The form said he was 65, but this new client looked much older as he took a seat across from me. He was nervous and fidgety, and he talked fast. He immediately advised me that he had had it with his successful business and his unsuccessful marriage. His business had become a bore, and his spouse drove him crazy. He and his wife had completed rounds with two marriage counselors, both ending in hopelessness.
An offer for his business was on the table. He was seriously considering it. He stated that his health was poor and that he was thinking of cashing out, ending his marriage, and spending his remaining days in peace and luxury. He had been referred to me by a financial planner (named Jerry) to help him assess the tax impacts of the potential sale.
After briefly reviewing the term sheet and his company’s financials, I first explained that the asset sale would trigger a corporate level tax of roughly 34 percent. The remaining proceeds distributed to him by the corporation would be subject to an additional 28 percent personal capital gains tax. Half of the portion left over after these two income tax bites would go to his wife in the divorce. And, since he would have no spouse and no marital deduction at his death, about 50 percent of what was left at his death would pass to the government as estate taxes.
The guy somberly recapped what I had just told him to confirm his understanding. He then bowed his head and remained still for nearly 30 seconds, carefully pondering the situation. After the silence, he rose from his seat, quickly thanked me, and moved to the door. When he reached the door, he turned and, in a much stronger voice, stated, “Jerry said you were a good tax man. I don’t know if that’s true. But I am certain of one thing. You’re a helluva lot better marriage counselor than those other two bums.”
I never heard from the guy again. I’ve often feared that he spent his remaining days toiling in his boring business and enduring a spouse who drove him up the wall.
This pitifully true story illustrates a basic reality: taxes are a driving force in business decisions. They are a threshold consideration in developing a business plan, selecting a form of entity, raising capital, expanding an enterprise, stockpiling cash, structuring capital, reinvesting earnings, compensating key executives, distributing earnings to owners, designing exit strategies, coordinating timing decisions, and more.
A core objective of most business strategies is to minimize the government’s bite, consistent with other objectives, and to avoid look-back planning blunders – those situations where an owner, faced with an ugly tax bill that could have been avoided with some advance planning, exclaims in disgust, “I sure wish someone had told me that five years ago.”
Although businesses thrive on stability and certainty, recent tax changes have provided neither. The plan of late is to pass a measure that will expire on a given date and revert to something that promises serious pain for everyone unless Congress timely extends the measure or adopts something different. The preferential capital gains and dividend rates, originally set to expire in 2008, were kicked over to 2010, and then all the Bush tax cuts were kicked over to 2012 in the closing hours of 2010, along with a long list of other tax provisions that have their own expiration dates.
The bottom line is that no business or person in America knows with any certainty what the tax picture will look like in 2013. This new normal practice of short-term tax rules facilitates Congressional procrastination and last minute horse-trading, eliminates the need for reasoned analysis and meaningful debate, and provides a measure of political cover for those who approve short-term compromises.
Congress and the White House are soon going to have to tackle fundamental tax law hanges again because everything is up for grabs at the end of 2012. If they really want to jumpstart the anemic recovery and put America back to work, they should end the lingering and debilitating tax uncertainty by acting sooner rather than later.
The Republicans must get off their kick to protect the rich; the Democrats must get serious about helping America’s business owners. My ideas for decoupling taxes on the rich and business tax incentives would work. No doubt there are many other ideas that would work as well.
Above all, the key players should abandon the political theatrics, completely reject the temporary tax extension mindset of the recent past, seriously explore middle ground options, and design powerful, permanent tax incentives that will facilitate aggressive long-term business planning.
June 1, 2012