Wednesday, November 26, 2014

400 People Giving Thanks

Back in 1982, Forbes magazine compiled their first "Forbes 400" list of the richest Americans. It took $75 million to gain entry to that first list, which featured an entire country club's worth of Rockefellers, Mellons, and DuPonts. Shipping magnate Daniel K. Ludwig reigned above the rest, with a net worth of $2 billion. (You all remember that guy, right?) Since then, the Forbes 400 has become the magazine's most eagerly awaited feature, with Silicon Valley tech billionaires and hedge fund superstars replacing the blue-blood heirs of yore.
They say that imitation is the sincerest form of flattery. Ten years later, in 1992, our friends at the IRS got into the "400" game, compiling statistics on the 400 highest incomes. And while the IRS isn't telling us everything we want to know (like their names!), the report offers a fascinating peek into the wallets of 400 people with great reasons to give thanks this season.
Last week, the numbers geeks in the IRS Statistics of Income division released their Top 400 summary for 2010. (It took awhile to sift through the 143 million returns the IRS got that year.) It took $99.1 million in adjusted gross income to make the list. (That means that, among others, billionaire Warren Buffet didn't make the list, as he revealed his adjusted gross income for that year was a "mere" $63 million.) The average income for the top 400 was $265.1 million, and the group as a whole reported 1.31% of the entire country's adjusted gross income.
The big surprise isn't how much our top 400 make, it's how they make it. Not salaries and wages — those made up just 6.41% of the total. Not interest and dividends — those made up just 8.54% and 16.41%, respectively. No, the real action came from capital gains, which averaged $165.9 million for each of our top earners. In fact, those 400 taxpayers all by themselves accounted for over 14% of capital gains reported by the entire country.
And how much tax did our top 400 pay? Remember, rates on capital gains were capped at just 15% in 2010, and there was no 3.8% net investment income tax as there is today. So, the average "top 400" tax bill was $47.8 million, and the group as a whole paid 2.01% of the entire country's tax bill. Sure, that sounds like a lot. But it equals a rate of just 18.04% of the average "top 400" income — and barely half the top 35% marginal rate. In fact, 37 of those 400 paid less than 10% of their income in tax, while just 54 paid over 30%.
4,024 taxpayers have joined the IRS Top 400 over the last 19 years. 2,909 of them appeared just once, which reinforces the fact that most of those lucky winners make it by selling something like a business they spend a lifetime nurturing. 504 have appeared twice; 175 have appeared three times, and 126 have appeared four times. Just 95 taxpayers have appeared on the list 10 or more times, and you can imagine the holidays are pretty lavish at their houses.
This holiday season, we want to give thanks to you, our loyal readers. This includes those of you who are clients, and those of you who aren't (yet). We wish you and your families the best, and we understand that the best reasons to give thanks don't show up on your tax returns.
But hey, as long as we're talking — if you haven't called us yet for a plan to pay less tax, what are you waiting for? There's still time left for planning in 2014 — and we're confident that if you do, you'll have more to give thanks for, in 2014 and in all the years to come.

Monday, November 17, 2014

Jilting the IRS

Harold Hamm was born in Lexington, Oklahoma, the 13th child of Oklahoma sharecroppers. He graduated from high school then went straight to work in an oilfield. But he didn't let his modest background slow him down. He hit his first gusher at age 25. Today, he's CEO of Continental Resources, and his net worth approached $18 billion before the recent fall in oil prices.
In 1988, Harold married his second wife. Sue Ann Hamm was no "bimbo trophy wife" — she's a lawyer who met Harold while she was negotiating land deals for his company. (And just because you'll ask: nope, no prenup.) But sadly, the couple's love was not to last, and in 2012, Sue Ann filed for divorce. The case attracted unusual attention because the amounts were so large. Oklahoma courts typically split the value of any assets that result from the efforts or skills of either spouse. So, how much would Sue Ann get? Would it be more than the record-setting $4.5 billion that Elenea Rybolovlev got from her ex-husband, Russian potash producer Dmitry?
Last week, the judge issued his ruling and surprised most experts by ordering Harold to pay Sue Ann a total of just $995.5 million, or six percent of his peak net worth. While most people would consider that a nice gusher of cash, Sue Ann has already announced plans to appeal. (As for Harold, if you ask him why divorce is so expensive, he'll probably tell you "because it's worth it.")
So, will our friends at the IRS be excited by the outcome? Probably not, even if Sue Ann wins a richer share of her ex-husband's fortune. Internal Revenue Code section 1041 provides that transfers of property "incident to divorce" are tax-free. That means Harold can transfer as little or as much as the court orders to Sue Ann, with no income tax consequences — it's neither taxable to her nor deductible to him. And there are no gift tax consequences, either.
The IRS may reap a nice windfall, however, if Sue Ann sells any of her shares from the divorce. Harold launched the company back in 1967, and still controls 68% of the company's stock. His "basis" in that stock — the amount the IRS uses as the "purchase" price for figuring gain or loss on a sale — is probably next to nothing. And that basis carries over to Sue Ann. That means that when she sells, she'll be subject to a capital gains tax of up to 20%, plus the new net investment income tax of 3.8%. Sell a hundred million of stock, and walk away with a lousy $76.2 million!
The real payoff will have to wait until Sue Ann caps that great well in the sky. At that point, any taxable estate over a $5.43 million is assessed at 40%. On the bright side, her basis in that stock will be "stepped up" to its fair market value as of the date of her death, which means her heirs can sell without paying income tax on all that appreciation during her lifetime.
As for alimony and child support, which won't factor into the Hamms' case, courts use alimony to shift income from the higher-earning spouse to the lower-earning spouse. So alimony is deductible by the payer and taxable to the payee. Child support is nontaxable either way, meaning there's no tax consequence to paying it or receiving it.
You've probably heard the joke about the husband who asks his long-suffering wife what she wants for Christmas. She says "a divorce," and he says "I wasn't planning on spending that much." Divorce is hard enough under most circumstances — it's good to know the tax man won't be jumping your claim, too. So call us when you're ready to cut out the IRS — we'll give you the plan you need to protect your stake!

Monday, November 10, 2014

Deduct the Alamo!

In 1836, Mexican General Santa Anna and 1,500 troops laid siege against 182 Texans garrisoned at the Alamo, a Spanish mission designed to resist attack from native tribes. Thirteen days later, the Mexicans stormed the walls and killed every last man inside, including Commander William Travis and frontiersmen Davey Crockett and Jim Bowie. Santa Anna's cruelty inspired Texans to join their army to seek revenge, crying "Remember the Alamo!" on their way to crushing the Mexicans at the Battle of San Jacinto.
Remembering the Alamo has become a central part of Texas history. So, which Texas musician just offered a tax-planning lesson by donating his collection of Alamo artifacts to the Texas Land Office? Was it rock 'n' roll pioneer Roy Orbison, hailing from lonely Vernon near the Oklahoma border? Perhaps it was country legend Willie Nelson, born an hour south of Fort Worth? Wait, wait . . . was it Tejano accordionist Leonardo "Flaco" Jiménez from San Antonio? No, no, and no. The answer, of course, is English singer and drummer Phil Collins, hailing from the London suburb of Chiswick!
Collins fell in love with the Alamo legend at age 5, watching actor Fess Parker play the "King of the Wild Frontier" Davey Crockett. According to Texas Monthly, the rocker's collection includes hundreds of documents, "plus artifacts like uniforms and Brown Bess muskets that belonged to Mexican soldiers, a sword belt believed to have been worn by Travis when he died atop the northern wall, and a shot pouch that Crockett is thought to have given a Mexican soldier just before he was executed." For years, they sat in his basement in Switzerland. But last month, Collins donated over 200 of his pieces to go on display in a new Alamo Visitors' Center.
Collins grudgingly admits to spending "seven figures" building his collection. Today it's said to be worth as much as $15 million. That sort of appreciation would seem to invite attack from the troops at the IRS. (And collectibles like the Alamo artifacts are even subject to a special 28% rate, 8% higher than the regular 20% for regular long-term gains). But there's an easy way for donors like Collins to avoid that tax, and get an even bigger charitable deduction for their gifts.
Let's say you spend $5 million building a collection that grows to be worth $15 million. Then you decide you want it to go to a museum. If you sell it to the museum, you'll owe $2.8 million in capital gains tax, plus $380,000 in "net investment income tax" on your $10 million gain. That's probably not as bad as being overrun by 1,500 soldiers — but it still leaves you with just $6,820,000 of after-tax gain.
Now let's say that instead of selling your collection to the museum, you donate it. Now you won't pay any tax at all. (Why should you? You never really "realize" your gain.) And, because you're making a charitable gift, you get to take a charitable deduction for the full $15 million value of your donation!
That same strategy works for any sort of appreciated property. Let's say you paid $1 million for a piece of property, which is now worth $3 million. Now you want your Alma mater to have that $3 million, even though you know they can't use the property itself. You could sell the property, donate the after-tax proceeds, and take a deduction for your after-tax gift. Or, you could just donate the property and let the school sell it. That would avoid the tax on the gain and give you a deduction for the full pre-tax value!


Tax planning couldn't save the Texans at the Alamo. But it can shield you from the IRS artillery. So if your year-end plans include charitable gifts, call us. We can help you with ideas to make the most of those gifts, even if you're not deducting the Alamo.

Monday, November 3, 2014

Pagans 1, Mind Control Defenders 0

We're all familiar with the idea of "tax exempt" organizations. The theory here is that some groups serve such valuable roles in society that they should be exempt from income, property, or other taxes. Here in the United States, Internal Revenue Code Section 501 lists 28 categories of exempt organizations, including churches, colleges, charities, social clubs, chambers of commerce, fraternal organizations, cemeteries, and even "mutual ditch or irrigation companies."
Nobody gets a tax-exemption "for free," and applying for it can be daunting. IRS Form 1023, "Application for Recognition of Exemption," runs 28 grueling pages. There's a shorter "EZ" version — but the checklist to see if you can even use it runs six full pages! And of course state and local governments have their own hoops to jump through. With that in mind, here are two stories that illustrate how that process can work — and not work.
The Cybeline Revival is a pagan sect founded in 1999 and dedicated to the principle that "the divine feminine, the mother goddess Cybele, is present in everything, thereby creating a connection in all living things, as well as giving rise to an obligation to do charitable work and a responsibility to improve the conditions of all people, particularly women." In 2002, the group bought an old inn located in the town of Catskill, New York, about two hours up the Hudson from Manhattan. They used it as a home for transsexual women and as a headquarters for their faith.
In 2009, the group applied for a property tax exemption for the inn. The town assessor denied the request and a trial court agreed, ruling that the church used the property mainly to house members of the congregation. Last year, however, an appeals court overturned that decision, holding that the church did use the property "primarily for its religious and charitable purposes."
Not everyone who applies for tax-exempt status succeeds, however. In August, the IRS shot down an application from a group dedicated to protecting the human rights of defenseless victims of involuntary microwave and mind control attacks "perpetrated by intelligence agencies, individuals, defense contractors, mental health agencies, and clandestine crime watch organizations who also work with organized crime syndicates."
The group applied for tax-exempt status to help educate the public about involuntary mind control, develop weapons to cancel mind control attacks through electronic jamming, and implement counterattacks for particular victims on a case-by-case basis. They also set out to solicit donations to influence proposed legislation written by the group's founder (who must be a hoot at cocktail parties).
So . . . did our friends at the IRS buy it? Of course not. (C'mon, guys, give 'em a little credit!) In fact, they dedicated 14 pages to not buying it, holding that: 1) the group failed to establish that their activities would be "educational," 2) its funds would be used to reimburse the founder for expenses incurred prior to formation, and 3) its primary purpose was actually to lobby for anti-mind control legislation. (They diplomatically refrained from saying "you're nuts" or "really???")


We don't need to use mind control techniques to know that you want to pay less tax. While we can't protect you from clandestine crime watch organizations or crime syndicates, we can give you a plan to pay the least amount of tax, without lining your hat with tinfoil. So call us for your plan, before someone out there makes you want to pay more!