FOCUS is pleased to share with its readers the following discussion on tax efficiency. Recently, Michelle Gula, President of m.rae resources, inc., spoke with a community banker about taxes. Michelle is the co-author of the book "The Art of Tax Efficiency in Community Banks," which is the third book in the acclaimed series for the committed bank director. The book will be published next month.
What is tax efficiency?
Tax efficiency means that you minimize your tax expense to create more value for your shareholders.
How does tax efficiency fit into my bank's overall goal to create value?
Taxes are one of the six drivers of profitability—and the one most frequently overlooked. The other five sport higher profiles. I bet most directors on your board could identify the other five—net interest margin, noninterest income, noninterest expense, the level of earning assets, and leverage. I would also bet that most would forget to include tax efficiency.
Should reaching tax efficiency be part of my strategic plan?
Yes, it should. You are learning fast.
Make sure your board of directors knows that every community bank should have a tax plan as part of its strategic plan, with the goal to be tax efficient.
How do taxes influence the value of my bank?
Taxes reduce value. If you reduce your taxes, you increase the value of your bank. It's that simple. Of course, it's more difficult to identify ways your bank can reach tax efficiency and to actually execute a plan to make that happen. You may need some outside help for that.
I think my bank does a good job with its taxes. Why should my bank devote time and resources to being tax efficient?
The reason is very simple: The majority of community banks in the nation are not tax efficient. So, it is likely that your bank is burdened with some tax inefficiencies that you don't know exist.
Even if your bank is tax efficient, the future vision of your bank should include a well-defined tax strategy to make sure your bank stays efficient.
What's the difference between the average community bank and a tax-efficient community bank?
The average community bank with between $100 million and $5 billion in assets is paying more than 30% of its pretax income in taxes. A tax-efficient community bank may be paying approximately 20% or less of its pretax income in taxes.
The difference has a huge impact on a bank's performance score card. The average community bank can boost its return on average assets and its return on average equity by pursuing tax efficiency.
Will I get in trouble with the IRS if I strive for tax efficiency?
A soundly based approach to reaching tax efficiency has nothing to do with "tax schemes." Achieving tax efficiency for your bank should be grounded in conservative, tax-planning tactics. The core of any tax planning is to understand what is legitimately available to your bank.
Of course, you should have your tax advisor, tax preparer, audit firm, or legal counsel consider all tax-planning opportunities before you take any action.
How can I convince my board that it is OK to pursue tax efficiency?
Remind them that it is our duty as U.S. citizens to pay our fair share of taxes, but your bank should not pay any more than its fair share. If it does, it is to the detriment of its shareholders. Remind the board that it is the duty of a bank director to create value for the shareholders.
What is the biggest mistake a community bank can make when it comes to taxes?
The biggest mistake, by far, is to not make taxes part of your bank's strategic plan. Your board of directors must view taxes as a strategic, long-term goal. With dynamic budgeting, your bank's 10-year vision can be continually updated to take into account actual developments and tax opportunities as they occur.
What are the basic ideas about tax efficiency that my bank's board can discuss and adopt?
Step one is to make taxes part of your strategic plan.
Step two is to calculate the regular tax and the alternative minimum tax (AMT) rates. The target of your bank's tax strategy should be to repeat the mantra: "Never pay one penny over the AMT."