How the Tax Control Savings Plan Works
It may seem counter-intuitive that a generous steward must be a wise, prudent saver.
But it’s not.
What we often find with our clients is that the ones who give the most usually have savings that are growing and multiplying.
And when our clients hear and begin utilizing our Tax Control Savings Plan, or TCSP, they discover a new motivation for saving and giving.
The starting point of understanding the TCSP is that there are three basic ways savings are treated for tax purposes:
1. Money goes into savings before paying taxes (i.e., pre-tax), thus saving tax dollars, and grows tax deferred. When it comes out, it is taxed at ordinary income tax rates.
2. Money goes into savings after paying taxes (i.e., after-tax), and is currently taxable as ordinary income (dividends, interest, short term capital gains) or at more favorable capital gains rates for long term capital gains.
3. Money goes into savings after paying taxes (i.e., after-tax), grows tax-deferred or tax-free, and when it comes out it is tax-advantaged (i.e., generally not subject to any taxes, provided the distributions are handled properly and there are no gains inside any of the assets, such as municipal bonds). The savings vehicles available in this bucket are relatively few: Roth IRA, Roth 401(k), Roth 403(b), municipal bonds, and cash value life insurance.
BRS’s Tax Control Savings Plan helps our clients develop a finely tuned and refined method of enhancing the safety, efficiency, and control of their savings. This in turn allows them to be more secure in their present giving and more generous in their plans for giving in the future.
This correlation between saving and giving is liberating for our clients. Whereas before they may have been bound by fears of not having enough in savings for the future, they are now able to do their “giving while they’re living so they are knowing where it’s going,” as Ron Blue famously says.
And the BRS Tax Control Savings Plan is how they arrive at this happy place in their stewardship journey.
Here’s how.
Most of our clients understand the power of pre-tax savings using a defined contribution 401(k) plan with company match, an IRA, defined benefit plan, or other qualified plan governed by ERISA and the Internal Revenue Code. Most of our clients have savings in one or more of these these kinds of qualified plans.
Every dollar that goes into the plan saves you taxes, right? So if you are in the 30% tax bracket, you save 30 cents. If you are at 40%, then 40 cents. And if you company provides a match, that’s free money. So take it.
Many of our clients have most of their wealth in IRAs or a 401(k) plan.
When they retire and begin taking money out, it will be taxed at their marginal tax rate. This works well if the rate is low, but it’s risky if rates are higher. Most Americans believe that tax rates will most likely increase. Take a look at the graphic below and tell us what you think.
If tax rates increase in the future because the government needs more revenues to pay down the trillions of dollars of debt it is in, then your pre-tax savings could get wiped out fast.
That’s why our TCSP is so important and helpful. It’s a diversified savings methodology that helps you be able to adjust to future economic and tax rate changes.
Second, you will want to have savings in what we call the “after-tax, currently taxable” bucket.
These are things like stocks, bonds, mutual funds, money market, certificates of deposit, other interest bearing accounts, and pass through dividends from business you may own. The savings go into this bucket after you have paid taxes on them or after you have inherited non-qualified assets. As they grow you are taxed at ordinary income tax rates on the dividends, interest, and short term capital gains. Long term capital gains are taxed at lower capital gains tax rates.
Many of our clients are highly successful doctors, entrepreneurs, and business owners who have most of their wealth and savings tied up in their practices or business ventures. This gives rise to the need for wise succession planning that we help our clients implement.
Planning for a liquidity event from the sale of a practice or business is important. And thinking through the grid of the TCSP helps our clients make sound decisions regarding how best to avoid unnecessary taxes and allocate the after tax savings to the before tax, currently taxable, or tax advantaged buckets.
Third and finally, in order to diversify your savings and provide a hedge against a high tax rate environment, you will want to have savings in a tax-free bucket. Money saved here and withdrawn properly generally comes out tax free.
You will want to start this as early as possible. Or you can help your children and grandchildren jump start their tax free savings. The savings vehicles available in this bucket are the Roth IRA, Roth 401(k), Roth 403(b), municipal bonds, and cash value life insurance.
We at BRS believe stewardship is about relationships. Careers, reputation, financial stability, and personal goals are all important pursuits. However, none should come above our relationships with family, friends, and our community. Our relationships are the cornerstone by which we leave a positive impact and lasting legacy.
Using the Tax Controlled Savings Plan to Leverage Your Legacy
Imagine knowing that your ReHirement is fully funded from your tax free bucket or through a combination of your currently taxable and tax free buckets.
Not only are you free from worries about future tax rate hikes and certain that you have enough in savings to fund your living expenses through death, you are also free to leverage your stewardship legacy by strategic giving from your before tax bucket.
The wise, patient application of BRS’s TCSP is how you get there.
There are a variety of different strategies for leveraging your legacy using before tax savings, and each depends on the client’s particular facts.
One strategy is to make current gifts from your before tax bucket and utilize distributions or Required Minimum Distributions (RMDs) to fund life a second to die life insurance policy on a husband and wife in an Irrevocable Life Insurance Trust (ILIT) for your heirs.
The proceeds from the policy in the ILIT will go to your heirs income and estate tax-free.
This allows you to do your “giving while you’re living so you’re knowing where it’s going” and at the same time know that you are replacing or even multiplying the wealth transferred to charity with the life insurance.
When you pass away, the remainder in your before tax bucket can be giving to charity. Those funds never incur any tax burden related to the Income with Respect to Decedent Tax (IRDT), gift, or estate tax (if you have a taxable estate).
Furthermore, you enjoy knowing that you have been a good steward by efficiently utilizing the tax code to allow you to take charitable contribution deductions using pre-tax money and at the same time the And the great thing about it is that the money has never paid tax (except for any RMDs or withdrawals used to fund the ILIT).
We at BRS believe stewardship is about relationships. Careers, reputation, financial stability, and personal goals are all important pursuits. However, none should come above our relationships with family, friends, and our community. Our relationships are the cornerstone by which we leave a positive impact and lasting legacy.
Tax Control Savings Plan: An Illustrated Example
To make the math simple, let’s say you need $100,000 after tax to live on in ReHirement.
And let’s imagine it’s the year 2026. Because the national debt has mushroomed to almost $30 Trillion, marginal tax rates are at 40% for middle class retirees and at a whopping 60% for the wealthy.
Source: https://www.cbo.gov/publication/49892
And let’s also assume that the government has done away with capital gains taxes. Everything is now taxed at ordinary income tax rates.
Based on history, these are not far-fetched assumptions. The average marginal tax rate from 1913 to 2016 has been about 59%.
For the middle class retiree, in order to net $100,000 for spending on living expenses, she will need to withdraw $166,667 from her pre-tax savings bucket, her currently taxable bucket, or a combination of both. A wealthy retiree would need to withdraw $250,000.
Either way, this withdrawal rate could wipe any retirement savings pretty fast.
But if the TCSP has been followed, when a high tax rate environment exists, which is highly probable in the United States over the next several decades as the government wrestles with astronomical levels of national debt, the retiree would be able go to her tax free bucket and pull out $100,000 to meet her need for $100,000 to live on.
At BRS, we can show you how to implement the TCSP in your financial planning. And for high net income or net worth clients, we can show you how you may be able to fund your retirement fully in five years with our Leveraged Benefits strategy. This strategy facilitates accelerated funding of your tax free savings so that you can withdraw savings on a tax free non-reportable income basis, while at the same time providing valuable living benefits that cover chronic, critical, and terminal illnesses.
We at BRS believe stewardship is about relationships. Careers, reputation, financial stability, and personal goals are all important pursuits. However, none should come above our relationships with family, friends, and our community. Our relationships are the cornerstone by which we leave a positive impact and lasting legacy.