What is your idea of a “tax plan”? Most people and business owners specifically would say a tax plan is one that will help them reduce their income taxes.
What is my idea of a tax plan? It’s one that puts a client in a better position financially than if they didn’t implement the tax plan.
Does that mean some plans that help you reduce your taxes actually grow less wealth than if you paid taxes on your money and did something else with it? Yep. That’s exactly what it means.
Uninformed advisors and informed but unscrouplious advisors
Here’s the problem, insurance agents and financial planners need to offer something to clients they will buy or invest in or they don’t make any money. Since it’s tough for most advisors to differentiate themselves in the market many will gravitate to anything that seems to have a good hook regardless of how well it ultimately benefits their clients. That is certainly the case with Section 79 Plans.
Good income tax reduction plans—The following is your list of “traditional” income tax reduction plans:
IRAs; 401(k) Plans; Profit Sharing Plan; Defined Benefit Plan (traditional, 412(e)3, cash balance)
There is nothing overly exotic about the above plans (although if you are a business owner and can income tax defer $100,00 a more to a plan, you can use what I call the Super 401(k) to maximum what you put into a plan and minimize what you are forced to contribute for your employees).
Captive Insurance Companies
My favorite wealth building tool businesses can use to find deductions, protect their business assets from creditors, and build wealth all at the same time is what’s called a Captive Insurance Company (CIC).
I won’t take the time to fully explain what a CIC is or how it works. To learn more about the power of CICs, please click here. What I’ll tell you is that more than 70% of the Fortune 500 companies have CICs and small business owners can use them just like the big companies can.
Businesses can take up to a $1.2 million business deduction into an 831(b) CIC . The CIC can be owned by the individual business owner(s) or a trust for the benefit of the owner’s heirs (or some combination of both).
A CIC is NOT an employee benefit plan (therefore, no employee involvement).
Once wealth has been accumulated in a CIC, the money can be removed at the long-term capital gains tax rate (vs. at the ordinary income rate like an IRA or qualified retirement plan).
To learn more about CICs and to watch an educational video, please click here.
Virtually no one in the financial services community knows what a 401(h) plan is. It’s a sad commentary on the business, but it is what it is.
A 401(h) plan is an employee benefit plan where the money goes in as a business deduction but where it is allowed to grow tax free and come out tax free. It’s tough to beat that. For more information on 401(h) plans, please click here.
As I’ve alluded to in different parts of this site, clients would be better off taking their money home, paying taxes on it, and funding a “good” Cash Value Life (CVL) insurance policy vs. taking a partial deduction to fund a crummy policy in a Section 79 Plan.
CVL once funded lets money grow tax free and come out tax free in retirement. As you’ll recall, the CVL policy used in a Section 79 Plan is intentionally no good so as to drive up the deduction. But as the math indicates, funding a bad CVL policy with a deduction doesn’t beat funding a “good” CVL policy with after tax dollars. That’s what annoys me most with Section 79 Plans.