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The Impending Tax Storm…are you prepared?

The Impending Tax Storm…are you prepared?.

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The Impending Tax Storm…are you prepared?

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  1. The Impending Tax Storm…are you prepared? Welcome - U.S. Senator George S. LeMieuxOverview: Tax Increases - Adi Rappoport, GunsterView from the Hill - ArshiSiddiqui, Akin GumpThe Legal Perspective- David G. Bates, GunsterThe Investment Perspective- John Caple, ComvestWealth Preservation Techniques - Lisa A. Schneider, GunsterClosing, Q&A - U.S. Senator George S. LeMieux

  2. Overview: Tax Increases Adi Rappoport, Gunster

  3. 2013: The Impending Tax Storm

  4. 2013: The Impending Tax Storm • How did we get here? • EGTRRA – Economic Growth and Tax Relief Reconciliation Act of 2001 • Reduced marginal income tax rates • Marriage penalty relief • Gradual elimination of phase out for personal exemptions • Gradual elimination of phase out for itemized deductions • Estate and gift tax (death tax) reform and elimination in 2010 • Sunset Provision – revert to prior law after December 31, 2010

  5. How Did We Get Here? • JGTRA – The Jobs and Growth Tax Relief Reconciliation Act of 2003 • EGTRRA provisions accelerated • Reduced capital gains rates • Reduced dividends tax rate • Increased expensing limits for small businesses • Bonus depreciation increased and extended • Sunset provision also applies to JGTRA

  6. Tax Rates Post-JGTRA

  7. How Did We Get Here? • TRUIRJCA – Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 • Income tax rates retained for 2011 and 2012, including capital gain rates and qualified dividend rates • Estate tax reinstated for 2011 and 2012, with a top rate of 35%. Exemption amount of $5 million per individual in 2011 and will be indexed to inflation in following years. Estates of people who died in 2010 can choose to follow either 2010's or 2011's rules. • Portability of estate tax exemption among spouses • Payroll tax deduction – 2% on employee’s portion • Sunset extended to December 31, 2012

  8. How Did We Get Here? • 2010 Health Care Act as Amended by the 2010 Health Care Reconciliation Act • The 2010 Health Care Act increases the employee portion of the Medicare Hospital Insurance tax after 2012 by an additional tax of 0.9% on wages received in excess of the applicable threshold amount. • After 2012, the 2010 Reconciliation Act imposes an unearned income Medicare contribution tax on individuals, estates, and trusts. • For individuals, the tax is 3.8% of the lesser of (a) net investment income or (b) the excess of modified adjusted gross income (MAGI) over the applicable threshold amount.

  9. 2010 Healthcare Act • Net investment income = • gross income from interest, dividends, annuities, royalties, and rents; and • net gain (to the extent taken into account in computing taxable income) attributable to the disposition of property other than property held in a trade or business to which the Medicare contribution tax doesn't apply • Less certain allowable deductions • MAGI = adjusted gross income (AGI) increased by the amount excluded from income as foreign earned income, net of the deductions and exclusions disallowed with respect to the foreign earned income. • Threshold Amount = $250,000 for joint returns or surviving spouses, $125,000 for separate returns, and $200,000 in other cases – not indexed for inflation

  10. 2013: The Largest Tax Increase in the History of the World!

  11. Example - $20 million Business Client has business worth $20 million ($5 million of inventory with a basis of $1 million) and $15 million goodwill). Business is taxed as a pass through entity. The difference between a cash sale on December 31, 2012 and January 1, 2013 is significant:

  12. Business Tax Planning in 2012 • Business owners contemplating exit may want to accelerate sale to 2012 • Electing out of installment method • Accelerating gain recognition on prior transactions • C Corporations should consider paying dividends in 2012 • Consider accelerating gains through distributions or change in entity classifications • Consider accelerating dispute settlements

  13. Estate Planning Example: $10 Million Gift • Assuming no previous gifts, in 2012, gifts or other testamentary transfers in the incremental amount of $5.12 million ($10.24 million for married couples) can be made completely tax free; whereas, the same transfer made in 2013 will incur an immediate tax of $2.111 million ($4.222 million for married couples).

  14. Estate Planning in 2012 • If one chooses to make taxable gifts in 2012, for amounts transferred over the exemption amount, the effective rate of tax is 20 percentage points less than the 2013 rate. • In addition, assuming the donor survives for at least three years, the gift tax paid will be removed from the future taxable estate resulting in an effective savings of as much as 39.25 percentage points, before time value considerations. • A $100,000 gift in excess of exemptions at today’s rates results in gift tax of $35,000 and a total outlay of $135,000. One would have to provide for a pre-tax bequest in one’s estate of $222,222 to transfer the same $100,000 to an heir at the 55% estate tax rate that is scheduled to return in 2013.

  15. The View from the Hill Arshi Siddiqui, Partner

  16. What issues are in play in the Lame Duck?

  17. What comes after the “Lame Duck” • Tax Reform

  18. David Bates, Esq.

  19. Potential Transactions • Sale of Business • Sale of Assets • Sell all assets or certain specific assets • Generally requires shareholder approval • May generate appraisal rights for dissenting shareholders • Company may be forced to retain liabilities

  20. Potential Transactions • Sale of Stock • Sell the stock of the business • Viability of this alternative depends on availability of purchaser(s) and perceived value of the equity • Some sellers may be forced to accept discounted sales price • May be restricted in a shareholders’ agreement or similar document • New shareholders will have significant rights and powers

  21. Potential Transactions • Merger or other Business Combination • Generally requires shareholder approval • May generate appraisal rights for dissenting shareholders

  22. Potential Transactions • Financing Transaction • Can be structured as a company financing with a distribution of all or part of the proceeds to the shareholders • Not generally available to all companies • Issuance of additional equity dilutes the owner’s position • New shareholders will have significant rights and powers

  23. Potential Transactions • Payment of Dividend • Company declares dividend to its shareholders to get cash out of the company • Dividend must generally be made pro rata to all shareholders based on their ownership • Some shareholders may not need or want this dividend depending on their circumstances • Availability of this transaction will depend on company’s financial situation • Florida corporate law imposes insolvency test • Company’s Board of Directors must approve dividend payment

  24. Potential Transactions • Transfer of Appreciated Assets • Company or individual may be able to transfer appreciated assets to another entity or to a charity • Such a transfer may allow company or individual to pay taxes at today’s rates and may have other tax advantages

  25. What Can Business Owners Do Today? • Critically and realistically evaluate the status of the company • Initiate clear communications with all interested or relevant parties • Ensure that all applicable legal documentation is in place • Prepare critical path analysis of required items • Have good advisors in place

  26. Possible Roadblocks • Require substantial investments of time, management attention and money • Short time frame • Require the cooperation or action of third parties, and these parties may not be sensitive or agreeable to or to your time requirements • All owners may not have the same imperatives, agendas and timing

  27. Possible Roadblocks • Business valuations in some sectors are depressed • Require the restatement or cleaning up of prior financial statements and tax returns • Existing documents or relationships may prohibit or impair these transactions

  28. Do Not Let the Tail Wag the Dog

  29. Some Risks and Caveats • No business owner should pursue any of these transactions purely on tax-related grounds • These tax changes may not occur or may not be as severe as anticipated • A transaction may result in foregoing some or all of the company’s future economic success • A transaction will still generate tax liabilities • A transaction may generate appraisal rights or litigation involving dissident shareholders

  30. M&A Market Overview June 2012 John Caple, Managing Director

  31. Annual Middle Market M&A Activity

  32. Quarterly Middle Market M&A Activity Quarterly M&A Middle Market Transaction Volume For the Quarters Ended March 31, 2008 – 2012 Quarterly M&A Middle Market Transaction Value For the Quarters Ended March 31, 2008 – 2012

  33. Private Equity Capital Overhang For Years Ended December 31, 2006 – 2011 ($ in billions) $424 Billionin “Dry Powder” (1) Estimated buying power calculated as the cumulative overhang divided by the three-year average equity contribution to LBO transactions. Source: Pitchbook.

  34. Average Leverage Multiples of Middle Market LBO Loans

  35. Average Equity Contribution for LBO Transactions

  36. Middle Market LBO Valuation by Transaction Size

  37. Impact of Bush Tax Cuts Expiration on Quarterly Middle Market M&A Volume Bush Tax Cuts Expire

  38. Summary • The middle market M&A environment is slow and we expect it to remain that way for the next several years • Lots of capital available for good companies and we expect multiples to continue to remain high as private equity funds raised in 07/08 need to deploy capital • Companies with a story and smaller deals are much harder • Private equity funds are mostly focused on “good companies” • Cash flow lending is either expensive or not available for smaller deals (<$10M EBITDA) and storied credits • This dynamic is likely to remain for the foreseeable future • Lack of lending driven by 09/10 loss experiences – not a good business • Limited number of “turnaround” or “value” PE players • Whether the coming tax deadline will have significant impact is impossible to predict. • Last time the tax expiration was heavily discussed but we saw no increase in deals • There are many variables and unanswered questions

  39. What A Difference A Day Makes: Wealth Preservation Strategies For The Business Owner Lisa A. Schneider Shareholder Private Wealth Services Gunster • IRS Circular 230 Disclosure:   Pursuant to IRS Regulations, neither the information, nor any advice contained in this communication (including any attachments) is intended or written to be used, and cannot be used, for the purpose of (i) avoiding tax related penalties or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. 

  40. Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 (the “2010 Act”) • Forbes Magazine: “…the most favorable wealth transfer planning provisions in modern time.” • The Wall Street Journal: “December’s historic tax legislation was a sweet deal for families.” • Bloomberg: “Estate Measure Creates Window to Give Children up to $10 million Tax-Free.” • New York Times: “Gift Bonanza”

  41. Analysis of Potential Growth in GST-Exempt Trust (Assumes prior use of Pre 2011 $1,000,000 gift tax exemption) • First 20 years of the Trust’s term income and gains are accumulated • After 20 years the 3% income yield is distributed, and asset values continue to grow at 5% • Assets appreciate at a rate of 5% annually with a 3% income yield for a total annual return of 8% • Time between generations is 70 years

  42. Funding • Option 1: Fund Trust with a gift of $4 million in cash or marketable securities (no discount; no leverage) • Option 2: Fund Trust with a gift of $4 million in non-controlling interests in closely held entities or hedge funds (assuming 25% combined discount for lack of marketability and lack of control)

  43. Will Congress “Recapture” or “Claw Back” Your Gift Later? • Taxpayer makes a $5.12 million gift in 2012 and dies in a year when the estate tax exemption has been reduced to $1 million (2013?) Does Taxpayer’s estate owe estate tax on the $4.12 million “extra gift” made in 2012?

  44. Was Recapture Intended By Congress?Probably Not…But… • The 2010 Act sunsets in 2013, so the estate of a donor who dies in 2013 or beyond may be subject to “recapture” or “clawback” of a significant portion of the lifetime gift • Result: Estate of donor owes estate tax on lifetime gift based on pre-2001 estate tax rates (55%) • Bad news: If the transferred assets depreciated in value, the estate tax may still be imposed at higher date-of-gift values • Good news: Post-transfer appreciation will still escape estate tax

  45. Recommendation • Proceed with utilizing $5.12 million exempt amount notwithstanding risk of recapture. • Why? • Removes all future appreciation from estate. • Take advantage of discounting which may not apply in the future. • Resulting tax is not greater than the estate tax which would have been paid if no gift had been made (in most cases). • First step in business succession planning

  46. Lifetime Transfer Planning In 2012 • Clean-up Gifting: • Forgive intra-family loans-avoid potential audit issue • Pay off Childrens’ Mortgages • Equalize annual exclusion gifts along family lines • Gift retained general partnership/voting interests in gifted entity to avoid inclusion at death • Make a lump sum insurance payment to reduce future taxable gifts • Gift vacation residence to minimize domicile challenge exposure

  47. Lifetime Transfer Planning In 2012 • Gifting Closely-Held Business Interests • Planning prior to sale:pass entity interest at reduced value Plan early • Succession planning: transfer leadership, family values and equity • Leverage Gifts With Discounts: closely-held entities like family partnerships and LLCs attract valuation discounts for gift tax purposes • Lack of marketability • Minority Interest • Transfer Restrictions

  48. Lifetime Transfer Planning In 2012 • Timing Is Everything: Lock-in valuation discounts before legislative changes eliminate discounts • Hard To Value Assets: Recent cases approve certain formula clauses to avoid payment of gift tax • Maintaining Control: Recapitalize to voting/non-voting prior to gifting • Business purpose upon entity creation

  49. Lifetime Transfer Planning In 2012 • Gifts or Sales to Grantor Trusts(“IDGTs”) are an extremely powerful tool for reducing tax in very large estates • Use $5.12 million exemption amount to “seed” trust • Avoid gain recognition on assets purchased with seed gift • Grantor’s payment of annual income taxes=additional tax-free gift • Ability to use lifetime exemption and retain income flow through promissory note • Dynasty trust planning (360 years in Florida)

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