By Scott Keffer
“How can I sell my appreciated stock portfolio (or any appreciated assets) and not surrender nearly one third of its value to the IRS in taxes?” Among physicians, this frequently asked question can be answered in a way that benefits not only themselves, but their family and society as well. Let me introduce an exciting tool which is over a quarter of a century old that currently holds billions of dollars in assets and has been used by the not-so-famous to the famous. In 1994, Ted Turner transferred $20,000,000 into this tool: the Enhanced Income Trust.
Let’s see this trust in action in the lives of Dr. and Mrs. Walt Gillman. The Gillmans are both 65 and are ready to retire. They have saved and invested over the years, understanding the value of buying and holding quality stocks. As a result, they have accumulated a substantial net worth, including a pension account and a $1,000,000 portfolio of appreciated stocks.
The Gillmans, facing the need for retirement income, wanted to increase the earnings from their current stock portfolio, which provided very little dividend income. So they consulted with their accountant about the income tax ramifications of selling the portfolio and reinvesting it for more income. To their surprise, the result of this sale would cost them $240,000 in capital gains taxes. In other words, only 76 percent of the stocks’ current market value would be left to reinvest. Twenty-four percent of their smart investing would be confiscated by the IRS.
To add insult to injury, if they were to sell their stocks, their reinvested portfolio would be subject to estate taxes at the death of the survivor up to a maximum of 55 percent. This would mean that the children would receive only $342,000 of the original $1,000,000 portfolio, or a meager 34 percent.
Facing the loss of nearly three quarters of a million dollars in taxes, the Gillmans didn’t feel motivated to sell. Instead, they were prisoners of their own success.
Walt was a maverick, though, and didn’t make his fortune by doing things the traditional way. He always assumed there was a way to get around obstacles, and he was usually right. So the Gillmans contacted Mr. I. Deas, a specialist in advanced tax and estate planning, and asked him if he could suggest a way to avoid losing a quarter of their property’s value to “success” taxes. Using computer technology, Mr. Deas did a tax comparison between selling the stocks outright and an alternate approach: transferring the property to an Enhanced Income Trust and then letting the trust sell the stocks.
Let’s look at how the Gillmans would benefit by adopting this alternative approach:
• No Capital Gains Taxes. By “giving” the portfolio to the trust and then letting the trust sell and reinvest the stocks, the Gillmans would avoid the capital gains taxes and could reinvest 100 percent of the proceeds of the sale, not 76 percent, thereby substantially increasing their retirement income.
• $189,000 Income Tax Deduction. In addition to avoiding the capital gains taxes, the IRS would give the Gillmans an income tax deduction of $189,000. In the top tax bracket, this would translate into real savings of almost $60,000. This would bring their total tax savings up to $400,000.
• 94 percent More Income. If they sold their portfolio outright and reinvested the proceeds, over the remainder of their lives, the Gillmans would receive $675,000 in net after-tax income. On the other hand, if they would use the Enhanced Income Trust, their net income for the same period would increase to $1,312,000—a 94 percent increase in income.
• Replace the Asset Tax Free. Their only problem with the transaction is that their heirs would not receive anything from the trust. However, using some of the extra income, they could establish an Asset Transfer Trust along with the Enhanced Income Trust, and fund it with $1,000,000 of life insurance. This $1,000,000 would replace the entire value of the portfolio to their children. They remarked, “In essence, the IRS will buy a tax free insurance policy for my children!”
• Gillman Private Charity. The Gillmans didn’t know what they would do with the $1,000,000 that would ultimately go to charity. To their amazement, they found that they could establish their own private charity: The Gillman Family Foundation. Their children could control the distribution of the income and principal and receive a salary for doing so. The Gillmans could name the charities or classes of charities that would benefit from the foundation, thereby endowing their values long after they are gone.
To their amazement, the Enhanced Income Trust would allow them to accomplish all of their goals and more. Summing it up, the Enhanced Income Trust would allow the Gillmans to eliminate capital gains, income and estate taxes totaling over $800,000, to increase their after-tax income, to leave almost triple the inheritance to their children and, finally, to make a posthumous charitable gift of $1 million.
This is exactly why thousands have taken advantage of the Enhanced Income Trust. Whether you are worth $400,000 or $400,000,000, this exciting tool may have a place in your planning. Do you have an asset you would sell if you didn’t have to pay capital gains taxes? If so, see a specialist, ask them how many trusts they have done in the last six months (the answer should be at least three), ask for a copy of a recent plan and ask for references. Then you are on your way to making money by giving it away!
Scott Keffer is president and founder of Wealth Transfer Solutions, Inc., a legacy planning company in Pittsburgh.