25 BASIC TAX PLANNING STRATEGIES
CHOOSE THE OPTIMAL BUSINESS ENTITY
- Avoid the double taxation applicable to the earnings of a C-
corporation by electing S-corporation status.
- Avoid a flow-through regime (such as Schedule C or K-1) that
subjects 100% of allocable business income to payroll taxes.
- Take advantage of a C-corporation in order to reinvest earnings
in the business at a lower top marginal tax rate (34%) than the
rate applicable to individuals (39%) under a flow-through regime.
- Take advantage of a C-corporation's ability to provide tax
deductible benefits to shareholders with more than a 2%
interest, which are restricted in an S-corporation.
- Use a C-corporation and an S-corporation together, in order to
- combine the advantages of both forms
- take advantage of the separate set of graduated income
tax brackets available in a C-corporation and
- improve asset protection.
TAKE ADVANTAGE OF DIFFERING TAX RATE
- Take advantage of a second set of graduated income tax
brackets by allocating taxable income to a C-corporation.
Allocating $50,000 of earnings to a corporation can produce
$12,000 in annual income tax savings, because the 15% initial
corporate rate represents a 24% savings from the 39% top
individual rate ($50,000 x 24% = $12,000).
- Take advantage of differing fiscal years and accounting methods
between entities (and the owner) to create income deferral
- Lower the owner's salary to reduce payroll taxes, while making
up the difference in the form of distributions from an S-
- Take advantage of corporate tax deductions from which
shareholders can benefit on a tax-free basis, such as qualified
retirement plans, health plans, group term life insurance,
cafeteria plans, non-taxable fringe benefits, meal reimbursement
plans and 14 day rental of personal residence.
- Transfer shares of an S-corporation or other flow through entity to
children active in the business, to take advantage of a second
set of graduated income tax brackets.
- Transfer shares of an S-corporation to a tax-exempt ESOP trust
to escape all taxation of the allocable low-through earnings.
- Refinance existing debt through an ESOP trust (transfer a
minority interest to the trust in exchange for the trust assuming
the existing corporate debt), to get a deduction for both principal
and interest on the debt.
- Appropriate the excess accumulated earnings of a C-corporation
for a valid business purpose, to avoid the accumulated earnings
SPONSOR TAX-FAVORED EMPLOYEE BENEFIT
OR RETIREMENT PLANS
- Implement qualified plans that provide a tax-free benefit to
employees and a tax-deduction to the company.
- Maximize pre-tax retirement savings through various qualified
retirement plans which allow greater deferrals of pre-tax income
than traditional IRAs.
- Create an ESOP trust, for the benefit of the company's
employees, and transfer a minority interest to the trust on a tax-
favored basis. This can provide employees with a share of
corporate earnings, without the owner necessarily having to
sacrifice managerial control.
ADD TAX SAVINGS TO A BUSINESS SUCCESSION
- Structure buy-sell agreements as cross-purchases, to allow
surviving shareholders to receive a stepped-up basis for any
future transfer of their interests (a stepped-up basis is only
available in a stock redemption on the death of the shareholder
under Section 1014).
- Fund buy-sell agreements with life insurance policies, to provide
liquidity without setting aside cash that may otherwise be
needed to operate or expand the business.
- Use an ESOP to create market for the owner's closely-held stock
and diversify the owner's net worth on a tax-deferred basis by
selling a minority interest in the closely-held corporation to the
- Gift shares to children active in the business or bonus shares to
PLAN TO REDUCE ESTATE TAXES
- Each spouse should devise property directly to descendants, or
to a credit shelter trust, rather than passing 100% of the estate to
the surviving spouse, to avoid wasting either spouse's unified
- Create an irrevocable life insurance trust to receive ownership
and proceeds of an insurance policy, to prevent the proceeds
from entering the spouse's estate.
- Take advantage of the annual $11,000 per donee gift tax
exclusion ($22,000 with spouse), to remove property from the
FINANCE EDUCATION WITH TAX SAVINGS
- Pay a salary to a child attending college in order to take
advantage of dramatic tax rate reductions attributable to their
separate graduated tax rates, IRA deduction, personal
exemption, standard deduction and education credits.
- Contribute any after-tax amount to a 529 plan, to allow the
earnings to grow tax-free and withdrawals for qualified expenses
to be made tax-free.