Asset Protection BLOG - Mark Nestmann

Yes, Dorothy… Taxes DO Matter

Both congressional leaders and President Obama have suggested that raising tax rates on wealthy Americans will result in a corresponding increase in tax revenues. 

If people were robots, that might work.  However, people subject to sharply higher taxes don't like having to pay them.  And they will act accordingly.

This phenomenon has been known for, well, centuries.  But its most famous exponent is probably economist Arthur Laffer.  In the 1980s, Laffer once again demonstrated with his famous "Laffer Curve" analysis that both a 0% income tax rate and a 100% tax rate would generate zero revenue.  The optimal tax rate—the rate that will generate the greatest revenue for the government—must therefore lie somewhere in between.  And, as tax rates rise beyond a certain threshold—whatever that may be—revenues will actually decrease.

Another, more colorful way of putting the same concept came from Jean Baptiste Colbert, the Minister of Finance under King Louis XIV of France in the 17th century.  Colbert wrote: “The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing.”

But neither Laffer, nor Colbert, were the first economists to recognize the decreasing utility of increasing tax rates.  In 1377, the Islamic scholar Ibn Khaldun wrote:

"In the early stages of the state, taxes are light in their incidence, but fetch in a large revenue...As time passes and kings succeed each other, they lose their tribal habits in favor of more civilized ones. Their needs and exigencies grow...owing to the luxury in which they have been brought up. Hence they impose fresh taxes on their subjects...and sharply raise the rate of old taxes to increase their yield...But the effects on business of this rise in taxation make themselves felt. For businessmen are soon discouraged by the comparison of their profits with the burden of their taxes...Consequently production falls off, and with it the yield of taxation."

What's more, real world experience has demonstrated time and again the truth of the Khaldun's analysis.  Tax cuts in the 1920 and again during the Kennedy administration led to sharply increased revenues for the U.S. government.  The same phenomenon occurred in Eastern Europe when several countries in this region instituted a flat tax in the 1990s and early 2000s.

The opposite effect—that increasing tax rates too high lead to decreasing revenues—has also been repeatedly proven.  A recent example comes from the United Kingdom, where the government recently announced it would tax individuals earning more than £150,000 (about $250,000) annually at a 51% rate.  The unsurprising result?  Highly compensated U.K. residents are leaving the country in droves.  For instance, hedge funds managing an estimated $15 billion have already fled in response to the impending tax.  U.K. tax lawyers say that a large portion of their work is now devoted to counseling wealthy residents on how to leave the country.

What's the real reason, then, that Congress and Obama want higher tax rates?  To answer that question, you only need to recall Obama's campaign promises.  For instance, Obama promised to raise capital gains taxes, purportedly to lower the budget deficit.  But then, Obama made an incredible admission in response to a comment that increasing tax rates was likely to decrease revenues and make the deficit worse.  In that case, would Obama want to lower the rates? No, Obama answered, the real issue was fairness. Apart from revenue, apart from the deficit, he wanted to raise taxes because doing so would be "fair."

That, dear readers, is what we're dealing with here.  Barack Obama, now President of the United States, has no interest in reducing the budget deficit.  He only wants to do what he believes is "fair." 

And that means the budget deficit won't be reduced, unless investors stop buying Treasury debt.  It also means you can count on a continued erosion in the value of the U.S. dollar, and a corresponding increase in gold and other commodities. 

As an American, it pains me to see our currency devalued because of our reckless politicians.  But, since I can do nothing to stop Obama from increasing taxes in the name of "fairness," at least I can invest accordingly.  And so can you.

Copyright © 2009 by Mark Nestmann

If You Hire an Obese Worker, You May Have to Pay for Their Weight-Loss Surgery

Maybe it's the bad economy.  Or perhaps it's just bad karma.  But for whatever reason, there's been a huge spike recently in what I can only characterize as unbelievable lawsuits.

Let's say you operate a restaurant.  Now, restaurants fail at a high rate in even the best of times, but in an economic downturn, they fail in droves.  And if the following incident happened to your restaurant, I suspect you'd shut it down the next day.

A prospect applies for a job as a cook at your pizza shop.  Sure, he weighs 380 pounds, but since the Americans with Disabilities Act forbids discrimination against the "morbidly obese," you decide to hire him. 

All goes well for a time.  Then one day, a freezer door hits the cook in the back.  Your worker's compensation coverage is adequate to pay for the cook's back surgery.  But what happens next is classic American lawsuit mania. 

Naturally, the cook hires a lawyer.  A few days before the cook's surgery, his lawyer calls.  It seems the cook must undergo weight-loss surgery before the back surgery.  Doctors have advised him the weight-loss surgery is necessary to insure the success of the back operation.  And, the lawyer says, you must pay the $20,000 cost for the weight loss surgery, since it exceeds your worker's compensation insurance limits.

Now, you hire a lawyer.  Your lawyer tells you that you shouldn’t have to pay.  So the cook sues you and your business for $20,000.  You lose the case, but your lawyer tells you that you can appeal.  You appeal the decision, and lose again at the appellate court level.

In a nutshell, that's what's happened to an Indiana pizza shop earlier this year.  On August 6, the Indiana Court of Appeals ruled that a pizza shop must pay the cost of lap-band surgery for an obese cook injured at work.  And this trend isn't just occurring in Indiana.  Only three weeks later, the Oregon Supreme Court issued a similar ruling.

Advocates for the disabled—and especially their lawyers—are thrilled with these rulings.  But, in the real world, the results won't be so rosy.  Given court decisions like these, any rational employer will hesitate to hire any employee with a pre-existing health condition that may be aggravated in the workplace.  Assuming, of course, that the employer hasn't closed up shop already—and let all his employees go.

Copyright © 2009 by Mark Nestmann

You, Too, Can Sue Over Global Warming!

It’s time for another installment in my periodic postings on frivolous lawsuits.

This one comes from the U.S. Fifth Circuit Court of Appeals, which ruled last month that landowners in Mississippi have “standing” to sue oil and coal companies for emitting greenhouse gases.  In their class-action lawsuit, the landowners claim that these emissions contributed to global warming, which caused sea levels to rise.  That in turn, the lawsuit claims, exacerbated the damage caused by Hurricane Katrina.

If you think this is an isolated case—it’s not.  The U.S. Second Circuit Court of Appeals already reinstated a lawsuit against American Electric Power Co. based on similar claims.  That court ruled that since Congress hadn’t enacted legislation restricting greenhouse gas emissions, states, municipalities and certain private organizations can sue to force companies to cap emissions of greenhouse gas.

Two separate federal appeals courts—just one level below the U.S. Supreme Court—have now informed plaintiff’s attorneys throughout the United States that they now have “standing” to sue anyone that emits greenhouse gases.  Indeed, the Supreme Court in 2006 accepted "as plausible the link between greenhouse gas emissions and global warming" and that "rising ocean temperatures may contribute to the ferocity of hurricanes.”

These decisions are an open invitation to plaintiff’s attorneys to sue anyone who they allege contributed to global warming.  God forbid you own a business that emits greenhouse gases—the courthouse door is now wide open for enterprising attorneys to sue.  Indeed, if you’re wealthy and live in a home that is heated by fossil fuels (or by electricity produced by fossil fuels), or drive a fossil fuel powered vehicle, you just might have to defend yourself in court.  

Whether or not you believe global warming is real, and that if it is real, that it’s caused by human emissions of greenhouse gases, these cases cross an important legal threshold.  From the dawn of the republic to the present day, it’s perfectly legal to emit greenhouse gases.  For the courts to now declare that plaintiffs have standing to sue someone for doing something that is perfectly legal isn’t just unfair.  It could also turn our current economic debacle into the deepest depression in history.  Just wait until the United States completely de-industrializes due to attorneys suing every business in America that emits greenhouse gases. 

It’s possible, of course, that the plaintiffs in the cases before the Second and Fifth Circuit Courts of Appeal won’t be able to prove their case.  They’ve only been given the opportunity to do so.  Still, the defendants will have to spend money, time and effort defending themselves in what to me seems the penultimate of frivolous lawsuits.  And of course, every dollar they spend on legal fees won’t be invested in productive activity. 

I can only imagine that entrepreneurs in China, India and other countries that have so far rejected limits on greenhouse gas emissions are rejoicing over these decisions.  After all, the deindustrialization of America means more profits for them, and more jobs for the workers they employ. 

Is this insane, or what?  Am I missing something here? Please comment below!

Copyright © 2009 by Mark Nestmann

Should You Plan on Dying in 2010?

You might, if you're a U.S. citizen or permanent resident, and want to spare your heirs from paying estate tax at a rate as high as 55%.  But don't make your funeral arrangements just yet.  Congress might change the law before the estate tax temporarily expires in 2010.

In 2001, Congress radically retooled federal wealth transfer tax laws. The amendments raised the estate tax and lifetime gift exemption amounts, lowered the top estate tax rate and eliminated the estate tax all together for 2010. But in 2011, estate tax rates will return with a vengeance.  Instead of the current US$3.5 million threshold, they’ll revert back to the 2002 threshold of US$1 million.  And should your estate exceed US$1 million, it will be taxed at a maximum rate of 55%--up from today's 45%.

Congress has dithered for nearly a decade without dealing with the ridiculous uncertainty it's caused more than three million wealthy American families.  Yes, Congress still has a little more than two months to enact corrective legislation.  But if your estate exceeds US$1 million, you'll want to consider some ways to reduce your estate tax liability.

More about that in a moment.  But first, let's consider how Congress might amend the wealth transfer tax laws, should they decide to act.  It's quite clear that both the Obama administration and congressional leaders don't want the estate tax to "sunset" in 2010.  The path of least resistance to achieve this goal would be to amend the law to keep federal wealth transfer tax rules the same as they are for 2009.  Congress could then re-address these laws at a later date.

Here is a summary of other proposed modifications to federal wealth transfer tax rules currently before Congress:

• Decrease the federal estate tax exemption to US$2 million for 2010 and index it for inflation thereafter.
• Increase the federal estate tax exemption to US$4 million or more for 2010 with or without indexing it for inflation thereafter.
• Impose the federal estate tax at a rate from 35%-55%
• Permit a widowed spouse to utilize the unused federal estate tax exemption of his or her predeceased spouse.
• Eliminate or at least restrict the ability to obtain valuation discounts for gift and estate tax purposes in entities such as limited partnerships.

So, dying in 2010 doesn't seem like it's such a good strategy to avoid estate tax after all.  But what options do you have to deal with this congressional uncertainty?  Here are some ideas to consider that should remain effective to reduce estate tax no matter what Congress decides:

• Marital bypass trust.  If you're married, this simple trust (sometimes referred to as an "A-B trust") can double your estate tax exemption.  While this kind of trust often stands alone, you can also incorporate it into an offshore trust formed in any suitable offshore jurisdiction.  That way, you'll obtain state-of-the-art asset protection for your wealth, and also double your estate tax threshold.
• Lifetime gifts.  You have a US$1 million lifetime gift tax exemption.  If you own assets that have substantially fallen in value in the last year or two, why not gift them to your loved ones now, before values recover?  And don't forget that you can give anyone a gift valued up to US$13,000 annually without reducing your lifetime exemption. 
• Life insurance.  Insurance enjoys uniquely preferential tax treatment under U.S. law. With proper structuring, the proceeds can flow to beneficiaries free of both estate and generation-skipping taxes. Essentially, you avoid tax on portfolio income and transactions in exchange for the cost of insurance.  Again, you can use a tax-qualified offshore life insurance policy for enhanced investment choices and asset protection.

One final note: Proper structuring of your estate plan requires substantial legal expertise. There are many potential pitfalls. Be certain to retain a qualified attorney before you put any of these strategies into place.

Copyright © 2009 by Mark Nestmann

Don't Get Caught in This Estate Tax Trap

If you're not a U.S. citizen or resident, you might think you have no U.S. tax obligations.  But if you hold shares in any U.S. corporations, your heirs may face a huge tax bill when you die.

The culprit is an obscure provision (aren't they all?) in the Tax Code.  Section 2104 reads, in part:

“Shares of stock owned and held by a nonresident not a citizen of the United States shall be deemed property within the United States only if issued by a domestic corporation.”

Section 2104 is a section of the Tax Code dealing with estate tax.  And this sentence means that even if you have no connection whatsoever to the United States, the IRS can still subject your holdings of U.S. stocks to estate tax.  Similar rules apply to real estate holdings. 

The rules exempt the first US$60,000 of U.S.-based real estate or securities from tax.  But if your worldwide estate exceeds US$3.5 million at your death, then it must pay tax on the U.S.-based portion.

That's what happened to one unfortunate couple living in Belgium.  The husband accumulated 250,000 shares of stock in banking giant Citicorp.  At the time he passed away in 2002, the stock was worth nearly US$12 million. 

If the couple had been U.S. citizens, the shares could have automatically conveyed to the surviving spouse free of gift or estate tax.  That's a consequence of a concept called the "unlimited marital deduction." However, if the surviving spouse isn't a U.S. citizen, no deduction is available.

The result in this case is that the husband's estate now owes over US$4 million in estate taxes and penalties.  And because the value of Citicorp shares fell more than 90% between 2002 and 2009, the shares are worth only about US$1 million today.   In other words, the estate must shell out four times the value of the shares in taxes and penalties.

This is an outrageous result, but it's the law.  Fortunately, there's an easy solution.  If you aren't a citizen or resident of the United States, and want to own U.S. shares, don't hold them in your own name.  Instead, take possession of the shares through an entity such as a trust.  This simple step would have saved the heirs of the deceased Belgian investor over US$4 million in unnecessary taxes. 

If you're a non-resident investor, be sure to obtain advice from a tax professional before investing in U.S. shares—or any U.S. property.  Don't make the same mistake as this unfortunate Belgian family. 

Copyright © 2009 by Mark Nestmann

If You Have any Connection to an Offshore Trust, You Need This Book

Type the phrase "offshore trust" into a search engine, and you'll get a lot of hits.  When I did so a few minutes ago, I found 109,000 matches on Google. 

When I pulled up three of the first 20 matches, I found a lot about the benefits of an offshore trust.  But I found very little about the rather onerous reporting requirements that apply to offshore trusts a U.S. person creates, or with U.S. beneficiaries.  Or, for that matter, about the draconian penalties that apply for non-compliance with these requirements. 

Don't get me wrong.  Offshore trusts can be immensely useful instruments for asset protection, estate planning, and other uses.  But when an offshore trust has any connection whatsoever to the United States, it's important to understand the legal, tax, and regulatory implications.

That's why I was delighted to receive an e-mail message last week from my old friend and colleague, CPA Vernon Jacobs.  Vern and international tax attorney Richard Duke have written the first edition of a new tax guide for the U.S. grantors and beneficiaries of an offshore trust.  It's called The U.S. Tax Guide for Foreign Trusts.  And it's the only practical guide to the compliance rules for the U.S. grantors and beneficiaries of a foreign trust I've found. 

If you're a U.S. citizen or U.S. resident alien who has (or wants to have) an offshore trust, you need this book.  If you're the U.S. beneficiary of an offshore trust, you also need this book.  Indeed, if you have any connection whatsoever to an offshore trust with a U.S. grantor or beneficiaries, you need this book.  That includes trustees for offshore trusts, professional advisors who facilitate the formation of offshore trusts, asset manager for offshore trusts, and accountants who keeps the books for offshore trusts.

For years, I've been trying to get Vern to increase the price he charges for his excellent work.  Unfortunately for Vern—but fortunately for you—I haven't convinced him to do so.  You can purchase a digital copy of The U.S. Tax Guide for Foreign Trusts for only US$65, or a printed copy for only US$87. 

To learn more about this book, see http://www.offshorepress.com/faptax.htm.  Again, if you have any involvement whatsoever in an offshore trust with a U.S. connection, you need a copy of it in your library.

Is Expatriation for You?

The United States is one of only two countries that imposes tax on a citizen's worldwide income, no matter where that citizen lives.  (The other country is, of all places, Eritrea.)

For citizens of most high-tax countries, it's easy to legally avoid the obligation to pay tax on your worldwide income.  You simply relocate to a lower-tax jurisdiction, or one that only taxes local income.  After an extended period—normally 1-2 years—you become "non-resident" for tax purposes.  You no longer have the obligation to pay tax on your worldwide income to the country that issued your passport.  You may, however, still be subject to gift and estate taxes. 

But not the USA.  To permanently disconnect from the obligation to pay U.S. income tax, U.S. citizens must not only leave the United States.  They must also take the radical step of giving up U.S. citizenship and passport.  This process (from a U.S. standpoint) is called expatriation.  Before giving up U.S. citizenship, they must acquire citizenship and a passport from another country. 

If you're wealthy, expatriating could result in big tax savings.  The total combined state-federal income tax burden for most high earners is close to 50%.  And President Obama promises to hike that burden to pay for his spending plans.  If you anticipate earning US$2 million over the next five years, expatriation could save you a cool US$1 million in income tax during that period.  Not to mention millions more in the years ahead, and millions more again in estate tax savings. 

Expatriation also eliminates the increasing difficulties that U.S. citizens face when they invest or do business overseas.  Most non-U.S. banks and brokers now prohibit anyone with any connection to the United States from opening an account.  This is a result of the U.S. government's intensifying crackdown against anything "offshore."  Foreign entrepreneurs may avoid joint ventures with U.S. citizens, for fear of U.S. tax or regulatory entanglements.  If you give up your U.S. citizenship and passport, you eliminate these problems.

Only a few hundred people, many of whom are not wealthy, give up their U.S. citizenship annually.  But despite this reality, expatriates remain vulnerable to political bombast.  The image of wealthy former U.S. citizens living tax-free in tropical paradises is an irresistible populist target.  Former Congressman Sam Gibbons, a Florida Democrat, once spoke of  "the despicable act of renouncing allegiance to the United States."  Former Congressman Martin Frost, a Texas Democrat, supported tax penalties on expatriates on the basis of "basic patriotism and basic fairness."  The result has been a series of increasingly stringent laws penalizing expatriate Americans. 

Until 2008, it was relatively easy to circumvent these anti-expatriation rules.  But last June, Congress replaced the existing law in its entirety with an "exit tax."  The exit tax establishes a legal fiction that you sell all your worldwide property the day before expatriation.  If you're a "covered expatriate" (which I'll define momentarily), you must then pay tax on this fictional gain.  Unrealized gains in non-grantor trusts and some retirement and pension plans are exempt from the exit tax.  Instead, payouts that would taxable to a U.S. person are subject to a 30% withholding tax. 

Only certain dual citizens and minors with few ties to the United States are exempted from these requirements.  Long-term green-card holders must also pay the exit tax, if they've lived in the United States for at least eight of the 15 years preceding expatriation. 

How are you supposed to pay the tax without selling your assets?  That's your problem!  However, the law permits deferral by posting acceptable security with the U.S. Treasury and paying an interest charge on the amount deferred.

Fortunately, the first US$600,000 of unrealized gain isn't subject to the exit tax.  This amount is adjusted annually for inflation, and for 2009 the exemption is US$626,000.  The exemption doubles for a married couple, both of whom expatriate. In addition, even if your unrealized gains exceed US$626,000, the exit tax only applies to you if you're a "covered expatriate."  This means you:

• Have a global net worth exceeding US$2 million (US$4 million for a married couple); and/or
• An average annual net income tax liability for the five preceding years ending before the date of expatriation the loss of U.S. citizenship or residence exceeding US$124,000 (adjusted for inflation, US$136,000); and/or
• Fail to certify under penalties of perjury that they have complied with all U.S. federal tax obligations for the preceding five years or fail to submit evidence of compliance as required by regulation.

There's also a very sneaky substitute estate tax provision in the exit tax law.  Let's say you expatriate, and then 20 years in the future make a gift to family members remaining in the United States.  If you're a "covered expatriate" at the time you make the gift, U.S. recipients must pay a tax when they receive it.  And not at ordinary income tax rates, but on the highest estate tax rate existing at the time!  However, a covered expatriate can make annual gifts up to US$13,000 to any U.S. person without a tax consequence to the recipient.  The US$13,000 exclusion is adjusted annually for inflation. 

The best that can be said about the exit tax is that it offers a relatively clean break with the U.S. tax system as of the date of expatriation.  Unlike prior law, there is no longer a 10-year period after expatriation during which punitive tax and immigration rules apply. 

Is expatriation for you?  The decision to give up U.S. citizenship is a serious one.  It also requires substantial advance planning, including the acquisition of a second passport, if you don't already have one.  It's a step you should take only after consulting with your family and professional advisors.  But it's the only way that U.S. citizens and long-term residents can eliminate U.S. tax liability on their non-U.S. income, wherever they live.  And it's a tax avoidance option that Congress may eventually eliminate altogether.

(The Nestmann Group can provide consultation on every aspect of expatriation, from acquisition of a second passport to the actual loss of U.S. nationality.  For more information, contact Mark Nestmann at info@nestmann.com.)

Copyright © 2009 by Mark Nestmann

Austria Capitulates on Banking Secrecy

For a little while, it looked as if little Austria would be the mouse that roared.

As I previously reported, on July 9, Austria's Parliament failed to approve a resolution relaxing the country's strict banking secrecy laws as the OECD demands.

But yesterday, September 1, the parliament approved a law to ease banking secrecy in the last EU country on the Organization for Economic Co-operation and Development's (OECD) "gray list" of tax havens.  It was a challenge to assemble a two-thirds majority necessary to weaken the law, but Austria's leaders persuaded legislators of the importance for Austria to get off the OECD's odious list.

Under current law, Austrian authorities will only release account data to foreign authorities if a criminal proceeding is underway in that country against a named individual.  In addition, authorities must convince an Austrian court to order the data to be released. 

This simple and common sense system will be replaced with a network of new tax treaties and tax information exchange agreements.  The agreements will call for Austria to release information on financial accounts held by a foreign investor at the request of foreign tax authorities.  The request may be in regard to any tax inquiry—civil, criminal, or administrative.  However—and this is very important—the inquiry must be about a specific investor.  Austria is under no obligation to comply with wholesale "fishing expeditions," such as the infamous "John Doe subpoenas" invoked by the U.S. Internal Revenue Service against banking giant UBS.

Even so, this is a significant setback for banking secrecy.  Nearly a decade ago, the OECD's bastard stepchild, the Financial Action Task Force (FATF), issued a "money-laundering blacklist." The countries on this list, in the FATF's opinion, weren't doing enough to prevent their financial system from being used by money launderers.  Among other requirements, the FATF demanded that these countries (Austria among them) eliminate all opportunities for anonymity in the banking system. 

However, the new anti-laundering rules mainly inconvenience legitimate customers.  Money launderers long ago began using less traceable methods to move money.  It's almost certain the OECD's new rules for greater transparency in tax investigations will have the same effect. 

Copyright © 2009 by Mark Nestmann

"Disqualified Transactions" in Your IRA Can End Asset Protection--and Tax Deferral, too

For U.S. persons, retirement accounts not only offer tax deferral, but protection from seizure in a lawsuit.  Self-directed accounts, especially self-directed IRAs, also let you invest in assets not easily accessible through ordinary IRAs, such as offshore real estate or offshore bank accounts. 

However, to obtain tax deferral and creditor protection for your IRA, you must avoid "prohibited transactions."  A prohibited transaction terminates the IRA and ends all tax deferral.  You must pay income tax on most tax-deferred gains at your marginal tax, rate plus a 10% early distribution penalty if you're under 59-1/2.  Ouch! 

(Thank Congress for this absolute disqualification rule, which applies only to IRAs.  Other types of pension and retirement plans can often recover from a prohibited transaction by undoing it and paying a 15% excise tax.) 

Most (but not all) states protect the value of retirement plans (including  IRAs) that meet the rules for tax deferral.  If you live in a state with such laws in effect, a creditor generally can't seize your retirement plan to satisfy a judgment.  Most states exempt 100% of the assets from attachment. But there are important variations, including the rights of ex-spouses in community property states, and whether protection extends to Roth IRAs, to distributions from the plan, and to inherited IRAs.

The federal ERISA law protects assets in an employer-sponsored retirement plan, but only in bankruptcy. Not all retirement plans are ERISA-qualified, including IRAs and simplified employee pension (SEP) plans.  However, in 2005, the Supreme Court ruled these plans are protected as well.  The 2005 Bankruptcy Reform Act also exempts IRAs and other non-ERISA-qualified retirement plans or similar contracts from creditor attachment.  IRAs are protected up to maximum value of US$1 million. But again, no protection exists if the bankruptcy trustee discovers you've engaged in a disqualified transaction.

In a recent case, a Florida bankruptcy court ruled that creditors could seize all funds in two of an individual's IRAs, and $60,000 in a third.   The first account became vulnerable when the IRA owner borrowed funds from his IRA and used the assets to pay off a mortgage.  He then acquired the property and subsequently sold it. This was one of several prohibited transactions in the owner's account.  As a result, the IRA was terminated and lost its exempt status.  The second and third IRAs were terminated because they contained funds rolled over from the first IRA.

The result would have probably been the same if the IRA owner relied on state-law exemptions.  The bankruptcy trustee could again have sought to terminate the IRAs due to the prohibited transactions.  This would have ended all asset protection and tax deferral.  

The bottom line: If you have substantial assets in a retirement plan, avoid prohibited transactions.  If you're not sure what's prohibited, start educating yourself by reviewing this advice from the IRS.  Otherwise, you may not just lose the assets to creditors, but also face a hefty tax bill.

Copyright © 2009 by Mark Nestmann

The Unacknowledged Implications of Obama's "War on Offshore"

Although the war of words between the United States and Switzerland has calmed down in recent days, the U.S. criminal case against Swiss banking giant UBS is still very much alive. 

As matters now stand, the IRS is demanding that UBS turn over banking records on more than 52,000 U.S. depositors.  It's waiting for the U.S. District Court in Miami to issue an order to UBS requiring compliance with its demand. On the other side, the Swiss Ministry of Justice has stated that it will block UBS from handing over the information, no matter what the court decides.

The latest news is that Micheline Calmy-Rey, Switzerland's Foreign Minister, will meet with U.S. Secretary of State Hillary Clinton on July 31 to discuss a settlement.  I expect that Calmy-Rey and Clinton will both want avoid a showdown between the United States and Switzerland.  The most likely outcome will be that UBS pays a hefty fine, releases a few thousand account records (but far fewer than 52,000), and then retreats to lick its wounds. 

However, the implications of this high-stakes financial drama go beyond UBS and indeed, beyond Switzerland. Looking at the bigger picture, it's obvious that the Obama administration wants to discourage Americans from investing outside the United States.  In recent months, the Obama administration and the IRS have launched a series of initiatives that if fully implemented will make it much more difficult for Americans to deal offshore. 

This isn't the place to discuss these plans in depth, but in addition to the criminal action against UBS, they include:

• A bill now before Congress establishing a presumption that any U.S. person with offshore dealings is guilty of tax evasion.  The taxpayer could rebut this presumption by presenting sufficient evidence to the IRS that he or she is in full compliance with U.S. law.
• An expansion of the IRS "qualified intermediary" requirements that would make it much more cumbersome for foreign banks and investors to invest money in U.S. securities.
• A dramatically expanded role for the SEC in policing investments of U.S. residents in non-U.S. securities, even for unsolicited purchases.

These initiatives aren't only designed to frustrate U.S. persons from investing abroad.  They're also designed so that foreign banks and brokerages will refuse to do business with them.  Indeed, a Deferred Prosecution Agreement that UBS signed in February 2009 to end an earlier lawsuit by the IRS requires the bank to terminate all cross-border business with U.S. clients and close their accounts.   

But it's not just UBS that's closing the door to U.S. clients.  In the last few weeks, I've received dozens of e-mails and phone calls from U.S. clients with bank accounts in Switzerland, Liechtenstein, Singapore, England, and other countries.  All have been informed that their accounts are being unilaterally closed or severely restricted. 

The situation is particularly serious for U.S. citizens living abroad.  In one case, a woman who's lived in Switzerland for 40 years had her Swiss account closed when her bank decided it would no longer service U.S. citizen clients.  This woman then contacted a U.S. bank to open an account.  The bank informed her that new due diligence rules from the U.S. Treasury no longer permitted it to provide banking services outside the United States. 

But the true implications are even broader, and affect the entire country, not just Americans who wish to invest internationally, or live abroad.  The U.S. government is now running multi-trillion-dollar annual deficits.  A large portion of this deficit is financed through foreign investments.  Given the protectionist barriers the U.S. government is erecting, it seems likely that at least some foreign investors will grow frustrated at being presumed to be criminals when dealing with U.S. financial institutions. 

In the short term, the U.S. actions may generate a modest amount of tax revenue—although far short of the US$100 billion in annual revenue postulated by IRS apologists.  But in the longer term, these protectionist measures are bound to make it more difficult for the United States to finance its gargantuan debts.  And this in turn could lead to a rise in interest rates and even greater erosion in the value of the U.S. dollar.

(The Nestmann Group, Ltd. can assist individuals whose offshore banks have severed account relationships in setting up alternative accounts.  Contact us at info@nestmann.com for more information.)

Copyright © 2009 by Mark Nestmann