Can u Keep it?
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Unfavorable Trusts
Favorable Trusts
Divorce Protection
Exempt Assets
Equity Separation
Qualified Plans

  Qualified Plans

In addition to the above planning ideas, consider in depth how and when to incorporate specially designed qualified plans, non-qualified plans, and captive insurance companies into your income tax protection plan.


Qualified Plans

Qualified plans refer to accounts or plans that allow a company to defer income tax, even on accumulated or appreciated assets, so long as they are within the plan. We will discuss two sub-categories within qualified plans: defined contribution plans, which are those with a quantified amount to be invested, and defined benefit plans, which are those with a quantified amount to be dispersed each year.


Defined Contribution Plans

Defined contribution plans allow a company to invest a specified amount of money, and defer income tax payment on that money, as well as its appreciation. Some plans have a maximum and some a minimum contributory dollar amount, and some have constraints based on years and/or income. The popular plans include IRAs, Profit Sharing, 401(k)s and Roth 401(k)s.


Profit Sharing Plans

A profit sharing plan is a retirement plan in which contributions are made solely by the employer. The business owner has the flexibility to contribute and deduct between 0 and 25 percent of eligible participants’ compensation up to a maximum each year. A compensation limit is imposed for the purposes of figuring the contribution. Currently, this amount hovers in the neighborhood of $200,000, which means an employee who makes $2,000,000 would have the same contribution as someone who makes $200,000.


Several methods can be used to determine the total amount for the contribution.


  • Fixed Percentage—Ranging from 0 to 25 percent of eligible compensation, the same percentage of compensation is applied to each participant.
  • Social Security Integration—Higher-compensated employees get the same Social Security as other employees once they reach the Social Security maximum withholding limits. IRS guidelines allow a greater amount of contribution for higher compensated employees.
  • Age-Weighted—The IRS allows a plan to accrue more benefit for older employees.
  • Tiered Allocations—These give the most bang for the buck. It combines age weighting, and Social Security integration. For older, higher-compensated business owners with few employees, these plans can put 90 to 95 percent of the contribution in the owner’s pocket.



A 401(k) is a company-sponsored plan that allows employees to save dollars for retirement. The money grows tax deferred and comes out as taxable income. These plans are of little use to our clients since the maximum contribution is approximately $15,500 ($20,500 if over 50). In addition, the business owner and highly compensated employees are limited to 2 percent over the average salary deferral.


Roth 401(k)

The Roth 401(k) is a combination of a 401(k) and a Roth IRA. Under the Roth 401(k), the employer elects the 401(k) to allow a Roth component. Employees can then chose whether to make deductible contributions to the 401(k) or non-deductible contributions to the Roth 401(k). The employee's total deferrals cannot exceed $15,500 for participants under fifty years of age or an additional $5,000 if over fifty years of age.

Typically, the distributions from a Roth 401(k) will be tax-free so long as they are made at least five years after the first contribution and upon or after the participant reaches fifty-nine and six months of age, unless an exception applies. The Roth 401(k) has the advantage of tax-free distribution, and does not have the drawbacks of the Roth IRA income limitations. Most of our clients would be ineligible for a Roth IRA based on the income limitations for contributions.

These all sound like a good idea? For the average person, it probably is. But keep reading.


Retirement Plans

Popular investment belief holds the 401(k), IRA, and profit sharing plans should go on a pedestal, saying they are a huge tax win because of the tax deduction and tax-deferred growth potentials.


But for high-wealth individuals, this might be too limited and narrow of an approach, for several reasons, the most egregious being that at death, monies left in retirement plans are subject to estate taxes. And given that your wealth will likely keep growing, there will be money left these plans.


The good news is the amount of money a wealthy person can contribute to a retirement plan is generally relatively small compared to his income and net worth. Such a person likely holds significant assets elsewhere, assets that negate the need for retirement accounts. And what happens to this money upon your death? Your heirs will report them as gross income and pay income tax, in addition to any federal and estate income taxes. Combined, this tax might add up to about 80 percent of your retirement account.


So ask yourself: Is a write-off today worth it tomorrow? Many times it is not.


Is Your Retirement Plan Helping or Hurting You?

Nine times out of ten, my clients already have some form of retirement plan when they first meet with me. Many of their former advisors recommended ‘maxing out’ any and all available retirement plans. This may be a good idea, but more often, it is not.


Let me go out on a limb and make a controversial statement: Retirement plans save for the government’s coffers, not for your retirement.


Case Study

Consider that Jonathan Whitmore, Alan’s son from his first marriage, is 35 years old, and he makes a few hundred thousand dollars a year. His advisor recommends that he start a profit-sharing plan, sticking $40,000 per year into the plan. He saves $1.4 million over the course of 35 years.

$40,000 profit-sharing investment each year X 35 years = $1.4 million

Jonathan is in the highest tax bracket, paying nearly 40 percent of his adjusted gross income to taxes. By investing in the profit sharing plan, he saves nearly $560,000 in taxes by investing into the $40,000-year-program.


$40,000 investment deduction X 40 percent tax deduction = $16,000 tax savings per year 

$16,000 savings per year X 35 years = $560,000

By investing these dollars at 7.37 percent, Jonathan has approximately $6 million by the time he retires at the age of 70.


If Jonathan is like most investors, upon retirement, he pulls only the interest off this retirement account, receiving $442,200 annually. On this income, he will pay $176,880 annually in taxes.


$442,000 interest on $6 million taxed at 40 percent = $176,880 annual taxes post-retirement


That means in the first 3.17 years of retirement, he paid more in taxes than he saved in the entire 35 years.

$176,880 annual taxes X 3.17 years = $560,709

compared to

His 35-year savings of $560,000


Using traditional investment “wisdom,” Jonathan would keep paying the $176,880 in taxes. If he lived to be ninety, his tax bill on this “investment” would be over $3.5 million. And if he were unlucky enough to die with the money in his qualified plan, he could lose up to 80 percent of that money through income and estate taxes! This is why I continually ask:


Are you saving for your retirement or the government’s?



That being said, we do recommend qualified plans when they make sense. Just keep reading.


Defined Benefit Plans

Unlike a defined contribution plan, in which the amount you contribute is capped (defined), a defined benefit plan determines the amount of the annual contribution by defining the amount of benefit an employee can get out of the plan at retirement.  It is useful to think of a defined benefit plan as a bucket. The bucket is defined by your age and income. The employer is told annually how much they have to contribute annually based on how much the bucket has grown over the previous year.


In a traditional defined benefit plan, an employer factors in salary history and duration of employment to determine the maximum amount of monthly payout to which an employee will be entitled.  A defined contribution plans can max out at a little over $40,000 per year, you can invest the money and the plan could have $1,000,000 or $10,000,000 at retirement. A defined benefit plan calculates the exact amount of the value of the “bucket” at retirement in order to guarantee an income stream for the rest of your life. These are very similar to the pension plans offered to corporate employees of the companies of old. Because you are shooting for a target amount in the future, the amount of annual contributions will be heavily influenced by investment performance. In the past, when companies had little profits, there was a tendency to use overly aggressive investment assumptions to lower their annual contributions (if you use a long-term investment return of 10 percent that lowers the amount of money the plan needs to have in it today). Similarly, if they were flush with money, they could lower the interest assumptions and get a very large deduction.


As I mentioned earlier in the book, I started my career planning for corporations and their owners. As a result, I could never get the pension side of the business out of my practice. As a result, we do a fair amount of custom-designed pensions annually. No two plans are ever the same, and deductions can be breathtaking.


Because defined benefit plans require constant review and a higher level of sophistication, advisors generally see them as less desirable than a defined contribution plan. Properly structured, though, defined benefit plans can be a huge asset in a business owner’s fight to retain the money they have earned. Depending on the owner’s age, income, and employee census, our custom designed defined benefit plans can double a traditional defined benefit plan and can provide deductions ten times greater than those of defined contribution plans.


In order to understand how defined benefit plans can be designed, we have to take a brief detour to describe the difference between lump sum and non-lump sum benefit plans. Lump sum means that if the employee (owner) leaves, he or she has a lump sum amount of money to take. This amount can be rolled to an IRA, profit sharing plan, or 401(k).  This also means the defined benefit plan is income taxable when income is distributed and fully estate taxable at death. 


We like to design plans that are non-lump sum benefit plans. Instead of designing the plan that the benefit can be rolled to another plan (or IRA), non-lump sum defined benefit plans accrue money for the life of the business and business owner.  The defined benefit plan accumulates to distribute 100% payout to the business owner and 100% to their spouse. Then at death, the assets of the defined benefit plan inure to the next generation. The business owner and spouse receive a lifetime income, regardless of who lives longest. If the spouse is also an employee, the amount of the contribution to the plan can double.


Since the owner and his spouse’s interest in the plan terminate at their death the plan’s assets escape estate tax system. Quite often, these plans hold life insurance to mimic the bond portion of the portfolio. The life insurance allows some of plan’s assets to be distributed tax-free in the form of an incidental death benefit. We often use these plans to equalize money between family members where some are active in the business and others are not.

Begin with the End In Mind!

When we sit down to start designing plans, understanding the client’s end goals is critical. The client might want to maximize retirement income or, if he has little need for income from the plan, reduce his taxable income. This later goal shifts the planning strategy to minimize income and estate taxes at the death of the participant. Since the passing of the Pension Protection Act, combining the benefits of these many plans is more than possible. For instance, we can now create plans where the owners of the business are in a defined benefit plan and the rank and file employees are in a profit sharing plan.


Case Study

Alan’s manufacturing business employs 150 full, part-time, and seasonal employees. Alan and Aleksandra pull W-2s of $200,000 each. In addition to the rank-and-file employees are five highly compensated management employees, including Alan’s son. Because of the demographics of the census, it is possible for the business to design a plan where the business contributes $627,000 for Alan and his wife, excludes the other highly compensated employees, and contributes a total of $19,000 to the profit-sharing plan for the rank-and-file employees. Of course, this is a starting point. Alan can always choose to raise the amount to the employee pool if he wants.


Now, let’s consider the exit of the plan. Because the plan design uses life insurance for a small piece, at the death of either of the second spouse, the majority of the death benefit will pass income and estate tax-free to the next generation.


As a firm, we are big proponents of using Roth 401(k)s in combination with  other planning vehicles. The Roth 401(k) as mentioned previously has the benefit of tax-free accumulation and tax-free distributions. After the passing of the Pension Protection Act in 2006, qualified plans can be designed to be disinterested parties. It is now possible to design a Roth 401(k) that is ‘disinterested’ from a defined benefit plan. In the right circumstances, it is possible to loan money from the defined benefit plan to the Roth 401(k). The Roth 401(k) is able to purchase real estate. The growth,  as well as income generated by the real estate, can be accumulated tax-free. The Roth 401(k) has to pay annual interest to the defined benefit plan.


But imagine the amount of money that can be accumulated and that can escape the tax burden. This can mean tens of millions of dollars in income that will not be taxed from the Roth 401(k).  This is accomplished because extra care was taken to see where money was invested and how it was accumulating. Indeed, most successful people are better served by not accepting prototype plans and designing custom solutions to their unique situation.

Health Savings Accounts

Health Savings Accounts (HSAs) were established in 2003 to help people save for future medical and health expenses, and they are tax-free. Any person with a high deductible health plan not covered by other health insurance, including Medicare, and who cannot be claimed as a dependent is eligible for a health savings account.


In 2008, a high-deductible health plan was defined as a plan with a minimum deductible of $2900 (for self-only policies) and an annual out-of-pocket deductible of no more than $5,800 adjusted annually for inflation. If you are above the age of 50, you are eligible to contribute an additional $900 for each husband and wife. That would be $7,600 annually that can be deducted into an HSA account. 



Unlike some qualified plans, health savings accounts do not place an income limit on who may contribute, and an employer can contribute to an employee’s health savings account. The beneficiary can withdraw money from the account at any time without paying taxes so long as the money is used to cover qualified health expenses, which include all expenses related to the treatment or prevention of medical conditions. You can use pre-tax dollars to pay for long-term care, band-aids, doctor’s visits, saline solution, dental expenses, hospital treatments, aspirin, acupuncture, herbal medicine, or faith healing. If you want to treat your migraine headaches with an energy quiver machine, go for it, and write it off!


HSAs offer further benefits because they are an “above-the-line” deduction—that is, they reduce a person’s adjusted gross income, in turn allowing him to qualify for other tax breaks reserved for people within a certain income bracket. If you fall within the nation’s wealthiest cadre of citizens, this qualification likely does not apply to you.


That said, because an employer can contribute to a health savings account, and because they are not included in gross income, a family-owned business can give a mighty tax break by using the health savings account/high-deductible health plan combination. And, contributions by employees are exempt from payroll taxes. Keep in mind, too, that health savings accounts roll over from year-to-year. Unused money grows tax-deferred and, if you use it when you turn seventy-five for the best long-term care the dollar can pay for, you will not pay taxes.



Captive Insurance Companies

Originally, insurance was designed to protect companies against risk, but in today’s culture, insurance is often a token policy fraught with exclusions and provide little but lip-service to the insured.


Instead of paying for traditional insurance, many of which come with a large price tag and limited coverage, many successful business owners can create their own insurance company, called a “captive” insurance company. A captive protects against risk, may allow for tax-deductible premiums, controls claims, and retains profits for its owners. In essence, risks are transferred from the business owner to the captive. Owners of the captives determine the type and degree of risk and reap the benefits and keep the profits of premiums.


A captive insurer is a special purpose insurance company formed primarily to underwrite the risks of its parent or affiliated groups. It is quite similar to a traditional, commercial insurance company in that it is licensed as an insurance company, it sets insurance-premium rates for the risks it chooses to underwrite, writes policies for the risks it insures, collects premiums and pays out claims made against those policies. However, the regulations governing captive insurance companies are typically less onerous than those regulations governing traditional commercial carriers.


At its most basic level, it works like this:  A corporation with one or more subsidiaries sets up a captive insurance company as a wholly owned subsidiary.  The captive is capitalized and domiciled in a jurisdiction with captive-enabling legislation that allows the captive to operate as a licensed insurer. The parent identifies the risks of its subsidiaries that it wants the captive to underwrite. The captive evaluates the risks, writes policies, sets premium levels and accepts premium payments. The subsidiaries then pay the captive tax-deductible premium payments and the captive, like any insurer, invests the premium payments for future claim payouts.


Thus, a captive insurance company is a risk-financing tool. It places more risk-management control and financial control into the hands of the owner of the captive than exists in a typical commercial insurer-insured relationship. Unlike what occurs in the traditional insurance market, the risks that are underwritten by the captive are precisely the risks that the insured needs underwritten. The policy terms are designed to meet the specific needs of the insured and the rates are based on the specific loss profile/loss experience of the insured-not the average loss rate of the market.


Numerous benefits exist to use of a captive insurance company, including greater control, improved cash flow, tailored coverage, improved claims reporting and handling, stabilized budgets, increased incentive to control losses, direct access to wholesale reinsurance markets, and the like. These and other benefits are covered in depth in my book Taken Captive: The Secret to Capturing Your Piece of America’s Multi-Billion Dollar Insurance Industry.


As they pertain to asset protection, captive insurance companies provide positive tax benefits. With traditional self-insurance, companies only get a deduction for claims paid. This is very important when looking at the overall cost of a self-insurance program, since most companies fund future liabilities using today’s dollars.


For example, if a client pays $50,000 per month into the fund and uses only $200,000 for claims, at the end of the year, it has $400,000 ($50K times twelve months = $60K minus $200K in claims = $400K) in a trust that cannot be deducted and would be treated as earnings. The trust would ultimately be used to pay claims and reduce premiums in the future. Nevertheless, after having to fund the trust in the first place, the business then has to pay taxes on the $400,000 remaining in the fund at the end of the year. This means that a company may end up incurring more expense because it had fewer claims! It is counter-intuitive, but true. And the bleeding doesn’t stop here. There are other ancillary costs of self-insured programs that must be considered.

Let’s say a company creates a partially self-insured medical program. It incurs two additional costs, the premium for the excess policy, and the cost of creating and administering the ERISA fund that is used to “warehouse” the retention funds until they are required. These consequential expenses, coupled with the tax limitations, can add hundreds of thousands of dollars to the cost of running a good self-insurance program.

Now let’s assume we have a captive in place. The captive gets a current deduction to fund reserves for future liabilities. When a captive is utilized to pre-fund a business’s high-frequency, low-severity claims, the business takes a current deduction for this pre-funding. In addition, the captive gets to deduct the cost of covering these claims if it has reinsured them. If the business had instead used some form of traditional self-insurance such as an equity fund to cover catastrophic losses, it would have had to reserve a significant dollar amount, which would not be tax-deductible until losses occurred and were paid.

The tax impact of operating a captive is complex and should be considered only with the advice of a competent accountant with a background in captive insurance. For a detailed explanation of captive insurance companies, read Taken Captive: The Secret to Capturing Your Piece of America’s Multi-Billion Dollar Insurance Industry.


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