If you manage tax planning through a holistic wealth management approach and look at a multi-year financial projection; it tends to uncover trends and opportunities to reduce your tax exposure. While the general rule in tax planning is to defer income and accelerate deductions, holistic planning will help you uncover additional opportunities for tax savings and enhance your overall financial plan.
TIP: Make sure your advisors are all playing with the same tax efficient playbook and do not make investment decisions solely based on tax considerations.
While many strategies are dependent on an individual taxpayer’s facts and circumstances, the following year-end strategies can help minimize your tax exposure and position you for a secure future. To make sure you’re taking all the appropriate steps to minimize your individual taxes you should seek guidance of your tax professional.
Selling securities [capital gain/(loss)]
- Securities owned for more than 12 months qualify for a long term capital gains tax rate of 20% (generally). Securities sold prior to a one year holding period are considered short term holdings and taxed as ordinary income, which is typically taxed at a higher rate.
TIP: Watch your holding period.
- If your income tax rate falls into the 10 and 15% tax brackets, the long term capital gains tax rate remains at zero percent.
TIP: You can intentionally sell securities with a realized gain and pay no tax.
- If you have an unrecognized capital loss consider selling the asset before year end to harvest the loss and shelter realized capital gains. In addition, up to $3,000 of ordinary income (salary, interest, retirement distributions, etc.) can be offset from these realized losses. In addition, you can carry forward losses not used indefinitely.
TIP: Losses can offset capital gains and even reduce ordinary income reducing your tax.
- Wash Sale rules prevent a taxpayer from claiming a loss on sales and exchanges of securities. Therefore you must not acquire substantially identical securities within 30 days, before or after the transaction.
- When making gifts to charity, consider gifts of long term appreciated securities instead of cash. This can avoid the capital gain tax you would pay if you sold the security and simultaneously you will receive a tax deduction for the charitable gift.
TIP: Donate stocks with unrealized gains avoid a capital gains tax and simultaneously receive a charitable deduction.
- If you have an unrealized loss on the security, sell the stock, so as to deduct the loss, and then donate the cash proceeds to charity.
- Miscellaneous itemized deductions are allowed only to the extent they exceed 2% of the taxpayers adjusted gross income (AGI). To the extent they do not exceed 2%, they are disallowed and lost. This could entail extending qualifying subscriptions, paying professional/union dues, investment expenses, professional fees, etc. Again, you should evaluate your alternative minimum tax position before electing to accelerate as these deductions are not allowed for AMT purposes.
TIP: Consider bunching (accelerating or postponing) deductions into a single year to exceed the 2% AGI threshold.
- Similar to miscellaneous deductions you should consider bunching non-urgent medical expenses as they are only deductible to the extent they exceed 10% of AGI (taxpayer 65 and older 7.5% floor through 2016 for regular tax purposes). If you have the ability to shift elective procedures (medical, dental, eye, long term care insurance, mileage of health care purposes, etc.) you may reach the AGI threshold. If nearing the threshold, accelerate procedures prior to year-end and alternatively if you will fall short of the threshold than postpone until 2016. While health insurance premiums are deductible any expense reimbursed by insurance or paid by tax advantaged accounts (HSA) do not qualify.
TIP: Consider bunching (accelerating or postponing) medical expenses into a single year to exceed the 10% AGI floor.
Tax deferred contributions
- Remember to maximize your 401(k) deduction. This year the contribution max is $18,000 and if you are over age 50 than an additional $6,000 (total $24,000) can be contributed. These contributions are typically pre-tax and reduce your income, grow tax deferred, and are often matched at some level by your employer.
- Additionally, even if you are covered by an employer sponsored pension plan you can make non-deductible contributions to an IRA of $5,500 and if you are over age 50 an additional $1,000 (total $6,500). IRA’s assets grow tax deferred and the earning are not taxed until withdrawn.
TIP: Tax deferred compounding is powerful tool and a tax deferred account is appropriate for conservative to moderate growth assets. Risky holdings are better allocated to taxable accounts.
- If you are age 70 ½ or older than you must take the required minimum distributions (RMD) from your tax deferred retirement accounts. Make certain you have taken your required distribution prior to year-end. A penalty of 50% (plus tax) of the amount you should have withdrawn but did not applies for late withdrawals.
- Qualified college savings programs (529 plans) represent another valuable tax-advantaged savings opportunity. These investments not only grow tax-deferred but the withdrawals are tax free too. If you are saving for college than remember to make your contribution before year end. Contributions are treated like gifts and $14,000 (annual exclusion) are allowed gift tax free in 2015. In addition, you have the ability to accelerate five years’ worth of contributions without triggering any gift tax.
TIP: The FAFSA starting with aid for the 2017-18 school year have changed. Families will complete the form based on a two year look back instead of last year’s income as they do now. High school sophomores, who graduate in 2018 will use 2016, not 2017, as the reporting year on their FAFSA application. This two year look-back will require planning one year earlier (prior to year-end) to plan for your 2016 tax position.
- If your children have earned income then consider establishing an IRA or Roth IRA for them. The 2015 contribution limit is the lesser of $5,500 or 100% of earned income.
TIP: Establishing a Roth IRA is typically more advantageous if their earned income does not exceed the standard deduction.
Roth IRA conversion
- Deciding whether or not to make a Roth IRA conversion is not a simple decision. A conversion will turn a tax deferred account into a tax-free growth account. It may also provide estate planning advantages. Be careful, the conversion will result in accelerated recognition of income in the year of conversion and a tax bill.
TIP: You may be able to convert a portion of an IRA to a Roth and pay no tax if you have little taxable income and/or more deductions than income. A Roth conversion may be attractive if you lost a job or retired.
These year-end financial TIPs are not intended to cover every possible tax saving strategy. Please consult your tax advisor to discuss your specific situation and strategies that may apply.
Information presented is believed to be factual and up-to-date, but we do not guarantee its accuracy and it should not be regarded as a complete analysis of the subjects discussed. All expressions of opinion reflect the judgment of the author on the date of publication and are subject to change. Content should not be viewed as personalized investment advice or as an offer to buy or sell the securities mentioned. A professional advisor should be consulted before implementing any of the strategies presented.
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All investment strategies have the potential for profit or loss. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment or strategy will be suitable or profitable for a client’s portfolio. There are no assurances that a portfolio will match or outperform any particular benchmark. Past performance is not an indicator of future results.Share