2012 Year-End Tax Report

Transcription

1 An Independent Registered Investment Advisor 2012 Year-End Tax Report November 2012 One of our main goals is to help clients iden fy specific opportuni es that coordinate tax reduc on with their investment por olios. In order to achieve this goal, we con nually stay current about poten al year end tax strategies and keep abreast of future strategies that our clients might want to consider to help reduce their taxes. Craig Pluta CFP, CRPC Chris Doughty CFP, CRPC As a comprehensive financial services firm, Alliance Wealth Management is commi ed to helping our clients improve their long term financial success. This special report covers the details of many year end tax strategies for Of course, since every situa on is different, not all strategies outlined will be appropriate for you. Please discuss all poten al tax strategies with your tax preparer. Remember, this is not advice for preparing your taxes. Our goal is to iden fy ways to reduce your taxes! Craig Pluta, Chris Doughty, Michael Friedrich and the en re team at Alliance Wealth Management are available to provide you with updated informa on that can help with all of your financial planning needs. If you would like us to send a copy of this important report to any of your friends or associates, please call (414) As always, if you have any ques ons about your specific situa on before our next scheduled mee ng, please call us immediately. The Elec on Results are Official Michael Friedrich On Tuesday, November 6, Americans voted to give President Barack Obama a second term as President of the United States. In a hard fought ba le he defeated Republican candidate, Governor Mi Romney. The other significant results of elec on night were that Congress remained much the same; the Democrats hold a majority in the Senate, and the Republicans retain control of the House of Representa ves. "I wish all of them well, but par cularly the president, the first lady and their daughters," Mr. Romney told his supporters a er conceding the elec on in Boston. "This is a me of great challenges for America, and I pray that the president will be successful in guiding our na on." So what happens now and how do these results affect investors? President Obama will be venturing back into a Congressional environment similar to that of his first term, with the Senate under the control of Democrats and the House under the control of Republicans, whose leaders have hinted that they will be no less likely to challenge him than they were during the last four years. Even before Obama gets to his second inaugural on January 20, he must address the threatened "fiscal cliff." A combina on of an over $550 billion dollar package of automa c tax increases and steep across the board spending cuts are set to take effect in January if Washington doesn't quickly reach a budget deal. Experts have warned that the economy could fall back into recession without an agreement.

2 2012 Year-End Tax Report Clarity on the Fed Although markets came into elec on night expec ng Obama to win, most traders and investors supported Romney, who raised more money on Wall Street than the incumbent. Obama's win did remove uncertainty about the future of Fed policy. Romney had said he would replace Bernanke, whose monetary policy has helped propel gains in both U.S. bond and stock prices in recent years. However, now the period of uncertainty starts. Fiscal Cliff The term Fiscal Cliff refers to the $550 billion in tax hikes and spending cuts that will take place automa cally on January 1, Unless the President, the House, and the Senate can all agree on a compromise before the end of the year, January 1 will bring the harshest increases in income taxes for individuals, corpora ons, and other enes that our country has seen in over 20 years. There are two parts of this fiscal cliff tax increases and spending cuts. The current tax laws also known as the Bush era tax cuts, worth trillions of dollars will expire on December 31, 2012, unless Congress does something. I will repeat myself Congress does not need to do anything for taxes to increase significantly effec ve January 1, 2013! The tax increases will be automa c! The income tax rates are scheduled to revert to pre 2001 levels. The combina on of the resurrected 39.6% tax rate along with the 3.8% Medicare contribu on tax means that certain income will be taxed at 43.4%! Some economists refer to this as Taxmageddon, which was the headline from the Washington Post. All told, four out of five U.S. households will face an average of $3,701 more in taxes in 2013, according to the Tax Policy Center. (Source: The Week, July 6 13, 2012) Businesses will be affected too. A number of companies are seeking to get ahead of these tax increases by paying out big special dividends before December 31, The 10% bracket will disappear and the lowest tax bracket will be 15%. Because this rate is applied to the first $17,400 of taxable income for all married taxpayers ($8,700 for single taxpayers), this change alone will result in a tax increase of over $800 for all married taxpayers making more than that amount. The maximum tax on long term capital gains will rise from 15% in 2012 to 23.8% in Stock dividends are affected even more. They currently have a maximum tax rate of 15% for 2012, but will be taxed as high as 43.4% star ng January 1, 2013! Many investors will likely sell these dividend oriented equi es, pushing down the prices of these stocks, and move into growth stocks or other investments. Many economists believe that seniors, many of whom depend on investment income to fund their re rement, will be hurt the most. Given the low rates on interest bearing investments such as CDs, many older investors have turned to dividendpaying stocks to supplement their income. The significant tax increase on their dividend income will reduce their ability to spend and keep pace with infla on. Now to the second part of this fiscal cliff the automa c spending cuts. The combina on of deeper spending cuts with higher taxes threatens to shave 4 or 5 percentage points from our economic expansion. Our gross domes c product (GDP) today is growing at only 2%, so that is more than enough to p us into a recession. (Source: Barron s, October 29, 2012) Unfortunately, some businesses say they are cu ng spending and delaying hiring out of fear that Congress won t reach a compromise in me. The signs are moun ng that business lending has slowed as the fourth quarter gets underway, with companies increasingly nervous about not only the fiscal cliff but the uncertainty posed by the U.S. elec ons and the cooling of the global economy. 2

3 2012 Year-End Tax Report... Continued from Page 2 So what will Congress do? The most likely scenario, according to some economists, is a par al compromise with limited tax hikes and minor spending cuts. The worst case scenario is for poli cians to do nothing. Another deadlock elec on, like the one in 2000, would only add to the problem. Many economists believe that the odds for such policy paralysis are slim, because no elected official wants to be responsible for sending us over the edge. However, it cannot be ruled out, especially when you remember how close Washington came to a disaster in the summer of 2011, when they were called upon to extend the debt ceiling so Uncle Sam could con nue paying its bills and avoid default. Given Congress recent track record for clear thinking and decisive ac on, most investors do not expect the problem to be resolved during the last few weeks of the year. We hope that Congress and the President will do something to mi gate this, but there is a high probability that con nued bi par san deadlock will result in these automa c and significant tax increases. Given worries about the fiscal cliff, the stock markets could be very vola le for the remainder of this year. Keep in mind that the best strategy for many taxpayers this year may be simply to procras nate. It s difficult to plan when you don t know what Congress will do about the expiring tax rates and tax benefits, or the outcome of tax reform, or the trajectory of the economy. Income Tax Rates If taxable income is between: Chart 1: Single Taxpayers Tax Rate If taxable income is between (es mated): $0 and $8,700 10% N/A N/A Tax Rate $8,700 and $35,350 $ % of excess over $8,700 $0 and $35,800 15% $35,351 and $85,650 $85,651 and $179,650 $178,651 and $388,350 $388,351 and above $4, % of excess over $35,350 $17, % of excess over $85,650 $43, % of excess over $178,650 $112, % of excess over $388,350 $35,801 and $86,800 $5, % of the excess over $35,800 $86,801 and $181,050 $19, % of the excess over $86,800 $181,051 and $393,650 $393,651 and above Source: The Essen al Planning Guide To The Income & Estate Tax Increases, page 25 $48, % of the excess over $181,050 $125, % of the excess over $393,650 If taxable income is between: Chart 2: Married Taxpayers Tax Rate If taxable income is between (es mated): $0 and $17,400 10% N/A N/A Tax Rate $17,401 and $70,700 $1, % of excess over $0 and $71,650 15% $70,701 and $142,700 $9, % of excess over $71,651 and $144,650 $10, % of the excess over $71,650 $142,701 and $217,450 $27, % of excess over $144,651 and $220,400 $31, % of the excess over $144,650 $217,451 and $388,350 $48, % of excess over $220,401 and $393,650 $54, % of the excess over $220,400 $388,351 and above $105, % of excess over $388,350 $393,651 and above Source: The Essen al Planning Guide To The Income & Estate Tax Increases, page 26 $117, % of the excess over $393,650 3

4 2012 Year-End Tax Report Medicare Tax There are two major changes to the Medicare tax. The first is an addi onal 0.9% Medicare tax on wages exceeding certain thresholds. The other, more expansive change is a 3.8% Medicare contribu on tax on net investment income for wealthy taxpayers. Both of these changes take effect on January 1, 2013 and will have some startling effects. The Medicare contribu on tax is imposed only on net investment income and only to the extent that total Modified Adjusted Gross Income (MAGI) exceeds $200,000 for single individuals and $250,000 for taxpayers filing joint returns. One of the difficul es with the Medicare contribu on tax is determining what cons tutes net investment income that is subject to the tax. We have summarized in the chart below what qualifies as investment income under the new law. Interest and Dividends Capital Gains Type of Income Subject to 3.8% Medicare Contribu on Tax? YES Royal es and net rental income Installment sales proceeds Gain from the sale of personal residence in excess of the IRC 121 exclusion Passive income from S corpora ons Passive ac vity income Income from a trade or business that trades in financial instruments or commodi es Non passive income from S corpora ons Wages Income from qualified pension, profit sharing plan and stock bonus plans Social security income Tax exempt interest Source: The Essen al Planning Guide To The Income & Estate Tax Increases, pg. 61 Let s review some of the different planning ps that a taxpayer can use to help reduce their Medicare contribu on tax: Trigger or receive income in 2012 that would otherwise be received in 2013, if it will be taxed at a lower rate this year. Save tax deduc ble expenses for 2013, since they will reduce income that will otherwise be taxed at a higher rate. This might include deferring large medical expense payments and the payment of property taxes, mortgage interest, charitable contribu ons and other eligible itemized deduc ons. Sell long term capital assets in 2012 to pay either a 0% or 15% tax instead of a 20% or 23.8% tax. Marry someone who has large capital loss carry forwards, or currently has large net opera ng losses (Ls). Look into inves ng in the following tax advantaged vehicles. In regards to your situa on, in 2013 we will try to point out any strategy that we think will be beneficial. Tax exempt bonds Qualified re rement accounts Qualified annui es Cash value life insurance policies, assuming that the cost of acquisi on and maintenance does not exceed the tax savings. Convert a Tradi onal IRA to a Roth IRA. Convert passive real estate ac vi es to ac ve interests. 4

5 2012 Year-End Tax Report... Continued from Page 4 Re rement Plans In 2012, the maximum 401(k) contribu on is $17,000 (plus a $5,500 catch up contribu on for those 50 or older by the end of the year). If you are self employed, you have other re rement savings op ons. We will review these alterna ves with you when you come in for your appointment. You can also contribute to an IRA for 2012 up through April 15, The maximum is $5,000 with a catch up provision of $1,000. Capital Gains and Losses Looking at your investment por olio can reveal a number of different tax saving opportuni es. Start by reviewing the various sales you have realized so far this year on stocks, bonds, and other investments. Then review what s le and determine whether these investments have an unrealized gain or loss. (Unrealized means you s ll own the investment and haven t yet sold it, versus realized, which means you ve actually sold the investment itself.) You must know the tax basis of your investments, which is usually the cost of the investment when you originally bought it. However, some investments allow you to reinvest your dividends and/or capital gains. This means you are actually buying more shares and therefore the basis of this investment is determined by your original cost plus all these reinvestments. Unfortunately, many taxpayers and other advisors aren t aware of the amount for reinvested shares when they sell their investment because they didn t keep track of the cost basis, especially for stocks purchased many years ago. We can help you calculate the cost basis using a number of different techniques. If your capital gains are larger than your losses, you might want to do some loss harves ng. This means selling certain investments that will generate a loss conver ng them from unrealized losses to realized losses. You can use an unlimited amount of capital losses to offset capital gains. However, you are limited to only $3,000 of net capital losses that can offset other income, such as interest, dividends and wages. Any remaining unused capital losses can be carried forward into future years indefinitely. Please note that if you sell an investment with a loss and then buy it right back, the IRS disallows the deduc on. The wash sale rule says you have to wait at least 30 days before buying back the same security in order to be able to claim the original loss as a deduc on. However, you can buy a similar security to immediately replace the one you sold perhaps a stock in the same sector. This strategy allows you to maintain your general market posi on while u lizing a tax break. If you own an investment that you believe is worthless, sell it to someone other than a related party for a minimal amount, say $1, to show that it is, in fact, worthless. The IRS o en disallows a loss of 100% because they will usually argue that the investment has to have at least some value. Don t forget that a tax law change took effect recently for stock gains and losses. The brokerage firm of your account now computes the basis of stocks purchased and sold in 2012 and reports the basis on your 1099 for the year in January Unfortunately, there were a number of problems implemen ng these new rules last year, so we strongly suggest you double check these numbers to make sure that the basis is calculated correctly and does not result in a higher amount of tax than you need to pay. 5

6 2012 Year-End Tax Report Zero Percent Tax on Long Term Capital Gains If you are in the 10% or 15% tax bracket, the tax rate for long term capital gains is zero percent! In order to qualify for this tax break, your 2012 taxable income cannot exceed $35,350 for singles and $70,700 for married joint filers. The 0% longterm capital gains rate is set to expire at the end of this year. Please note that the 0% tax rate only applies un l your taxable income exceeds the current 15% tax bracket. For example, let us assume that a married couple with a taxable income of $60,000 sells an investment for a long term capital gain of $40,000. The first $10,700 of long term capital gain is tax free, but once their taxable income passes the $70,700 limit, the remaining capital gain of $29,300 is taxed at the 15% tax rate. If you are eligible for the 0% capital gains tax rate, it might be appropriate to sell some appreciated stocks to take advantage of this tax strategy. Sell just enough so your gain pushes your income to the top of the 15% tax bracket, then buy new shares in the same company. The new shares will have a higher cost basis than the shares you sold. The capital gains tax you pay when you eventually sell these shares in the future is based on the gain above this new higher basis. This allows you to take advantage of the 0% tax rate now, so when the 0% tax rate goes away you won t have to pay as much taxes on the apprecia on that occurred when you first bought the stock. Please also note that you do not have to wait 30 days before you can buy the stock back when there is a gain, which is referred to as gains harves ng. You have to wait 30 days only if there is a loss. If your income makes you ineligible for the 0% capital gains tax rate, but you have adult children in the 0% bracket, you could give appreciated stock to them. Your adult child in a lower bracket will pay a lot less in capital gains tax than if you sold the stock yourself. It is also important to look at the possibility of selling some of the shares of a stock at different mes and different prices. You may be able to reduce a gain or increase a deduc ble loss if you iden fy the par cular shares to be sold at the me of the transac on. But be careful you can t go back in me if you subsequently discover you would have fared be er had you iden fied different shares before you made a par cular sale. If you don t specify which shares you are selling at the me of the sale, the tax law treats the shares you acquired first as the first ones sold. In other words, it uses a FIFO (First In, First Out) method. This may not produce the op mal result that you had wished for. Step Up in Basis Rules Another very important but o en overlooked item is a step up in basis, which occurs when a taxpayer inherits certain assets. The new cost basis is the fair market value as of the date of death, which is o en much greater than the original basis that the decedent had in this investment. However, the step up in basis rule does not apply to certain investments, such as taxdeferred accounts. Remember that if someone gi s you an appreciated asset while they are alive, then the recipient s basis is the same as the basis of the giver. Taxa on of Social Security Income Social Security income may be taxable, depending on the amount of other income a taxpayer receives. If a taxpayer only receives Social Security income, the benefits are generally not taxable and it is possible that the taxpayer may not even need to file a federal income tax return. If a taxpayer receives other income in addi on to Social Security income, and one half the Social Security benefits plus the other income exceeds a base amount, then up to 85% of the Social Security income can be taxable. The base amount is $25,000 for single filers, $32,000 for married taxpayers filing a joint return. 6

7 2012 Year-End Tax Report... Continued from Page 6 A complicated formula is necessary to determine the amount of Social Security income that is subject to income tax. IRS publica on 915 contains a worksheet that is helpful in making this determina on. Social Security income is included in the calcula on of Modified Adjusted Gross Income (MAGI) for purposes of calcula ng the Medicare contribu on tax, as discussed earlier. Therefore, taxpayers having significant net investment income will have more reason to defer Social Security benefits. Increase in Social Security Benefits for Delayed Re rement Year of Birth* Yearly Rate of Increase Monthly Rate of Increase % 11/24 of 1% % 1/2 of 1% % 13/24 of 1% % 7/12 of 1% % 5/8 of 1% 1943 or later 8.0% 2/3 of 1% Source: The Essen al Planning Guide To The Income & Estate Tax Increases, page 38 Assuming a reasonable or long life expectancy, it is generally beneficial for an individual who is eligible to receive Social Security on or a er age 62 to delay receipt of payments un l full re rement age. Assuming a full re rement age of 65, an individual who elects to receive Social Security benefits at age 62 will see benefits reduced by 20%. However, if the same individual delays receiving Social Security benefits un l a er full re rement age, a delayed re rement credit may be available. The chart above shows the percentage increases when an individual delays receipt of re rement benefits. There are a number of other tax planning strategies that a taxpayer may use depending on his/her spouse s benefits and when they elect to start receiving Social Security benefits. Tax rates for Social Security tax paid by individual employees have changed drama cally over the last few years. For 2011 and 2012, the rate on employees was reduced by 2 percentage points to 4.2%, while the rate paid by employers stayed at 6.2%. However, this cut is set to expire a er December 31, 2012, and employees will again have to pay a rate of 6.2%. Please note that the Medicare tax is not affected by this, and remains 1.45% on all wages in Currently, Social Security benefits are scheduled to go up in The earnings limits will also increase. Individuals who turn 66 in 2012 will not lose any benefits if they earn $38,880 or less before they reach that age. There is no earnings cap once a beneficiary turns 66. Estate and Gi Tax Opportuni es For 2012, each taxpayer can pass $5,120,000 (minus past taxable gi s that he/she has made) to children or other beneficiaries without having to pay gi or estate taxes. There is a 35% estate tax on gi s or estates of deceased persons exceeding the $5,120,000 amount. (This is the exemp on amount for federal estate tax, not for state inheritance tax, which is different from the federal amount.) Unfortunately, this $5,120,000 exemp on goes down to $1 million on January 1, 2013, and the estate tax rate goes from 35% up to 55%! This will obviously have a horrendous effect on estates and families who are dependent upon inheritance for their support. 7

8 2012 Year-End Tax Report Don t ignore annual gi s that qualify for the exclusion. You and your spouse can each give $13,000 per calendar year ($26,000 for couples) to as many individuals as you d like without reducing your life me gi tax exemp ons. Depending on your circumstances, it may be smart to make a gi before the end of this year. Gi s to medical or educa onal providers are not included in the $13,000 limit. In fact, there is no limit on qualified gi s as long as the check is made directly to a school or medical facility. It is important to determine which asset is the best one to gi. It is usually best to gi high basis assets or cash, especially if the taxpayer is in poor health. In most cases, it is best not to give low basis assets because the basis of gi ed assets is the same for the recipient as it is for the donor, and the gi ed assets will not usually receive a step up in basis when a taxpayer passes. Before making sizable gi s to children or other family members, keep in mind that these gi s may actually backfire in some cases. For example, a gi might make a student ineligible for college financial aid, or the earnings from the gi might trigger tax on a senior s Social Security benefits. Congress has created a number of tax breaks over the last few years to help pay for educa on. One of the most popular types of savings plans is the 529 plan. Withdrawals (including earnings) used for qualified educa on expenses (tui on, books and computers) are income tax free. The amount you can contribute to a sec on 529 plan on behalf of a beneficiary qualifies for the annual gi tax exclusion. However, the tax law allows you to give the equivalent of five years worth of contribu ons up front with no gi tax consequences. The gi is treated as if it were spread out over the 5 year period. For instance, you and your spouse might together contribute the maximum of $130,000 (5 x $26,000) on behalf of a grandchild this year without paying any gi tax. The January 1, 2013, deadline is fast approaching, and brings with it the possibility that the gi and estate tax exemp on will be reduced to only $1 million. This poten al reduc on coupled with presently low valua ons and the ability to use discount planning makes it very clear that affluent families will benefit greatly from reviewing their estate plans and making the necessary changes before the end of There are many different strategies to help reduce unnecessary estate taxes. Please see us regarding this subject, as the most effec ve strategy will vary drama cally depending on your situa on. Itemized Deduc ons Taxpayers are en tled to take either a standard deduc on or, if they have qualified expenses that exceed the amount of the standard deduc on, they can elect to itemize their deduc ons on schedule A. Itemized deduc ons include, but are not limited to, mortgage interest, certain types of taxes, charitable contribu ons and medical expenses. Unfortunately, itemized deduc ons are subject to several limita ons. Some deduc ons are limited as to the amount that can be taken. For example, in 2012 medical expenses are only deduc ble to the extent that they exceed 7.5% of AGI in any given year. This is why many taxpayers who have large medical expense situa ons will try to postpone paying these expenses and group them into one tax year, so they can exceed the 7.5% of AGI income threshold. Unfortunately, the threshold increases to 10% in 2013! Many taxpayers don t have enough itemized deduc ons to reduce their taxes more than if they take the standard deduc on. In many cases, they o en miss the threshold by only a small amount per year. If this is your situa on, it may be best to bunch your deduc ons every other year, taking a standard deduc on in the alternate years. In addi on to the medical expense deduc on change, there are numerous other income tax deduc ons and credits that either expired at the end of 2011 or will expire at the end of Please see the chart on the next page that shows the availability of deduc ons and credits for 2012 and 2013 as the law now stands. An important item to remember is the difference between a tax deduc on and a tax credit. A tax credit reduces the taxpayer s liability on a dollar for dollar basis. A tax deduc on reduces the taxable income from which the tax is calculated. 8

9 2012 Year-End Tax Report... Continued from Page 8 For example, if a taxpayer has a $100 tax credit, this will reduce their taxes by $100. However, if the taxpayer has a $100 tax deduc on, and if the taxpayer is in a 35% tax bracket, then the net tax benefit on the tax deduc on of $100 is only $35. Therefore, a tax credit is almost always more beneficial than a tax deduc on when it comes to reducing taxes. Unfortunately, many of the available credits and deduc ons phase out when a taxpayer s AGI reaches a certain limit. For example, married and single taxpayers with AGI greater than $175,000 will see the return of the phase out of itemized deduc ons, which reduces a taxpayer s itemized deduc ons (such as mortgage interest and charitable deduc ons) up to a maximum of 80%. As for credits, the child tax credit will shrink from $1,000 to $500 per child star ng in You can s ll claim a credit for up to 30% of the cost of installing renewable energy equipment, such as solar panels. This credit remains available through 2016, with no limit on the amount you can claim. Confirm that you are taking all available dependent exemp ons. It might be best to support your parents to make them dependents. Providing more than one half of the support of a parent qualifies for the $3,700 per dependent exemp on and the ability to deduct medical, dental and educa onal expenses incurred for the parent or parents. These medical expenses can include nursing home expenses. Deduc ble expenses associated with nursing home care are transporta on primarily for and essen al to medical care, meals and lodging that are necessary to such, and prescrip on medica ons. Also deduc ble are long term care services, which include diagnos c, preventa ve, therapeu c, and other personal care services when such services are required by a chronically ill individual. Deduc on/ Credit AGI Phase out Available in 2012? State and local sales tax $125,000 for single filers deduc on $250,000 for joint filers Tui on and fees deduc on $80,000 for single filers $160,000 for joint filers Expanded student loan interest $75,000 for single filers deduc on $155,000 for joint filers YES Child tax credit $75,000 for single filers $110,000 for married filers YES American Opportunity Tax Credit $90,000 for single filers $180,000 for joint filers YES Elimina on of Itemized $50,000 for single filers Deduc on Limit $100,000 for joint filers YES (adjusted for infla on) Source: The Essen al Planning Guide To The Income & Estate Tax Increases, page 96 Available in 2013? Miscellaneous Year End Tax Reduc on Strategies Prepare a tax projec on for 2012 and possibly 2013 to try to determine which tax bracket you are in. If your deduc ons and exemp ons are greater than your income, you will have a nega ve taxable income, with a tax liability of zero. This is o en the case with seniors who receive tax free Social Security income. In this case, it would be a good strategy to increase your income from nega ve taxable income to zero taxable income, because the tax on zero taxable income is s ll zero! One of the best ways to do this is to do a par al Roth IRA conversion up to the amount at which it brings your nega ve taxable income up to zero. Depending on your tax bracket, you may wish to convert even more, especially if you expect to be in a higher income tax bracket in the future. 9

10 2012 Year-End Tax Report If you are itemizing your deduc ons in 2012, you may want to consider accelera ng some of these deduc ons before the end of this year: 1. Make your January 2013 mortgage payment on your residence before the end of this year, which enables you to deduct the interest por on in Prepay the state income taxes in 2012 that are due in January 2013 as part of your es mated tax payments or the es mated amount of state income tax due on April 15, Pay all of your property taxes in 2012 rather than deferring them to Diversify your investments, or at least take some capital gains, if possible. It may be best to use the upcoming capital gains rate hike as a reason to diversify concentrated por olios in Remember the credit card rule: a deduc ble expense is deducted in the year it is charged against your credit card regardless of the year in which you pay the credit card bill. So, you can s ll charge an expense in 2012, deduct it on your 2012 tax return and not have to pay for it un l Please note that some of these deduc ons do not count toward compu ng Alterna ve Minimum Tax (AMT). If you are subject to the AMT, it is o en best to delay these payments and not use these strategies un l It is always possible you might be able to use the deduc ons next year. (We will discuss AMT later in this report.) Paying taxes is bad enough. Paying a penalty is even worse. If you face an es mated tax shor all for 2012, have the extra tax withheld on an IRA distribu on. Withheld taxes are treated as if you paid them evenly to the IRS throughout the year. This can make up for any previous underpayments, which could save you penal es. If you turned age 70 ½ during 2012, you s ll have un l April 1, 2013 to take out your first RMD. This is a one me opportunity in case you forgot. Remember if you do not take out your RMD by this date, you will be faced with a 50% penalty on the amount that you should have taken out, but didn t. Charitable Giving 10 If tax rates increase next year, charitable contribu ons will be more valuable. That would seem to be an argument for postponing your charitable gi s un l Much depends on your personal situa on, though. If you expect your income to drop next year (because you plan to re re, for example) the deduc on will probably be more valuable this year, no ma er what happens with tax rates. Up through December 31, 2011, taxpayers age 70 ½ and older could transfer up to $100,000 directly from their IRA over to a charity, sa sfying all or part of the required minimum distribu on (RMD) with the IRA to charity maneuver. Unfortunately, this provision has not been extended for 2012 or However, the subject is being discussed now and it is possible that this rule may be allowed for We will keep you informed on any changes. This is a great me of the year to clean out your garage. However, please remember that you can only write off these dona ons to a charitable organiza on if you itemize your deduc ons. Some mes the dona ons can be difficult to value. You can find es mated values for your donated clothing on Turbo Tax s website. Send cash dona ons to your favorite charity by December 31, 2012, and be sure to hold on to your cancelled check or credit card receipt as proof of your dona on. If you contribute $250 or more, you also need an acknowledgement from the charity. As men oned earlier, if you plan to make a significant gi to charity this year, consider gi ing appreciated stocks or other investments that you have owned for more than one year. Doing so boosts the savings on your tax returns. Your charitable contribu on deduc on is the fair market value of the securi es on the date of the gi, not the amount you paid for the asset, and therefore you never have to pay taxes on the profit! Do not donate stocks that have lost value. If you do, you can t claim a loss. In this case, it is best to sell the stock with the loss first and then donate the proceeds, allowing you to take both the charitable contribu on deduc on and the capital loss.

11 2012 Year-End Tax Report... Continued from Page 10 Roth IRA Conversions If your IRA investments have dropped significantly, consider conver ng part or all of your Tradi onal IRA to a Roth IRA. The lower the value, the more tax free apprecia on you will receive when the market rebounds. It is best to convert only the amount that you won t need for many years or would like to leave to your estate. There is li le point in paying tax on a conversion if you re going to tap the Roth quickly. It is best to run the numbers to determine the most appropriate amount for your situa on. An interes ng rule regarding a Roth IRA conversion is that the taxpayer has an ability to re characterize a Roth IRA back to a Tradi onal IRA. This makes sense if the value of the Roth IRA has decreased since the conversion has taken place. Why pay taxes on a larger amount of money if the value has gone down? You have un l October 15, 2013, to change your mind if you converted in Unfortunately, a re characteriza on is an all or nothing affair you cannot choose the specific investments within the Roth that may have gone down in value. In order to get around this problem, you might want to establish two Roth IRA accounts. If one decreases in value, you can then re characterize that par cular Roth IRA back to a Tradi onal IRA and s ll keep the appreciated Roth IRA. This method gives you the maximum flexibility and benefits. All these different rules and regula ons regarding IRAs can be confusing, and we would be more than happy to review them with you at our mee ng. You can also me a Roth conversion with a large charitable dona on. The charitable contribu on can offset that income and possibly protect you from being pushed into a higher tax bracket. The previous income limita on cap on Roth IRA conversions expired on December 31, A conversion to a Roth IRA today does not have an income limita on cap. You should keep in mind that a conversion to a Roth IRA may place you into a higher tax bracket. In addi on, converted IRAs distributed prior to five years or age 59 ½, whichever occurs first, may also be subject to a 10% excise federal income tax penalty. If you are interested in this op on, please contact us. Inherited IRAs Be careful if you inherit a re rement account. In many cases, a decedent s largest asset is his or her re rement account. When a beneficiary receives this distribu on, it is o en a very large sum of money, and there is no step up in basis on re rement accounts. If you inherit a re rement account, such as an IRA or other qualified plan, the money is usually taxable upon receipt. In addi on to this immediate taxa on, the extra money could push you up into a higher tax bracket, causing you to pay more taxes than you might have if this taxable income was spread out over a period of me. The solu on to this problem is to establish an Inherited IRA, allowing you to spread out the distribu ons over at least five years (possibly over your life me), which should reduce your income taxes significantly. Sounds easy, right? Unfortunately, the tax laws regarding the inheritance of re rement accounts are very complicated and all of the rules need to be followed in order to avoid any unnecessary income taxes. For those who think you can do this on your own, ask yourself the following ques ons: 1. When is the last me you inherited an IRA? 2. Do you know the difference between an Inherited IRA versus an IRA you inherited? If you don t know all of the details and answers regarding these two ques ons, please contact us before receiving any distribu ons from a re rement account that you inherit. That way, we can work with you to achieve the most favorable tax consequences for your inherited IRA money. 11

12 2012 Year-End Tax Report Reduced Tax Benefits for Educa on The American Opportunity Tax Credit (formerly Hope Scholarship Credit) has an annual maximum of $2,500 per student for the first 4 years of college through December 31, However, it will be reduced to $2,000 per student star ng January 1, 2013, and will only apply to the first 2 years of college. The annual contribu on limit to Coverdell Educa on Saving Accounts (ESAs) will drop from $2,000 in 2012 to $500 per beneficiary star ng January 1, Distribu ons will no longer be able to pay qualified elementary and secondary educa on expenses, only expenses for undergraduate and graduate studies. Alterna ve Minimum Tax Alterna ve Minimum Tax, be er known by its acronym AMT, imposes an alterna ve higher tax on certain taxpayers. Congress enacted the tax in 1969 to prevent wealthy taxpayers from paying li le or no tax by u lizing tax loopholes. Unfortunately, the AMT exemp ons are not indexed for infla on. Therefore, each year Congress has stepped in and applied what has become known as the AMT patch to increase the exemp ons. This AMT patch has not been increased since 2011 and if Congress doesn t take ac on, it is es mated that approximately 26 million more taxpayers will be subject to the AMT in 2012! (Source: Journal of Financial Planning, August 2012) Conclusion Please note that many states do not follow the same rules and computa ons as the federal income tax rules. Make sure you check with your tax preparer to see what tax rates and rules apply for your par cular state. There are several other addi onal tax reduc on strategies that will vary depending on your financial picture. We encourage you to come in so that we can review your specific situa on and hopefully take advantage of those tax rules that apply to you. We look forward to seeing you soon. Yours Truly, Craig Pluta, CFP, CRPC Christopher Doughty, CFP, CRPC Michael Friedrich, Financial Advisor Share this informa on with a friend or colleague! If you d like a copy of this ar cle sent to someone else who would benefit from this informa on, please contact us at (414) The views expressed are not necessarily the opinion of Raymond James Financial Services, Inc. and should not be construed, directly or indirectly, as an offer to buy or sell any securities mentioned herein. This article is for informational purposes only. This information is not intended to be a substitute for specific individualized tax, legal or investment planning advice as individual situations will vary. For specific advice about your situation, please consult with a financial professional. Content Provided by MDP, Inc. Copyright 2012 MDP, Inc 12 Securities Offered Through Raymond James Financial Services Inc. Member FINRA/SIPC Alliance Wealth Management, Inc. is independent of RJFS Investment advisory services offered through Raymond James Financial Services Adviros, Inc. and Alliance Wealth Management, Inc. 135 S 84 th Street, Suite 135, Milwaukee, WI Ph: (414) Fax: (414)