Ch. 4: Maxims of Income Tax Planning

Tax Planning

The structuring of transactions to reduce tax costs or increase tax savings to maximize net present value.

Tax Avoidance

The implementation of legal strategies for reducing taxes.

Tax Evasion

The willful and deliberate attempt to defraud the government by understating a tax liability through illegal means

• Criminal fraud

Assignment of Income Doctrine

Income must be taxed to the entity that renders the service or owns the capital with respect to which the income is paid.

Ordinary Income

Any income that is not capital gain; taxed at the regular individual or corporate tax rates.

Capital Gain

Gain realized on the sale or exchange of a capital asset and that may be eligible for a preferential tax rate.

Explicit Tax

An actual tax liability paid directly to the taxing jurisdiction.

Implicit Tax

The reduction in before-tax rate of return that investors are willing to accept because of the tax-favored characteristics of an investment.

Economic Substance Doctrine

A transaction that doesn’t change the taxpayer’s economic situation except by the tax savings from the transaction should be disregarded for tax purposes.

Business Purpose Doctrine

A transaction should not be effective for tax purposes unless it is intended to achieve a genuine and independent business purpose other than tax avoidance

Substance Over Form Doctrine

The IRS can look through the legal formalities to determine the economic substance (if any) of a transaction and to base the tax consequences on the substance instead of the form.

Step Transaction Doctrine

The IRS can collapse a series of intermediate transactions into a single transaction to determine the tax consequences of the arrangement in its entirety.