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Solving Your Capital Gains Tax Trap.

By John Dietz - Email Editor

Date: 04-Oct-2005

Last week we spoke of dealing with your highly-appreciated real estate capital gains problem. For generations, high net-worth families have been enjoying the benefits of keeping their gains within their families and somehow enjoying the money while they are alive. Most of us have been under the impression that these wealthy families have somehow managed to make incredible gains in the marketplace. I think the real answer is that they may have employed a better strategy.

As I mentioned in last week’s article, a 1031 like kind exchange can be a good answer for converting real estate. Unfortunately, I have personally witnessed many of them go bad at the 11th hour. If you have been pondering taking some money off the real estate table, but the capital gains has stopped you dead in your tracks, read on. It’s time to move beyond the 1031 exchange into more advanced planning.

By carefully structuring your family’s affairs for short and long term planning you can:

1. Defer the capital gain taxes on the sale of the appreciated asset.
2. Eliminate this asset from any of your future estate tax considerations.
3. Invest the sale proceeds tax-free over your life time.
4. Have complete access to your assets over your life time.
5. Pass assets onto the next generation without taxation.
6. Protect assets from future creditors.

So how does this work?

Step 1: Form an Asset Protection Trust.

Step 2: The Trust purchases a Variable Universal Life Insurance Policy.

Step 3: The Variable Universal Life Insurance Policy forms and owns a “Company” for investment purposes.

Step 4: The highly appreciated asset is sold (for fair market value) to the “Company” that is owned by the Variable Universal Life Insurance Policy, in return for a private annuity agreement (like an installment sale).

Step 5: The “Company” can then sell the asset to the highest bidder available in the market, and the proceeds are then invested on a diversified, tax-free basis. The invested proceeds are then borrowed out of the insurance policy to make the specified and contractual annual annuity payments to the original seller of the highly appreciated asset. The capital gains tax is recognized only as these payments are made each year.

If this sounds complicated it’s not.

Let’s examine it:

*You start out with a highly appreciated asset (real estate, private operating business or publicly held stock).

*You then sell the highly appreciated asset (full market value) to a Limited Liability Company in exchange for a private annuity agreement (installment sale).

*The LLC can sell the asset in the open market place for full market value. The cash proceeds now held in the LLC are owned by the Variable Universal Life Policy and are invested tax-free.

*Annuity payments begin with the sale to the LLC, and taxes are paid as you receive cash each year (capital gains and ordinary income).

We could go more in depth with the particulars, but suffice it to say that with a properly designed Kinetic Asset Protection Trust, you will have enormous flexibility on where and how your money is invested.

While these ideas have traditionally been for the super rich, the time has come for them to be available to you and me.

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