Tax Strategies to Benefit From–and Exercise Caution Before Trying

By Adam Cmejla, CFP®

Sept. 23, 2020

Every year, the IRS publishes its “Dirty Dozen” list of most-watched-for tax scams and abuses. It’s a list that CPAs and other advisors read every year in part to learn where and to what extent the Service is allocating resources.

While all items on the list should be reviewed, there are a couple that can have pretty big implications to OD practice owners in a positive way if used and understood correctly…and negatively if misunderstood or abused.

Micro-Captive Insurance Tax Shelters
Using a micro-captive insurance tax shelter involves setting up your own insurance company to absorb risk of loss that otherwise wouldn’t be covered by your normal insurance coverage you have in place. Examples of these types of risks include brand protection, contingent business interruption covering loss due to acts of God or other natural catastrophes affecting the ability to provide services or commerce, data breach loss of income or liability and many others.

The benefit of setting up a micro-captive as an optometrist is that the practice owner is essentially self-insuring (through the formation of their own insurance company), thereby deducting the premiums as a business expense to the optometry practice.

Through careful documentation and, conforming to the strict rules of the IRS, the owner of micro-captive (usually the OD or spouse) is able to receive a portion of the monies paid into the micro-captive back at a reduced tax rate. This is done in one of three ways: in the form of a dividend, long-term capital gain or by making a loan to a shareholder, though careful consideration must be made if making loans.

On the surface, it sounds like a great deal: the OD pays a tax-deductible premium (expense to the practice) to an insurance company they also own. That company, as long as it conforms to 831(b) rules, will only pay tax on investment income, not on the premiums earned, and dividends and surplus funding in the captive are received back to the owner as either qualified dividends or long-term capital gains, respectively.

As the saying goes, “If it sounds too good to be true, it usually is.” In this case, however, it’s not that micro-captives can’t work for ODs—they can work wonderfully. However, it is extremely important that the OD work with a trusted and competent team of advisors that can help them navigate the decision-making process on whether this strategy will work and, if it does, how to properly set it up so that the captive is satisfying the rules as laid out in Section 831(b) of the IRC. The following tax court case illustrates how taxpayers get themselves into trouble with this strategy, and it’s being used as the precedent in learning what NOT to do.

In the 2017 case of Avrahami v Commissioner, the Avrahamis owned three shopping centers and three thriving jewelry stores. In 2006, they spent a little more than $150,000 insuring them, but in 2009 this insurance bill soared to more than $1.1 million and it grew again in 2010, up to $1.3 million. The Avrahamis were paying the overwhelming share of these new insurance premium bills to a new insurance company called Feedback that was wholly owned by Mrs. Avrahami. In short, the IRS concluded that the premiums paid to Feedback were not deductible to their businesses and Section 831(b) claims were invalid, therefore, losing the tax-advantaged strategy they were trying to claim.

Lesson learned: Ensure that you have an actual risk that needs insuring, you’re distributing that risk appropriately and don’t be greedy with the dollars you’re looking to use through this strategy.

R&D Tax Credit
The Research and Development Tax Credit was enacted in 1981 under Section 41 of the IRC to provide an incentive for American private industry to invest in research alongside the government with the goal of spurring innovation and advancement.

The credit can be very advantageous to the claimant, which consequently opens it up for aggressive tax strategies and downright abuse/misuse.

Eligible taxpayers may claim up to 20 percent of qualified expenses associated with R&D above a base amount by completing and attaching form 6765 to their return. In addition, businesses may also use the credit as a payroll credit against the employer’s portion of the Social Security tax.

To be eligible to claim the credit, the taxpayer must have a thoroughly documented and substantiated process for claiming the credit against expenses incurred for the research. Moreover, as taken directly from the IRS’s publication, the “…taxpayer’s research must, among other things, involve a process of experimentation using science with a goal of improving a product or process the taxpayer uses in their business or holds for sale, lease, or license. Activities specifically EXCLUDED (emphasis mine) from qualifying for the credit include research after commercial production, adaptation of an existing business product or process, foreign research, and research funded by the customer. Qualified research activities also do not include activities where there is no uncertainty about the taxpayer’s method or capability to achieve a desired result. In addition, “research” is defined in the Code (Section 1.41-4(2)(i-iii).”

Moreover, the research must be technological in nature. In other words, it must be rooted in optometry and not a general business practice like increasing the efficiency and flow of patients in a practice setting. There must be separate business and technical risk.

In addition, there’s no “application process” for this credit. This credit is claimed by filing an additional form with your tax return and is never “approved” by the IRS in a proactive manner. Said differently, just because you receive the credit does not mean the IRS approves of your use of it. For practices that claim the credit, it can take the IRS a couple of tax years to catch up to the return and analyze the claim of the credit, so be cognizant that just because you’ve received the credit doesn’t mean you have the IRS’s blessing.

So, in English, what does this mean? It means that ODs should be careful about understanding how they substantiate the claims that they are “coloring inside the lines” of the R&D Tax Credit. They must understand they need to show the documentation needed to prove they qualified for this or any other tax credit or deduction.

Moreover, it’s important to know that any preparer or advisor that provides advice on claiming strategies has certain limitations in what they can be liable for and the burden of proof lies with the taxpayer for any information that is put on a return. In other words, it’s your name on the bottom of the return that is ultimately responsible for the information contained therein. Your CPA or any other advisor has limited liability for any egregious or unlawful claims being made.

Bottom Line: These Deductions Are Possibilities for Practice Owners, But Be Careful
I’m certainly not saying that ODs can’t qualify for either of these credits or, if they are currently claiming them, that they are erroneously claiming a strategy when they shouldn’t be. There are many practices (and we work with a couple of them) that are actively involved in R&D.

All of the planning that we do for and with our clients involves a collaborative approach with their other advisory team and we are always looking for ways to maximize tax savings opportunities.

I share these examples because, like every OD reading this, we all want to pay the minimum amount of tax legally owed, and we certainly don’t want to leave the IRS a tip. There’s a fine line between being tax avoidant and tax evasive. The former is legal, the latter isn’t. To what extent any taxpayer wants to push that envelope is to their own prerogative; being prepared for every outcome is paramount.

Adam Cmejla, CFP® is a CERTIFIED FINANCIAL PLANNERTM Practitioner and Founder of Integrated Planning & Wealth Management, LLC, an independent financial planning & investment management firm focused on working with optometrists to help them reach their full potential and achieve clarity and confidence in all aspects of life. For a number of free resources, visit and check out the “20/20 Money Podcast” to get more tips on making educated and informed financial and business decisions

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