After reading this recent piece on Bloomberg, I was utterly disgusted.  I just don’t understand how our policy makers can continue to pursue such terrible decisions.  Certainly the country is still in financial turmoil and there is a need to raise funds to support the budgets, but this tax on equity trades may very well be the stupidest idea yet.

Regardless of your philosophical beliefs, the reality is the world revolves around money.  If you don’t believe me, next time you are at the grocery store tell them you want to pay with ‘goodwill toward man’. 

Businesses require investment to operate.  In exchange for this investment, the business pays investors with dividends or capital appreciation.  What happens when every trade is taxed on both the buyer and seller side?  Just like any other activity, when you tax it, you get less of it.  Much of the liquidity in the financial markets are created by short term trades.  Financial institutions have traders working every day getting into and out of trades on a daily basis.

There are also many who day trade.  This can significantly increase their cost of doing business.  A tax of .25% may not seem like much, but if you are a day trader using $50,000 per day will see an additional cost of $625 per week in tax or $32,500 per year in ADDITIONAL  tax he was not already paying.  Day trading is a risky endeavor and this will likely force all but the wealthiest day traders out of the market severly decreasing the daily volume.

When daily volume decreases, the spread between the bid price and ask price will be wide enough to drive a dump truck through, which will have a negative impact on your returns.  It will also significantly increase the cost of doing business for mutual fund managers.  Do you think they will just ‘eat’ the additional cost?  Of course not, it will be passed on to you dear reader.

Let us not forget about your precious 401k’s, IRA’s, ROTH’s, and educational 529’s.  These are almost exclusively mutual fund holdings which will see major declines if this tax is implemented.  We also need to consider, what will happen to all of this capital that will flee the markets.

My guess is that it will flood into the  real estate market, thereby creating our next bubble in RE prices.  Once traders and investors around the world have their cost of doing business hit this hard, the money will not vanish, but like water it will follow the path of least resistance.  Right now, that is real estate.  Do we really want to blow up that bubble again?

I know that headline is a bold statement, but I have been researching this for quite a while and there is a way for US citizens to defer income taxes on business income.   While this program is certainly not for everyone, for those of you that meet all the requirements, this can be huge.

Let me use a simple example to demonstrate.  Lets assume you have a business that earns $100,000 per year in profit beyond your salary and all expenses.  In the US your undistibuted profits will be taxed.  For simplicity sake, let’s say you pay 30% tax or $30,000 per year.  We will also assume your business does not grow or shrink, but only maintains. 

If you invested your after tax profits from your business earning 10% per year, you would have about $1.2m after 10 years.  If you paid no tax on those profits and invested the full $100,000 at 10% per year, you would have about $1.7m after 10 years.  Or about $50,000 per year extra which is more than you actually paid in tax!!!

There are several restrictions for this to work, but if you structure your existing, or a new business, properly, you can see truly remarkable results.  You are required to pay tax once you repatriate this income back to the US.  What  this means is once you begin taking distributions of the profit, you pay your personal income tax on it as you normally would.  

There is a bit of additional reporting for this to work as well.  Under no circumstance do you want to find out you have run afoul of the law.  The  IRS is certainly not an entity you want to battle.  But with proper reporting and proper set up, this may be a perfect solution for many of you.  I will be discussing this in further detail in my free newsletter later this week.  If you have further questions or would like a free 30 minute consultation, please don’t hesitate to contact me.

Live well.

In the US, you have the highest corporate tax rate in the world, one of the highest progressive personal tax rates, tax on your savings, tax on your dividends (after they have already been taxed!!!), and tax on every other  productive activity I can think of.

Here in Estonia, there is no corporate tax, 21% flat tax on personal income, no tax on savings, no capital gains tax, no estate tax but 20% VAT consumption tax.  I’m not saying Estonia is perfect, but the tax methodology is quite different.

What is wrong with this comparison?  Just like with alcohol and cigarettes, when you tax it, consumers use it less.  It is the same with any method of taxation.  When you tax something, you get less of it.  So why do the policymakers in the US continue to tax productivity and incentivize consumption?  I don’t know, but if any of you readers have any thoughts to this, I would like to hear it.

But the  more important question is, what do we do about it?  Fortunately, there are solutions.  One thing you can do is to open an offshore bank account and start holding cash in foreign currency.  I know of a bank here in Estonia that pays over 8% on its 12 month time deposits.  And the EEK is fixed to the Euro.  Does anyone know a bank in the US that pays 8%?  Or even 2%?

Another option is to restructure your business overseas in a low or no tax jurisdiction and keep your retained earnings outside of the country.  This is complex and requires a bit of work, but if your business is large enough, this  can be a huge advantage.

Another option is to structure your life in such a way that you can continue to earn income in US dollars and move to a low cost country.  For 2009, your first $91,500 in income is tax free for US citizens.  If you are married and own your own business, you can pay your spouse the same amount plus there is a $15,000 housing allowance giving you nearly $200,000 in tax free income.  Imagine cutting your expenses in half by living in a place like Costa Rica and eliminating or sigificantly reducing your tax burden.  This creates the double whammy effect for your income.

While I realize the mentioned strategies may not be for you, there are options available.  You just have to be diligent enough and take control of your life instead of having the government direct it for you.  Live well.

According to this recent article in Forbes, the IRS has created a new enforcement unit to target high net worth individuals with complex holdings.  This group is called Global High Wealth Industry Group or GHWIG.  This is a direct attack at those with incomes over $100,000 per year.

The GHWIG has broken the income groups into 3 categories; $100k-$200k, $200k-$1m, and $1m+.  From 2007-2008, there was a 24% increase of audits for those earning over $200,000 per year.  The IRS has hired more than 4000 people to increase audit activity and pursue your assets for increase tax revenues.

It is critically important for you take make sure you keep good records for all of your business and investment activities.  This is the easiest thing for the IRS to take advantage of.  It is also important to make sure your asset are properly structured so that you are in full compliance.  This should be revisited every year.  And never talk to an IRS agent without proper representation.  It is best to have a professional.

What the government doesn’t seem to understand is that the high earners in society are the productive business owners and employers.  Anything done to make it more difficult to comply with the ever increasing regulations just removes incentives for the productive in society to continue to produce.  Or worse, they just flee the country to more freedom friendly nations. 

There is nothing illegal or immoral about legally protecting your assets and taking advantage of tax breaks available to you.  But the government seems intent on constantly penalizing you for your efforts.  Make sure you protect yourself from the risks.

The estate tax is one of the most unfair and possibly unconstitutional taxes in the US tax code.  The constitution requires equal treatment of all citizens and the estate tax violates this in every regard.  Consider a wealthy entrepreneur who works his entire life, pays income tax, property tax, sales tax, and a myriad of other taxes and despite all of this burden, has accumulated a significant amount of wealth.  And now, upon his death, his heirs will be required to forfeit nearly 50% of this after tax wealth, to the US Treasury department. 

The government is not a producer of wealth, but a consumer who has a near 100% failure rate in business management.  Is this really the best entity to receive a large portion of your wealth?  Or would it be best for your heirs to take control of your assets and continue to grow this from their efforts?  Your estate can be used to create more wealth and more opportunities, not only for your heirs, but for those other beneficiaries as well.  The beneficiaries may be the employees of your business(s) or the recipients of your investments. 

This continuation of wealth can grow and create opportunities for generations to come.  Or it can be destroyed by government ownership.  Without a proper asset protection and estate plan, your estate will likely have to liquidate assets in order to satisfy estate taxes.  Do you have a proper plan in place?