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Wealthy investors take advantage of many loopholes to reduce their taxes.
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These include exchange funds, collars, 1031s and hedging and lending against assets.
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But investing in qualified opportunity zones has been the home strategy.
Simply put, there are only three places your money can go: to you and your family, to charities, and to the IRS. That’s the pep talk that Nayan Lapsiwala, director of asset management and partner at Aspiriant, gives his ultra-high-net-worth clients.
The second part of his pep talk is to prevent tax avoidance from undermining your financial future. It can be a bad idea to hold a stock just to skip realizing capital gains.
“What if that stock drops 50% or more?” Lapsiwala said. “You try to save money on taxes, but your entire financial future could be wiped out by the market.”
This is why tax loopholes And Postponement strategies existand why the wealthy seek top advisors to help them navigate the complicated and complex tax code. The right advice can save time, reduce or even avoid the tax burden without breaking any laws.
8 loopholes
Most investors know and have access to one exchange traded fund (ETF). But what about one exchange fund?
For investors who have reaped high profits from a stock and want to offload some of it to reduce concentration risk, Lapsiwala says the choice to pool their assets in a swap or swap fund with other investors is the way to go. A manager then supervises this fund. Think of it as a “you share your shares, and I’ll share mine” type of scenario. It provides participating investors with diversification without triggering a tax event. The catch is that the shares must be held in the fund for seven years to reap the benefits and defer taxes.
“The manager’s responsibility is to reduce capital gains taxes for everyone because now that you have a large amount of assets, there may be some stocks that will go down in value and others that may go up,” Lapsiwala said. “So there will be some kind of tax loss harvesting trade going on, and then you reduce your capital gains taxes.”
Another way to capture gains on securities is by making collarswhich means you buy one put option and selling a call option against the underlying value. It hedges the stock price because the put creates a floor, allowing the buyer to keep the stock but lose it if it falls below the agreed-upon price, which is the strike. But buying that put comes at a premium. Therefore, calls are sold to offset the cost, giving another buyer the right to buy the stock if it rises. The downside is that it caps any upside potential above the strike.
“There are executives we work with who can’t sell for whatever limitations, or who have huge capital gains and don’t want to take on a big tax hit,” Lapsiwala said. This strategy helps them plan the timing of when they want to realize the profits.”
For those who need liquidity, once the shares are hedged, they can do so can borrow up to 50% of the value in the margins, Lapsiwala noted. This strategy could provide a double tax benefit: first, the investor does not realize any capital gains. Second, if the amount borrowed is used for another investment and there is investment income, the borrowing costs are treated as investment interest. It can be used to reduce overall taxable income.
Some investors borrow against their shares without hedging. This is common for short-term liquidity needs, such as bridge financing to buy one property while waiting to sell another, Lapsiwala noted. The risk here is that if the shares drop in value in the meantime, you will have a margin call and must come up with the capital to cover this.
As for investors with philanthropic purposes, giving to charities is tax deductible. But instead of giving cash that has already been taxed, some of Lapsiwala’s wealthy clients spend money anyway provide them with valued assurances to a 501(c) charitable organization. This gives them a tax deduction while skipping the capital gains tax.
Another way to give to charity is to donate prized possessions to a donor-advised fund (DAF). The investor, in turn, receives a tax deduction in the year in which he donates, but does not have to donate the full amount to the charitable organization in that calendar year.
“This is a strategy if you have a high taxable income and want to reduce your taxes, but aren’t sure whether you want to give a large amount of charitable grants in a year,” Lapsiwala said. “So what we typically do is, let’s say customers give $100,000 a year, we’ll say, ‘let’s finance that with a million dollars’ and they can deduct that million dollars now, but give $100,000 a year for the next ten years .” of that account.”
Customers who want to donate to a good cause and at the same time continue to benefit from the profit on their principal sum can opt for one charitable remainder trust (CRT). It allows them to transfer cash, property or assets to an irrevocable trust that pays an income in the form of an annuity or a percentage of the trust’s assets for a specified term or until their death, after which it is transferred to the selected charities.
John Pantekidis, managing partner at TwinFocus, says CRTs are a win-win for the charity and the donor. The latter receives a tax deduction and an annuity in advance while supporting a good cause.
Pantekidis, whose average client is worth nearly $200 million, says this setup is recommended for clients with highly prized assets who want an income from them, but are also charities.
But perhaps the tax avoidance strategy, which Pantekidis believes is an absolute home for wealthy clients, is investing in qualified opportunity zones. These are economically distressed areas that require long-term investments in real estate and businesses.
If you have a million dollars in capital gains and invest them in a qualified opportunity zone, you can defer that until 2026, Pantekidis noted. Any appreciation on that investment permanently escapes tax; That’s an avoidance, he said. Additionally, an investor can depreciate the property for further tax deductions without having to redo the depreciation.
“So not only do you avoid tax on the gain, to the extent that you get depreciation, you can also avoid tax on the initial gain. It’s become an absolute home run for very high net worth clients who have capital gains. Even some of our hedge fund managers who receive compensation through the carried interests of capital gains can delay and even avoid those capital gains.”
However, the investment must be held for five to seven years to defer some of those gains, and at least ten years for the new gains to be completely tax-free.
Finally, those with a valued property who can identify a similar property to trade with can use it 1031 Exchanges. It offers the customer the opportunity to postpone capital gains. If they die with the property, they could get a step-up that permanently removes the tax originally deferred by the exchange, Pantekidis said.
Read the original article on Business Insider
