Custom Adjustable Rate Debt Structure (CARDS)

What Are Custom Adjustable Rate Debt Structures (CARDS)?

Custom Adjustable Rate Debt Structures (CARDS) were a type of tax shelter utilized by high net-worth individuals (HNWIs) and corporations. Similarly as with all tax shelters, the purpose of CARDS was to reduce the investor's overall tax liability.

On account of CARDS, this was accomplished by lending a large sum of money into a foreign party, generally one connected with the company brokering the transaction. After a series of derivative swap transactions, the party investing in the tax shelter gets a paper loss that is equivalent to the original value of the loan. This paper loss can then be utilized to offset real gains that the investor has earned somewhere else in their portfolio, decreasing their taxes owing.

Today, CARDS are considered illegal by the Internal Revenue Service (IRS). Thusly, they can't be utilized as part of a genuine tax reduction strategy.

How CARDS Work

The fundamental thought behind CARDS is to generate a paper loss that can be utilized to offset genuine gains earned somewhere else in the investor's portfolio. To do as such, the company giving the tax shelter first sets up a foreign shell company, to which the investor then, at that point, loans a large sum of money. The loan is regularly structured at a floating interest rate, giving the investor and the shell company to participate in a series of interest rate swaps that are intended to create an unrealized loss for the investor. Significantly, albeit the losses show up real on paper, they are intended to never really bring about a monetary loss for the investor. As such, they remain losses "on paper" just, regardless of the way that those paper losses are utilized to offset the taxes in any case owing on the investor's more extensive portfolio. As such, the investor can reduce their overall tax liability essentially by making the presence of losses through their swap transactions.

CARDS were widely utilized somewhere in the range of 2000 and 2002, however their utilization forcefully reduced following the IRS's decision to consider them a form of illegal tax evasion. In putting forth this defense, the IRS contended that taxpayers ought not be permitted to benefit from losses that were not really realized. In several court cases, the court decided for the IRS, finding that CARDS needed economic substance, the person entering a CARD agreement coming up short on profit motive, and CARDS missing the mark on business purpose. As indicated by the IRS, bringing down taxes is certainly not a genuine business purpose except if the loss is a consequence of attempting to create a gain or is the aftereffect of normal business.

Investors must be careful to guarantee that they try not to utilize any tax shelters that might run afoul of current laws and regulations. Albeit certain tax reduction strategies, for example, investing in a Individual Retirement Account (IRA), can deliver authentic and totally legal tax savings, different methods can be construed as illegal tax evasion. The punishments for tax evasion can be very extreme, possibly including huge fines and imprisonment.

Real World Example of CARDS

CARDS and other sketchy tax shelter products were worthwhile to such an extent that a few companies put together their businesses with respect to giving them. While CARDS were not issued after 2002, marginally unique tax shelters pop up each year, generally with a pleasant abbreviation like CARDS, FLIP, DAD, COBRA, COINS - and the rundown goes on.

While the structure of each tax shelter fluctuates, to be legitimate they generally must pass the rules referenced above or they face being struck down by the IRS. There must be a profit motive and an economic or business purpose for entering the transaction. Basically attempting to make a tax deduction without the above motive or purposes could land the tax shelter in a difficult situation. This is particularly true in the event that the taxpayer entering the transaction isn't really realizing a material loss or isn't gambling with anything in the first place to realize the loss that will reduce their tax bill.

Highlights

• CARDS are one of numerous methods that have been developed throughout the long term to assist affluent investors and organizations with lessening their taxes.
• It has since been considered illegal by the IRS, and several court decisions have upheld the IRS's case against the practice.
• CARDS were a type of tax shelter that was popular in the mid 2000s.