Sunday, February 17, 2008
Executive Tax Planning
"A strategy that corporate executives routinely use to turn their stockholdings into cash while delaying payment of taxes is coming under increased scrutiny by the [IRS]. ... The strategy, known as a variable prepaid forward contract, is one of the most widely used in corporate America. ... The strategy comes into play when an executive holding a large amount of publicly traded stock that has gained in value wants to turn that stock into cash, but not immediately pay the capital gains taxes that apply when the stock is sold. Instead, the executive agrees at a future date to sell a chunk of the stock to an investment bank, in exchange for an immediate cash payout. The executive pays the taxes on the stock when he actually turns over the shares to the bank, typically many years later. ... The executives and the banks argue that the shares are technically borrowed by the banks, not sold to it, and that the transaction is thus not a sale resulting in a cash payment that is immediately subject to taxation ... The bank gets 'all the benefits and burdens of ownership in the pledged shares,' making it a true sale and this taxable to the executive [said the IRS]'," Lynnley Browning at http://www.nytimes.com/, 11 February 2008.
This is another "substance vs. form" issue. I agree with the IRS, this should not fly.