lifetime gift tax exemption, and any gifted amount beyond this will generate up to a 40% gift tax that has to be paid. Because of this, there is a trade-off between gifting the shares early while the company valuation is low and using less of your gift tax exemption versus gifting the shares later and using more of the lifetime gift exemption.

The reason to wait is that it takes time, energy and money to set up these trusts, so ideally, you are using your lifetime gift exemption and trust creation costs to capture a benefit that will be realized. However, not every company has a successful exit, so it is sometimes better to wait until there is a certain degree of confidence that the benefit will be realized.

Parent-seeded trust

One way for the founder to plan for future generations while minimizing estate taxes and high state taxes is through a parent-seeded trust. This trust is created by the founder’s parents, with the founder as the beneficiary. Then the founder can sell the shares to this trust — it doesn’t involve the use of any lifetime gift exemption and eliminates any gift tax, but it also disqualifies the ability to claim QSBS.

The benefit is that all the future appreciation of the asset is transferred out of the founder’s and the parent’s estate and is not subject to potential estate taxes in the future. The trust can be located in a tax-exempt state such as Delaware or Nevada to also eliminate home state-level taxes. This can translate up to 10% in state-level tax savings. The trustee, an individual selected by the founder, can make distributions to the founder as a beneficiary if desired.

Further, this trust can be used for the benefit of multiple generations. Distributions can be made at the discretion of the trustee, and this skips the estate tax liability as assets are passed from generation to generation.

Grantor retained annuity trust (GRAT)

This strategy enables the founder to minimize their estate tax exposure by transferring wealth outside of their estate, specifically without using any lifetime gift exemption or being subject to gift tax. It’s particularly helpful when an individual has used up all their lifetime gift tax exemption. This is a powerful strategy for very large “unicorn” positions to reduce a founder’s future gift/estate tax exposure.

For the GRAT, the founder (grantor) transfers assets into the GRAT and gets back a stream of annuity payments. The IRS 7520 rate, currently very low, is a factor in calculating these annuity payments. If the assets transferred into the trust grow faster than the IRS 7520 rate, there will be an excess remainder amount in GRAT after all the annuity payments are paid back to the founder (grantor).

This remainder amount will be excluded from the founder’s estate and can transfer to beneficiaries or remain in the trust estate tax-free. Over time, this remainder amount can be multiples of the initial contributed value. If you have company stock that you expect will pop in value, it can be very beneficial to transfer those shares into a GRAT and have the pop occur inside the trust.

This way, you can transfer all the upside gift and estate tax-free out of your estate and to your beneficiaries. Additionally, because this trust is structured as a grantor trust, the founder can pay the taxes incurred by the trust, making the strategy even more powerful.

One thing to note is that the grantor must survive the GRAT’s term for the strategy to work. If the grantor dies before the end of the term, the strategy unravels and some or all the assets remain in his estate as if the strategy never existed.

Intentionally defective grantor trust (IDGT)

This is similar to the GRAT in that it also enables the founder to minimize their estate tax exposure by transferring wealth outside of their estate, but has some key differences. The grantor must “seed” the trust by gifting 10% of the asset value intended to be transferred, so this approach requires the use of some lifetime gift exemption or gift tax.

The remaining 90% of the value to be transferred is sold to the trust in exchange for a promissory note. This sale is not taxable for income tax or QSBS purposes. The main benefits are that instead of receiving annuity payments back, which requires larger payments, the grantor transfers assets into the trust and can receive an interest-only note. The payments received are far lower because it is interest-only (rather than an annuity).

IDGT Estate tax savings

Image Credits: Peyton Carr

Another key distinction is that the IDGT strategy has more flexibility than the GRAT and can be generation-skipping.

If the goal is to avoid generation-skipping transfer tax (GSTT), the IDGT is superior to the GRAT, because assets are measured for GSTT purposes when they are contributed to the trust prior to appreciation rather than being measured at the end of the term for a GRAT after the assets have appreciated.

The bottom line

Depending on a founder’s situation and goals, we may use some combination of the above strategies or others altogether. Many of these strategies are most effective when planning in advance; waiting until after the fact will limit the benefits you can extract.

When considering strategies for protecting wealth and minimizing taxes as it relates to your company stock, there’s a lot to take into account — the above is only a summary. We recommend you seek proper counsel and choose wealth transfer and tax savings strategies based on your unique situation and individual appetite for complexity.

#california, #capital-gains-tax, #column, #delaware, #estate-tax, #nevada, #new-york, #startups, #tax, #tax-laws, #tc

Why Biden’s Plan to Raise Taxes for Rich Investors Isn’t Hurting Stocks

Investors care more about economic data and corporate profits than an increase in the capital gains tax. It has usually been this way.

#american-jobs-plan-2021, #biden-joseph-r-jr, #capital-gains-tax, #standardpoors-500-stock-index, #stocks-and-bonds, #united-states-economy

How the Wealthy Are Planning for Biden’s Tax Increases

Financial advisers say they have been flooded with calls from clients who are trying to predict which of President Biden’s tax proposals will become law.

#american-families-plan-2021, #biden-joseph-r-jr, #capital-gains-tax, #content-type-service, #federal-taxes-us, #high-net-worth-individuals, #inheritance-and-estate-taxes, #tax-credits-deductions-and-exemptions, #wills-and-estates

California Is Awash in Cash, Thanks to a Booming Market

In a single year, the state’s financial outlook has gone from surplus to deficit to surplus as capital gains tax collections have risen amid a soaring stock market and I.P.O. boom.

#apple-inc, #brown-edmund-g-jr, #budgets-and-budgeting, #california, #capital-gains-tax, #coronavirus-2019-ncov, #cupertino-calif, #economic-conditions-and-trends, #executive-compensation, #income-tax, #initial-public-offerings, #newsom-gavin, #standardpoors-500-stock-index, #stimulus-economic, #stock-options-and-purchase-plans, #taxation

You Made Money on GameStop. Here’s What You Need to Know About Taxes.

Some investors may have notched tens of thousands of dollars in profits. Depending on when they sell the stock, they may owe hefty capital gains taxes.

#capital-gains-tax, #federal-taxes-us, #gamestop-corporation, #income-tax, #personal-finances, #robinhood-financial-llc, #stocks-and-bonds, #tax-preparers-and-preparation

The Estate Tax May Change Under Biden, Affecting Far More People

In contrast to previous changes, the tax code could be modified in a way that affects everyone who has something of value to leave to heirs.

#biden-joseph-r-jr, #capital-gains-tax, #content-type-service, #federal-taxes-us, #high-net-worth-individuals, #inheritance-and-estate-taxes, #personal-finances, #united-states-politics-and-government, #wills-and-estates

Making Financial Decisions When You Don’t Have All the Facts

The president-elect is considering tax changes that could affect stock sales, selling a family business and leaving money to heirs. But we still don’t know how much he’ll be able to do.

#biden-joseph-r-jr, #capital-gains-tax, #content-type-service, #family-business, #high-net-worth-individuals, #income-tax, #internal-revenue-service, #presidential-election-of-2020, #united-states-politics-and-government, #wills-and-estates

Tax the Ultrarich? Cuomo Resists, Even With a $14 Billion Budget Gap

State Democratic lawmakers are pressuring Gov. Andrew Cuomo to approve a tax on the wealthy, fearing that budget cuts will hurt those most in need.

#budgets-and-budgeting, #capital-gains-tax, #coronavirus-2019-ncov, #cuomo-andrew-m, #high-net-worth-individuals, #income-tax, #new-york-state, #taxation

Advisers Consider Whether Trump Can Cut Taxes Without Congress

Trump’s lawyers and economic advisers have studied how far they could stretch executive authority to set tax policy, though the legality of any cuts is dubious.

#capital-gains-tax, #coronavirus-2019-ncov, #executive-orders-and-memorandums, #federal-taxes-us, #income-tax, #labor-and-jobs, #polls-and-public-opinion, #presidential-election-of-2020, #taxation, #trump-donald-j, #united-states-economy, #united-states-politics-and-government