Tax Planning
Tax planning should be an essential part to your investment planning. Review your portfolio regularly and consider the impact of taxes.
Reducing your taxes should not be the determining factor of your investment plan, but thinking about taxes can assist in improving your investment strategies. Below are some tips that may help reduce your tax liabilities.
Tips for Tax-Conscious Investors
- Contribute to an Individual Retirement Account (IRA).
- Give to a qualified charity. Here’s an opportunity for you to support your favorite cause by donating appreciated securities that you’ve held for more than one year. By doing so you may be able to deduct the full fair market value and avoid any federal capital gains tax.
- Contribute to an education savings account or a college savings plan.
- Offset Capital gains with capital losses. If the current value of certain investments in taxable accounts is less than the purchase price, and they no longer fit your investment strategy, you may offset capital gains with capital losses.
- Consider Tax-Free and Tax-efficient funds. Although these types of funds may be subject to state and local taxes and the federal Alternative Minimum Tax, these funds typically distribute less taxable earnings; your taxable income could potentially be lower. Keep in mind; all funds are subject to the risk of declining share prices.
Alternative Minimum Tax (AMT)
What is AMT? It simple terms, it basically is an extra tax that some individuals may have to pay on top of their regular income tax. The original idea behind this tax was to prevent people with very high incomes from utilizing special tax benefits to pay little or no tax. It has increased its reach and now applies to some individuals whom do not have very high income or don’t claim a lot of special tax benefits.
How does the AMT affect me? There’s no quick and easy way to determine if you will have to pay the AMT. You first must calculate your taxes utilizing the standard IRS rules and then perform a second calculation utilizing the AMT rules. If your AMT total is higher, you must pay that amount.
You may be affected by the AMT if you:
- Reside in a high-tax state
- Exercised incentive stock options and did not sell the stock in the same year.
- Are in a relatively high income tax bracket.
- Take a large number of exemptions for dependents.
- Have a substantial amount of miscellaneous and medical expense deductions.
- Deducted interest paid on a second mortgage not utilized for residential purposes.
If you’re not certain as to whether or not you must pay the AMT, speak with a tax advisor. Or you can also determine this by completing Form 6251 provided by the IRS or utilizing tax software.
Minimizing your AMT Liability:
It shouldn’t be your primary investment goal to avoid the AMT, but if you are concerned about the effects of the tax here are a few suggestions to help in minimizing your exposure:
- When investing, not all municipal bonds offer AMT-free interest.
- If possible, spread out your capital gains when you exercise incentive stock options or sell securities.
- Develop a tax plan that carefully considers time, income, and use of deductions. For example you can take steps to accelerate your investment income to concentrate your AMT liability into one year, while deferring deductions. This lets you apply your deductions in a year when you can take full advantage of them.
