A recent Forbes article explored the various tactics used by wealthy men and women, particularly those with high-growth investments, to minimize tax liability. As our New Jersey readers know, avoiding estate and gift tax liability is an important aspect of estate planning, particularly since New Jersey is among the states that tax wealth transfers the most.
While the techniques listed below work best when executed early on in the life of a wealthy CEO, they may be available to regular wealthy men and women as well.
One technique wealthy businessmen use is to take advantage of the lack of a cap on the amount that can accumulate in a Roth IRA. While the IRS prohibits taxpayers from investing an IRA or Roth IRA in a business controlled by the taxpayer, CEOs of private firms with many investors often purchase shares of company stock for their Roth.
While this technique is a bit of a gray area-little guidance has yet been given by IRS or federal courts-some experts say it is probably okay as long as the IRA owners does not have voting control in the company.
Ordinary wealthy people can place investments in closely held companies with high growth potential in their Roth. Alternatively, they can put publicly traded stock in their IRA, but they will typically need to make use of a special custodian handling self-directed IRAs.
Another technique is to transfer large amounts of wealth to heir free of gift tax using a Grantor Retained Annuity Trust (GRAT). The individual transferring wealth by this means places shares in the irrevocable trust and retains the right to receive an annual payment from the trust over a period of time. Any property left over after the period is up passes to family members. A “zeroed out” GRAT calculates the annuity in such a way that nothing is left for assets, based on a low government-determined interest rate. If high-growth investments are placed in the trust, the excess amount goes to heirs free of gift tax. This technique has been used by the Founders of Facebook, among others.
A third technique is to achieve tax savings by exercising stock options before they vest. To do this, the company issuing the stock must allow it. Doing this will reduce the stock owner’s taxes, but raise those of the company.
These techniques will not be available or practical to all, but those to whom they are available and who stand to benefit from them should take a closer look.
Source: Forbes, “How Facebook Billionaires Dodge Mega-Millions in Taxes,” Deborah Jacobs, March 20, 2012