Tuesday, October 18, 2016

We're Number One!

Americans love awards shows — the Oscars, the Grammys, the Emmys, and the Tonys. So we all watched eagerly as the nonpartisan Tax Foundation rolled out the red carpet and released "International Tax Competitiveness Index 2016." The ranking rewards countries with low marginal rates to discourage businesses from fleeing abroad and simple systems to raise the most revenue with the fewest "economic distortions."
Which of the 35 member states of the Organisation for Economic Co-operation and Development (OECD) took home the gold? Was it our own United States? Maybe some sunny Caribbean tax haven where international gangsters travel to sip Pina Coladas and light cigars with their money? Perhaps one of those dinky European "Grand Duchies" tucked away in the Alps with strict bank secrecy laws?
No, no, and no. The winner, for a third year in a row, is the polka-dancing, wife-carrying, ice-yachting land of — Estonia! That's right, the Baltic country of just 1.3 million people, that most Americans couldn't find on a map, has the most competitive tax system in the world. Surprised?
What makes tiny Estonia's tax code so mighty? Try a 20% flat tax on earned income — the lowest top rate in the world. A 20% corporate rate with no tax on reinvested profits or double taxation of dividends. Property taxes based solely on land values, not buildings or improvements. A 20% value-added tax. And no taxes on foreign earned income, estates, or financial transactions.
Beyond Estonia, who are the top scorers? According to the ITCI:
  • Silver medalist New Zealand has "a relatively flat, low-rate income tax that also exempts capital gains (with a combined top rate of 33%), a well-structured property tax, and a broad-based value-added tax."
  • Estonia's neighbor Latvia, at #3, "has a relatively low corporate tax rate of 15%, speedy cost recovery, and a flat individual income tax."
  • Fourth-ranked Switzerland has "a relatively low corporate tax rate (21.1%), a broad-based consumption tax, and a relatively flat income tax that exempts capital gains."
  • Even socialist punching bag Sweden, which rounds out the top five, has "a lower than average corporate income tax rate of 22%, no estate or wealth taxes, and a well-structured value-added tax and individual income tax." Where does our internal revenue code fall on this international ranking? Well, it turns out, "we're number 31!" (What kind of medal do you get for 31st place, anyway, Styrofoam?) Among other demerits, we have the highest marginal corporate tax rate and some of the most complicated taxes out of the entire OECD.
    Our tax code may not impress our fellow nations, but that doesn't mean all hope is lost. It just means you have to plan a little harder to avoid paying more than your fair share. That's where we come in. So call us for help, and start thinking where in the world you want to take your savings!
  • Monday, October 10, 2016

    Will It Blend?

    If you've spent any time on the internet, you know it's a vast rabbit hole of places to waste precious minutes of your life. "Will it Blend" is one of those places, a video series showing off the Blendtec line of blenders. The videos feature the company's founder, smiling in a white lab coat and safety goggles, dropping the day's experiment into one of his company's appliances. Not surprisingly, avocados, credit cards, and an Big Mac Extra-Value meal all blend just fine — but iPhones, golf clubs, and an English-German dictionary on CD-ROM don't fare nearly so well. ("Don't try this at home," they warn.)

    Taxpayers play a similar game. It's not as fun to watch as a Justin Bieber doll in a blender, but it's potentially far more profitable. That game, of course, is "Will it Deduct?" The results don't go viral in the same way as the "Will it Blend?" videos. But they do wind up on the internet, in the form of Tax Court opinions.

    This week's "Will it Deduct" story features Herbie Vest, a CPA who launched an investment advisory firm for fellow CPAs. He took the company public and stayed on until 2001, when he sold out to Wells Fargo for $125 million. By that point, he found himself looking for a new challenge in life. He found it in his own past. When Vest was just two years old, his father was found hanging in the bathroom of his Texas shop. Investigators ruled it a suicide. But in 2003, he received an anonymous letter alleging murder. So Vest began investigating this coldest of cases.

    Vest spent $6.4 million, pursuing the case as doggedly as any fictional detective. In 2007, he tried to salvage that effort with a book or movie, hiring a writer to tell his story and a PR firm to market it. But Vest never found a killer, and the story never found a buyer.

    You can probably guess what Vest did with his pile of bills. That's right, he played "Will it Deduct?" The IRS pureed his claim on the grounds that he hadn't embarked on his effort for profit. So he applied for a do-over and took his case to the Tax Court. Last week, the Court released its opinion. Would Vest's deduction fare better than a toilet plunger in a blender? Here's what the judge said:

        "By January 2008 [Vest] had been investigating his father's death for five years. As of that time, his investigative activities had not generated a single dollar of revenue. Those activities generated no income during 2008, 2009, or 2010, and [Vest] had no reasonable prospect of generating future income. Petitioner never developed a business plan for commercializing his father's story. He has no professional background in writing, book publishing, or media. He did not modify the scale or scope of his investigative activities during 2008-2010 in an effort to minimize the substantial losses he was incurring."

    Sadly for Vest, his investigation did not deduct, and now he owes the IRS $4 million in tax.

    Don't let Vest's disappointment stop you from playing "Will it Deduct." Section One of the tax code imposes a tax on every taxpayer and sets forth the various rates. Think of it as a "red light" on the road to financial independence. But the rest of the code outlines hundreds of exceptions to that tax — the deductions, credits, loopholes, and strategies that give a "green light" for taxpayers to pulse, chop, and liquefy their tax bills. So call us to take advantage of those green lights. And remember, we're here for your family, friends, and colleagues too!

    Tuesday, October 4, 2016

    Round 'em Up and Shake 'em Down

    Last month, Hollywood brought back the classic western with a remake of The Magnificent Seven. It's a tale as old as the West itself. An evil land baron terrorizes a town to satisfy his insatiable greed . . . and a ragtag squad of outlaws rides in to the rescue.

    You might be surprised to learn that the IRS has its own elite posse, too. They ride into battle wearing wool suits and skirts instead of leather chaps, brandishing subpoenas instead of six-shooters. They're the brave men and women of the Global High Wealth Industry Group.

    The "Wealth Squad," as they're known, is dedicated to battling tax evasion in the face of two growing trends, the rich getting richer and taxes getting more complicated. The IRS has always dedicated its most capable auditors to its most complicated cases. But those auditors tend to work in their own little bubbles — partnerships, corporations, estates, etc.

    The Wealth Squad is a horse of a different color — an interdisciplinary group dedicated to "enterprise cases," where they look at taxpayers plus the businesses, trusts, foundations, and other entities they control. One accountant quoted in Bloomberg magazine described them like this: "highly capable, experienced examination specialists, which include technical advisers to provide industry or issue-specialized tax expertise, specialists regarding flow-through entities (such as trusts, partnerships, LLCs), international examiners, economists to identify economic trends within returns, valuation experts and others."

    Got a private jet? How about a private foundation? The Wealth Squad is especially interested in those.

    How does the Wealth Squad do it? With a deceptively powerful weapon: the Information Document Request, or IDR. Those requests start with your business and personal returns for the year in question, and get more intrusive from there. Imagine finding yourself on the business end of this summons:

        "Provide complete copies of all financial statements and method of accounting used to compile them, net worth computations, or other financial data probative of your assets, liabilities, net worth, income and losses, and cash flows from all sources, within and without the United States, including all underlying documents and any exhibits associated therewith, and if not apparent, please identify the preparer of such documents."

    Yikes. Someone's going to bill a lot of hours complying with that request!

    How much money are we really talking here? For the 2013 tax year, the IRS audited 1.5% of all tax returns reporting income from $200,000-399,999, and dug up $605 in additional tax for every hour they worked. That sounds like a pretty solid return on investment, until you look at what those auditors do with the "one-percenters" making real money. That same year, the IRS examined 12.1% of the returns boasting income of $5 million or more, and brought in a much-more-gratifying $4,545 for every hour invested.

    If there's any good news here, it's that unless you're a billionaire, you're probably not going to find yourself in the Wealth Squad's crosshairs. But that doesn't mean you don't deserve the same sort of proactive planning as their targets take for granted. So let us be your heroes on horseback who help you pay less!

    Monday, September 26, 2016

    Moneyball? Ehhh, Not Really

    America is a nation divided. Cat people vs. dog people. Trump people vs. Clinton people. And last week, we discovered a new gulf to bridge: "Brad" people and "Angelina" people. That's right, Brad Pitt and Angelina Jolie are filing for divorce after two years of wedded non-bliss. Will the "Brangelina" breakup turn into a fight club? Will it drag out, or will she be gone in 60 seconds?
    Whose side are you on? How much do you care about the biggest celebrity divorce of 2016? Will you breathlessly wait for the next issues of your favorite supermarket tabloid, follow #brangelina on Twitter, and pass along rumors of infidelity, drug use, and child abuse? Or will you turn your nose up at the whole celebrity gossip machine and get on with your own life, thankyouverymuch?
    Odds are good that our friends at the IRS will fall into that second group that just doesn't care. It's not that there aren't oceans of money at stake — it's just that the divorce isn't likely to change how much of it falls into IRS hands. Let's take a closer look:
    • Jolie isn't asking for alimony. But even if she were, both stars earn well into the top 39.6% bracket on their own. (Forbes estimates Pitt has raked in $315.5 million since the couple met, with Jolie picking up $239.5 million more.) Alimony is deductible by the payor and taxable to the payee. That means, with Brangelina, it would be deductible by Pitt at 39.6%, and taxable to Jolie at . . . 39.6%. It's hard to see the IRS caring much who pays the tax on that last slice of income.
  • Next, property settlements. Pitt is a renowned architecture buff, with homes in Malibu, Manhattan, New Orleans, and the south of France. Jolie was famous for wearing a locket of her ex-husband Billy Bob Thornton's blood around her neck. (Let's just call that "separate property" and move on.) But transfers of property between divorcing spouses are tax-free — as far as the IRS is concerned, it's a wash no matter who winds up owning what.
  • Next, child support. Jolie has requested full physical custody of the couple's six children. (She's accused Pitt of being an inglorious bastard with the kids.) If she wins, Pitt will probably wind up paying child support. However, child support in any amount is nondeductible by the payor and nontaxable to the payee. In fact, it doesn't even appear on a tax return. Once again, there's no reason for the IRS to get excited.
  • If Pitt and Jolie really were just like us, the one area where the IRS might get concerned involves their filing status. Generally, when a couple earning more than about $100,000 gets divorced, they wind up paying less tax as singles than they would jointly. But again, Pitt and Jolie will both still pay the maximum 39.6% on the vast bulk of their income. We talk a lot here about the importance of planning. When it comes to divorce, it's almost inconceivable that Brangelina, with three previous divorces between them, didn't have a plan for it — also called a prenuptial agreement. Now, prenups are an asset protection tool, not a tax-planning tool. But it's equally inconceivable that a couple earning $555 million between them doesn't also have a plan to beat the IRS. So, while we can't get your picture on the cover of People magazine, we can help you with that same sort of protection. So call us!
  • Monday, September 19, 2016

    Do They Or Don't They?

    Matt Bissonnette grew up in a dinky flyspeck of a town off the Alaskan coast that you can't get to without a boat or a plane. He ultimately escaped to join SEAL Team Six, the Navy's most elite counter terrorism force. He took part in the 2009 mission to rescue Captain Mark Phillips from Somali pirates, a story which was told in the movie Captain Phillips. But that was just a warmup for his biggest mission: "Project Neptune Spear," the 2011 raid that killed Osama Bin Laden.

    In 2012, Bissonnette wrote a memoir called No Easy Day: The Firsthand Account of the Mission That Killed Osama Bin Laden. It earned him $6.7 million in royalties, which he planned to donate to the families of fallen SEALs. It also launched a lucrative second career as a public speaker. Unfortunately, Bissonnette broke the Pentagon rule requiring him to submit it for vetting before publishing. The day after the book landed on shelves, officials said it revealed classified information, a breach that could subject him to years in prison.

    Last month, Bissonnette settled the dispute and agreed to pay back every dime of royalties, plus another $100,000 in speaking fees he earned before they approved the slides he uses in his presentations. Question: can he now deduct that payment from his taxes going forward?

    Code Section 162(f) seems to shoot down any tax benefit. "No deduction shall be allowed . . . for any fine or similar penalty paid to a government for the violation of any law." But what about payments made to settle a dispute before a fine or penalty is imposed? Treasury regulations state that payments made to settle that sort of potential liability aren't deductible. But the regulations also state that compensatory damages do not qualify as fines or penalties.

    So, that's the $6.7 million question. Does Bissonnette's payment serve to compensate the government for the damage his book caused? If so, then he gets his deduction. Or does it merely settle his potential liability for civil or criminal fines or penalties — in a way that benefits both the government and him by avoiding the time, expense, and potential public disclosures involved in a trial? In that case, no dice.

    Bissonnette isn't the only celebrity who may miss out on a fat tax deduction for a big gesture. Actress Amber Heard recently finalized her divorce from Johnny Depp with a $7 million lump sum payment, then announced she's giving it all to charity. But she probably won't get the deduction you'd expect. That's because you can only deduct up to 50% of your adjusted gross income in any year (and carry any remaining balance forward five years). Ouch! Bet she didn't see that coming!

    Now, there are two ways Depp and Heard might be treating that $7 million. It could be a transfer between spouses, incident to the divorce. In that case, it's nondeductible to Depp and tax-free to Heard. (Too bad her financial disclosures show she doesn't have nearly enough income to take advantage of the full deduction.) Or it might be alimony, deductible to him and taxable to her. In that case, she'll still owe tax on the 50% of her donation that she can't deduct this year.

    Here's the lesson. Sometimes pricey things happen, and we console ourselves by saying "at least I get a tax deduction." But that's not always true, and it's rare that value of the tax deduction is enough to compensate for the loss that creates it. So call us before your next big transaction and make sure it serves you best!

    Monday, September 12, 2016

    Ahoy, Maties!

    Labor Day has faded into memory, and before you know it, the holidays will be here. Halloween, Thanksgiving, and the year-end Christmas/Hanukkah/Kwanzaa cavalcade of commercialism are the obvious "Big Three." But in all the holiday season hype, it's easy to overlook a newer celebration that grows more popular every year. We're talking, of course, about International Talk Like a Pirate Day — observed this year on Monday, September 19.
    Have you heard about the new pirate movie? It's rated ARRRRRGH!
    When you think of pirates, you probably picture swashbuckling "Golden Age" captains like Edward "Blackbeard" Teach or "Calico Jack" Rackham. Maybe your tastes lean towards the fictional Jack Sparrow or Long John Silver. Either way, you'd probably be surprised to learn that the real pirates of history could be a sophisticated lot, organizing themselves into democratic societies, with checks and balances to enforce discipline — and even "taxing" themselves to pay expenses.
    What has two eyes, two arms, and two legs? Two pirates!
    Some captains went so far as establishing written codes to maintain law and order. (No one walks the plank without due process!) Bartholomew "Black Bart" Roberts, who captured over 470 ships before dying in a broadside of British grapeshot, ruled according to 11 articles. Number ten on his list provided that, "The captain and the quartermaster shall each receive two shares of a prize, the master gunner and boatswain, one and one half shares, all other officers one and one quarter, and private gentlemen of fortune one share each." Even Bernie Sanders could approve of such equal distribution!
    What do you call a pirate that skips class? Captain Hooky!
    Today's pirates face a whole new set of challenges, including how to handle their ill-gotten gains. If you decide to deep-six your desk job for an eyepatch and life on the sea, you'll find your income subject to the same tax as any other business, legal or not. "Booty" is taxed at fair-market value under the rules of Code Section 83(b).
    What was the pirate's golf score? Parrrrrrrrrr!
    Fortunately, you'll get the same deductions as any other business. Ships and equipment you buy to conduct raids are considered capital equipment, depreciable over the applicable period. Guns, grappling hooks, and smaller items qualify for first-year expensing. And if the Indian navy sinks your ship, you can claim a capital loss. It's good to know that if an IRS auditor says "I'm the captain now," you won't be completely hornswoggled.
    How much does it cost a pirate to get a piercing? A buck an ear!
    Yo ho ho mateys, pay attention here. The end of the year isn't just holiday season, it's planning season. And planning is the key to keeping your treasure and making it grow. So call us to help keep the scallywags at the IRS from getting too many of your pieces of eight!

    Monday, September 5, 2016

    Red Tax Rising

    Novelist Tom Clancy shot to the top of the best seller lists when former president Ronald Reagan called his debut, The Hunt for Red October, "the best yarn." His stories featuring CIA analyst-turned-president Jack Ryan redefined the "techno-thriller" genre, with hyper-realistic plots that foreshadowed real-world developments. Clancy earned special praise for his obsessive attention to detail, especially with military hardware. But that attention to detail didn't quite extend to his finances — and a Maryland court just ruled that it would cost his children millions in estate tax.
    Clancy made a fortune from his books and invested his royalties into an impressive collection of toys: six penthouse condominiums totaling 17,000 square feet at Baltimore's Ritz-Carlton, a 535-acre estate on Maryland's Chesapeake Bay, a Sherman tank (!), and a 12% stake in his beloved Baltimore Orioles. When he died suddenly in 2013, his estate was worth $86 million — not bad for a guy who started writing part-time while selling insurance.
    But Clancy faced a dilemma common to divorced men with children who later remarry. Leave as much of his estate as he wants to his second wife Alexandra, where it escapes tax until her death? Or leave it to his kids from his first marriage, where the IRS grabs 40%, without remorse, immediately upon his death? The usual solution is something called a "qualified terminable interest property" trust, or Q-TIP. Without getting into the weeds of Treasury Regulation §20-2056(b)-7(b)(2)(ii) here (which, trust us, you do not want to get into), this gives Wife #2 (or #3 or #4 or #5, as the case may be) the income from the trust while she's alive and defers tax on the principal until the kids get it at her death.
    Clancy's will left the real estate to Alexandra and divided the rest of his estate into three parts: a marital trust for Alexandra, a family trust for Alexandra and their young daughter, and a children's trust for the four kids from his first marriage. Under the usual rules, the marital trust would escape tax and the family trust and children's trust would pay. But after he drafted the original will, Clancy added a Q-TIP provision to the family trust and a "savings clause" to protect the marital deduction to the maximum amount possible.
    When Clancy died, the will directed that taxes be paid out of the residuary estate — the family trust and the children's trust. That would have meant a $15.7 million bill, split between the two trusts. But that creates a problem: if Clancy's executor uses money from the tax-exempt family trust to pay tax, that amount becomes subject to tax itself. Clancy's widow objected, pressing to take advantage of the Q-TIP provision and savings clause. That would lower the tax bill to just $11.8 million but stick it all to the children. (Holiday dinners at the Clancy house must be a hoot.)
    Naturally, the dispute wound up in court. Last year, a Baltimore probate judge ruled that the savings clause trumped the directions to pay tax from the residuary. Last month, an appeals court agreed. (Don't feel too sorry for the kids — they'll probably inherit plenty more from their mother Wanda, who made out just fine when she and Clancy split in 1999.)
    Here's the lesson from today's story, and you don't have to work for the CIA to see it: poor planning poses a clear and present danger to your finances! So call us before you die, and keep Uncle Sam from playing patriot games with your tax dollars!