DG> I found this question and answer on Quora and thought it was pretty interesting
When a billionaire goes to buy a $700 million dollar yacht, do they have to sell shares of stock, or do they have that cash in a bank account on hand?
Bernie Klinder, MBA, Entrepreneur, and active investor for +15 years
Answered Sat · Upvoted by Khanh Ngo, Former hedge fund analyst, CFA holder and Mike Richmond, Worked with professional investors over the last 15 years
Would it surprise you if I told that they would take out a loan?
When you’re wealthy, you learn to think about money differently. The first rule is to always preserve capital (money), especially money that can be invested to earn more money. The second rule is always use leverage (other people's money) when you can. The third rule is to look for the tax advantages in every transaction.
So if you have a billion dollars that is invested and earning a good rate of return, the last thing you want to do is convert it to cash to buy a yacht that will depreciate in value.
So let’s assume that Billion is earning a modest 7% return, or a cool $70 million per year. As a major customer of a bank, you’ll be eligible for preferential interest rate - which is usually pretty close to the Fed fund rate (currently 2.5%). So instead of liquidating your investments and paying cash, you finance the yacht at less than 3% interest and your investments keep generating cash to pay off that loan, which would be around $3 million per month, or $36 million a year.
The next strategy would be to structure the purchase to maximize the tax advantage. Many high net worth individuals list the yacht as a second home as it generally meets the tax requirements of having a bathroom, a kitchen, and sleeping quarters. That makes all or part of the $360 million in interest payments on that loan tax deductible, which would recover about $100 million of your money. In some districts, listing the boat as available for charter (even if it is never rented out), makes it exempt from property tax. ( Azzam (2013 yacht) - Wikipedia) They might also designate part of the yacht as an office to potentially qualify for additional tax deductions. Entertain business clients on the yacht several times a year, and you qualify for more tax breaks.
When you get bored with the yacht and are ready to sell, you have one of your companies buy it out for the loan value as a “short term investment”, rent it out for a year while it’s on the resale market ( Luxury Charter Yachts | Yacht Charter Fleet), and then the firm “absorbs” any financial loss as a bad investment and writes the loss off against their earnings.
Meanwhile you still have your initial stake of one billion happily earning interest.
Hope this was helpful.
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Note: I am not a tax advisor. The strategies listed are for illustrative purposes only, and are intentionally simple so people can relate to it. This isn’t just a practice for billionaires, I know of a few high net worth individuals who bought a boat and listed it as a second home in one tax district, while living in another. The tax savings alone paid for the boat, making it essentially “free”. Typically, tax advisors are consulted before making a purchase this size, and deals are often structured to take maximum advantage of tax laws. In many cases where a business is involved, these are leases (where the entire lease payment can be deducted) instead of loans.
People are also getting hung up on the loan calculations, so I’ll break it down. A 3% loan on $700 million would result in a monthly loan payment of $2.9 million or roughly $36 million per year. Over the life of the loan, total payments are just over $1 billion, with roughly $360 million of that (the amount over the principal $700 million) is interest. Drop a few zeros, and you’ll see this is the same for a $700,000 boat or a $70,000 one. |
