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.

Year-End Tax Tips - Moves to Make When Tax Rates May Be Going Up

Normally, when you engage in year-end tax planning, you might tend to sell stocks on which you have incurred losses to offset those where you have gains, in order to pay as little capital gains tax as possible. In general that still applies. But the capital gains tax rate is scheduled to go up in 2011 from 15 to 20% and further in the ensuing years. This is unless Congress steps in and changes the law to continue the low rate that has been in effect since 2003.

Given this, it may make sense to sell more of the high gaining stocks now, if you were planning on selling them over the next year anyway. Certainly, if any of the following reasons are true you may want to sell your gainers now instead of later:

1) You intended to take some money out of the stock market in the near future.

2) You don't like the future prospects of the stock.

3) You need to re-allocate your portfolio.

4) You have a large gain, you're neutral on the prospects of the stock, and you have enough losses on other stocks to offset the gains now.

However, you should not do this if you would not have otherwise have sold your stocks over the next several years. This is because you do have to pay tax on any net gains, and if you delayed paying the tax for a few years or more, you wouldn't have to pay any tax at all now. Delaying a capital gain for a number of years could make the net investment worth more by enough down the road to justify paying the higher capital gains rate then. In other words, even if the gain is taxed at a higher rate then, the compounded gain on the stock and 20% of the earnings (what would have been taxed away) will likely earn more than the difference in the capital gains tax rate.

The "higher capital gains rate next year" concept also creates the reverse logic on the stocks where you've had losses. Normally you might want to sell them to offset gains and accrue additional tax benefits. But now the losses may be worth more next year if you have gains to offset then. Some of your actions may be guided by your expectations of next year's stock market performance. But a good strategy might be to only use the amount of stock losses this year that leaves you with enough expected losses next year to cover your expected gains next year.

And so the overall point would be to shift inevitable realized overall gains to this year, and losses to next year.

Of course, none of this advice trumps standard investment considerations. You should buy stocks you believe will go up and sell those you think will go down. But for those subject to the above conditions, these rules may leave more money in your pocket.