Is
the so-called "fiscal cliff" throwing a wrench in your 2013 planning?
Don't despair -- there are tried and true year-end moves to make now,
which can help lower your tax bill in April. While you may need to make
some assumptions to prepare for various what-if scenarios, the fiscal
cliff actually may present interesting opportunities for some taxpayers.
"A little planning can go a long way," according to Michael Goodman, CPA/PFS, CFP and president of Wealthstream Advisors, but he cautions that investors be careful not to let the tax tail wag the investment dog. "You need to make a decision about whether you are holding certain positions for the long haul. The uncertainty surrounding the fiscal cliff should encourage you to determine your specific goals and then create a plan to help you get there."
As you put that plan together, take advantage of these 12 tax tips for 2012:
1. Mail your checks for deductible purchases: Procrastinator alert! If you're the type of person who waits until the last minute for everything, take note: To qualify for write-offs of charitable contributions and business expenses, your payments must be postmarked by midnight Dec. 31. The IRS says just writing "December 31" on the check does not automatically qualify you for a deduction; and pledges aren't deductible until paid. Donations made with a credit card are deductible as of the date the account is charged.
2. Give appreciated stock or fund shares to charity: Get in the holiday spirit, with the help of Uncle Sam. One way to lower your tax bill in April is to donate appreciated securities, like stocks, bonds or mutual funds to a charity. You'll write off the current market value (not just what you paid for them) and escape taxes on the accumulated gains. There is no overall limit on itemized deductions for 2012. For 2013, the overall limit on itemized deductions is scheduled to be reinstated and fiscal cliff negotiations may put further deductions in place.
That means that deductions are likely to be more valuable in 2012 than 2013. Remember that too many itemized deductions could trigger the alternative minimum tax. Goodman says "donor-advised funds are a great solution for quick year-end planning. If you know you want the deduction but can't make the decision as to which charity you want to use, the DAF allows you to capture the deduction now and decide on the charity later."
3. Take advantage of low capital gains rates: It might make sense to sell certain taxable assets in 2012, especially for joint filers with AGI's of $250,000 or more (or $200,000 for single filers). The Affordable Care Act will levy a new 3.8 percent surtax on net investment income in 2013 and the fiscal cliff negotiations could add to the pain, bringing the top capital gains rate to 23.8 percent. If you are planning to sell an asset, like company stock, or have a large concentration in one holding, 2012 may be the year to lock in the gain.
4. Sell losers: If you have investment losses in a taxable account, now is the time to use those losers to your advantage. You can sell losing positions to offset gains that you have taken previously in the year, to minimize your tax hit. If you have more losses than gains, you can deduct up to $3,000 of losses against ordinary income. If you have more than $3,000 of losses, you can carry over that amount to future years.
5. Watch your dividend-paying positions: Dividend income rates, which are currently taxed at 15 percent, are set to rise to ordinary income rates. Tack on the 3.8 percent ACA surtax and you are staring down the barrel at a maximum of 43.4 percent tax on dividends. One way to avoid some of the brunt of the increase would be to shift dividend-paying stocks and funds into retirement accounts, where the increase will not be in effect.
6. Avoid getting soaked by a wash sale: If you are starting to clean up your non-retirement accounts to take losses, don't get soaked by the "Wash Sale" rule. The IRS won't let you deduct a loss if you buy a "substantially identical" investment within 30 days, what's known as a wash sale. To avoid the wash sale, wait 31 days and repurchase the stock or fund you sold, or replace the security with something that is close, but not the same as the one you sold...hopefully something cheaper, like an index fund. (See IRS Publication 550)
7. Fully fund your college savings 529 plan: With outstanding student loan debt closing in $1 trillion, now's the time to get a leg up on your education savings with a 529 plan. Money saved in these programs grows tax-free and withdrawals used to pay for college sidestep taxes, too. You can invest up to $13,000 in 2012 without incurring a federal gift tax and many states offer state tax deductions for the contributions. (See 529 Plan information)
8. Use your flex account or lose it: Some employers require employees with flexible spending accounts (pretax dollars that pay out-of-pocket medical and childcare expenses) to forfeit contributions that go unused by Dec. 31. If you have an FSA, check your company's rules. If you have cash sitting in the account and your deadline is year-end, spend it to avoid leaving money on the table.
9.Take Required Minimum Distributions ("RMD's"): According to Fidelity Investments, as of Nov. 9, nearly two-thirds of all IRA holders hadn't taken their full RMDs, which must be withdrawn by Dec. 31. There is one exception: Taxpayers taking their first required payout may do so by April 1, 2013. The penalty on not taking your required minimum distribution is steep -- 50 percent on the shortfall. (See IRS FAQs about RMDs)
10. Fully fund retirement plan contributions: Unlike IRA's the deadline for funding 401(k) or 403(b) plans is Dec. 31. This year, the limit is $17,000 per employee and $22,500 for workers over age 50. The dual benefit of maxing out retirement is clear: Saving for a future goal and reducing current tax liabilities.
11.Consider converting Traditional IRA into a Roth IRA: A conversion requires that pay the tax due on your retirement assets now instead of in the future. The advantage of a conversion in 2012 is that the amount subject to tax would be taxed at a presumably lower rate than the scheduled 2013 rates, and would ensure that future distributions are tax-free. Whether or not a conversion makes sense for you depends on a number of factors, including if you can pay the tax due with non-retirement funds.
12. Shift income: If you're self-employed, estimate your income for 2012 and 2013. If your tax bracket could rise next year, delay making tax-deductible business purchases until January, when the write-offs will become more valuable. If you think you'll bring in less money in 2012, do exactly the reverse.
"A little planning can go a long way," according to Michael Goodman, CPA/PFS, CFP and president of Wealthstream Advisors, but he cautions that investors be careful not to let the tax tail wag the investment dog. "You need to make a decision about whether you are holding certain positions for the long haul. The uncertainty surrounding the fiscal cliff should encourage you to determine your specific goals and then create a plan to help you get there."
As you put that plan together, take advantage of these 12 tax tips for 2012:
1. Mail your checks for deductible purchases: Procrastinator alert! If you're the type of person who waits until the last minute for everything, take note: To qualify for write-offs of charitable contributions and business expenses, your payments must be postmarked by midnight Dec. 31. The IRS says just writing "December 31" on the check does not automatically qualify you for a deduction; and pledges aren't deductible until paid. Donations made with a credit card are deductible as of the date the account is charged.
2. Give appreciated stock or fund shares to charity: Get in the holiday spirit, with the help of Uncle Sam. One way to lower your tax bill in April is to donate appreciated securities, like stocks, bonds or mutual funds to a charity. You'll write off the current market value (not just what you paid for them) and escape taxes on the accumulated gains. There is no overall limit on itemized deductions for 2012. For 2013, the overall limit on itemized deductions is scheduled to be reinstated and fiscal cliff negotiations may put further deductions in place.
That means that deductions are likely to be more valuable in 2012 than 2013. Remember that too many itemized deductions could trigger the alternative minimum tax. Goodman says "donor-advised funds are a great solution for quick year-end planning. If you know you want the deduction but can't make the decision as to which charity you want to use, the DAF allows you to capture the deduction now and decide on the charity later."
3. Take advantage of low capital gains rates: It might make sense to sell certain taxable assets in 2012, especially for joint filers with AGI's of $250,000 or more (or $200,000 for single filers). The Affordable Care Act will levy a new 3.8 percent surtax on net investment income in 2013 and the fiscal cliff negotiations could add to the pain, bringing the top capital gains rate to 23.8 percent. If you are planning to sell an asset, like company stock, or have a large concentration in one holding, 2012 may be the year to lock in the gain.
4. Sell losers: If you have investment losses in a taxable account, now is the time to use those losers to your advantage. You can sell losing positions to offset gains that you have taken previously in the year, to minimize your tax hit. If you have more losses than gains, you can deduct up to $3,000 of losses against ordinary income. If you have more than $3,000 of losses, you can carry over that amount to future years.
5. Watch your dividend-paying positions: Dividend income rates, which are currently taxed at 15 percent, are set to rise to ordinary income rates. Tack on the 3.8 percent ACA surtax and you are staring down the barrel at a maximum of 43.4 percent tax on dividends. One way to avoid some of the brunt of the increase would be to shift dividend-paying stocks and funds into retirement accounts, where the increase will not be in effect.
6. Avoid getting soaked by a wash sale: If you are starting to clean up your non-retirement accounts to take losses, don't get soaked by the "Wash Sale" rule. The IRS won't let you deduct a loss if you buy a "substantially identical" investment within 30 days, what's known as a wash sale. To avoid the wash sale, wait 31 days and repurchase the stock or fund you sold, or replace the security with something that is close, but not the same as the one you sold...hopefully something cheaper, like an index fund. (See IRS Publication 550)
7. Fully fund your college savings 529 plan: With outstanding student loan debt closing in $1 trillion, now's the time to get a leg up on your education savings with a 529 plan. Money saved in these programs grows tax-free and withdrawals used to pay for college sidestep taxes, too. You can invest up to $13,000 in 2012 without incurring a federal gift tax and many states offer state tax deductions for the contributions. (See 529 Plan information)
8. Use your flex account or lose it: Some employers require employees with flexible spending accounts (pretax dollars that pay out-of-pocket medical and childcare expenses) to forfeit contributions that go unused by Dec. 31. If you have an FSA, check your company's rules. If you have cash sitting in the account and your deadline is year-end, spend it to avoid leaving money on the table.
9.Take Required Minimum Distributions ("RMD's"): According to Fidelity Investments, as of Nov. 9, nearly two-thirds of all IRA holders hadn't taken their full RMDs, which must be withdrawn by Dec. 31. There is one exception: Taxpayers taking their first required payout may do so by April 1, 2013. The penalty on not taking your required minimum distribution is steep -- 50 percent on the shortfall. (See IRS FAQs about RMDs)
10. Fully fund retirement plan contributions: Unlike IRA's the deadline for funding 401(k) or 403(b) plans is Dec. 31. This year, the limit is $17,000 per employee and $22,500 for workers over age 50. The dual benefit of maxing out retirement is clear: Saving for a future goal and reducing current tax liabilities.
11.Consider converting Traditional IRA into a Roth IRA: A conversion requires that pay the tax due on your retirement assets now instead of in the future. The advantage of a conversion in 2012 is that the amount subject to tax would be taxed at a presumably lower rate than the scheduled 2013 rates, and would ensure that future distributions are tax-free. Whether or not a conversion makes sense for you depends on a number of factors, including if you can pay the tax due with non-retirement funds.
12. Shift income: If you're self-employed, estimate your income for 2012 and 2013. If your tax bracket could rise next year, delay making tax-deductible business purchases until January, when the write-offs will become more valuable. If you think you'll bring in less money in 2012, do exactly the reverse.
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