TAX-DEFERRED INVESTING: How Tax Changes Could Affect Your Income & Investments

Transcription

1 TAX-DEFERRED INVESTING: How Tax Changes Could Affect Your Income & Investments Tax exposure has increased for many Americans Taxes could affect your investments even if you don t consider yourself a high earner What you can do today to create tax efficiency Details inside 19584V REV NOT FDIC/NCUA INSURED, MAY LOSE VALUE, NO BANK/CU GUARANTEE, NOT A DEPOSIT, NOT INSURED BY ANY FEDERAL AGENCY

2 Do You Know How Tax Changes are Affecting Your Income & Investments? If you re like many Americans, you might wonder if you re paying more in taxes than necessary. That s because even with a team of financial professionals monitoring your income, savings, investments, and path to retirement, taxes can still have a big impact on your returns. That s why it s perhaps more important than ever to understand how recent changes may affect your investments and savings and what you can do today to help maximize your personal tax efficiencies. TAX CHANGES OVER THE PAST FEW YEARS With tax changes related to the American Taxpayer Relief Act of 2012 and the Affordable Care Act, there are potentially a total of six different kinds of taxes on your investments to consider: 1 Income Taxes (recent changes) 2 Investment Taxes (recent changes) 3 New Medicare Surtax (began in 2013) 4 Pease Limitation (began in 2013) 5 PEP Provisions (began in 2013) 6 State and local taxes Although the Act is from 2012, many Americans have just started to feel the effects over the last few years. 1 WHICH TAX BRACKET APPLIES TO YOU? Tax Rate Single 2017 Income Tax Brackets Married Filing Jointly or Qualifying Widow(er) Married Filing Separately Head of Household 10% $0 to $9,325 $0 to $18,650 $0 to $9,325 0 to $13,350 15% $9,326 to $37,950 $18,651 to $75,900 $9,326 to $37,950 $13,351 to $50,800 25% $37,951 to $91,900 $75,901 to $153,100 $37,951 to $76,550 $50,801 to $131,200 28% $91,901 to $191,650 $153,101 to $233,350 $76,551 to $116,675 $131,201 to $212,500 33% $191,651 to $416,700 $233,351 to $416,700 $116,676 to $208,350 $212,501 to $416,700 35% $416,701 to $418,400 $416,701 to $470,700 $208,351 to $235,350 $416,701 to $444, % Over $418,400 Over $470,700 Over $235,350 Over $444,550 Source: Horsesmouth Key Financial Data for Capital gains taxes apply on post-tax money like stocks, bonds, and mutual funds. Capital gains taxes do NOT apply to pre-tax investments like IRAs, 401(k), or 403(b) Capital Gains Taxes If taxable income falls below the 25% tax bracket 0% If taxable income falls at or above the 25% tax bracket but below the 39.6% rate 15% If income falls in the 39.6% tax bracket 20% Source: Horsesmouth Key Financial Data for 2017 Capital Gains definition (investopedia.com): Capital gain is an increase in the value of a capital asset (investment or real estate) that gives it a higher worth than the purchase price. The gain is not realized until the asset is sold. A capital gain may be short-term (one year or less) or long-term (more than one year) and must be claimed on income taxes. Qualified Dividends definition (investopedia.com): A type of dividend to which capital gains tax rates are applied. 2

3 TAXES THAT WERE NEW IN MEDICARE SURTAX This is a net investment income tax of 3.80%, including income from non-qualified annuities. It s known as the Medicare Surtax, because the money goes toward Medicare health coverage for older Americans. This tax applies on the lesser of net investment income or modified adjusted gross income (MAGI) above $200,000 ($250,000 for joint filers). Medicare Surtax > $200,000 Individual 3.80% > $250,000 Filing Jointly or Qualifying Widow(er) 3.80% Source: Horsesmouth Key Financial Data for 2017 PHASE-OUTS In addition to the tax increases already mentioned, additional provisions recently enacted can impact your exemptions and deductions. The Pease and PEP provisions may have an impact if you have an adjusted gross income (AGI) of $259,400 or more ($311,300 for joint filers). 4 5 PEASE LIMITATION An itemized deductions phase-out. Reduces the value of itemized deductions by 3% of the amount that AGI exceeds the threshold, to a maximum reduction of 80%. PERSONAL EXEMPTION PHASE-OUT Also known as PEP, reduces exemptions by 2% for each $2,500 of income that is above the AGI threshold, making more of your income taxable. The fact is, increased taxes can have a significant impact on investment income generated by your financial assets. Take a look at the top tax rates in 2012 and 2017: Top Federal Tax Rates Difference Marginal income tax rates * 39.6% 35% 4.6% Dividends/Long-Term Capital Gains * 20% 15% 5% Medicare Surtax (investment income): Surtax on lesser of net investment income or 3.8% N/A 3.8% modified adjusted gross income (MAGI) above $200,000 ($250,000 for joint filers) This adds up to 13% in additional taxes you may face this year 13.4% Source: Horsesmouth Key Financial Data for 2017 Not including Pease and PEP. * Taxable income above $400,000 ($450,000 for joint filers); 2017 Taxable income above $418,400 ($470,000 for joint filers) 6 STATE AND LOCAL TAXES In addition to all of these taxes, state and local taxes may also apply. What are the TOP marginal tax brackets where you live? Complete this chart to determine your total tax increases: Top Marginal Tax Brackets - Dividends, Long Term Capital Gains Interest, Short Term Capital Gains Federal Rate 20% 15% Federal Rate 39.6% 35% Medicare Surtax 3.8% 0% Medicare Surtax 3.8% 0% Pease 0% Pease 0% PEP 0% PEP 0% State & Local Taxes TOTAL State & Local Taxes TOTAL Source: /29/2017. Where are your tax rates in comparison? 3

4 Higher Taxes Can Significantly Impact Your After-Tax Returns CD EXAMPLE $100,000 CD earning 1.5% fixed rate of return. With a CD, neither principal nor return will fluctuate with changes in market conditions. The $1,500 of interest in a year could be taxed at a federal marginal tax rate of 43.4% before taking into account PEP, Pease, and state and local taxes. Generally, CDs are insured up to $250,000 if they are held in accounts that meet the FDIC-insurance rules at an FDIC-insured bank. 1.5% interest Marginal Tax Bracket $1, % ( ) Taxes Paid* After Tax Return $651 $849 *PEP, Pease, and state and local taxes could further increase marginal tax bracket and taxes paid Example only. Please check with your tax professional to determine your individual situation. CD INTEREST EARNED Portion you keep Portion you pay for taxes Assumes $100,000 CD earning 1.5% interest and the $1,500 interest taxed at federal marginal rate of 43.4% MUTUAL FUND EXAMPLE For mutual funds, you have no control over interest, dividends, or capital gains generated each year. With mutual funds, there is no fixed rate of return, and principal and yield will fluctuate with changes in market conditions. For after-tax money, taxes must be paid on those amounts anyway, even if they re reinvested. And, when you sell a security, there could be a taxable gain, depending on cost basis. Example only. Please check with your tax professional to determine your individual situation. Bond Fund Stock Fund $100,000 Top Marginal Tax Rate Taxes Paid Interest $4, % $1,736 Long-Term Capital Gain $1, % $238 Short-Term Capital Gain $1, % $434 TOTAL $6,000 $2,408 Dividends $2, % $476 Long-Term Capital Gain $3, % $714 Short-Term Capital Gain $3, % $1,302 TOTAL $8,000 $2,492 Does not take into account PEP, Pease, or state and local taxes THINGS TO CONSIDER Mutual Fund* What It Is Charges Tax-Deferred Accumulation Consult your tax professional for more information Tax-Free Transfers Death Benefit Tax Penalty Fluctuation of Principal A collection of assets held by multiple investors for the purpose of investing. Most often consists of a mixture of stocks, bonds, cash, and other securities, and is managed by a professional. Costs can include transaction fees, advisory fees, marketing and distribution expenses, brokerage fees, and custodial, transfer agency, legal, and accountants fees. No dividends and capital gains are taxed the year they re received. Withdrawals are taxed at either the capital gains rate or ordinary income tax rates. No transfers between mutual funds may result in capital gain taxes. No beneficiary receives market value of the account at the time of the owner s death. No if using non-qualified monies. Generally yes *Typical mutual funds provide greater liquidity and access to account values than annuities. Chart assumes Non-qualified monies (after tax). This information is intended to provide a general overview only. This should not be viewed as providing legal, tax, or investment advice. Please consult with and rely upon your tax and legal professionals. IRAs typically involve investment-related expenses and account fees. Investment-related expenses may include sales loads, commissions, the expenses of any mutual funds in which assets are invested, and investment advisory fees. An IRA s account fees may include, for example, administrative, account set-up, and custodial fees. 4

5 Higher Taxes on Investment Income Can Make It More Difficult to Save for Retirement ONE POTENTIAL SOLUTION IS A VARIABLE ANNUITY A variable annuity can offer you investment options like alternative investments, domestic equities, bonds, and international portfolios. A VARIABLE ANNUITY AS A TAX-DEFERRED RETIREMENT SOLUTION A variable annuity is a contract with an insurance company allowing you tax-deferred growth. In other words, if you choose not to take withdrawals from the variable annuity in a given year, all interest, dividends, and capital gains are reinvested without current taxation. As your needs, goals, objectives, and risk profile change, your investments should as well. Inside the variable annuity, you can reallocate monies between investment options without current taxation. Plus, the variable annuity can provide you with an opportunity to receive guaranteed lifetime income.* You may have opportunities for greater tax efficiency if you experience: Income you don t spend, but pay tax on High dividend income Various 1099 tax forms for reasons other than investments sold High portfolio turnover Distributions that are taxed and minimize or eliminate deductions With variable annuities, you aren t taxed until you withdraw assets. That means you won t incur taxes due to: Rebalancing Reallocating Dividends Capital Gains Interest *Guarantees are subject to the claims-paying ability of the issuing insurance company. THINGS TO CONSIDER Variable Annuity What It Is Charges Tax-Deferred Accumulation Consult your tax professional for more information Tax-Free Transfers Death Benefit Tax Penalty Fluctuation of Principal A contract between you and an insurance company, under which you make a lump-sum payment or series of payments. Mortality and expense fees, administration fees, investment option expenses, charges for special features, sales charges, or surrender charges. Yes unlike non-qualified mutual funds, tax deferred until withdrawn. Withdrawals are then taxed at ordinary income tax rates to the extent they are gains. Yes unlike non-qualified mutual funds, tax-free transfers between investment options. Generally Yes unlike non-qualified mutual funds, generally available at no charge. Beneficiary receives greater of accumulated value or premiums paid (adjusted for withdrawals). Optional death benefits may be available for additional fee. Possibly generally, taxable withdrawals taken before age 59½ are subject to a 10% tax penalty. Generally Yes Variable annuities are insurance products that are long-term investments involving insurance-related fees and charges, such as mortality and expense risk charges and administrative charges that are not present in mutual funds. Variable annuities limit access to the underlying investment in subaccounts as a result of surrender charges and a 10% tax penalty on certain withdrawals. 5

6 TAX-DEFERRED INVESTMENT Investment options within a variable annuity can include investments in stocks, bonds, and alternatives and include benefits like: no short-term or long-term capital gains; no tax or interest until withdrawn; no tax on dividends until withdrawn; and tax-free rebalancing. You also have lifetime income options and a death benefit that guarantees a minimum amount to beneficiaries. What You Get with an Annuity Investment Options within the variable annuity that invest in: Stocks Bonds Alternatives Tax Deferral*: No short-term or long-term capital gains No tax or interest until withdrawn No tax on dividends until withdrawn Tax-free rebalancing Lifetime Income Options: Ability to structure an income you can t outlive** Death Benefit: Guarantee a minimum amount to your beneficiary** * Withdrawals taken from a variable annuity are subject to taxes as ordinary income, and if taken before age 59 ½, a 10% tax penalty may apply (to the extent they are a gain). **Guarantees are subject to the claims-paying ability of the issuing insurance company. TAXES SIGNIFICANTLY REDUCE RETURNS % 10.0% 8% 8.0% 6% 5.5% 4% 2% 3.5% 3.4% 2.1% 2.9% 0 Stocks Stocks after taxes Bonds Bonds after taxes Cash Cash after taxes Inflation Past performance is no guarantee of future results. This is for illustrative purposes only and not indicative of any investment. An investment cannot be made directly in an index. Morningstar. All Rights Reserved. Taxes Significantly Reduce Returns Intuitively, you know that taxes reduce the earnings you retain. This image illustrates how much the federal government withheld from one hypothetical investor following a simple long-term investment strategy. Stocks after taxes assumes that the stocks purchased were held for five years, then sold, and the capital gains realized. The net proceeds from the sale were reinvested. Dividends were taxed when earned and reinvested. From 1926 to 2016, the average return on stocks after taxes was 8.0%, compared with 10.0% before taxes. Bonds were turned over 28 times within the 90-year period. Capital gains were realized at the time of sale and reinvested. Bonds averaged a 3.5% return after taxes, compared with 5.5% before taxes. After taxes, on average, bonds barely outpaced the inflation rate. Cash earned an average of 2.1% after taxes, compared with 3.4% before taxes, over this time period. Comparing the after-tax return to the rate of inflation, you can see that if you invested solely in cash equivalents, you actually lost money in terms of purchasing power. Government bonds and Treasury bills are guaranteed by the full faith and credit of the United States government as to the timely payment of principal and interest, while stocks are not guaranteed and have been more volatile than the other asset classes. About the data Federal income tax is calculated using the historical marginal and capital gains tax rates for a single taxpayer earning $120,000 in 2015 dollars every year. This annual income is adjusted using the Consumer Price Index in order to obtain the corresponding income level for each year. Income is taxed at the appropriate federal income tax rate as it occurs. When realized, capital gains are calculated assuming the appropriate capital gains rates. The holding period for capital gains tax calculation is assumed to be five years for stocks, while government bonds are held until replaced in the index. No state income taxes are included. Stocks are represented by the Ibbotson Large Company Stock Index. Government bonds are represented by the 20-year U.S. government bond, cash by the 30-day U.S. Treasury bill, and inflation by the Consumer Price Index. An investment cannot be made directly in an index. The data assumes reinvestment of income and does not account for transaction costs. 6

7 TAX-DEFERRED ASSETS VS. TAXED ASSETS Over 30 years, the difference between taxed assets and tax-deferred assets could be as much as $45,000 on a $100 monthly investment. $135,940 TAX-DEFERRED ASSETS $7,040 $17,384 $32,583 $54,914 $87,727 A difference of nearly $45,000 $90,956 $63,655 TAXED ASSETS $6,732 $15,640 $27,426 $43, Years This hypothetical example illustrates $100 monthly investments for 30 years in a tax-deferred account vs. $100 monthly investments for 30 years taxed at 28%. Assumes 8% rate of return compounded annually. Investment vehicles are taxed differently. This is intended to help compare a fully taxable investment to two tax advantaged situations. In one situation, an investment account is not taxed until the money is withdrawn. This information may help you analyze your financial needs. It is based on information and assumptions provided by you regarding your goals, expectations and financial situation. The calculations do not infer that the company assumes any fiduciary duties. The calculations provided should not be construed as financial, legal or tax advice. In addition, such information should not be relied upon as the only source of information. This information is supplied from sources we believe to be reliable but we cannot guarantee its accuracy. Hypothetical illustrations may provide historical or current performance information. Past performance does not guarantee nor indicate future results. Withdrawals from a tax-deferred account are subject to ordinary income taxes, and if made prior to age 59½, may be subject to a 10% federal tax penalty. Source: CalcXML, March 29, Assumed rate of return is not guaranteed. The relative advantage of taxable versus tax-deferred investments may be impacted by investment losses. Consider your current and anticipated investment horizon and income tax bracket when making an investment decision. What You May Want to Keep in Mind When Considering a Variable Annuity Variable Annuities can differ from company to company. For that reason, you may want to ask about the following when shopping for a variable annuity: Choice Will you have a diverse assortment of investment options? Which fund families are represented? Will you have access to alternative investment strategies? Affordability How much is the mortality & expense risk charge? What about administration charges? Will you be charged front-end fees or back-end fees, or can you avoid those altogether? Freedom to change your mind If you want to reallocate or rebalance assets, will you have to pay? Access to your money Will you be billed for systematic withdrawals? What about surrender charges? Guaranteed death benefit* Is there a guaranteed death benefit? Are your beneficiaries guaranteed to receive at least the value of premiums paid less withdrawals? So even if your policy value declines due to market downturns or fluctuations, your beneficiaries are still guaranteed to receive the amount of premium you paid, adjusted for any withdrawals you choose to make. *Guarantees are subject to the claims-paying ability of the issuing insurance company. 7

8 Learn more about Variable Annuities today! Ask your financial professional if a Variable Annuity may be right for you. If you are a financial professional and would like more information, please contact the Sammons Retirement Solutions Sales Desk at or visit us online at The information provided is for informational purposes only and should not be considered tax advice. Variable Annuities are designed for long-term investing, such as retirement investing and are subject to market risk including loss of principal. Investing in variable annuities involves risk, including potential loss of investment. You should consider the investment objectives, risks, charges, and expenses of the variable annuity and its underlying investment options carefully before investing. The prospectus and/or summary prospectus contain this and other information. You may contact your financial professional or call to obtain a current prospectus for the variable annuity and its underlying investment options. Please read it carefully. The tax-deferred feature of the annuity is not necessary for a tax-qualified plan. Before purchasing this product, you should obtain competent tax advice as to the tax treatment of the annuity and the suitability of the purchase. Under current law, annuities grow tax-deferred. Annuities may be subject to taxation during the income or withdrawal phase. There is no additional tax benefit to investing in a variable annuity within a tax-qualified account (such as an IRA). Sammons Retirement Solutions Inc., Sammons Financial Network LLC and Midland National Life Insurance Company do not give tax, legal or investment advice. Please consult with and rely on your own tax, legal or investment adviser(s). Taxes are payable upon withdrawal of funds, and a 10% IRS penalty may apply to withdrawals prior to age 59½. Morningstar Investment Management LLC is a registered investment adviser and subsidiary of Morningstar, Inc. Morningstar Investment Management provides nondiscretionary consulting services to Sammons Retirement Solutions Inc. (SRS) but is not acting in the capacity of adviser to individual investors. Morningstar Investment Management provides recommendations to SRS regarding asset allocation targets, for certain LiveWell products/programs, which are subject to change without notice. Morningstar Investment Management establishes the allocations using its proprietary asset classifications. If alternative classification methods are used, the allocations may not meet the asset allocation targets. The Morningstar name and logo are registered marks of Morningstar, Inc. Morningstar Investment Management is not affiliated with SRS. Securities distributed by Sammons Financial Network LLC, member FINRA. Insurance products are issued by Midland National Life Insurance Company (West Des Moines, IA). Sammons Retirement Solutions Inc. provides administrative services. Sammons Financial Network LLC, Midland National Life Insurance Company, and Sammons Retirement Solutions are affiliated companies and indirect wholly owned subsidiaries of Sammons Enterprises, Inc. of Dallas, Texas. This is neither an offer to sell nor a solicitation to buy. Before purchasing this product, you must receive a current variable annuity prospectus that includes information regarding risk factors, fees, expenses, investment objectives, and policies. Read the prospectus carefully before you invest any money. No variable product offers any guaranteed rate of return. NOT FDIC/NCUA INSURED, MAY LOSE VALUE INCLUDING LOSS OF PRINCIPAL, NO BANK GUARANTEE, NOT A DEPOSIT, NOT INSURED BY ANY FEDERAL GOVERNMENT AGENCY V REV 09-17