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Solving IRA Tax Hurdles

ProtectionWealthy people save money in retirement accounts not because they are counting on these assets to fund a comfortable retirement, but  because of the valuable tax deductions they offer.  However, after years of aggressive investing these very same IRAs have accumulated significant funds which will pose significant tax challenges without careful and creative attention.

According to some estate attorneys and CPAs, an IRA can lose as much as 80% of its value as it passes from one generation to the next because of multiple layers of income and estate taxes, especially if the beneficiaries elect a lump sum payout.  Clients can stretch their IRAs and/or put them in a trust to delay the taxes, but unless they donate the entire IRA to charity, they will pay taxes.


A powerful solution for reducing the multiple layers of taxes on an IRA involves the proper use of an indexed annuity. A skillful adviser will integrate this income producing asset into estate, insurance, and even charitable planning. Some indexed annuities (speak with your adviser for individual product details) offer three compelling features which create the opportunity for this extraordinary solution to the IRA tax problem:

  1. Money deposited in the first year gets a bonus the day the indexed annuity is issued.
  2. A guaranteed income rider feature:

 (a) locks in growth of principal, at a certain percentage rate, for a defined period of time, but only for income purposes.

(b) assures that the annuity’s starting balance will grow to a known value by the time the investor wants to trigger an income payout

(c) allows the investor to trigger income any time during the contract.

3.  A high income payout rate offers an attractive and predictable income stream which in turn can be used to cover both life insurance and long term care insurance premiums.

 This particular strategy gives the client the ability to create a tax-free legacy using taxable IRA dollars – a much smarter use of money. 

While the client will pay an annual income tax on the IRA distribution – perhaps about one half of the annuity’s annual payout – he or she will significantly leverage this relatively small out-of-pocket expense to create tax-free life insurance for their heirs as well as tax-free long term care benefits for themselves. And if the client lives a long life, the IRA’s cash value may dwindle to zero, and future income and estate taxes on this asset would disappear altogether. And that is the ideal situation.  In the intervening years  however, the client has leveraged a predictable and guaranteed life income stream into two significant insurance assets while nullifying the tax on the principal.



Attacking the Tax – Not Just for Big Business – Part 1

6194As small business owners, we are usually so focused on growing our business and gaining new customers that it rarely surprises me when I see business owners pay less attention to how they can use business tax deductions to leverage money back to their family.

And that is understandable – with the day-to-day problems of running a business today, and putting out fires on a daily basis, people don’t stop to take the time and think about what their tax deductions are and what they can actually do with them.

In reality, business tax brackets can be substantial, with some states spilling over the 551450% tax mark. What does that mean?  In a state with a 50% tax mark, a $1 million tax deduction results in a total of $500,000 in taxes not paid on $1 million of earnings.  In many cases, tax deductible planning is not recommended because it produces a bigger tax down the road, when it is time to pay back the tax deduction – and many planners choose to avoid this option.

However, by being proactive in attacking the tax you can actually CONTROL how much you actually pay in taxes and when.  You can effectively optimize your tax planning by maximizing your tax deduction with either a Captive or Defined Benefit Pension.  Indeed, if you fall into any one of these categories, as listed by Robert Bertucelli, CPA , Captive Benefits could be an ideal solution to attack your tax:

  • Profitable business entities seeking substantial annual adjustable tax deductions;
  • Business with multiple entities or those that can create multiple operating subsidiaries or affiliates;
  • Businesses with $500,000 or more in sustainable operating profits;
  • Businesses with requisite risk currently uninsured or underinsured;
  • Business owner(s) interested in personal wealth accumulation and/or family wealth transfer strategies;
  • Businesses where owner(s) are looking for asset protection

In the example below, we show how we apply the deduction to discount the estate tax. Next week, we show you how we apply the deduction to offset the income tax.

Case Study:  Plumbing Business owned by husband and wife, S-Corp, with 8 employees and $10 million in revenue.

While the business had their liability umbrella coverage, an actuarial study uncovered substantial risks that were not covered by this insurance and were being essentially self-insured after tax dollars. By forming a Captive Insurance Company, we were able to achieve a number of results:

  • The business could now protect themselves against these once self-insured risks, and also deduct the cost via their Captive Insurance Company. The tax deductible amount:  $1.2 million.  This represents the Captive Insurance premium determined as a result of the study made by actuaries experienced in Captive risk management.
  • Since the company is an S-Corp, the tax deduction was passed to the owners. They used the tax savings (>$500,000) as follows:
    • $250,000 was gifted to an irrevocable life trust;
    • The trust purchased a $25 million second to die insurance policy on the husband and wife owners for the benefit of their children;
    • $250,000 was net profit

 Summary:  the result of forming a Captive Insurance Company for this business saved them more than $500,000 in taxes not paid.  The owners used half of this amount to purchase a $25 million life insurance policy, owned by a trust so that the asset is out of their estate, for the benefit of their children. The remaining $250,000 was effectively net profit in cash from taxes not paid.

Next week, we continue our “Attack the Tax” theme by showing you how we can help you pay the income tax on created family wealth at a steep discount.

 Disclaimer: Only tax advisors can properly advise on  tax related issues. Competent attorneys and CPAs should always be consulted when considering a Captive Insurance Company. Estate attorneys should always be engaged when creating insurance trusts and competent insurance brokers should be consulted for policy considerations.