Capital Gain

Investors must be aware of the income tax implications of their trading activities. Most know that selling a financial security is a taxable event* and that doing so will usually create a realized capital gain (or loss). Brokers have long advised their clients to “harvest” capital losses as year end approaches since such a realized loss can be used to offset realized capital gains that may have been taken earlier in the tax year. The Internal Revenue Code even allows net realized capital losses (limited to $3,000 annually) to be used to offset ordinary income reported elsewhere on a client’s tax return. This loss harvesting strategy has been practiced for years and is well established in the investment/income tax toolbox. However, far fewer investors are cognizant that harvesting long term capital gains on investments (as opposed to losses) may also be a wise strategy for certain taxpayers.

Income Taxes and Estate Planning

The financial press generates numerous articles about federal estate transfer taxes, often detailing the misadventures regarding the estates of the rich and famous. However, only 1% of estates generate any estate transfer taxes. A working knowledge of the rules applying to possible income taxes, however, is more relevant to many more estates. Parents who are desiring to treat multiple children or heirs equally are sometimes surprised to learn that bequeathing equal dollar amounts will not be equitable after Uncle Sam’s claims are considered.

Qualified Charitable Distributions

We’ll start the year with yet another way for the charitably inclined to reduce their income tax burden. Our posting from December 22, 2020 discussed how Donor Advised Funds can be used to “bunch” several years of donations into one tax year. Doing so may generate enough deductions to allow the taxpayer to reach the higher thresholds for itemized deductions created by the Tax Cuts and Jobs Act of 2017. Today’s topic allows charitably inclined traditional IRA owners to avoid taxation directly.

Tax Breaks For Lower Income Individuals

Our last posting covered tax-saving strategies for the charitably inclined. This week we will cover some tax breaks available to lower-income individuals to assist them in saving for retirement.

Donor Advised Funds

Our most recent posting covered two capital gains strategies that can result in income tax savings. Today, we will address Donor Advised Funds (DAF’s). A Donor Advised Fund is a charitable giving vehicle that has enjoyed increasing popularity in recent years, especially with the passage of the Tax Cut and Jobs Act of 2017. To participate in a donor advised fund, a donating individual opens an account and contributes cash, securities or other financial instruments. The total contribution amount can be claimed as an itemized deduction in the tax year in which the contributions are made. DAF’s can be opened at a variety of sponsoring organizations such as Vanguard Charitable, Fidelity Charitable, the American Endowment Foundation, among others. Once the account has been established and funded, the donor takes on the role of advisor to the DAF. The donor/advisor directs the sponsor to make distributions in the form of cash gifts to eligible 501(C)3 charities. These charitable directives do not have to take place in the tax year the contribution was made; rather, they can be made in the future at the donor/advisor’s discretion.

Tax Savings

Regular readers of our blog may recall a posting from October 6, 2020 that looked at the history and evolution of our federal Income tax system. Our next four articles will discuss some ideas and strategies that can result in tax savings for eligible individuals. It is a well-established fact that many Americans have a limited understanding of our tax code. However, that ignorance can cause them to miss out on some savings opportunities and/or pay more income taxes than necessary. Keep in mind that we will not be suggesting aggressive accounting for deductions and dubious tax shelters. Rather, we’ll call attention to some 100% legitimate ideas for reducing an income tax bill. You simply must be aware of the strategy in order to employ it!

Tax Traps

“You have a silent partner in your IRA and 401K and his name is Uncle Sam.” Kiplinger

Most people have never considered this, but the reality is that your IRA and 401k are joint accounts with the IRS. The dollars you contribute to either of those accounts are dollars that have never been taxed. Ultimately, Uncle Sam will determine how much of that money you keep, and how much he takes.