Reverse The Four Most Common Tax Blunders

“Insanity is doing the same thing over and over again and expecting a different result,” spoke Albert Einstein. After 50 years of observing family business, I have seen dozens of mistakes repeated again and again by inexperienced— and yes, sometimes experienced—business owners that cost tons (often more than $1 million) of tax dollars and wreak economic havoc on the business owners, their businesses and their families.

Columns From: 8/1/2001 Modern Machine Shop,

“Insanity is doing the same thing over and over again and expecting a different result,” spoke Albert Einstein.

After 50 years of observing family business, I have seen dozens of mistakes repeated again and again by inexperienced— and yes, sometimes experienced—business owners that cost tons (often more than $1 million) of tax dollars and wreak economic havoc on the business owners, their businesses and their families.

Following are the four mistakes in typical real-life order that I see the most and that cost the most in dollars (usually down the road), yet are the easiest to correct.

  1. Not funding for your kids’ education/ not funding for your kids’ retirement. 
    The insanity. Do nothing, or set aside money in a taxable investment such as bonds, stocks and savings accounts. The solution. Set up a tax-free education/retirement plan for each child. When? It’s best when the baby is born. As little as $10,000 per year for 6 years, a total of $60,000, will fund the baby’s college education (about $70,000) and provide yearly retirement payments of $150,000 starting at age 60 and continuing to age 95. Total benefits should exceed—are you ready?—more than $9 million. Wow! No magic. Just the compounding of money in a tax-free environment.
  2. Selling the business to the kids.
    The insanity. You (Joe) are triple taxed. For example, Joe sells his business to his son Sam for $1 million. Tax #1: Sam must earn $1.6 million and pay an income tax of $667,000 to have $1 million left to pay his dad. Tax #2: Joe pays on average $200,000 in capital gains tax, and $800,000 is left. Tax #3: Joe dies. On average there are $416,000 in estate taxes. Only $384,000 is left for the family. The solution. Joe transfers his business to Sam using a grantor retained annuity trust or a defective trust. Joe still gets to have his $1 million flow of income, but Sam pays zero income tax and—best of all—the business is out of Joe’s estate. The tax-savings usually equal about 50 percent of the value of dad’s business.
  3. Funding for your retirement. 
    The Insanity. Rich people pour money into qualified plans such as a 401(k) or profit sharing plans or IRAs. You will be taxed 40 percent (ouch!) when you take a dollar out of the plan and 55 percent of the 60 cents balance when you die. Result: Your family gets a mere 27 cents, and the IRS gets 73 cents out of every dollar. Think about it: The IRS gets $730,000 out of $1 million. Insanity, indeed. The Solution. If you are young, about 50 or younger, switch to the strategy in No. 2 above. No matter what your age, use a subtrust to skyrocket the after-tax wealth in your qualified plan. Yes, you can usually multiply your plan dollars 10 times or more. Typically, we turn every $100,000 into $1 million or more—all tax-free.
  4. Estate Planning. 
    The Insanity. (a) no plan, (b) a plan that becomes old and no longer fits, or (c) most often, a traditional estate plan (you married people with a two-trust plan) that is well done and sits in the drawer, and when both husband and wife go to the big business in the sky, the IRS is guaranteed a big payday. Over the years, I’ve seen little guys get whacked for $100,000 or more when one slight change would have eliminated the entire tax. The big guys? It’s easy to lose over one-half of your family’s wealth to the IRS; losses of $1 million to $10 million to the tax collector are not uncommon. What kind of insanity robs your family to enrich the IRS?

The solution. Create a wealth transfer plan (a lifetime plan) instead of an estate plan (a death plan) with one clear goal: transfer all of your wealth—every dime of it—to your family.

Comments are reviewed by moderators before they appear to ensure they meet Modern Machine Shop’s submission guidelines.
blog comments powered by Disqus
MMS ONLINE
Channel Partners
  • Techspex