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How to Win the "Tax Game" Legal Tax Angles: How to Save Taxes Without Going to Jail
There has always been a contest between government and
its citizens over the subject of taxes. In time, some favored members of the community are able to secure exemptions from some tax burdens. Others attempt to evade the taxes and risk the chances of punishment - which has been quite severe in some ancient societies. Others attempt to engage in political activities to alter the system while other taxpayers look for the inevitable loopholes the government has created for favored groups. In a few cases, when the tax burdens on the well-to-do become intolerable, some taxpayers expatriate to a more hospitable country. All of these responses by taxpayers represent different ways to play the tax game - which is a continuous contest between the government officials and their citizens. Like war, football, chess or poker, the tax game is a contest where one party is the winner and the other is a loser. But there are varying degrees of winning or losing, so that many taxpayers are content if they can simply find ways to reduce their tax burden, even though they may not be able to eliminate it entirely. The primary purpose of this article is to provide a summary of the legal ways that exist for U.S. persons (citizens and residents) to reduce their effective tax burden without resorting to tax evasion. The second purpose of this report is to offer some insight into how taxpayers must play the game in order to win the tax game.
The Tax Gauntlet In the U.S. today, we are faced with a mind boggling assortment of diverse forms of tax. These taxes are imposed by the federal government, state governments, county and city governments. All together, they consume about 40% of our gross domestic income. Those who seek to reduce their tax burden through legal methods of tax avoidance (also called tax planning) must deal with the following mine field of diverse taxes.
In many cases, success in reducing one kind of tax
results in a higher tax elsewhere. For example, if you succeed in reducing
your income, social security, sales or property taxes, you are likely to have
a larger estate when you die and thus a larger estate tax or inheritance tax.
Effective tax planning for the well-to-do involves comprehensive tax planning
in which all forms of taxation are analyzed before implementing any specific
form of avoidance.
Tax Avoidance and Tax Evasion Tax evasion is a term that has come to mean that a
taxpayer is using illegal means to reduce his or her taxes. This may involve
non reporting of income or other taxable amounts or it may simply involve the
non-payment of the taxes due. Whatever the method, if it isn’t sanctioned by
the law, it’s illegal, and is called tax “evasion”. Tax evasion is a felony,
which can subject you to some time in the government’s free hotel - also
known as jail. “Tax avoidance” is a phrase that has come to mean any
legal method of paying less taxes. Generally, this means utilizing
sanctioned exemptions, deductions or other “loopholes” in the law. Tax
avoidance is the right of every taxpayer, according to the U.S. Supreme
Court, in Gregory vs. Helvering, 293 U.S. 465 (1935).
(Justice Sutherland, U.S. Supreme Court.)
Five Ways To Play The Tax Game There are basically five ways that taxpayers deal with
their tax burdens. The vast majority of people don’t use any of these methods. They just pay the taxes the government says they owe and they complain a lot.
Political Exemptions & Privileges Those who have the power to tax have always had numerous “supporters” who would offer money and services in exchange for the privilege of being near the seat of power. Having the power to tax is far better than being the owner of property. No matter how rich you might be, the politician can take it all away from you with some carefully designed and selective tax law. The politicians do not have any of the burdens of ownership and management of assets, while they enjoy virtually unlimited access to use or consume the assets of others. For those who are not highly self reliant, the “best” way to protect whatever assets they have is to be among the "court" favorites - to pander to those in power. If they are among the truly favored, the politicians will craft obscure laws or exceptions to the laws to provide their supporters with an invisible grant of money. It has the same result as if they just wrote a check drawn on the accounts of the other taxpayers, but it’s not visible because it’s diabolically buried in an insanely obscure set of laws.
Political Efforts To Reduce Your Taxes One of the common ways in which taxpayers attempt to reduce their taxes is through political participation. The problem with this approach is that you can invest a great deal of time and money without ever getting any personal benefit from it. First, you have to find or to persuade a number of other people to agree with whatever political change you wish to make. The more people you get involved in your program (or in support of your candidate), the more variations on your objectives that will be introduced and the more compromises you will have to make to secure support. But ... what will happen when the folks who didn’t support your preferred methods to change the law realize what you and your supporters have done to them? It’s simple. They will react by pressuring their political representatives to change the system back to the way it was. On it will go, back and forth. Changing the method of taxation by political means is like an endless tug-of-war. You end up investing a huge amount of energy, time and money in a cause that will - at best - only provide you with a very small benefit. At worst, you will get no benefit at all and will be out of pocket for the value of your time and for the money you have contributed to the cause.
The Poor Man’s “Tax Shelter” With an income tax, the ultimate form of tax avoidance is to have no income. Thus, the poor don’t need any help with avoiding income taxes. Except for whatever salary they receive, they also don’t need any help with avoiding the social security tax. Nor will they be concerned about estate taxes. Loopholes and tax exemptions are of little value to the poor and the lower income ranks of the middle class citizens. Hiring professional tax advisors like myself would cost more than the potential savings. Thus, many people simply “cheat” - a euphemism for what the government calls tax evasion, which is a felony in the U.S. (We are one of a very few countries that treat tax evasion as a crime.) As a practical matter, only a tiny percentage of tax evaders actually go to jail. However, if they are convicted of a felony, they may lose many other rights and privileges. And, the financial penalties are severe for those who engage in tax evasion and get caught. Tax evasion consists primarily of not reporting taxes that are due, based on the law at that time. In some cases, it may involve claiming insupportable deductions or exemptions. The IRS believes that everyone cheats to some degree. The most honest (or fearful) taxpayers may only pad their deductions by a small amount, but it still represents cheating in the eyes of the I.R.S. For those who choose to engage in tax evasion, I must leave you to your own devices. As a tax consultant, I also have to “play the game.” The rules that apply to tax professionals are such that if we advise anyone on how to evade taxes, we are also guilty of a crime. Apart from the potential for some jail time, the more common consequence is that we would lose our ability to make a living as tax advisors. Thus, tax evasion is a do-it-yourself activity and you will be hard pressed to find any books or other reliable information on how to minimize your chances of being caught.
The Ultimate Form of Tax Protest If you live in a state in the U.S. that imposes a high level of income tax, you are free to move to any one of a number of other states where there is no income tax. In most countries of the world, you are only taxed so long as you are a resident of that country. When you move to another country (such as a tax haven), your former country does not pursue you and attempt to continue to tax all of your income. However, unless you are relatively poor, you can’t escape from the U.S. tax system by merely living in another country. The U.S. is only one of a very few countries that impose taxes on their citizens based on being citizens. Most other countries impose taxes on residents. The U.S. taxes its citizens and residents on their world wide income. You can live anywhere in the world other than the U.S. and still be subject to U.S. income and estate taxes on your income or assets unless the income is subject to an exemption. The only way to avoid that is to become a citizen of another country, a resident of a third country and to give up your U.S. citizenship. However, the U.S. does not want its citizens or residents to do that. So they have passed a law that prohibits an expatriate from returning to the U.S. to visit if they gave up their citizenship for tax reasons. Thus far, I know of no cases where this draconian law has been enforced, but it's still on the books. If none of the previous methods of avoiding taxes is acceptable to you, then you have two choices. You can concentrate on working harder so that you can make enough after taxes to accomplish your financial goals, or you can spend some time learning about legal methods of tax avoidance.
All Tax Systems Eventually Have Loopholes. From time to time, the government may change the tax system to eliminate the varied special exemptions that always creep into the system, but in time, those in power are given great inducements to enact special exemptions for favored groups or even individuals. Even sales and excise taxes are subject to political manipulation. The question for you is whether to spend your time and effort trying to change the system or whether to spend some time and a lot less money looking for existing loopholes that you can use to reduce your own taxes. It’s entirely possible that I could show you 200 different discretionary tax breaks but you would not be interested in any of them, for an assortment of personal reasons. Many tax breaks apply to married couples and you might be single. Others apply to parents and you might not have any children or your children might be grown. Some tax breaks only apply to those in business and you might be an employee. Others are only useful for investors, and you might be struggling to pay off your debts instead of saving for the future. But if you haven't spent a lot of time learning about the various tax strategies described in this web site, then some of these legal methods of tax avoidance may be just right for you. Should you switch some investments to tax exempt bonds, should you take advantage of a section 529 plan to save money for college, should you roll over the gain on a real estate deal with a tax deferred exchange or should you set up an ESOP to create a market for the sale of your company stock? There are literally dozens of legal ways to reduce your taxes -- but each of them depend on your specific situation. Vern Jacobs Copyright, 2004 |
Books and Services by Vern Jacobs
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