fbpx
It seems counter-intuitive in the world of tax planning, but what happens when tax savings interferes with a client’s financial goals?
Share on facebook
Facebook
Share on linkedin
LinkedIn
Share on email
Email

Taking the Hit

One of the most valuable opportunities we have as planners is helping clients who sell appreciated assets like a business, real estate, or appreciated securities minimize the tax on their gains. But sometimes, despite what they (or you) think, taking the hit is the actually the best choice. I recently worked on two cases that demonstrate that lesson.

In one case, the retired clients had just sold a commercial property for a little under a million dollars. The clients had about $800,000 of proceeds in the bank, and apparently did a little napkin math to estimate they would owe over $100,000 in tax on that gain. They came to me wondering which after-the-fact strategies (charitable gifts, etc.) might help minimize that bite.

But how clients see the situation and how we see the situation are often two very different things. The clients took their net sale proceeds, paid off the rest of the small mortgage on the property, and assumed that would be their gain. I sat down with the settlement statement and depreciation schedules and came up with a far smaller amount, just over $500,000.

Now, $500,000 in taxable gain (including some Section 1250 recapture) is nothing to sneeze at. But reviewing the client’s tax return, I also saw that they had about $190,000 in NOL carryovers, plus $60k in charitable gift carryovers. The clients were also interested in giving another $90,000 to their church. Those factors alone would be enough to reduce the income to around $200,000.

Reviewing their tax return also showed nearly no income outside that transaction. So . . . most of their first $80,000 in long-term capital gain would be taxed at 0%, and none of the rest at more than 15%.

Sign up for The Briefs

Over 20,000 CPAs, tax professionals, and financial advisors subscribe to The Briefs. Subscribe now to receive expert insight on growing your business, links to the latest Tax Beat and Tax Tactics articles. You will also receive invitations to webinars, events, and special offers. Published weekly.

Would it have made sense to roll the original sale into a 1031 exchange? No, the clients wanted out of the business of managing property. They could have chosen a Delaware Statutory Trust (DST) for a hands-off managed portfolio generating the “mailbox money” they really wanted, but the up-front commissions may have been as much as the tax they would have avoided. That also indicated that qualified opportunity zone property wouldn’t be appropriate.

That left a couple of charitable alternatives. A charitable lead trust could accelerate several years’ worth of deductions into 2021 – but they already HAD enough of those to max out what they could claim against that year’s AGI. Or they could have used a charitable remainder trust or pooled income fund to create more (excess) charitable gifts and provide ongoing retirement income. Again, overkill.

So what did I recommend? Take the hit. Pay the tax, move on, and be glad you enjoyed a particular set of circumstances that turned your mountain into a molehill.

I faced a similar scenario with a retired California couple selling some rental properties in one of those flat, square midwestern states we aren’t really using. There was about $800,000 of property to sell, and their first thought was a DST. But after I worked through all of their gains and other income for the year, I realized they would be looking at a tax bill of under 10% of the gain – less than the commission they would pay to get into the DST. (And remember, the tax would be due on just the gain, while the commission would reach 100% of the funds going into the DST, including the nontaxable basis.) Yeah, paying the bill stung. But it left the clients with clean, fresh-smelling cash to reinvest anywhere they wanted, with complete and total flexibility.

In both of those cases, I could have saved taxes for the clients (although, to be fair, not as much as they expected). But here’s the lesson. Our job as planners isn’t simply to help our clients pay the least amount of tax possible. Our job as planners is to help them accomplish their unique financial goals and objectives with a minimum of interference from taxes. In other words, we don’t let the tax tail wag the investment/business/personal dog.

Think about that the next time a client comes to you with a big gain or other slug of income. Sometimes the best move really is to just pay the tax and move on!

Edward Lyon

Edward Lyon

Edward A. Lyon is CEO of the Tax Master Network, where he's coached tax professionals to add planning and financial services to their business since 2005. Go here to join the network. Go here to upgrade your membership or discuss opportunities in financial services.
Edward Lyon

Edward Lyon

Edward A. Lyon is CEO of the Tax Master Network, where he's coached tax professionals to add planning and financial services to their business since 2005. Go here to join the network. Go here to upgrade your membership or discuss opportunities in financial services.

save your clients thousands and build a million dollar business

Get your FREE Copy Of Selling Tax Savings

Previous Issues of Tax Tactics

Take It to the Limit

Tread with caution when you recommend certain strategies under IRS scrutiny. But don’t be afraid to tread at all!

Taking the Hit

It seems counter-intuitive in the world of tax planning, but what happens when tax savings interferes with a client’s financial goals?

Have questions before you sign up? Schedule a 30-minute meeting.

Recent articles from Ed Lyon and Tax Master Network

Big Yellow Taxi

Here’s what you don’t know about those big-box stores on the edge of town.

Get Your Free E-Book

Enter your email to receive “Selling Tax Strategies” directly to your inbox!