The Tax Man Cometh: How to Get the Most Out of Your Filing

What are some smart tax strategies that individuals can utilize in filing their taxes?
March 23, 2014 6:41:45 AM PDT
W2's have been mailed. The TV is full of tax aid commercials. Tax season has arrived, and your annual check in with Uncle Sam is about due in less than a month. Shankar Iyer is the Senior Vice President and CFP at Merrill Lynch Wealth Management and joined us in studio with some smart strategies as you prepare this year's return.

1. What are some smart tax strategies that individuals can utilize in filing their taxes?

  • Lower your income.
    - The most straightforward way to reduce your taxable income this year is to take advantage of 2013's new contribution limits to tax-advantaged retirement plans. Deductibility limits on such accounts were raised by $500 this year, to $17,500 for employer-sponsored plans such as 401(k)s and to $5,500 for individual retirement accounts (IRAs).
    - Lowering this year's income by deferring compensation until next year might also be worth looking into. It may seem that postponing 2013 income until 2014 just means that you'll owe more next year. But if you're in a transitional year near your retirement, or if your income varies from year to year, this year's new, higher rates may make it worthwhile to investigate all the options.
  • Put your investment losses to work.
    - For most people, the tax rate on long-term capital gains for investments you've held for more than a year and that you've sold at a profit is holding steady at 15%.
    - If, for instance, you have losing investments, you could sell those and use the losses to offset certain capital gains you may have.
  • Look at Your Giving Plans.
    - Last year's generous exemptions for gifts made during your lifetime or from your estate are now permanent, and they've been enhanced by annual inflation adjustments.
    - The separate annual exclusion from gift taxes rises to $14,000 per donee this year. But be aware that a holiday gift check written in 2013 that's not deposited until 2014 will count as a 2014 gift.
  • Watch Out for the AMT.
    - This year's tax law permanently applies inflation indexing to the alternative minimum tax. Under these new rules, the AMT affects primarily those who earn $200,000 or more per year?but depending on your deductions, the AMT can hit those with incomes much lower than that. While the flat 28% AMT rate is less than the top rate for taxes computed according to regular tax rules, the AMT excludes several deductions and credits and often results in higher total tax payments. Everyone is required to calculate taxes with and without AMT rules, and to pay the larger bill.

2. Will the gain/loss on a security be in 2013 or 2014?

  • Depending on your tax situation, you might prefer to have a year-end gain taxed in 2013 or 2014. Similarly, with a loss, you might prefer to recognize the loss sooner in 2013 or later in 2014.
  • For gains, there is one rule that covers both long and short positions - the gain is recognized for federal income tax purposes on the trade date.
  • If you sell stock that you own for a gain, the gain is recognized for tax purposes as of the trade date. So, if you want to defer the gain until 2014, your trade date must be in 2014.
  • If you own stock and want to sell it for a loss, the loss is incurred as of the trade date. If you shorted stock and now want to close out that short to take a loss, the loss is recognized for tax purposes on the settlement date when the shares are delivered to close the short.

3. How are long-term and short-term gains/losses netted and how does the capital gain rate affect them?

  • Capital gains and losses are subject to a series of "netting rules" that govern how capital gains are offset by capital losses. These netting rules are applied at year end to the entire year's capital gains and losses. The steps involved in this netting process are as follows:
    - Short-term losses are netted against short-term gains.
    - Long-term losses are netted against long-term gains.
    - If one of the preceding two steps is a net gain and the other a net loss, you net those. Any resulting short-term gains are taxed at ordinary income rates. Any resulting long-term gains are taxed at the appropriate long-term capital gain rates.
    - 15% for securities (for long-term capital gains). If your taxable income exceeds certain thresholds, the maximum rate applicable to long-term capital gains is 20%.
    - 25% for real estate depreciation recapture.
    - 28% for collectibles (such as art) and the portion of gain from the sale of "qualified small business" stock that is taxable.

4. When is it beneficial to time the payment of deductible amounts?

  • Several categories of deductions have thresholds that must be exceeded before an income tax deduction is allowed.
    - If your AGI is lower in one year than another, then these thresholds will also be lower for that year. If you make a deductible expenditure in the year in which your threshold is lower, you might obtain a larger tax deduction.
    - If your expenditures don't exceed the threshold when paid each year, then "bunching" them together in one year might allow you to exceed the threshold. Other factors will also affect this, such as whether your AGI is fairly steady.

5. What are some of the basic things you need to know about utilizing year-end charitable gifts for itemized deductions?

  • It is usually better to make a gift of appreciated long-term (held longer than one year) stock to a charity than to make a gift of appreciated short-term stock. A gift of appreciated long-term stock is deductible at its value; a gift of appreciated short-term stock is deductible only to the extent of basis. To put it another way, a gift of long-term appreciated stock entitles you to deduct the appreciation even though you have not been taxed on it.
  • In the case of a gift of appreciated long-term stock to a private foundation, a deduction for the fair market value is allowed only if the stock is "qualified appreciated securities." Generally that means publicly-traded stock, but you should always consult your tax advisor.
  • Many investments do not fall neatly into that category and might not qualify for the favorable charitable income tax deduction rules. (Provide examples.) Confirm with your tax advisor whether a charitable gift of a particular investment would allow you the full charitable income tax deduction.


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