July 18, 2021
Sunday PM

(SitNews) Ketchikan, Alaska - According to a media buzz going around currently (June 2021), some of the world’s richest people pay no income taxes. Is this true? Well, maybe it is, but maybe it isn’t. It may just be how the media, especially the notoriously wrong social media, sells readers on whatever “news” they are peddling. It may be entirely false, but it sure sells.

More importantly, however, is the question of whether or not it is actually possible that someone who is a billionaire can avoid income tax. Is this possible? The answer is yes, it is certainly possible. It is usually, probably in fact almost certainly, that it is the result of very careful planning by the mega rich. How can they do this, considering how rich they are?

There are a number of legal ways to avoid income tax. The most obvious is to have no income. The mega rich own assets, but they may not earn a wage. Without wages and earned income, you do not pay an income tax. So, the careful plans they develop to avoid income tax could, for example, involve directing that all income from their assets go into a trust which pays for the expenses of the individual, rather than the individual paying for those expenses themselves. The trust would pay the tax, not the individual. The result would be that the individual, with no income, would pay no income tax. The trust could, however, pay as much or more tax than the individual would have paid, but that may not have been the primary goal in the first place. Often, assets are placed in a trust to protect those assets from other risks, but not taxes. So, if this is a strategy used by a very rich person, it only appears that s/he pays no income tax. Strictly speaking, it is true, but it it does not show the whole picture.

Another tactic used by the super- rich is to give away large amounts of assets to a bona fide charity, sometimes every year. If you give away enough, you could eliminate income tax, but you need to have a tremendous amount of assets in the first place. A good example of this is with stock. If a rich person spent a million dollars on stock 10 years ago and then gives it to charity after it has grown to a value of 10 million dollars, s/he can deduct the 10 million dollar gift to charity on a federal income tax return. A deduction of that large of an amount will reduce or eliminate a lot of income tax, and the mega rich often make this tactic a central part of their ongoing financial plan. They manage their money by routinely giving away a large part of it. Of course, if you are a billionaire, you still have so many assets and so much money that giving away millions has absolutely no impact on your life or financial security. This is one reason why many billionaires, and even some millionaires, set up charitable organizations and foundations, so that they can easily fund a charity of their choice as part of their normal money management plan. This strategy can also, if designed to do so, reduce and/or eliminate income taxes.

A common way to pay less income tax is to acquire real estate. This works, at least for some people, because owning real estate has some very distinct tax benefits. If the real estate is investment property that produces rental income, it also produces expenses that can be used as deductions against that income. Owners of rental property are allowed to depreciate their property, which is deductible. Actual expenses for repairs and maintenance are also deductible, as are some of the direct expenses for that maintenance, such as housekeeping or food in a B&B. These allowed deductions will offset at least some of the income paid to the owner. If an owner acquires a lot of real estate, those deductions in mass could produce a lot of tax write-offs while still producing a lot of income as well.

Tax deductions and credits are supposed to be designed to encourage investment and offset some of the risks associated with investing. This is why dividend income paid to the owners of stock is taxed at a lower rate than ordinary income, at least currently.

We can argue all day whether or not this is fair, but as long as the tax law allows whatever strategy is used, rich people will take advantage of the legal write-offs. Strategies such as trusts, real estate, charitable giving and tax- exempt income (which is paid by certain municipal bonds to the bond owners), are popular. From time to time, Congress adds new tax laws or eliminates existing tax laws, changing the rules. When this happens, tax attorneys hit the books and study the new rules and new strategies are developed. It is a constantly changing field of expertise. It might not eliminate other kinds of taxes, however, but often does reduce or avoid income taxes.

A much simpler way to avoid income tax is to hold a large amount of cash in an ordinary cash account. It can be cash in the bank or credit union, and it might even be cash in a line of credit. If it is enough for the individual to live on, say for a year, s/he does not have to pay income on it because the cash itself is not taxable; only the interest it may earn is taxable. Today, that interest is pretty minimal, so it is entirely possible that the interest is too little an amount to be taxable. This is more often a tactic used by wealthy people, rather than mega rich folks, but the principle will work for either. The cash was taxed when it was earned as income, at some point, then is left sitting in a low interest rate account, or a no interest rate account, and simply spent gradually. It does not get taxed again when spent, because it was already taxed when earned. A very rich person with an enormous stock portfolio could easily afford to sell shares periodically and keep the cash from selling shares in a cash account to live off of for a long time. If the cash earns no interest, it is only taxed on the capital gain that was realized when the shares were sold. It does not trigger an income tax because it was already taxed as a capital gain and earns no income.

I knew a woman for many years that had a large portfolio of municipal bonds that she inherited from her son when he was killed in a car accident. The interest paid by these municipal bonds was tax-exempt. This elderly woman had a small pension and Social Security benefits and her home was paid for. Her expenses were minimal and she was rather frugal, from years of being careful with her money. She did not have a need for much income, in fact, so the interest on the bonds started to pile up. At her request, her financial advisor reinvested the interest, which was not taxable, in more municipal bonds. For the last 15 years of her life, she paid no income tax, but at her death, her estate had over a million dollars-worth of municipal bonds, all of which earned about 6%, tax-free. Do the math. Although it was not intentional on her part, it had been so on the part of her deceased son, and she ended up with the tax benefits for the rest of her life.

The key to making any of these tactics work in an efficient strategy to minimize income taxes is to plan. Back to basics: plan, plan, plan. There should be a goal, a strategy to successfully reach the goal and tactics to make the strategy work. That’s how it is done. Planning is not accidental. It is intentional and specific. That is why it is effective, whether the purpose is to minimize taxes, accumulate assets, produce retirement income or finance the startup of the business that will be the engine that drives the train for decades.

Of course, it takes a lot of assets in the first place, so most billionaires and millionaires work to accumulate those assets first, before getting fixated on the tax picture of their finances. Most started with a plan, took risks, succeeded, and eventually accumulated enough in assets to be mega-rich. With a number of good tactics available to them, some may, in fact, pay little or no income taxes, but almost all have paid a great deal in other kinds of taxes and have probably given more away than most people could ever even earn.

The media will always report it when it looks like a story that can be sold, so don’t believe everything you read or hear in social media, broadcast media, or from friends and gossip. Much of it is taken out of context or is simply not true.

Just know that it is, indeed, possible to pay less or even no income tax. If that is something you want to achieve, get acquainted with a competent advisor, preferably a Certified Financial Planner™ who can get you started on this goal. It can be done.

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