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How to convert between wealth and income tax

paulgraham.com

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Re: How to convert between wealth and income tax

#671

Post by mannanj »

credit_guy wrote: post #516
mannanj wrote: post #471

Earlier quoted context omitted.

Does the government not have the goal to make society a more just society? When did that stop being a priority of government? Even a teeny, tiny one?

Sure, the government has that goal too. But the government has many tools, and using taxes for that is using the wrong tool. Or maybe you think that billionaires owe us not only to pay taxes, but also to play nice, and pay those taxes with a smile on their face?

Funding the government, which has the goal to create a more just society, means taxes should support that.

If you're not using your funding to support your goals, thats corruption.

Re: How to convert between wealth and income tax

#672

Post by closeparen »

PopAlongKid wrote: post #643
closeparen wrote: post #439

Earlier quoted context omitted.

Is this situation so uncommon? Almost everyone who lives in a house in California, for example, is living primarily off the unrealized gains on their home equity. Very few have the wage income to qualify for a mortgage on what their lifestyle is worth now. California contains a lot of houses!

> living primarily off the unrealized gains on their home equity. How is that paying for food? Insurance? Electricity? Gasoline? Health care? Gifts and charity? Or even taxes?

Illustratively, living in the house is worth about $15,000/month and everything else combined is maybe $2,000.

Re: How to convert between wealth and income tax

#673

Post by greedo »

WalterBright wrote: post #668
vineyardmike wrote: post #514

Earlier quoted context omitted.

Weakest of the many weak arguments. Let’s do the bog-standard obvious and sane thing and pick a single point in time, once a year and use the value then. Maybe, i don’t know, close of market on the last trading day of the year. At which point it won’t fluctuate again until the new tax year. Then, we can call it “mark to market” because we’re marking the value to the market at a point in time. Finally, we stop with si…

A friend of mine, a few years ago, had his stock options vest. He didn't sell the stocks. The stocks tanked a few months later. The IRS said he owed income tax on the value of the stocks when they vested. He owed more tax than his net worth, lost his house, everything, and wound up in a trailer. He never saw the money he was taxed on. > bad faith arguments A person's net worth can have wild gyrations on a daily basis…

So your friend had a large taxable event occur, ignored any advice that such tax event would persist over the tax year, and failed to act at any time to address his tax shortfall. Sounds like he had a shit tax/financial advisor. And to consume all of his net worth etc, the number of options that vested must have been quite large.

Not going to be sympathetic to someone YOLO'ing their compensation/taxes.

Re: How to convert between wealth and income tax

#674

Post by WalterBright »

kccqzy wrote: post #508
WalterBright wrote: post #474

Earlier quoted context omitted.

The value of stocks fluctuates every second. Sometimes wildly.

Not an issue. If you trade section 1256 contracts, the current tax code already requires you to report unrealized gains by calculating the gains as if they are sold on the last day of the tax year. Brokers have no issues calculating that and reporting that single number to the IRS.

Reporting them is not the same thing as paying taxes on them.

The next day, the stock could tank.

BTW, do you think that a mortgage on a house should be taxed as "income"? How about credit card debt? Is that also "income"?

Re: How to convert between wealth and income tax

#675

Post by jonhohle »

WalterBright wrote: post #665
jonhohle wrote: post #606

Earlier quoted context omitted.

That’s not how it works, though. Buy, borrow, die doesn’t rely on retail margin rates. It’s closer to 3-5%. Assets are used as collateral for loans that don’t require any repayment until death. Generally the borrower can borrow up to 75% of their collateralized asset, and that loan is not taxed. When they die the assets are passed to heirs and stepped up to their current value as the new cost basis. They’re sold to r…

The 10.4% margin rate is Etrade's best interest rate, and it's only for large amounts. I looked it up. > When they die the assets are passed to heirs and stepped up to their current value as the new cost basis...no taxes paid on the capital gains And then your entire estate is taxed at 40%. > and that loan is not taxed Of course it is not taxed. A loan is not income, and is not an asset. It's a liability . > Because…

That’s not correct.

Let’s say you put $20M as collateral for an SBLOC loan. The collateral amount and grows at ≥7%/year and you’re charged interest on your loan of 4%/year. You pull $1M/year that goes into the loan. This goes on for 40 years.

At death the cost basis is stepped up to the value at the time of death. All capital gains are erased.

Next, the loan is paid back before any distribution to heirs. This is done at 0% tax rate because it happens before any distribution to heirs.

Finally, the heirs get what remains and any inheritance tax applies to that.

So you got to live with no income tax related to capital gains. The capital gains are wiped out upon death.

Had you paid taxes along the way, you’d leave about $37M to your heirs (and none of that would be touched by inheritance tax).

If you did the SBLOC strategy, The portfolio grew to around $300M. The loan principal and interest are around $100M. Taxes are $64M. Your heirs get to keep $136M.

There’s less risk since there is never any sales over a longer period, so the returns approach the average.

There’s more tax paid by the SBLOC strategy, it just happens very acutely instead of over time. The heirs are also left with significantly more.

Re: How to convert between wealth and income tax

#676

Post by WalterBright »

greedo wrote: post #673
WalterBright wrote: post #668

Earlier quoted context omitted.

A friend of mine, a few years ago, had his stock options vest. He didn't sell the stocks. The stocks tanked a few months later. The IRS said he owed income tax on the value of the stocks when they vested. He owed more tax than his net worth, lost his house, everything, and wound up in a trailer. He never saw the money he was taxed on. > bad faith arguments A person's net worth can have wild gyrations on a daily basis…

So your friend had a large taxable event occur, ignored any advice that such tax event would persist over the tax year, and failed to act at any time to address his tax shortfall. Sounds like he had a shit tax/financial advisor. And to consume all of his net worth etc, the number of options that vested must have been quite large. Not going to be sympathetic to someone YOLO'ing their compensation/taxes.

He didn't know about that tax rule, which was enacted that year. A lot of people were shattered by it.

Re: How to convert between wealth and income tax

#677

Post by WalterBright »

jonhohle wrote: post #675
WalterBright wrote: post #665

Earlier quoted context omitted.

The 10.4% margin rate is Etrade's best interest rate, and it's only for large amounts. I looked it up. > When they die the assets are passed to heirs and stepped up to their current value as the new cost basis...no taxes paid on the capital gains And then your entire estate is taxed at 40%. > and that loan is not taxed Of course it is not taxed. A loan is not income, and is not an asset. It's a liability . > Because…

That’s not correct. Let’s say you put $20M as collateral for an SBLOC loan. The collateral amount and grows at ≥7%/year and you’re charged interest on your loan of 4%/year. You pull $1M/year that goes into the loan. This goes on for 40 years. At death the cost basis is stepped up to the value at the time of death. All capital gains are erased. Next, the loan is paid back before any distribution to heirs. This is done…

> All capital gains are erased.

Right. And then 40% estate taxes are applied.

All you're saying is that you can borrow money and invest it and hopefully you make more off of the investment than the interest on the money.

A loan is not income. After all, when you borrow a half million to buy a house, you aren't charged income tax on that. You also are not charged income tax on stuff you charged on your credit card.

Borrowing on margin is no different.

Re: How to convert between wealth and income tax

#678

Post by credit_guy »

mannanj wrote: post #671
credit_guy wrote: post #516

Earlier quoted context omitted.

Sure, the government has that goal too. But the government has many tools, and using taxes for that is using the wrong tool. Or maybe you think that billionaires owe us not only to pay taxes, but also to play nice, and pay those taxes with a smile on their face?

Funding the government, which has the goal to create a more just society, means taxes should support that. If you're not using your funding to support your goals, thats corruption.

This is wishful thinking. Billionaires can vote with their feet, or can pay expensive lawyers and accountants to find all the possible loopholes to not pay those taxes. California wants to tax Elon Musk for his trillion dollars. But how much of that trillion dollars was generated in California? He has a very valid claim that a lot of it was generated in Texas, and he'll go all the way to the Supreme Court with that.

People can vote that a new tax should be levied on billionaires, but can't vote how those billionaires will react to the tax. Moving out of state is one option (see Larry Page, Sergey Brin, etc). Hiring armies of lawyers to challenge any wealth assessment is another. Litigating to the Supreme Court yet another. I'm not a billionaire and never will be, but if I can think of these few ideas, they can think of 100 times more.

Re: How to convert between wealth and income tax

#679

Post by whatshisface »

jeffreyrogers wrote: post #667
whatshisface wrote: post #664

Earlier quoted context omitted.

You can get a loan from a bank against your assets and spend only the loan. I think that's how it goes to zero. > So it's in theory possible that someone could make millions tax free from selling a business, but that's a rare case and one the tax code explicitly allows for. These guys have whole offices working to figure out how their day to day expenses can be converted into stuff like "selling a business." ;-)

There have been a few proposals to close that loophole. The main reason it exists is because debt isn't counted as income since it has to be repaid.

Yes, even if it never is. But you have to realize that these proposals to close loopholes are massive tax increases, not technicalities.

Re: How to convert between wealth and income tax

#680

Post by greedo »

WalterBright wrote: post #676
greedo wrote: post #673

Earlier quoted context omitted.

So your friend had a large taxable event occur, ignored any advice that such tax event would persist over the tax year, and failed to act at any time to address his tax shortfall. Sounds like he had a shit tax/financial advisor. And to consume all of his net worth etc, the number of options that vested must have been quite large. Not going to be sympathetic to someone YOLO'ing their compensation/taxes.

He didn't know about that tax rule, which was enacted that year. A lot of people were shattered by it.

I think he must have relayed the tale to you incorrectly. Stock options aren't taxed until you exercise them. Been this way since 1969.

Restricted stock is taxed at vesting, unless you choose to be taxed when they're granted to you. Ditto since 1969.

RSUs are taxed at vesting/settlement as ordinary income. This was pretty much the case since 1969 as well, but fully confirmed in 2009.

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