Tax Liabilities

Explore the following options for minimizing various tax liabilities:

A 401k (for private sector employees) or a 403b (for many public sector employees) allows a worker to make contributions via payroll deductions which are exempt from federal income tax; income tax is paid in retirement when distributions are taken. This is favorable for most individuals because retirees tend to be in lower tax brackets once they retire. These tax-sheltered vehicles can result in maximized returns and tax avoidance when catch-up clauses and employer contributions are fully taken advantage of.

Individuals can reduce capital gains taxes by taking advantage of Roth IRAs. With this vehicle, tax dollars are contributed after-tax but are allowed to appreciate and be withdrawn later, tax-free. A more sophisticated method for minimizing capital gains taxes is a charitable trust, in which a grantor arranges for income payments to be made to an individual from the trust until a given date, at which point the assets in the trust are transferred to a qualified charity (A. Bell, 2008). Such trusts are generally tax-exempt.

Though the estate tax exemption has grown much more liberal in recent years, individuals still may find themselves in a position of liability, particularly after 2010. In such cases, an Intentional Grantor Trust may be used. With this vehicle, “with careful drafting, the grantor can act as trustee without causing assets of the Grantor Trust to be included in the grantor’s estate” (L. Bell, 2001). Additionally, the initial assets placed in the trust are treated as tax-exempt “gifts.”

References

Bell, A. (2008). IRS eyes charitable trust sales. National Underwriter Life & Health, 112(40), 8.

Bell, L. (2001). Grantor trust/insurance trust: Both income and estate tax-advantaged. Trusts & Estates, 140(8), 12.