Will the forced sale of the LA Clippers result in a $2 billion tax free bonanza for Donald Sterling?

In what will go down as one of the greatest unintended consequences in sports and tax law history, a recently published tax law theory is promoting the idea that the forced sale of the LA Clippers by NBA owners may have just given Donald Sterling a $2 billion TAX FREE benefit thanks to an obscure section of the tax co

On this weeks Speaking of Justice, Mark Wahlstrom took the microphone and hosted one of the nations leading tax law experts, Attorney Rob Wood. Wood, who wrote a provocative article in Forbes magazine on this very issue earlier this week. In that article Wood looks at the IRC section code 1033, which is similar too, but differs in key ways from the more common and widely understood section 1031, which governs roll over of property to avoid taxes. 

As you will hear in the in depth interview, section 1033 is specifically in the code to handle the "forced sale of assets" and allows the party who was forced to sell a great deal of discretion on how to reinvest those assets from the sale. It essentially allows up to two years to make investments of a "similar nature", which does not necessarily mean another sports franchise. This bonanza could save Donald Sterling and his wife over $660 million in capital gains taxes on the state and federal level. 

We will continue to follow this story, but as Wahlstrom outlines in the discussion, this forced sale and the possible tax savings could explain the sudden decision by Sterling to drop his suit against the NBA and to simply take the $2 billion and run. Not a bad consolation prize for losing the right to sit court-side at NBA games. 

Attorney Rob Wood is a noted tax law expert with the San Francisco, CA based Wood, LLP firm and is a regular columnist for Forbes Magazine and The Tax Law Channel on the Legal Broadcast Network. Mark Wahlstrom is the CEO of the The Legal Broadcast Network and also the President of Wahlstrom and Associates, one of the leading firms working on structured sales, structured legal fees, mass tort administration and taxable damage cash flow planning. 

Donald Sterling and the LA Clippers sale, the perfect structured sale candidate?

In today's Marketwatch article, author Bill Bischoff looks at the tax implications of the forced sale of the LA Clippers to Steve Ballmer for $2 billion.  While the actions leading up to the event have gotten all of the notoriety, as well as the legal wranglings that are sure to follow once the sale is pushed through. What really intrigues me is whether or not this capital asset sale could have, or should have, been the biggest structured sale of real property in recent history. 

As Bischoff points out in excellent detail, the capital gains tax on the sale of the team is going to be almost exactly 33% of the net proceeds due to federal and California state tax rates currently in effect, or a net tax bill of $662 million. Plus, as he goes on to further state, it does not take into account the estate tax when both he and his wife eventually pass away, which takes another 40% on the remainder of the funds. 

While obviously no one is feeling sorry for Mr or Mrs Sterling, at least not regarding their financial condition now and in the future, it does raise an intriguing question on the structured sale of real assets and the kind of tax savings he could realize if he had the time to put this in place. For those of you wondering what a structured sale is, just think of a standard installment sale of property, in this case his team, paid out to him over a period of years, with the tax on the gain only being due in the year that he receives the funds. ( Disclaimer, my firm, Wahlstrom & Associates does a great deal of work extensively in this arena.)

Photo Credit to Mark J. Terrill/AP

Photo Credit to Mark J. Terrill/AP

For example, what if Sterling made a condition of sale that he was to be paid by installments, to be secured by a structured sale of the proceeds, with payments to stretch out over 15 years, the assumed joint life expectancy of himself and his wife. While Ballmer would own the team and make his immediate investment of $2 billion, the net impact to Sterling would be that he would only be taxed on $135 million of gain each year not the total $2 billion sales price. While the taxes are still calculated at the same rate of 33%, he would be paying out "only" something in the area of $45 million in taxes annually on the sale. A far cry from the $662 million number. Big deal, you say? Sterling still pays the same net amount in taxes, but he just pays it in yearly amounts, plus he doesn't have his net proceeds of $1.3 billion to invest.. 

However, keep in mind that in a structured sale your total proceeds are invested at what usually amounts to as AA+ bond yields, in this case about 3.5% each year on the TOTAL sale price of $2 billion. What this means is that in addition to the $135 million annual gain distribution which is taxed at capital gains rates, he would also be paid, depending on how it was structured, taxable income of $50 million or so on top of his other distribution as well.  Still not a big deal?

Ok, how about if during that 15 year payout, Mr or Mrs. Sterling decided to move to Nevada? Would he still owe a capital gains tax on his income once he was an established resident in his new state? Interesting question, right? Would that mean the 13% California state tax would no longer apply, or would they sue in court to claw back taxes "earned" in California? 

Or, let's just assume during that time there is a big political change and that capital gains taxes are cut or reduced on either the state or federal level. In that situation he would only pay taxes in the year in which he received payments. What if the rate went back to 15% Federal and 10% California? The potential savings per year could be $11 million per year and easily total up to over $100 million over time. 

My point is that many people, not just the Donald Sterling's of the world, are totally ignoring the potential tax savings and planning power of structured sales of real estate and real assets, such as a basketball team. At what point will tax and investment professionals realize this tool is ready and available, but they just need to put it to work. I will be doing a follow up video interview later this week with noted Tax Law Channel expert Attorney Rob Wood, so watch for that and start to educate yourself on this dynamic planning tool. You may not have $2 billion to structure out, but if you live in a high capital gains state you might want to start looking at this as a viable tool for your planning.  

Mark Wahlstrom is the lead commentator for The Settlement Channel and one of the nations leading experts on structured settlements, structured sales and structured legal fees. You can learn more about his firm at Wahlstrom & Associates. 

Pacific Life and their new Index Linked Annuity Payout Adjustment rider

As discussed in an earlier post, I am now reporting back with greater detail on the new Index Linked Annuity rider which Pacific Life will be adding to their structured settlement pay out options early in April of 2014. 

Right out of the gate let me qualify this review by stating that Pacific Life is awaiting some final compliance reviews internally so the formal launch date is a bit of a moving target, but I think we can safely assume this will be available on new cases early in Q2 of 2014. 

The product/rider is entitled as the Index Linked Annuity Payout Adjustment rider, or ILAPA. A long name for a very simple concept. The product has some underwriting restrictions, such as the fact that there must be a 60 day period between the contract date and the income start date, that it is not available on cash refund structures and that it is an income rider, not an indexed accumulation product. However, those underwriting and product design elements aside, this is a substantial step forward in product design, options and benefit streams for a profession that hasn't seen a meaningful product innovation in well over 15 years. 

In a nut shell:

  • The product/rider has a 5% annual index cap, based on the S&P index over the 12 months leading up to the 15th of the month immediately prior to the contract anniversary date. If the index goes up 5% or more in the period, the annuitant gets that gain, but always capped at 5%. So, if for example the index goes up 14%, you still only get 5%. Therefore it is important to know how that cap works and is calculated so you can properly explain it to your clients. Also, important to note that it also increases in any increment up to 5%, so If the index goes up 2.4% in a year, you get that 2.4% percentage bump in your payments on the anniversary. The cap is only on the top end and any return under that cap amount is recognized as an increase in that year.
  • The product/rider also has an annual floor of 0%, effectively meaning that what ever the base income is at inception, lets say $100 monthly, then if the market goes down 15% you still are at your based income for that year. No gain that year, but also no loss either, a huge point given the risk profile of the average structured settlement beneficiary. Your income never retreats, it only stays the same or grows. 
  • Once the increase occurs and the base income increases in any year, that now becomes the new base line income level, meaning it will never revert back to the original amount no matter what the market does over that period of time. 
  • The product/rider, as you might expect, is generally priced at somewhere in cost between a straight annuity payment with no compound and a 5% COLA rider product. This allows for some pricing flexibility by the structured settlement planner in design as it gives the ability to get an index of up to 5%, but not having to pay the full price cost of that annual COLA product. 
  • The product/rider is available on both standard and impaired risk mortality.
  • The product/rider is also available on structured legal fees, something I think will appeal to many lawyers and attorneys looking to defer income and also obtain some degree of market exposure on the income portion. 
  • The product/rider is available on period certain, life annuity and joint life annuity options. Again it is not available for lump sums or cash refund benefit options. 

Obviously, there is more detail and as the rider become's officially available, Pacific Life will provide even greater specifics as needed. However, for now it is sufficient to say that the product will be an important discussion option on just about every structured settlement discussion very soon. The vast majority of personal injury victims are risk adverse, conservative individuals who can't financially handle sustained market losses or market risk. To be able to provide an index product, even with a 5% cap, while still maintaining the income tax free cash flow and guaranteed income levels that are not subject to market fluctuations, is an important innovation and one that will certainly generate a great deal of interest and premium for Pacific Life in the coming months. 

Posted on March 19, 2014 .