Year-End Tax Tips for Investments

Yes, its that time of year again, time for every financial column to drum into your head all the year-end investing tax tips. It's the equivalent of your list to Santa. You either take care of it by year-end or you take your chances. Consider yourself warned.

Take Your Losses - Losses are never a thing of beauty, but they can become palatable at this time of year. Even if you're convinced that the paper loss is only a temporary situation, you should still consider selling. You can buy the position back in 31 days to avoid what's called a "wash sale."

Netted out against long-term capital gains, you can claim $3,000 of long-term capital losses on your current income tax return, with the remainder being carried forward into future years.

Check With Your Mutual Funds for Long Term Capital Gain Distributions - Many Mutual Funds make long-term capital gain distributions before the end of the year. Even if you reinvest them back into the mutual fund, they are still taxable distributions. By calling the mutual fund company (or your broker), you should be able to get at least an estimate of what those distributions will be.

If there are distributions, go back and read the tip about losses.

Defer Capital Gains - If you can defer taking your capital gains until January, do it. If you take them today, the tax will be due April 16th, 2007. If you wait until January, the tax won't be due until April 15th, 2008. You decide.

Maximize Your 401(k) Contribution - You know this was a New Year's Resolution last year! December 31st is the final day to make good on it.

Fulfill Charitable Pledges With Low Tax-Basis Stock - Why give cash when you can siphon off some of that ExxonMobil you've owned for 20 years? You can claim a deduction for its full value - not simply what you paid for it - and avoid the capital gains tax as well.

Of course if you're thinking about giving away stock with a tax basis higher than its current market value, think again. Here, you're better off selling the stock, taking the loss, then giving away the cash.

Donate To Charities Directly From Your IRA - New Law Alert! In the years 2006 and 2007, you can donate up to $100,000 to your favorite charity directly from your IRA. This is only available to those individuals who are at least 70 ½ years of age.

If 70 ½ Or Older Make Sure You've Made The Required Minimum Distribution From Your IRA - Distributions from Individual Retirement Accounts (IRAs) must be made by year end. Make sure you've included all your accounts in calculating your minimum distribution. Mistakes can often occur if you transferred IRA accounts during the year.

Remember That The End of One Year Is The Beginning of A New Year - Tax planning and investing are year-round activities. As you move into the new year, make a list of things to do early in the year. Increase your 401(k) contribution or start a systematic investment program. Leaving it all to the end of the year can put a dent in both your cash flow and your holiday cheer.

The Best Investments For Taxable Accounts - Part II

As discussed in Part I of this article, investors in the U.S. will face significantly higher levels of taxation on all forms of income and capital gains beginning in 2011. As a result, investors in the higher marginal tax brackets and those having substantial taxable investments may wish to explore investment opportunities and portfolio strategies that seek to reduce their tax liabilities. There are two broad categories of investment with some sort of tax preference: tax advantaged and tax deferred. Now let's explore a handful of specific investments, or investment cash flows that might be beneficial to investors concerned with the future tax regime.

Municipal Bonds: Municipal bonds are perhaps the most well-known tax advantaged security available to investors. Generally speaking, interest earned on municipal bonds is exempt from federal income tax, and may be exempt from state and local government taxes as well. Furthermore, long-term municipal bonds have historically traded at market yields that are even high than what their tax-equivalent yields should be, potentially providing additional return to the investor. It should be noted that any capital gains associated with municipal bonds are not exempt from taxation, but are instead subject to the same tax rate as other marketable securities. Finally, some municipal bonds are subject to the Alternative Minimum Tax, so investors need to be selective and ensure that they understand what types of bonds they own.

Master Limited Partnerships: A master limited partnership (MLP) is a publicly-traded partnership structure that may be elected by firms that earn greater than 90% of their income through operations and assets relating to natural resources, commodities or real estate. As a result, most of the MLPs available to investors own and operate assets such as oil pipelines, gas pipelines, treatment and processing facilities, propane distribution systems, etc. To an MLP shareholder (technically called a unit holder) the benefit derives from the fact that limited partnerships have pass-through taxation and thus there is no tax paid by the MLP itself, but the tax liabilities are passed on to the unit holders. Thus, MLPs avoid the double-taxation associated with corporations. Importantly, investors in MLPs receive cash distributions that are not taxed when received, but are classified as reductions in cost basis and therefore the investor generally owes very little taxes until the MLP is ultimately sold. Thus, investors may be able to earn very attractive cash yields and defer the tax liability for many years.

Qualified Dividends: Qualified dividends (as opposed to ordinary dividends) are taxed at lower capital gains tax rates, rather than marginal income tax rates. Most equity dividends are considered to be qualified, and therefore there is a significant tax advantage for investors who receive qualified stock dividends versus income from other sources, such as CDs or corporate bonds. So on a tax-adjusted basis investors may actually be able to earn higher cash yields on equities than on fixed income investments in the current era of low interest rates.

Equities (if held long-term): Long-term capital gains tax rates are applied to any gains generated from the ownership of an asset for more than one year. So, if you own a stock for more than 1 year you will pay a tax rate on any gain that may be less than half of your marginal income tax rate. Also, capital gains taxes are only paid once the gain is recognized, so an investor can both lower and defer their tax liability associated with stock ownership for many years. This long-term capital gains treatment applies to fixed income securities as well but for most investors any capital gains from bond investments are likely to be small in comparison to the income earned on those bonds, which is of course taxed at the much higher prevailing income tax rates.

Precious metals: The tax treatment of gold and other precious metals is somewhat complicated and varies depending on the method of investment. For assets in taxable accounts the most efficient way to gain exposure to precious metals is through ownership of equities of gold mining companies, in which case you would apply the aforementioned stock and dividend tax rules, as mining stocks are treated just as any other stock investment for tax purposes. You might also consider owning a precious metal ETF, but these funds and others like them are treated as "collectibles" by the IRS and are therefore taxed at a 28% capital gains tax rate, which is one of the highest capital gains tax rates among all investable assets. Of course, if you have a very long time horizon you will defer the payment of the tax liability indefinitely, as gold provides no short-term cash flows such as interest or dividends, therefore creating no liability for as long as you hold the investment.

It should be understood that this article does not cover all of the possible tax consequences resulting from investment in any of the securities or assets described herein, and it is not intended to constitute tax advice but is provided solely for informational purposes. Investors should work with their advisors to understand these investments and their suitability in a particular portfolio management strategy, but some or all of these opportunities may certainly assist those in the highest tax brackets (which are going higher) and those having large portfolios of investable assets held outside of retirement accounts.

Protecting Investments From Capital Gains Tax

It is widely believed that we will find ourselves with capital gains tax increased from the current 18% to as much as 40-50%, with the gain added to income. This will have two possible impacts on the housing market.

Consider how you can achieve returns on an investment property. There is a potential income and a potential capital increase. The risks lie with the possibility of a lack of occupancy affecting the income and property prices falling.

And so the potential for gain will have to offset this potential for loss.

How can the government expect us to become excited about investing in property where the income on the property is taxed at the highest rate and the gain on sale will also be taxed at the highest rate.

The potential for gain is so diminished that investors will be discouraged from investing at all.

The concern is that this will stifle demand (why would you buy) which will then lead to a fall in markets. As we are a debt driven economy each fall in house prices directly impacts consumer confidence and in turn spending on the high street which is a large impact on GDP (the economy).

There is also the potential however that property investors realise they cannot sell their house due to the tax and so supply is greatly reduced and counterbalances the market. We will see.

Investors who normally buy shares, property and unit trusts, Oeics will be subject to the new capital gains hikes and so should look to realise some gains where they can, to crystallise them in this tax year pre budget.

After that budget the canny planning will begin. Consider however, what you can do right now.

Isas are tax free so you should maximise them and if you have a pension and are a higher rate tax payer, consider making a contribution now as higher rate tax relief will probably disappear.

In the meantime, there is a tax efficient vehicle that many investors are missing out on. That is the offshore bond. Before you think 'Cayman islands,' this is simply a normal investment bond which is held in tax beneficial regions such as the Isle of man, Ireland, Jersey and Guernsey. Norwich union or Standard Life may have a UK life office but they also have an offshore version in one of these tax constituencies.

The effect/benefit is that the investments do not pay tax as they grow and you benefit from compounding gross roll up of growth.

You can buy the same property and shares inside the bond as you can outside of it but they simply grow free of tax.

Investments are taxed as income rather than capital gains tax and so the gain at encashment is added to your income. However this is where you can potentially save.

Investment bonds allow you to assign parts of them to others who have a lower tax rate than you. For example if a segment of your investment bond was assigned to your child who was going to university and they encashed it, the gain would be added to their income for the year.

If their income tax allowance was, say £6475 (the government are talking about increasing the income tax allowance to over £10,000) and the bond was encashed with a £13000 value but the gain was less than £6475, there would be no tax to pay.

This is an excellent way to achieve tax free growth and tax free distribution, particularly if the government are signposting that income tax allowances will increase substantially.

Another option is to become non resident for a year and then encash and you will not be subjected to UK income tax.

Make sure you use a fee based independent financial adviser as the commissions (often disguised) on bonds are very high at c8%, but also a 2-3% fee to an adviser is far more efficient than a 2-3% commission on an offshore bond due to how the life office can reclaim that expense.

If you have a query on annuities, CGT offshore bonds, tax or property in tax efficient wrappers call Peter on 0845 230 9876

Author: Peter McGahan

How to Compute Short Term and Long Term Capital Gain Tax From Investments in Stocks

Most of you must be aware that as per Income Tax Act, 1961, any income or gain from any source is liable for payment of tax. Gains from investments in stocks are liable for Capital Gain Tax, which is divided into short term and long term capital gain tax. Gains from investments held for less than one year (but more than one day) is chargeable as STCG Tax and gains from investment held for more than one year is chargeable as LTCG Tax. Calculation of profit and loss from investments in stocks and the resulting tax liability is relatively easy, as it involves simple math. However, many people are often scared when it comes to income tax calculations. In this article, I have explained how to calculate profit and loss and tax from the transactions involving investments in stock.

First of all, let me make it clear that stock trading and investment in stock are two different aspects from the point of view of income tax. In this article, I have not touched income from stock trading (day trading or Intra-Day transactions), and trading in Futures and & Options or income from speculative business, as is known in the Income Tax jargon.

Let's see how to calculate STCG and LTCG Tax.

1. Profit and Loss: Profit and Loss = Cost of Sale - Cost of Purchase (Cost of Acquisition);

Cost of sale = The gross sale or realization amount - Expenses incurred for selling the stocks

Cost of acquisition = Gross purchase amount + Expenses incurred on buying the stocks

2. Expenses: Transactions involving sale and acquisition of stocks include the following types of expenses. You can refer the Contract Notes issued by your broker to find out the exact amount of brokerage, Service Tax, Securities Transaction Tax and Other Statutory Fees

Brokerage: Brokerage paid to your brokers is the main component of expenses on sale and acquisition of stocks.

Service tax and Education Cess: Your stock broker has to pay service tax and education cess at the rate of 10.3% on the brokerage amount, which in turn is passed on to you.

Other Charges: Transactions in stock involve other statutory charges such as stamp duty, turnover tax, and transaction charges of the stock exchanges, which are also passed on to the investors.

DP Charges: It includes DEMAT annual maintenance charges and transaction charges. You can get the amounts from DP Statements issued by your broker.

Securities transaction tax (STT): Although STT is an expense for you but it cannot be claimed as a deduction from the profit and loss from investments in stocks and therefore, in your calculations of profit and loss, you have to exclude STT.

3. Capital Gains Tax: After having calculated the profit and loss, the next step is to calculate the tax liability. At present, the rate of short term capital gain tax is 15% and long term capital gain on investments in stocks is exempted from income tax, that is, long term capital gain tax is zero.

You can visit Financial Awareness Portal to get more info with practical examples on how to compute Short Term and Long Term Capital Gains Tax using a spreadsheet.

2011 US Tax Changes for Investments

Disclaimer: I am not a Certified Public Accountant (CPA), tax advisor or tax lawyer. Please talk with your CPA, tax advisor, or tax lawyer before making any investment decisions that may have tax consequences for your investments. One of my investment rules is know the tax ramifications of any investment that you plan to make before you make it, and make it tax efficient, whether under current tax laws or forecasted future tax changes. Taxes and/or government fees will be increasing over the next 5 years to help pay for the federal, state and local government deficits and future government entitlement programs (for example, health care). For example, to pay for the new health care plan high income earners in 2013 will experience an increase in Medicare payroll tax (.9%) and an additional tax (3.8%) on qualified dividends and capital gains.

Former President George W. Bush's tax cuts (BTC) were intended to expire at the end of 2010, reverting to the previous tax code for long-term capital gains and qualified dividends, reviving the estate tax and restoring the top marginal bracket of 39.6% at the beginning of 2011. On December 17, 2010 President Obama and the US Congress extended Bush's tax cuts for another 2 years (ending January 1, 2013), made changes to the estate tax and added a 2% reduction of the payroll (social security) tax. This will be one of largest stimulus packages for the US economy ever - approaching $1 trillion US.

Long-term capital gains tax (on assets held longer than one year): The current tax rate of 0% for taxpayers in the 10% and 15% tax brackets as of 2008 and 15% for everybody else will not change for the next two years. The pre-BTC rates were 10% for the 15% tax bracket and 20% for everybody else.

Qualified dividends: Qualified dividends will continue to be taxed at a maximum rate of 15% for the next two years. The pre-BTC rate was ordinary income based on your highest tax bracket. For example if you were a high income earner and your tax bracket was 39.6% your qualified dividends would have been taxed at 39.6% (this could be as high as 43.4% in 2013).

Top income tax bracket: Bush's tax cuts eliminated the top income tax bracket of 39.6% making the 35% the highest tax bracket and created a new 10% bracket for low income earners. Congress and President Obama extended 35% as the highest tax bracket and the 10% tax bracket for the next 2 years.

Revival of the estate tax:In 2010, as a result of several unusual circumstances, there is no limit on the size of an estate that is exempt from federal estate taxes. Starting in 2011 (and ending in 2013) the exemption will be $5 million per person and for a married couple up to $10 million will be exempt from federal and gift taxes. The top tax rate applied to the portion of estates exceeding those limits will be 35%, the lowest tax rate in 80 years.

Payroll tax decrease: Wage earners received a social security tax reduction of 2%, making the tax rate 4.2% up to the cap of $106,800 in 2011 (the cap will increase in 2012). If your wage income is at or over the cap, this will result in savings of $2,136, or about $40 per weekly paycheck. Congress did not renew the Making Work Pay tax credit of up to $400 for working individuals and up to $800 for married taxpayers filing joint returns (this was up to a maximum adjusted gross income level). Consequently, working individuals who earn less than $20,000 ($40,000 for married taxpayers filing jointly) will have less money in their paycheck starting in 2011.

The tax rate on long-term capital gains and qualified dividends which are most important to investors will stay the same for the next two years. All these tax changes will revert to their pre-BTC tax rates on January 1, 2013. With President Obama, all of the House of Representatives and 1/3 of senators up for reelection at the end of 2012, expect the US tax rates to be a major campaign issue in the 2012 election.

A good strategy is to always keep interest/ dividend-paying and non-tax efficient investments in your non-taxable accounts. Also, any investments for which there is a high degree of difficulty determining the tax liability, i.e. trading stocks, future contracts, exotic ETFs, etc., should be invested through your non-taxable accounts.

Between the extended Bush tax rates and payroll tax decreases (costing the US government almost $1 trillion in revenue over the next two years) and Quantitative Easing 2, the US government has created the largest stimulus ever in its quest to grow the economy and reduce a persistent US unemployment rate hovering close to 10%. If this stimulus does not lead to job growth and reduce the unemployment rate, the issue will become: how do you reduce structural unemployment issues which take a long time period to resolve? This will be difficult to resolve in the current US political environment which everything is short focus on the next election.

Reducing Tax on Investments: Minimising Capital Gains Tax

Capital gains tax (CGT) is payable on the sale not only of stocks and shares but also of anything other than household goods and personal effects up to the value of £6,000 and private motor vehicles. Subject to certain exceptions, you do not pay CGT on any gain you make when you sell your home. Nor, on the other hand, can you set off any loss against gains made elsewhere.

Capital losses are set off against capital gains in the same tax year and after that there is an annual exemption, currently £7,500. As a result, few people pay CGT.

If the net result of a year's transactions before the annual exemption is a loss, it can be carried forward to succeeding years. The annual exemption cannot be carried forward, but can be applied to the net gains for a year before any loss brought forward which, if not then used, can be carried forward again.

The following investments are exempt from CGT:

gilt edged stock
company debentures and loan stocks
friendly society savings schemes
ISAs and PEPs
company share option schemes
enterprise investment schemes and venture capital trusts
commercial forestry

As with tax on income, investments which are free of capital gains tax need to be good investments in their own right. A taxed gain is better than no gain at all.

Indexation and taper relief

For purchases before April 1998 the cost can be indexed, that is adjusted by the cumulative rate of inflation (RPI) between purchase and April 1998. However, indexation cannot be taken beyond breakeven, i.e. it cannot be used to create a loss.

If you held any shares before 6 April 1998, it is a good idea to calculate the indexed cost now, as it will not change. This can be done by using the CW indexation allowances for April 1998, available in Inland Revenue leaflet CGT1, which can be obtained from your local tax office.

From April 1998, indexation was replaced by taper relief which is based on the length of ownership. It only applies to shares held for at least three complete years, although an extra year is added to the total for shares owned on 17 March 1998.

The percentage of the gain chargeable reduces to 95% after the third complete year and by a further 5% for each successive year, to a minimum of 60% after ten complete years.

For example, if you bought shares in August 1996 and sold them in June 2001, the taxable gain would be calculated as follows:

The original cost would be increased to 5 April 1998 in accordance with the CW indexation allowance for the period, to give the indexed cost.
The excess of the selling value over the indexed cost gives the taxable gain before taper relief.
Although the shares have only been held for two full years since April 1998, as the shares were held on 17 March 1998 an extra year is added, making a total of three years, so taper relief reduces the chargeable gain to 95%

More favourable taper relief applies to business assets, and since 6 April 2000 it also applies to all shares owned in your employing company and to all shares in unquoted and AIM quoted companies.

The percentage of the gain chargeable in this case reduces to 87.5% after the first complete year, to 75% after two years and 50% after three, to a minimum of 25% after four years.

Where shares qualify as business assets only from 6 April 2000, the gain for shares owned on that date has to be apportioned between the two periods.

Calculating the taxable gain

The method of calculating the chargeable capital gain, following the introduction of taper relief.

The complications of indexation and taper relief can be ignored if your gross gains for a year do not exceed the annual exemption, currently £7,500.

Reinvestment relief

Chargeable gains on disposals can be deferred indefinitely if the amounts realised are reinvested in new share issues from qualifying companies under the Enterprise Investment Scheme.

Tax payable

The net chargeable gain for the year is added to your income and is taxed at 10% if any falls within the personal allowance or the 10% band, at 20% for any within the basic rate band (not 22% as for income) and 40% thereafter. CGT liability cannot be set against personal allowances.

Annual planning

This is mainly a matter of ensuring you make use of your annual tax free allowance.

You should keep a running record of your sales during each financial year (starting 6 April), with a note of the gain or loss, after adjusting for indexation and taper relief.

Check on the cumulative position at the beginning of March. If you have a substantial amount of your annual allowance still available, then take a look at the unrealised gains in your portfolio.

Bed and breakfasting

Before 17 March 1998, any unused annual allowance could be applied to unrealised gains before the end of the tax year by selling the shares one day and buying them back the next. This has been stopped by introducing a minimum 30 day interval between selling and buying back, otherwise the two transactions will be ignored for CGT purposes.

It is of course possible to take the risk of being out of the market for 30 days.

Other alternatives are:

If you have not used all your current year's ISA allowance or have uninvested amounts in a PEP, then you can 'bed and ISA' or 'bed and PEP', that is buy back into an ISA or PEP.
If you are married you can sell and your spouse buy back (or vice versa).
You can buy a similar share (e.g. BP for Shell) or your best choice of new investment.

In all these alternatives the sale and buy back can be done simultaneously, so there is no risk of adverse price movement overnight.

The disadvantage is that costs of both selling and buying (including stamp duty) are incurred, although some stockbrokers will forgo some or all of their commission on the second transaction. Also you lose the difference between the buying and selling prices.