October 18, 2013

By boss we mean Apple.

In May of 2013, Apple’s CEO Tim Cook got grilled by US Senators about Apple’s tax strategy of placing over a $100B in profits in offshore accounts to avoid paying corporate tax. Last week, after a four-month review of Apple’s finances, the Securities and Exchange Commission cleared the technology company from any wrongdoing in their accounting principles and tax strategies. For Apple, one of the largest and most profitable companies in the word, to come out squeaky clean from an in-depth IRS audit that scrutinized their complex tax avoidance machinery is worthy of admiration, regardless of your views on the moral issues involved.

So, what can the everyday taxpayer learn from Apple? Let’s look at three basic lessons we can all take home from Apple’s multinational tax mitigation operation.

Move Your Money like a Billionaire

The secret to Apple’s tax strategy is it moves money to where it is taxed the least (if at all). Take for instance the “Double Irish Arrangement,” the tax structure Apple is now infamous for pioneering. First, Apple used payments between related entities within their corporate structure to funnel income from countries with higher tax rates, such as the United Kingdom, to countries with lower tax rates, namely Ireland. Ireland was a particularly good choice because it uses a territorial taxation system, which means the Irish government does not tax income from offshore subsidiaries of Irish companies.

Lesson: Although you may not be able to take advantage of the same tricks corporations and billionaires have at their disposal to minimize your tax rate, you can still be smart about where you earn your money, how you invest it, and how you file your taxes. Can you move your business to a state with lower income tax? Can you ask your company to compensate you in stock options instead of a wage increase? Dividends are taxed at 0% if your income is lower than $36,250 and at 15% if your income is between $72,501 and $450,000. Your salary, on the other hand, is taxed at 25% if your income is over $72,501 and 33% if you make more than $223,051.

Keep on the Right Side of Tax Evasion

The key element of Apple’s tax strategy is that it was – strictly speaking — legal. Sure, they used the insanely complex American tax system to their advantage and – arguably – completely disregarded the spirit of the law. But they did so by meticulously following the letter of the law. There is a fine line between tax avoidance, which is legal, and tax evasion, which is not; but staying on the right side of that line is the difference between Tim Cook getting a passing grade by the SEC and Al Capone spending 7 years in prison.

Lesson: Minimize your tax liability by only using legal tax mitigating methods because the risk of an audit outweighs the benefits. Keep meticulous records of tax-related documentation and contribute as much as possible to tax-friendly accounts, such as contributing to retirement plans with pre-tax funds. This way you can defer paying taxes on your savings and they will grow at a much faster rate.

Use The Tax Code to Your Advantage

Tim Cook famously proposed US senators reform the current 7,500-page tax code and scrap all tax breaks (aka tax loopholes) in favor of a single digit corporate tax rate, even if this meant paying a little more. Mr. Cook may have meant what he said, but you can be sure he will be milking every tax break available until such tax reform occurs.

Lesson: Become a tax law expert or hire somebody who already is, so you can make existing tax breaks work to your advantage. For instance, If your employer offers a medical reimbursement account, also known as a flex plan, divert to it as much of your salary (up to $2,500) as you can. Medical reimbursement accounts sidestep income and Social Security tax, which means you can save 20% to 35% on your medical bills.

Conclusion
Paying taxes is the moral thing to do. We all enjoy having schools, a judiciary that enforces the rule of law, fire departments and hospitals. The least we can do is pay our fair share for them.

However, we do not have the responsibility of deciding what our fair share is. Lawmakers do that for us. It is rather amusing that Congress created countless tax loopholes and was shocked when Apple went ahead and used them. If lawmakers do not think existing tax breaks – which special interest groups spend millions lobbying for — are unfair, they can always change them. Until then, they can hardly blame taxpayers for using them.

Photo: marcopako