Conscientious Financial Planning and Retirement Income Management | 201-741-9528
from Lonier Financial Advisory LLC, Osprey, FL

Beware, The End (of the Year) is Coming!

Beware, The End (of the Year) is Coming!

It’s that time of year when articles appear filled with old chestnuts about this or that task to complete by year-end to get your financial house in order. Recently I presented some year-end planning items in a webinar to a group of accountants, and in this and the next couple posts, will share with you some highlights. I’m going to skip much of the usual stuff and focus on items that many might not mention but which might be useful to you.

This first post is general housekeeping and a few tax items.

Increase your payroll withdrawal for a sponsored retirement plan by 1%
The main defense we have against the various risks we face that we cannot control or insure is reserves. Take maximum advantage of tax-deferred opportunities to shelter income that you can. Contribute at least enough to cover any match. And if you can’t afford the max, add 1% to last year’s amount. And do that next year. Over time, you’ll build up the healthy savings rate you need without feeling the pinch all at once. If you don’t have a sponsored plan at work, set up an automatic withdrawal into an IRA at a low-cost custodian—ie, Vanguard. Do it. You can’t make up for the lost time—the magic of compounding—later on.

Simplify your financial life and get organized
Consolidate your accounts, rollover orphaned 401(ks) into an IRA, get a grip on your savings and investments. Kinda like putting off that annual physical, we do all kinds of mental accounting so we don’t have to face the facts of our situation. Getting an understanding of exactly where you are is the first step in getting to where you want to go. Oh, and eat your vegetables.

Watch the costs
Move away from the big banks and find a low-cost custodian, invest in low-cost funds, and find a low-cost advisor. Stop paying for marketing and branding and focus on basic investment strategy (will cover in the third post). Costs compound just like interest. Over a lifetime, even over a retirement period, the money you lose to costs is sizable and quite simply gone.

QCDs (Qualified Charitable Deductions)
If you’re 70-1/2, and don’t need some or all of the RMD (required minimum deduction) from your IRA for income, you can donate some or all of it to charity, up to $100,000, and not pay taxes on the donated amount. This can help you avoid hitting the income threshold for higher taxes on your Social Security benefits and the threshold for higher premiums for Medicare Part B. Once again this provision expires this year, and hopefully congress won’t forget about it while fighting about everything else.

Tax loss harvesting
If you have investments in taxable accounts and are carrying a short-term loss this year, say in an index fund like VTI, you can sell it to book the loss, buy a similar fund with a different index, like VOO, to avoid the 30-day wash rule, and deduct up to $3,000 from current income, with a carry forward for any excess. Free money. I won’t go into offsets against capital gains, but that’s part of it too, if it applies. Hopefully you don’t have this issue with individual stocks. You think you’re Peter Lynch? You think your advisor or his company, which was probably bankrupt 5 years ago, is Peter Lynch? You shouldn’t be buying individual stocks!

Managing the AMT
We have two tax systems today, and if you weren’t aware, you may be soon enough as the exclusion amount affects more and more people. There’s the good old fashion regular 1040-style income tax, and there’s Alternate Minimum Tax, which is a flat tax figured on income above two thresholds, 26% tax on AMTI above $80,800 for joint filers, and 28% tax above $153,900. You pay whichever is highest, 1040 form or AMT. AMT is calculated without tax preference items—the ones you want to watch for are high mortgage interest, high property, sales and state taxes, and high misc. deductions. In other words, if you have high itemized deductions and an AGI over the thresholds, you may get stung by the AMT. So the usual advice to clump and accelerate deductions and defer income may be exactly wrong if you’re going to be eligible for AMT this year, and maybe not next year, because, for instance, you’re exercising stock options or have a big bonus check coming. If you accelerate deductions into this year and pay AMT this year but not next, you’re wasting the deduction because it doesn’t count this year against AMT but might count next year against your 1040. You should sort this out before year-end. Couldn’t taxes possibly be any simpler?

Speaking of Stock Options
This can get involved, so I won’t go into detail, but keep in mind that AMT considers paper gains on the exercise of stock options during the year, even if not sold, as income for AMT calculation. That means the exercise can trigger the AMT even if you don’t sell the stock, and you’ll need cash to pay the tax. May have to sell them after all. Which may not a bad thing—are you over concentrated in your company’s stock? After all, your human capital—income—comes from the company. How much of your financial capital is tied to its health as well? If the company is in a risky business, like financial services, publishing, oil, pharma, airlines, well maybe almost any business, and takes a hit, you could take a double hit. Ouch. Diversify away that business risk.

Gift-giving season
The $14,000 per recipient, per spouse, per year exemption for non-reportable gifts is still in effect. You can give more, but it triggers an annual gift tax return where you have to track the total of gifts to be included in your lifetime exclusion of $5.25 million/ $10.5 million per married couple. Most will not bump up against the lifetime exclusion and trigger an actual tax, but the annual gift-tax paperwork is just one more annual chore to do without. If you have a need for a higher gift, split the gift across the year-end—$28,000 per couple on Dec. 25, say, and another $28,000 per couple on Jan. 1. That’s $56,000 to a single recipient in the space of a week.

529 Plans College Saving Plans
Have kids or grandkids? Thinking about kids? Hoping for grandkids? Start a 529 plan for tax-deferred college savings and tax-free tuition payments (sorry, no tax-deduction for the account contributions). Starting a 529, you can take advantage of a sweetener and make a one-time gift to the account of $70,000 during the first year—five times the annual $14,000 limit (but no further gifts within the five-year period without filing a gift tax form). Even better you don’t have to wait for junior to be born. Set up the account in your own name and transfer it to junior when the little darling comes along. You can transfer the account beneficiary at any time to anyone in your family while retaining control of the account. Or spend it on yourself in retirement for that Phd in astronomy you always wanted.

Section 179 Deduction
If you’re a small business owner, you can deduct up to $500,000 in capex expenses if a) you are profitable b) the deduction cannot exceed the year’s profit but can carry-forward and c) your total capex spending for the year is under $2-2.5 million. This allows the full deduction of the capex cost in year one instead of spreading out the depreciation deduction over the useful life of the asset (5+ years). There’s also a 50% bonus depreciation deduction on new equipment above the $500,000 limit as well, and can be used for a tax loss. The Taxpayer Relief Act of 2012 passed in January also raised the 2012 limit form $125,000 to $500,000, so it may pay to amend your 2012 return. Next year, the section 179 amount drops back down to $25,000, unless congress acts. Meanwhile, you should act if this is applicable.

It’s open enrollment season, so next time we’ll talk about employee benefits and everyone’s favorite topic, health insurance.

–Michael Lonier, RMA℠

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