Want to Diversify an Appreciated Asset Position Without Paying Capital Gains Tax? Take a Federal Government Job With a Conflict of Interest.
If you want to convert a substantially appreciated asset into a diversified asset portfolio without paying capital gains tax, choose your favorite Presidential candidate with extra care. He or she could save you a lot of tax by giving you a job.
If that candidate becomes President, appoints you to an Executive Branch position, and determines owning the appreciated asset creates a conflict of interest in your new Executive Branch job, Internal Revenue Code Section 1043 allows you to sell the appreciated asset and buy a diversified investment portfolio or Treasury Securities without paying the capital gains tax. Judicial appointees enjoy a similar opportunity.
Sound crazy? In 2006, media speculated that former Goldman Sachs CEO Hank Paulson would use Section 1043 to avoid millions of dollars of capital gains tax from selling appreciated Goldman Sachs stock when President George W. Bush appointed him Treasury Secretary. One might expect the tax benefit far exceeded the value of Mr. Paulson’s salary and other compensation.
But Section 1043 isn’t a complete “win” for the appointee. The gain is only deferred, not permanently eliminated, so the appointee must recognize the gain and pay the capital gains tax if and when he or she sells the newly purchased investments. Also, diversification isn’t always voluntary. As a condition to confirming his or her appointment, a Congressional committee can require an appointee to sell an asset the appointee wants to keep. Another noteworthy consideration: these jobs aren’t necessarily easy. One can wonder if, given a crystal ball, Mr. Paulson would rather have paid the capital gains tax, than serve as Treasury Secretary in the early days of the Great Recession and, as a Republican, drop to a knee before the Democratic Congressional leadership to beg support for rescue legislation in the midst of financial crisis.
Nevertheless, don’t hesitate to raise an eyebrow if our future President appoints someone with a lot of gain (to defer) to an Executive Branch position. And if you find a job attractive in part for its tax perks, take heart that you aren’t necessarily the first person to submit your resume under such circumstances.
Here is a link to Internal Revenue Code Section 1043: https://www.law.cornell.edu/uscode/text/26/1043
Here is a link to a 2006 Forbes article discussing Mr. Paulson’s tax situation and some quirks to Section 1043 in more detail: http://www.forbes.com/2006/06/01/paulson-tax-loophole-cx_jh_0602paultax.html
Here is a link to 2008 coverage of Mr. Paulson’s kneel: http://www.nytimes.com/2008/09/26/business/26bailout.html