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Tax Protection :: Retirement Success :: THE RETIREMENT SOURCE®
Tax Protection

Think Net4 - It’s not what you make; it’s what you keep

Tax Protection

That is the key to developing a viable tax protection strategy. Net4 means to count what you have and what you make net after factoring in:

  • All costs and expenses (and loss of value from economic or market decline)
  • Income taxes
  • Estate taxes
  • Inflation

The term Tax Protection is used advisedly. That is to distinguish it from the old concept of tax shelter. Since the Tax Reform Act of 1986, tax shelters have been virtually eliminated, IRAs have been diluted and many other wealth accumulation methods have been taken away.

The goal of Tax Protection is to help you to protect yourself from paying more taxes than necessary. It has two parts: Income Tax Planning and Estate Tax Planning. Nearly everybody is concerned with the first, but few are concerned enough to address the second.

Income Tax Planning

Think Cash Flow, Not Income - “Income” is mostly a tax-related concept. That is, it is a number determined by accounting or Internal Revenue Service methods to calculate how much tax you must pay. Cash flow, on the other hand, has to do with where you get the cash you need to make your plans work. Some assets that produce cash do not generate (taxable) income and some sources of taxable income do not generate cash. Understanding the difference can make a major impact on your long-term tax bill.

The best-kept secret in financial planning is that it is about CASH.

Regardless of how much you are worth on paper, the only thing that you can spend is cash. When planning for retirement the first problem to solve is where you are going to get enough cash to support your lifestyle. When thinking about advanced estate planning the first problem to solve is estate liquidity. That is, where you are going to get enough cash to pay the final expenses, costs and taxes to transfer your estate.

The primary strategies for achieving income tax saving are matching income with deductions, using tax-deferred accounts, shifting income to other family members, using charitable gifting techniques, optimizing capital gains rules and avoiding the various penalty taxes. In accumulating wealth for retirement, tax-deferred accounts are highly productive, but you must beware of the penalty tax traps. At retirement, one of the most effective (and mostly overlooked) strategies is careful management of annual distributions. One key to this strategy is to take cash for spending from the least costly place in terms of taxes and the least productive of investment potential.

Estate Tax Planning

Remember the basic rule of estate taxation: “If you don’t own it, they can’t tax it."

There are several basic strategies (and many other advanced techniques) that, with proper planning, can move substantial amounts past the transfer taxes:

The Unlimited Marital Deduction is one of the most powerful because it allows for virtually unrestricted gifting or estate transfer to a person’s spouse without incurring gift or estate taxes. While it is a very strong planning tool, it is frequently used in a less than optimal manner resulting in much larger taxes upon the death of the surviving spouse.

The Annual Gift Allowance permits the tax-free gifting now of $13,000 per year (indexed for inflation beginning 1999) to as many persons as you choose. If used wisely, this can result in very significant values-based transfers over a number of years.

The Lifetime Exclusion is currently $5,000,000, but is subject to Congressional review in 2013. It can result in large tax savings if properly used, but since it may apply unevenly to gifts and estate transfers it has great potential for both great savings and great error. Since there is a great deal of confusion about how and whether all the pending changes will take place, it is imperative to maintain a flexible strategy.

The Stepped-Up Basis rule does not save estate taxes, but it does save future income taxes by allowing for the cost basis of certain capital assets to be repriced to the value used for the estate calculations thereby eliminating the need to pay taxes on any unrealized capital gain. Future estate tax changes may alter the benefits of this rule. Joint tenancy with right of survivorship often frustrates this benefit.

Charitable Giving is good not only because it makes you feel good that you are leaving a legacy, but it also because it has tremendous tax advantages (both income and estate). These strategies, such as a Charitable Remainder Trust, can give you great current tax benefits, a lifetime income and a substantial estate tax saving. When combined with efficient use of life insurance, they can still allow you to pass more to your heirs.

Beneficiary Designations on retirement plans and life insurance policies can also make a significant difference in your tax situation. This is probably one of the most overlooked strategies for income and estate tax savings. Many people take the path of least resistance in naming beneficiaries and miss out on substantial tax savings.

In the S-T-A-R-S System for Retirement SuccessSM we make a concerted effort to continually review all these and other more advanced potential income and estate tax strategies available to help you protect yourself from paying more in taxes than need be. But, we do not hold ourselves out as legal or tax experts and always recommend consulting legal and tax professionals before taking action

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