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• Tax Deferral Deferral means
postponement of income taxes. The tax shelter allows the
taxpayer to postpone or even avoid payment of taxes. An example
of deferral is an IRA, Individual Retirement Arrangement. By
placing your money in the IRA, you do not pay taxes on that
amount until you retire. It is like getting an interest-free
loan from the Government.
• Conversion Conversion means
converting ordinary income items into capital gains or
converting capital losses into ordinary losses to reduce taxable
income.
• Leverage Leverage is the ratio of borrowed funds to the amount
of at-risk capital invested in an activity or business venture.
The best situation exists when the taxpayer finances his or her
investment through a non recourse loan. A non recourse loan is
one in which the personal liability is limited to the value of
the investment by the borrower. Non-recourse debt is usually
carried on a company's balance sheet as a liability, and the
collateral is carried as an asset. Non recourse financing is an
attractive tax shelter for investors because the taxpayer is not
held personally liable to repay the loan balance in case of
default.
The provision for tax shelters soon gave rise to “questionable
practices” by Corporations to reduce their tax liabilities.
These practices are called Abusive Tax Shelter by the IRS.
According to the IRS, abusive tax shelters are "marketing
schemes that involve artificial transactions with little or no
economic reality.” One example of tax abuse is inflating the
value of purchased assets far beyond their fair market value.
Abusive tax shelters commonly involve package deals that are
intended to generate losses, deductions in excess of present or
future investment, or inflated appraisal of property.
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