In just a few years, the wealthiest generation in history known as the Baby Boomer generation will be between the ages of 60 and 70. These Boomers are set to pass down their assets to their heirs and it will be the largest intergenerational wealth transfer in history. According to Cerulli Associates, “By 2043, an estimated $68 trillion will pass to succeeding generations. Industry experts have dubbed this “The Great Wealth Transfer.” This is the first of three storms. The two remaining are economic and political.
Picture this. You’ve built your wealth for 40 years. You own a large primary home, investment real estate, cryptocurrency, stock, or a business and now are faced with selling and transferring this wealth to your heirs. With such a large amount of wealth set to transfer, high-net-worth individuals, families, and their advisers must be prepared for the changes and responsibilities associated with this wealth transfer.
Are We in the Eye of the Hurricane?
Consider the following proposed policy game-changing statistics regarding capital gains, stepped-up basis, and dividends taxes.
- The American Families Plan would:
- Tax long-term capital gains and dividends as ordinary income for taxpayers with taxable income above $1 million.
- Tax capital gains at death for unrealized gains above $1 million ($2 million for joint filers).
- Limit 1031 like-kind exchanges by eliminating deferral of gains above $500,000.
- Tax carried interest as ordinary income.
- The STEP (Sensible Taxation and Equity Promotion) Act would eliminate the step-up in cost basis. A step-up in basis means that upon death, an asset has its cost basis reset to the date of death.
Considering a storm may be coming to shift us from all-time economic highs in the stock market, real estate market, and cryptocurrency, does it make sense to sell your highly appreciated assets now?
When to Sell a Highly Appreciated Asset
According to a blog post by Financial Samurai, “Sometimes, selling is better to simplify life and earn a higher rate of return elsewhere … At the end of the day, your investment property’s main purpose is to generate cash flow in as painless a fashion as possible. Once the pain of owning becomes greater than the joy of earning, it’s time to sell. Continuously work towards that income stream that provides the highest return with the least amount of work … I believe the best holding period for real estate is forever. By not selling, real estate owners ride the unstoppable inflation wave. Further, by holding on, you never have to pay any onerous commissions and long-term capital gains tax. But forever is a long time.”
What if forever is too long for you, however, because you are facing large capital gains tax and the asset you are selling is deferrable using a 1031 exchange?
Using a Deferred Sales Trust to Weather a Storm
A Deferred Sales Trust™ (“DST”) offers an elegant way to move wealth into a safe harbor during the three storms facing wealth in America. It unlocks an exit plan for you if you are selling highly appreciated assets of any kind and eliminates the need for a 1031 exchange. Armed with this information and insight, you can position your wealth plan for yourself and your family’s future like never before.
What is a Deferred Sales Trust?
The Deferred Sales Trust has a long track record of success and has withstood scrutiny from both the IRS and FINRA since 1996. It is a tax strategy based on IRC §453, which allows the deferment of capital gains realization on assets sold using the installment method prescribed in IRC §453.
In simple words, if you sell an asset for $10 million using an installment sale contract, and finance the sale, you as the seller may not have received full constructive receipt of the cash. You have become the lender. You do not pay tax on what you have not received if you follow IRC §453 since it allows you to pay tax as you receive payments.
The buyer you lent money to will typically pay an agreed-upon amount of down payment to you upfront —for which you would pay tax — and then pay the rest of the purchase price to you plus interest in installments over a specific period of time. The deferral takes place as you wait to receive payment, which is typically three to five years.
What are the differences between the Deferred Sales Trust and 1031 exchange here? The answer is flexibility and timing. You can learn more about this in a recent interview from the Best Ever Real Estate Investment Advice Show.
Why Use the Deferred Sales Trust?
A Deferred Sales Trust unlocks the sale of any kind of asset and allows you to lower your risk by diversifying your investments and dollar-cost averaging back in the market at any time.
Examples of this include:
- The sale of a primary residence
- The sales of active investment real estate (this includes saving failed 1031 exchanges)
- The sale of a business
- The sale of cryptocurrency or stock (public or private)
- The sale of artwork, collectibles, or rare automobiles
- The sales of carried interest
- The sale of GP or LP positions in your existing syndications
- The sale of any kind of asset that is subject to U.S. capital gains tax
Three Questions to Determine if the DST Is a Good Fit for You
1. Do you have highly appreciated assets of any kind you would like to sell, defer the tax, invest the funds into real estate, and diversify the funds into a diverse set of investments, all tax-deferred? By a diverse set of investments, I’m referring to those who own asset types other than real estates such as cryptocurrency, businesses, artwork, collectibles, and public stock, all of which are not 1031 eligible. Yes, all kinds of asset types, not just real estate.
2. What would it mean to you to convert your highly appreciated asset — which may not be producing cash flow of any kind — to cash flow from passive or active real estate?
3. What is the return on equity in your asset?
I believe you are more likely to consider selling when you have a clear plan and solution to your capital gains tax, as well as a clear plan to increase your cash flow and lower/diversify your risk.
Here’s to helping you make the best decision for your family during the three perfect storms facing wealth in America!
About the Author:
Brett Swarts is considered one of the most well-rounded Capital Gains Tax Deferral Experts and informative speakers in the U.S. He is the Founder of Capital Gains Tax Solutions and host of the Capital Gains Tax Solutions podcast.