Legal Strategies for Doctors Sheltering Employment Income

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Strategies for Medical Professionals to Consider in 2011

[By Sean G. Todd Esq, CPA, CFP®]

Thomas Stanley, author of “The Millionaire Next Door” (1996), revealed according to his findings at the time, two-thirds of millionaires in the U.S. were self-employed or small-business owners.  Also noted was the fact that even more people work for external companies and run small home-based businesses on the side. You need to spot the correlation – the tax code is written for the small business owner as there are massive tax-planning opportunities that are not subject to the standard income limitations.

Tax Reduction Opportunities

Perhaps one of the greatest tax-reduction opportunities is the use of small business retirement plans! Under current laws, the IRS typically does not include money contributed to these plans in the profits of a business owner or self-employed individual. If an affluent taxpayer can delay excessive spending until retirement, current taxation on those funds can be avoided.

In applying the right planning, additional income can be sheltered by maximizing the use of small business healthcare plans and employee benefits plans is another option. When our clients utilize health savings accounts, health reimbursement arrangements and Section 125 plans, expenses that would have been above the deduction thresholds for individual taxpayers can be paid on a pretax basis through the business.

Putting the Kids to Work

Another legal income sheltering strategy that we counsel our investment advisory clients on is to put offspring on the payroll of a business. We require them to work – which is not a bad thing in the least. Doing so provides two major benefits: FICA and federal unemployment taxes may not need to be paid if the child is a minor, and the child may be able to contribute to a Roth IRA out of earned income. Employing a spouse garners similar results. As an aside, we always try to be clear on “Who is the boss” in these situations. When utilizing the employment strategy, one must account for the annual cap on the amount of FICA an individual must pay, one spouse can be compensated substantially higher than the limit. Doing so may mean that one spouse pays less into the Social Security system, but it also gives a couple the opportunity to invest privately instead of putting it in the hands of the Social Security system. We and our clients prefer this strategy.

Legal Strategies for Sheltering Investment Income

We are a big user of technology in our advisory practice with allows our clients to utilize another underutilized tax reduction technique commonly missed by stockbrokers which is “tax lot matching”. This technique allows our clients to specify which shares of a stock or mutual fund he or she is selling, as opposed to the default IRS method of first in, first out (FIFO). Tax lot matching can provide huge savings when shares of a stock that show little gain, or even a loss, are sold instead of shares from long-term investments that show substantial gains.

Our affluent investors like doctors, with children, have utilized additional opportunities to shelter investment income and gains from the IRS. We utilize an account which provides a unique tax savings opportunity. When our client parent owns highly appreciated shares of stock, we “gift” the stock to a child and have the child sell it and then report a portion of the profits on the child’s substantially lower tax bracket. This type of planning requires knowledge of income taxes, estate tax laws and legal issues — all of which we confidently provide to our clients.

Section 529 Plans

We have counseled our affluent parents and grandparents of a unique opportunity to use Section 529 plans to shift money out of their estates and shield the growth of substantial amounts from future income taxes, if used for the college expenses of any family member. Under the Internal Revenue Code, any donor can gift up to five times their annual gift exclusion limit into a Section 529 account for a child, as long as multiple gifts to the same person aren’t given in the five years following. With the top estate tax bracket exceeding 50%, this can equal an estate tax savings of more than $25,000 for every $50,000 gift.

Charitable Works

Last but not least, we advise our affluent investors who have a charitable streak to avoid donating cash as much as possible. The IRS allows investors to donate substantially appreciated securities to nonprofit organizations and take a charitable deduction for the full amount. This saves investors the trouble of having to sell the assets themselves, pay tax on the gain and give smaller donations to the charity. In short, donate the stock and keep the cash.

“Grey Area” Strategies to Avoid

As mentioned before, the IRS has no problem with affluent investors avoiding as much taxation as legally allowable. Still, no article about affluent tax-planning strategies would be complete without a warning about the practices that can land you in hot water and wearing the orange jumpsuit. Even though you may overhear people bragging about these strategies at cocktails parties, be forewarned – they can lead to fines and even jail time.

Offshore Trusts

The most popular of the abusive tax strategies that receives heavy IRS prosecution is offshore asset trusts. While it may sound very tax savvy and sophisticated to have a Swiss or Cayman Islands bank account, these accounts are illegal when used to avoid U.S. income taxes. Additionally, the various post-9/11 regulations put strict limits on how much money can be transferred offshore and for what purposes. If someone recommends that you use one of these trusts, you’ll want to get second and third opinions from independent tax professionals.

Non-Arm’s-Length Transactions

The IRS also frowns on affluent investors conducting “non-arm’s-length” transactions to avoid taxation. These are tax planning strategies often done by “do-it-yourself” individuals. In short, all transactions among related parties should be conducted as if they were made between complete strangers. For example, parents who sell appreciated real estate to their children for half of the market value (to avoid paying tax on the gain) would not likely do this with a complete stranger. Affluent tax strategies that are not done in an arm’s-length fashion are subject to IRS action.


Family Limited Partnerships (FLP) have become a popular way of attempting to transfer assets to the next generation, with the parents both retaining control of the assets and avoiding gift tax rules. While there are instances where such partnerships can be properly structured, they are abused enough to garner heavy scrutiny from the IRS. Utilizing a FLP can provide many income and estate tax advantages. Properly implementing and using a FLP requires proper professional counsel and advice. We strongly discourage anyone from trying to “do-it-yourself” with this level of tax planning.

Financial Planning

Developing and implementing an effective tax strategy is a key component to a successful financial plan. An effective tax strategy does not put out of the realm of possibility the fact that someone making hundreds of thousands of dollars to pay close to the same amount of taxes, as someone earning just a fraction of that. The key is to be deliberate and strategic about employing legal affluent tax planning strategies well in advance of your tax-filing deadline. Doing so will ensure that you and your family members, not the IRS, are the ultimate beneficiaries of your hard work.


What is one of the greatest tax-planning opportunities to come along in decades? We utilize this strategy everyday with our clients. Sadly, many affluent investors are not permitted to use them because their adjusted gross incomes are too high. What is the opportunity? In the alternative, our clients fund a non-deductible traditional IRA. While these IRAs don’t provide upfront deductions or tax-free withdrawals, the earnings can still accumulate on a tax-deferred basis over the long-term. How can all this help you financially?  You are seeing exactly why a solid investment plan needs to take into account tax planning.  Implementing tax strategies are guaranteed wins for our clients.  What is your tax strategy?

Here is the level of confidence we have in our ability to develop a beneficial strategy for you.  Take advantage of our offer to meet with you confidentially without cost or obligation.  Based on our meeting and a review of your strategy, we will put in writing the opportunities available to you.  After receiving this written strategy, you get to decide how best to implement the same.  Our strategy relies on competence in trusts and estates, income taxes and financial instruments and capitalizes on the ability to integrate each of these disciplines.


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