November 14, 2012
Taxpayers are searching for someone to guide them safely down from the nation's "fiscal cliff" so they can walk away without too many tax bumps and bruises.
"Tax-related anxiety is spreading like a virus," noted John Kilroy, a Phoenixville, Pa., financial planner and certified public accountant in a recent article in the Journal of Financial Planning. He advised planners to calm people down from the perception of "tax Armageddon."
Knee-jerk tax moves could end up doing more harm than good, he said.
Some individuals, for example, ended up regretting the taxes they incurred after selling stocks and converting massive IRAs into Roth IRAs in a moment of tax fear in 2010. They thought then, as they do now, that Congress was about to unleash crippling taxes. Yet it didn't happen then, and 2013 also might not be as threatening as some people think, Kilroy said.
Still, with debt-cutting pressure on the U.S. government, chances are that at some point taxpayers — and especially high-income taxpayers — will face higher taxes. Advisers are telling clients to think now but maybe delay action until they get a clearer glimpse of congressional action closer to year's end.
Some advice is the direct opposite of the usual tax tips that are doled out at the end of each year.
Generally, tax experts have people do as much as possible to delay paying taxes each year. So people who can delay taking income are encouraged to do it until the next year. But this year, advisers are telling people to consider taking 2013 income in 2012, when taxes might be lower.
"The world is upside down," said certified public accountant Robert Keebler, of Green Bay, Wis.
For example, a person expecting a bonus at the start of 2013 might try to receive that bonus in 2012 so it would be taxed at a lower rate. A business owner who plans to bill customers for a year-end purchase might try to get the bill out fast so the payment arrives in 2012. Still, individuals must consider the impact on 2012 taxes before proceeding.
Beyond encouraging clients to move 2013 income into 2012, Keebler is urging people to make large charitable contributions this year rather than next. The thinking: High-income taxpayers might not be allowed to take full deductions for items like charitable contributions in 2013. By making a giant contribution in 2012, Keebler says, the person can harness the full deduction while it's still possible.
Trouble is, 2013 taxes are conjecture at this point. Taxes could go up next year on most taxpayers, or no taxpayers, only individuals earning $200,000 and couples earning $250,000, or only people with incomes over $1 million.
All four ideas have been on the table.
Currently, tax cuts put into effect during the George W. Bush administration, in 2001 and 2003, are set to automatically expire at year's end. And if that happens, all taxpayers will be subject to higher taxes in 2013 than in 2012. Low-income taxpayers would see their 10 percent tax rate jump to 15 percent. The highest-income taxpayers would have their tax rate climb to 39.6 percent. But Congress has talked about stopping the tax increases.
Consequently, political posturing is making 2013 taxes murky and tax planning a gamble.
Besides income tax rate changes, there are other automatic increases. The tax rate on dividends would no longer be at 15 percent. Instead, dividends would be taxed like income people earn on the job.
So the highest rate could rise to 39.6 percent, or 43.4 percent with a new surtax from the Affordable Care Act tacked onto dividends earned by high-income people.
People at all income levels will also owe more taxes if they sell an investment that's gained value since they bought it. Now, a low-income taxpayer can sell stocks, bonds, mutual funds, real estate or other investments after a year and owe no capital gains taxes. But that benefit disappears at the end of this year, and long-term capital gains will be taxed at 10 percent for people in the 15 percent tax bracket. Higher-income people face a 20 percent capital gains tax, or 23.8 percent with the surtax, if Congress doesn't intervene.
Consequently, Timothy Steffen, director of financial planning for Baird Private Wealth Management, said it's almost a no-brainer now for a low-income taxpayer to sell investments that have appreciated since they were originally purchased.
There will be no capital gains tax, and the person can buy back the same investment immediately if they still want to hold it. With that new purchase, the gains in the future will also be limited, and so future capital gains taxes will be minimized.
Meanwhile, estate planning attorneys are setting up trusts that are intended to shelter assets so future generations will get them. But Steven Weinstein, president of Altair Advisers, notes that even these trusts may not be shielded against taxes if the government starts scouring for more sources of revenue.
If there's one thing for certain, it's this: Taxes are quirky, with combinations of actions resulting in unanticipated consequences. Before you act, talk to your planner, someone who knows your circumstances.