Category Archives: Taxes

Tax Cuts and Jobs Act Highlights

Significant reforms of personal income tax

  • Most taxpayers pay less at all levels
  • Marriage penalty reduced.

Increase in Standard Deduction

  • $12,000 for individuals
  • $24,000 for married couples

No change in Capital Gains Rates

  • 0% up to $77,200 for married couple
  • 15% from $77,200 to $479,000 for married couple
  • 20% over $479,000 for  married couple

Significant reforms of Corporate Tax

  • Chapter C Corporations pay flat 21%.

Significant reforms of Estate Tax

  • No Estate tax below $11.2 million per person

Questions?  Ask us.

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A different tax saving strategy

Tax loss harvesting allows people to reduce their taxable income by selling securities that have gone down in value. Capital losses can be used to offset ordinary income or to offset realized capital gains.

But if an individual dies with a capital loss that they have not used, the person who inherits these securities may not be able to use these losses.  There is a way to use these capital losses if it’s done right.

For example, If Joe buys a stock for $200 and it declines to $100 and then gives it to daughter Sue, her cost basis is $100 (the value when he gifts the stock). If she then sells it for $100 she cannot claim a loss.

However, if Joe gave the stock to wife Mary who then sells it for $100 she can claim a loss of $100 (the original cost $200 – $100 = $100 loss).

This is a quirk written into the tax code -Section 1015(e) – specifically designed for gifting of depreciated assets to a spouse.

This example only works if the assets are gifted before death. If Fred dies with the depreciated stock the tax cost basis is its value as of the date of death.

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How tax brackets work

Being in the 24% tax bracket doesn’t mean you pay 24% on everything you make.

The progressive tax system means that people with higher taxable incomes are subject to higher tax rates, and people with lower taxable incomes are subject to lower tax rates.

The government decides how much tax you owe by dividing your taxable income into chunks — also known as tax brackets — and each chunk gets taxed at the corresponding rate. The beauty of this is that no matter which bracket you’re in, you won’t pay that rate on your entire income.

Being in the 24% tax bracket doesn’t mean you pay 24% on everything you make.

For example, let’s say you’re a single filer with $32,000 in taxable income. That puts you in the 12% tax bracket in 2018. But do you pay 12% on all $32,000? No. Actually, you pay only 10% on the first $9,525; you pay 12% on the rest.

These Tax Cuts and Jobs Act passed last year changed the tax brackets as well as the standard deduction.  The old 2017 tax bracket for this taxpayer was 15% meaning that he pays quite a bit less in 2018 than 2017.

If you are single and had $90,000 of taxable income, you’d pay 10% on that first $9,525, 12% on the chunk of income between $9,525 and $38,100, 22% on the income between $38,700 and $82,500 and 24% on the rest because, because some of your $90,000 of taxable income falls into the 24% tax bracket. The total bill would be about $15,890 — about 18% of your taxable income, even though you’re in the 24% bracket.  This is often referred to as your “effective rate”  as opposed to your “marginal rate.”

Under the new law, the “standard deduction” is going to make a big difference.  For a single filer, the deduction goes from $6,500 to $12,000.  For a married couple filing jointly the standard deduction goes from $13,000 to $24,000.  The increase in the standard deduction means that many people are no longer going to itemize.

 

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Six Charitable Moves to Consider Before Year-End

The tax changes in the Tax Cuts and Jobs Act (TCJA) are extensive and far-reaching.  The standard deduction will be raised starting in 2018, which means that going forward taxpayers will need to provide more itemized deductions in order to receive the tax benefit of excess deductions.  If you are charitably inclined, you should to consider these six charitable planning moves before the end of the year given the impending changes to the tax code.

 

If you itemize your taxes:

  1. Donate highly appreciated stocks or mutual funds. The stock market has been on a terrific run, and you may have highly appreciated stocks or mutual funds that you are holding on to because you do not want to pay capital gains taxes.  By donating appreciated investments, you avoid paying the capital gains tax and can take a deduction for the fair market value of the investments.  If you are considering gifting mutual funds, do so before they declare their year-end dividends and capital gains and you will save on taxes by avoiding that income as well.  While your deduction is limited to 50% of your Adjusted Gross Income (AGI), you can carry the unused portion to future tax years.
  2. Consider bumping up this year’s contributions: essentially, make contributions that you would have made in 2018 before the end of 2017. The rationale here is that your tax rate is likely to be lower next year than it is this year due to the TCJA, so every additional dollar given this year is deducted against your higher current 2017 rate.
  3. If you want to create a legacy or are unsure of where to contribute, use a Community Foundation or Donor Advised Fund (DAF) to max out your contributions. For example, if you give $50,000 to a DAF, you can deduct the entire amount now but designate your gifts and charities over time.  You can invest the portion of your DAF that is not immediately donated to a specific charity, creating the potential for even greater giving in the future.
  4. If you are considering an even larger donation, or are interested in asset-protection, you may want to consider creating either a charitable lead or remainder trust. With a charitable remainder trust, you get a deduction for your gift now; generate an income stream for yourself for a determined period of time; and at the expiration of that term, the remainder of the donated assets is distributed to your favorite charity or charities.  A charitable lead trust is essentially the inverse of the remainder trust: you get a deduction for your gift now; generate an income stream for one or more charities of your choice for a determined period of time; and at the expiration of that term, you or your chosen beneficiaries receive the remaining principle.  The deduction you receive is based on an interest rate, and the low current rates makes the contribution value high.
  5. Donate your extra property, clothes, and household items to charity. Make time to clean out your closets, spare bedroom and garage, and donate those items to one of the many charitable organizations in our area.  CHKD, Salvation Army, Purple Heart, ForKids, Hope House are just a few organizations that will take old clothes, appliances, household items and furniture.  Some of them will even come to you to pick up items.  Make sure to ask the charity for a receipt and keep a thorough list of what you donated.  You can use garage sale or thrift store prices to assign fair market values to the donated items, or you can use online programs (such as itsdeductible.com) to figure out values.

 

If you are over age 70 ½:

  1. Make a Qualified Charitable Distribution (QCD).  Essentially a QCD allows you to donate all or a portion of your IRA Required Minimum Distribution to a qualifying charity.  The donated amount is not included in your taxable income and also helps to lower your income for certain “floors” like social security benefit taxation and Medicare Part B and Part D premiums.  QCDs are very tax-efficient ways to make charitable donations.

Can We Afford a Tax Cut?

 

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Our favorite economist, Brian Wesbury of First Trust says “yes.”:

Congress took a big step last week toward enacting some sort of tax cuts and tax reform.

That big step was the US Senate passing a budget resolution creating the room for ten years of tax cuts totaling $1.5 trillion with a simple majority vote. This procedure means there is no need to break a filibuster by getting to 60 votes.

So right about now is when self-styled “deficit hawks” will start to squawk. They will claim the federal government simply can’t afford to boost the federal debt, which already exceeds $20 trillion, with no end in sight.

Let’s put aside the issue that between 2009-12 many of these deficit hawks were supporting new spending, when annual federal deficits were $1 trillion plus. Let’s just take them at their word that they don’t think any policy that increases the deficit can be good for the economy.

One problem with their argument is that the $1.5 trillion is an increase in projected deficits over a span of ten years, not a definite increase in the debt. If tax reform focuses on cutting marginal tax rates, particularly on overtaxed corporate capital and personal incomes, and can thereby generate faster economic growth, the actual loss of revenue could be substantially less than $1.5 trillion or maybe nothing at all.

The estimate of a $1.5 trillion revenue loss is based on “static” scoring, which means the budget scorekeepers on Capitol Hill make the ridiculous assumption that changes in tax policy can’t affect the growth rate of the overall economy. Just a 1 percentage point increase in the average economic growth rate over the next ten years would reduce the deficit by $2.7 trillion, easily offsetting the supposed cost of the tax cut.

Another problem for the deficit hawks is that despite a record high federal debt, the servicing cost of the debt is still low relative to both the size of the economy and federal revenue.

Late last week, we got final numbers for Fiscal Year 2017 and net interest on the national debt was $263 billion – that’s just 1.4% of fiscal year GDP. To put that in perspective, that’s lower than it ever was from 1974 to 2002. The peak during that era was 3.2% of GDP in 1991. The lowest point since 1974 was 1.2% in 2015, not far from where we are today.

The same is true for interest relative to federal revenue, which was 7.9% in Fiscal Year 2017, lower than any year from 1974 to 2013. The high point during that era was 18.4% in 1991 and the recent low was 6.9% in 2015. Again, we’re still pretty close to the recent low.

Yes, interest rates should move up in the years to come, but it will take several years to rollover the debt at higher interest-rate levels. Even if interest rates went to 4% across the entire yield curve, the interest burden would remain below historical peak levels relative to GDP and tax revenue.

The US certainly has serious long-term fiscal challenges. The US government has over-promised future generations of retirees and should ratchet back these spending promises to encourage work, saving, and investment. Meanwhile, we need the US Treasury Department to issue longer-dated maturities like 50-year and 100-year debt to lock-in low interest rates for longer.

However, the absence of these changes should not be an obstacle to boosting economic growth by cutting tax rates and reforming the tax code. Plow Horse economic growth is certainly better than no growth at all, but turning the economy into a thoroughbred would make it easier to handle our long-term budget challenges, not harder.

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Getting ready to file your taxes? Pay attention!

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As we head into tax season, many of you have received tax reports – commonly referred to as “1099s” – from your investment firm.

The IRS requires that 1099-MISC forms must be mailed by January 31st,  but issuers are not required to file copies of all 1099 Forms with the IRS until the end of February.

We frequently advise our clients to delay filing their taxes until March at the earliest.  That’s because the tax code is so complex that errors are inevitable.  As a result, investors often receive “corrected” 1099 forms after the February deadline has passed.  This may result in a change in the tax owed.  Those who use tax preparers or CPA firms may need to have their tax re-calculated, increasing the cost to the investor.

We note that Morgan Stanley has admitted to providing erroneous information to its clients.

Apparently Morgan Stanley’s reporting system sometimes generated an incorrect cost basis for its clients’ stock or bond positions, which threw off capital gains tax calculations following the sales of the securities, the paper reports. The errors affected a “significant number” of the firm’s 3.5 million wealth management clients for tax years 2011 through 2016, according to the paper. But around 90% of the under- or overpayments were less than $300 while more than half were less than $20, a Morgan Stanley spokesman tells the Journal.

It is always a good idea to check the accuracy of the statements you receive from your custodian.  There may be erroneous or missing information.  In many cases where securities were purchased years ago, the custodian does not have the cost basis of stocks or bonds that were sold.  In those cases the investor is responsible for providing that information.  If you do not provide that information, the IRS may assume that the cost basis is zero and tax you on the full amount of the proceeds of sale.

On a final note, many clients have asked us how long they need to keep records for tax purposes.  The primary IRS statute of limitations was three years. But there are many exceptions that give the IRS six years or longer. Several of those exceptions are more prevalent today, and one of them has gotten bigger.  The three years is doubled to six if you omitted more than 25% of your income. “Omitted” can mean to not report at all, or it can mean that the amount of income was under-reported by 25% or more.

If you have questions about your tax forms, or wonder where you can get assistance to determine the cost basis of securities bought or gifted long ago, give us a call.

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The Retirement Challenge

For most people, retiring means the end of a paycheck, but not the end of an active life.  The typical retiree spends 20 to 30 years in retirement and running out of money is their biggest fear.  When you retire, how will your lifestyle be affected?  Here are some of the things to take into consideration.

Retirement age – Modern retirees face lots of choices that their parents did not have.  There is no longer a mandatory retirement age, so the question “when should I retire” gets more complicated.

Social Security – The age at which you apply for Social Security benefits has a big effect on your retirement income.  Apply early and you reduce your monthly benefits by 25% – 30%, depending on your age.  Wait until you’re 70 and you increase your monthly benefit by up to 32% (8% per year), depending on your age.  If you are married, the decisions get even more complicated.

Pension – If you are entitled to a pension, the amounts you receive usually depend on your length of service.  The formula used to calculate the pension benefit can get quite complicated.  Those who work for employers whose finances are questionable may want to consider whether they will get the benefits they are promised.  If you are married, you will need to decide how much of your pension will go to your spouse if you die first.

Second career – More and more people go back to work after retirement.  Many don’t want to stop working, but do something different.  Others use their skills to become consultants, or turn a hobby into a business.  A second career makes a big difference in your retirement lifestyle and how much income you will have in retirement.

Investment accounts – These are the funds you have saved for retirement: in IRAs, 401(k)s, 403(b)s, 457s, and individual accounts.  These funds are under your control.  Most retirees use them to supplement Social Security and pension income.  They are the key to determining how well people live in retirement.

Combine these issue with the effects of inflation, market volatility, investment returns and health care costs and it becomes apparent that retirees need to plan.  If your retirement is years away, a plan allows you to make mid-course corrections.  If you’re already retired a plan will allow you to sleep soundly, knowing that a lot of the uncertainty has been removed.

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What’s the Difference Between an IRA and a Roth IRA

A questioner on Investopedia.com asks:

I contribute about 10% to my 401k. I want to know more about Roth IRAs. I have one with my company, but haven’t contributed any percentage yet as I am not sure how much I should contribute. What exactly is a Roth IRA? Additionally, what is the ideal contribution to a 401k for someone making $48K a year?

Here was my reply:

A Roth IRA is a retirement account.  It differs from a regular IRA in two important aspects.  First the negative: you do not get a tax deduction for contributing to a Roth IRA.  But there is a big positive: you do not have to pay taxes on money you take out during retirement.  And, like a regular IRA, your money grows sheltered from taxes.  There’s also another bonus to Roth IRAs: unlike regular IRAs, there are no rules requiring you to take annual required minimum distributions (RMDs) from your Roth IRA, even after you reach age 70 1/2.

In general, the tax benefits of being able to get money out of a Roth IRA outweigh the advantages of the immediate tax deduction you get from making a contribution to a regular IRA.  The younger you are and the lower your tax bracket, the bigger the benefit of a Roth IRA.

There is no “ideal” contribution to a 401k plan unless there is a company match.  You should always take full advantage of a company match because it is  essentially “free money” that the company gives you.

Have a question for us?  Ask away:

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Keeping the Family Together With a Private Foundation

A private foundation has many advantages for the high net worth (HNW) individual. Along with the tax benefits, the foundation also provides a way of keeping families together.

Private foundations sound like they are only appropriate for the ultra-rich; but that’s not the case.  There are over 90,000 private foundations in the U.S. and 98% are under $50 million.  In fact you can start a private foundation with as little as $250,000 according to Foundation Source.

Of course the immediate advantage of a private foundation is the tax benefit you get from funding it.  It sets you apart in the world of philanthropy and allows you to leave a legacy that can outlive you.  It also provides protection from unsolicited requests for donations; you can always tell people that it’s a wonderful cause but you’ll have to check with your board.

But one of the major benefits of a family foundation is that it can act in many ways like a family business.  It can create the glue to keeps a dispersed family together working toward a common purpose.  It creates a way of instilling family values and transmitting those to a younger generation.

A large proportion of family foundations have two or more generations on the board.  Most are set up as family affairs with membership limited to immediate members of the family.

Contact us for more information.

 

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Passing $10 million to your heirs tax free

The new estate tax law includes a provision called “portability.”  It’s officially known as the “Deceased Spouse Unused Exclusion Amount.”

Portability allows married couples to capture two estate tax exemptions without having to rely on the A/B Trust plan discussed in previous essays.

An attorney should be consulted shortly after the death of a spouse to make sure that the deceased spouse’s exemption does not expire.

It’s convenient, and does not require separate accounts for A and B trusts.

It simplifies the tax life of the surviving spouse.

And it preserves the step-up in cost basis when the second spouse dies.

For more information, contact your estate planning attorney.

We welcome your inquiries.

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