The Tax-Advantaged CEO

The 1990 tax law left one real risk. "If the IRS decides that the preferred stock an owner receives in place of his common stock is worth much less than the original common stock's value -- usually because it doesn't pay an adequate dividend -- the owner will have to pay a gift tax on the transfer," warns Arthur H. Rosenbloom, chairman of MMG Patricof & Co., an international investment banking firm in New York City. To avoid that, peg the preferred stock's dividend and other characteristics at levels that match those of publicly traded preferred stock with similar characteristics.

* GRITs. The opportunities for using grantor retained income trusts (GRITs), another once-popular tax-and estate-planning technique, have narrowed, but there are still some tax advantages. In the past, business owners could have used GRITs to reduce the gift taxes that come due when transferring their businesses to their children. Owners who used them would hold on to the investment income from their businesses over a specified number of years, even though they had passed ownership of the companies over to an irrevocable trust.

GRITs can still be used to pass on ownership of a residence, whether it's a yearlong or vacation home. "So if a man owns a $1-million residence and knows he plans to retire to Florida in 15 years, he can transfer ownership of the home to a 15-year GRIT whose beneficiary is his son or daughter," suggests Richard Rothberg, a trusts-and-estates partner at the New York City law firm of Kronish, Lieb, Weiner & Hellman. The IRS would then assign a present value to the gift, based on actuarial tables pegged to the owner's age, life expectancy, and the length of the GRIT; if those tables assigned, say, a 25% present value, the owner would have to pay gift taxes on only a $250,000 transfer, though the house was worth four times as much.

GRITs may also still be used with gifts of artwork and other tangible personal property.

* Selling the Business. Don't listen to people who say there's no way to avoid taxes on the sale of a business. You can make use of a device called a charitable remainder trust, which is a trust that at some point passes on to a charity everything that remains in it.

"It comes into play when someone has a low cost basis [valuation at the time you start up or purchase a company] in his business and the potential to sell it at a very nice profit," explains Douglas Brown, president of Sherwood Trust Consultants, in Springfield, Mass. "He sets up a charitable remainder trust and gives it a life term, after which the trust will go to the charity. He donates his stock to the trust and then receives an immediate charitable income-tax deduction." The trust then sells the stock to an outside buyer (ideally, the buyer has already been identified and oral negotiations have taken place); the purchase price passes into the trust, where it earns investment income (possibly tax-free) and continues to pay the founder an agreed-upon rate of return over the rest of the trust's lifetime.

Assume your company has a cost basis of $100,000 and a sale price of $2 million. If you sold it outright, you would wind up paying about 35% in taxes on a capital gain of $1.9 million. That would leave an after-tax profit of $1,235,000 -- which might yield an annual income of $93,000 (assuming a 7% after-tax rate on $1,235,000, plus the untaxed $100,000). If at age 55 you had instead set up a charitable remainder trust, the full $2-million sale price could have been invested; assuming the same 7% after-tax rate, you would receive annual payouts of $140,000. You'd also receive an immediate tax deduction of about $400,000 for your contribution, which is the government's calculation of the value of the discounted $2-million contribution. At the end of the trust's life, the remaining funds would pass on to the charity.

PERSONAL PORTFOLIO

* Insurance. For business owners and their executives, using an insurance trust to avoid estate taxes on the payouts from life-insurance policies is a simple personal tax-saving technique.

Here's how to do it: set up a trust whose purpose is to own all existing and future insurance policies on your life. As long as the trust owns the policies, the proceeds to your beneficiaries will be free -- that's right, absolutely free -- of estate taxes that now can run as high as 55%.

One potential problem: if the insured person dies within three years of transferring ownership of existing policies to the trust, the law says that policy proceeds must be taxed as part of the overall estate. Of course, your beneficiaries are no worse off than if the transfer hadn't taken place. One strategy to avoid possible transfer problems is to make an outright gift of funds to the trust, which then purchases its own insurance policies.

* Charitable Donations. Finally, a one-shot tax break that's too sweet to ignore came out of 1990's tax legislation. During tax year 1991 those who make charitable donations of artwork and other "appreciated tangible personal property" won't be socked with hefty penalties under the Alternative Minimum Tax (AMT) law. If you are a collector, the enticement speaks for itself. Since the AMT "preference" charge can be quite hefty for an art collection that rose in value during the go-go '80s, it's worth accelerating planned donations.

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