Certainly! Here’s a rewritten version of the provided text:
Have you ever come across stories of extremely wealthy individuals paying minimal taxes? These narratives are not uncommon, revealing that the affluent often leverage tax laws to their advantage. However, the intricacies of how this works are often beyond our comprehension.
Coined by Edward McCaffery, a professor at the University of Southern California Gould School of Law, the concept of “buy, borrow, die” sheds light on one of the methods employed by ultra-wealthy Americans to effectively defer, minimize, or sidestep taxes.
This strategy permits the wealthy to access cash without liquidating investments. Instead of selling assets and incurring taxes, they enable their portfolios to grow without divesting.
Rather than selling assets, the affluent secure cash by borrowing against their holdings. A July 2021 Wall Street Journal report highlights that wealthy Americans are increasingly utilizing stock and bond portfolios as collateral for loans.
Given the current heated state of the stock market, many investors would face substantial capital gains taxes if they were to sell assets now. Consequently, more individuals are exploring alternatives like the “buy, borrow, die” approach to mitigate tax liabilities.
Before delving into the details of this strategy, it’s crucial to note that this approach is entirely legal, adhering to tax laws and other regulations. While future changes may occur (discussed later in the article), as of now, this strategy is entirely legitimate.
Let’s examine each phase of “buy, borrow, die” to understand how it operates in detail.
Buy:
The initial step involves acquiring appreciating assets, specifically those that tend to increase in value over time and outpace inflation. Common and effective options include stocks and real estate. The more appreciating assets one possesses, the more effective this concept becomes.
Borrow:
Suppose you have a $5 million portfolio, and you wish to live off it. The typical thought might be to sell some assets for living expenses. However, selling triggers taxable events, incurring capital gains taxes. The “buy, borrow, die” approach entails taking a loan from a bank, using assets as collateral. These loans usually come with low interest rates, as the bank’s risk is minimal. Despite repaying the loan’s interest, it remains lower than potential capital gains taxes, allowing assets to continue growing.
Loan proceeds are not taxed as income, a crucial aspect of this concept.
Die:
While the final step involves contemplating an inevitable reality, wealthy individuals plan for it in advance to benefit their heirs. Outstanding loans are settled with estate assets. Heirs, in turn, benefit from strategic planning. Instead of selling assets, paying capital gains taxes, and distributing the remainder to family, assets remain held. Tax laws dictate that heirs are responsible for capital gains taxes only on gains post-inheritance (the “stepped-up” value), avoiding taxes on gains during the original owner’s lifetime.
It’s essential to note that this pertains to capital gains taxes and doesn’t affect estate taxes.
Summary:
Key aspects and benefits of the “buy, borrow, die” strategy include:
- Asset retention for portfolio growth.
- Avoidance of capital gains taxes through asset sales.
- Low-interest rates on loans backed by assets.
- Non-taxable income on loan proceeds.
- Heirs only pay capital gains taxes on stepped-up asset values.
Will This “Loophole” Be Closed?
While the “buy, borrow, die” approach is currently legal and legitimate, its facilitation of minimal tax payments for the wealthy is contentious. The Biden administration has proposed tax law changes that could impact the approach, making it less effective. These changes might include increased capital gains tax rates and subjecting unrealized gains to capital gains taxes upon death, with a potential exemption of $1 million per person. Congressional approval and potential opposition will influence the outcome, and even if enacted, the strategy’s benefits won’t be entirely eradicated.
Final Thoughts:
Whether one is presently in a position to implement the “buy, borrow, die” strategy or not, understanding the concept and its rationale is valuable. Recognizing the benefits of wealth building can serve as excellent motivation. When it comes to estate planning, these ideas become invaluable for both individuals and their loved ones.
The opinions expressed in this article are for general informational purposes and do not intend to provide specific advice or recommendations regarding any investment product or security. This information is strictly educational about the financial industry.
