• Special Features
  • The Individual Investor’s Guide to Personal Tax Planning 2012—Updated

    New tax legislation was signed into law at the start of the New Year, approximately 2½ weeks after we sent our 2012 tax guide to the printer. The new law permanently extends some provisions of the prior tax law that had expired at the end of 2012 and establishes new rules for high income earners. Here, we update our tax guide to incorporate changes made in the American Taxpayer Relief Act of 2012.

    The biggest change the new law brings is the ending of sunset provisions for many parts of the tax code. Originally scheduled to sunset at the end of 2010, legislation passed in 2010 extended these rules for two more years. The new act makes many, but not all, of the laws permanent, providing greater long-term clarity for taxpayers.

    Income tax rates for most taxpayers will be unchanged going forward. The 10%, 15%, 25%, 28%, 33% and 35% rates would have increased if new legislation had not been passed; instead they are now permanent. A new top bracket of 39.6% has been introduced for single filers with adjusted gross income (AGI) above $400,000 and married couples filing jointly with AGI above $450,000.

    The payroll tax cut (for Social Security) expired at the end of 2012, as was expected. Workers will pay 6.2% of earnings, up to $113,700, in 2013. Those who are self-employed will pay payroll taxes of 12.4% on wages up to $113,700 in 2013. This is a two percentage-point increase from the discounted rates paid in 2011 and 2012.

    A patch to the alternative minimum tax (AMT) was instated retroactively for the 2012 tax year. Starting in 2013, the patch has been made permanent, resolving a long-standing necessity for Congress to pass new legislation to prevent a greater number of taxpayers from being ensnared by the tax. The exemptions for 2012 are $50,600 for single filers and $78,750 for married joint filers. The exemptions rise to $51,900 and $80,800, respectively, in 2013. Starting in 2014, the exemptions will be indexed to inflation.

    There are other changes made by the new legislation, such as a new estate tax and a return of the “Pease” limitation on itemized deductions for high income earners. This update includes all of the applicable revisions made by the new law. A summary of these changes will also be included in the March AAII Journal. If you have questions about how the new changes impact you, contact a tax professional.

    Keep in mind that further changes could occur as a result of the ongoing negotiations to reduce the debt or if an earnest effort to revise and simplify the tax code begins. Regardless of what changes Congress makes (or does not make) to the tax laws, one thing will be constant—you will still have to pay taxes. Furthermore, even a simplified tax code is still likely to be too complex; hence the need for tax guides. As has been the case in years past, our tax guide provides an overview of the tax rates and deductions likely to impact the majority of AAII members. Since there are many details, loopholes and pitfalls within the tax code, it is impossible for this guide to provide enough details to cover specific tax situations. Thus, if you have questions, please consult a tax professional. It is your tax return, and the IRS will hold you responsible for any errors made on it.

    Estimate Your Taxes on AAII.com

    We are carrying over a new feature from last year: the ability to estimate your 2012 and 2013 tax liability on AAII.com. Our Tax Forecasting Worksheet allows you to enter your data on our website. The fillable PDF document will calculate the results. Once you are finished, you can print a copy for your records. (Be sure to print the document if you want to preserve your work, since the document cannot be saved to AAII.com. See the inside front cover of this issue, opposite the Table of Contents, for more details.) We updated the document to account for any applicable changes resulting from new legislation.

    What’s New?

    The federal income tax rates stay unchanged in 2012 at 10%, 15%, 25%, 28%, 33% and 35%. The new 2013 legislation maintains these rates for most taxpayers, but adds a new upper bracket for higher income earners. A 39.6% bracket will apply to taxable income above $400,000 for single filers and $450,000 for married couples filing joint returns.

    Payroll taxes (for Social Security) paid by employees are reduced by two percentage points for 2012. This cut also applied to those who are self-employed. The reduction is limited to the first $110,100 in salary, capping the value of the cut at $2,202. Those who earned less than $110,100 can only keep an extra 2% of their salary. In other words, a worker who earned $50,000 per year was eligible to receive an extra $1,000. Taxpayers who were not employed were not eligible to take advantage of this tax break.

    The payroll tax cut expired at the end of 2012. Effective January 1, 2013, the payroll tax has reverted to its full rate of 6.2% of employee wages.

    A permanent patch to the alternative minimum tax (AMT) has been written into law. The 2012 exemptions were raised to $50,600 for single filers and $78,750 for married couples filing jointly. In 2013, these amounts rise to $51,900 for single filers and $80,800 for married couples filing jointly. The exemptions are indexed to the rate of inflation and will be raised accordingly in the future. This automatic increase is important because previously the AMT exemption was not indexed to inflation. New legislation had to be passed to prevent the AMT from ensnaring an ever larger number of taxpayers.

    The repeal of the phase-out for the personal exemption was extended through 2012. The phase-out returns in 2013, but at higher levels than in the past. The personal exemption phases out at income levels of $250,000 for single filers and $300,000 for married couples filing jointly. According to tax authority CCH, the total amount of exemptions that can be claimed by a taxpayer is reduced by 2% for each $2,500 or portion thereof by which adjusted gross income exceeds the threshold level. Married couples filing separate returns will see their exemptions reduced by 2% for each $1,250 of adjusted gross income.


    ‘Table 1. An Overview of Tax Changes in the Coming Years’

    Families benefited from three tax breaks in 2012. First, an adjustment for the so-called “marriage penalty” puts the standard deduction for married couples filing jointly at double the standard deduction for those filing single. Married couples can claim a standard deduction of $11,900 and single filers can claim a standard deduction of $5,950 on their 2012 tax returns. In 2013, those amounts will increase by $300 and $150, respectively.

    The $1,000 maximum child tax credit was maintained in 2012 and has been extended. The credit was phased out for married couples filing jointly with modified adjusted gross income (MAGI) above $110,000 in 2012 (www.irs.gov/uac/The-Child-Tax-Credit:-11-Key-Points). If the child tax credit exceeds the tax liability, the difference will be paid to the taxpayer subject to certain requirements.

    The estate tax exemption is now indexed to inflation. The exemption rose to $5.12 million in 2012 and will rise to $5.25 million in 2013. Effective in 2013, a new, higher tax rate of 40% goes into effect.

    Capital gains and dividend taxes stay at 2010 levels in 2012. Both long-term capital gains and qualified dividends are taxed at 15% if incurred for securities held within a taxable account. (There is no capital gains tax or dividend taxes for securities held within a retirement account, such as an IRA. See Robert Carlson’s article, “Do’s and Don’ts of IRA Investing,” in the March 2010 AAII Journal for investments that can cause an unexpected tax problem; the article is available at AAII.com.) Collectibles, which include gold coins and bars, are taxed at a 28% rate. Short-term capital gains are taxed as ordinary income. If you are in the 10% or 15% tax bracket, long-term capital gains and qualified dividends are not taxed. In 2013 and beyond, capital gains and dividend tax rates will stay unchanged for most taxpayers. Single filers with incomes above $400,000 and married couples filing jointly with incomes above $450,000 will pay a 20% tax on long-term capital gains and dividends. Single filers with net investment income or modified adjusted gross incomes above $200,000 and married couples filing joint returns with net investment income or modified adjusted gross incomes above $250,000 will also pay a new, additional 3.8% tax on capital gains and dividends. Collectibles, which include gold coins and bars, are taxed at a 28% rate, but are eligible for the new 3.8% additional tax as well.

    Cost Basis Now Reported for Stocks, Bonds, Funds and Options

    The cost basis and the proceeds from mutual fund, exchange-traded fund (ETF) and dividend reinvestment plan (DRP) shares purchased after January 1, 2012, will be reported by your mutual fund family or broker. Brokers are also required to track and report the cost basis for all options and bonds purchased after January 1, 2013. Brokers have previously been required to report cost basis for stocks purchased after January 1, 2011. The rule does not apply to securities and funds purchased before those dates.

    This is a change from what brokers had historically reported. Previously, only proceeds were listed on Form 1099-B. On January 1, 2011, a three-year rolling period began for brokers to also list the cost basis and state whether the gain or loss is short term or long term. The rule applies to all brokers, including online and full-service brokers.

    The change was the response to a 2008 law passed by Congress. The law is intended to limit the loss in revenues caused by investors who underestimate their capital gains on tax returns.

    A default accounting methodology known as first-in, first-out (FIFO) is used when the purchase of securities (other than a mutual fund or DRP shares) involves more than one transaction. The FIFO method treats the first shares purchased (“first in”) as also being the first shares sold (“first out”). Depending on how the stock has performed, this treatment can result in a larger tax bill (the shares appreciated in value) or a bigger capital loss (the shares fell in value).

    For mutual funds and DRP stocks, the adjusted basis must be reported in accordance with the broker’s default method, unless you specify otherwise. You can specify average cost basis instead of FIFO. As the name implies, the average purchase price for your shares, regardless of when they are acquired, is used to determine the cost basis. Another option is specific identification. The specific identification method allows you to choose the specific shares that are sold. This treatment can also result in a larger or a smaller tax bill depending on how the fund has performed relative to the purchase price of the selected shares. You may be able to use other methods such as highest-in, first-out (HIFO) or last-in, first-out (LIFO). Contact your broker, fund family or DRP program to determine what their default methodology is and what choices you have for selecting methodologies.

    If you want your broker or fund family to use a specific methodology other than their default methodology (e.g., FIFO for stocks or average cost for mutual funds), you must notify them. In order to do this, you must provide written instructions to your broker detailing your intentions before the order is executed, not afterward. Dustin Stamper at Grant Thorton’s National Tax Office emphasized the importance of providing these instructions in writing. If you give your broker or fund family specific instructions and they report a different methodology to the IRS, the only way you can dispute what is on Form 1099-B is to provide a dated copy of your instructions. Stamper said that investors will not be able to retroactively determine which shares were sold; they must provide written instructions at or before the time the shares are sold.

    New Health Care Reform Taxes

    Two new taxes stemming from health care reform went into effect on January 1, 2013. The first is a 0.9% Medicare tax on wages, compensation and self-employment income above $250,000 for married persons filing jointly and $200,000 for single persons. The second is a 3.8% levy on net investment income that applies to married couples filing jointly and single filers with net investment income or modified adjusted gross income exceeding $250,000 and $200,000, respectively. More information about the new taxes can be found in the box here.

    Estate Tax

    The first $5.12 million of an estate is excluded from taxes for those who passed in 2012. This is a per spouse exclusion and it is portable, meaning if one spouse passes away, the surviving spouse can claim the exclusion, resulting in a total effective exclusion of $10.24 million in 2012. The large figures will prevent most families from having to pay estate taxes.

    The step-up basis rule remains in effect for 2012 and beyond. If an inherited asset was sold, the capital gain resulting from the sale is calculated as the difference between the proceeds at the time of the sale transaction and the value of the assets at the time of inheritance.

    As previously stated, the estate tax exemption will rise to $5.25 million and the tax rate will rise from 35% to 40% in 2013. The step-up basis remains in effect.

    Health Care Reform’s Impact on Taxes

    Tax code changes included in the 2010 Patient Protection and Affordable Care Act went into effect on January 1, 2013. These changes include two new taxes, the amount of medical expenses that can be deducted and how much can be contributed to a flexible savings account.

    The first of the new taxes is the 0.9% Additional Medicare Tax. This levy will apply to wages, compensation and self-employment income above $250,000 for married persons filing jointly and qualifying widows(ers), $200,000 for single persons and head of households and $125,000 for those who are married but filing separately. The tax applies to wages that are subject to the Medicare Tax and does not depend on adjusted gross income. Should the additional tax not be withheld from wages (a situation that could occur for dual-income couples or individuals working more than one job), the tax could be subject to a penalty if not paid with estimated taxes or through additional withholdings (you can request that your employer increase the income tax withholding on your W-4). More information about the Additional Medicare Tax can be found on the IRS’ website at www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Questions-and-Answers-for-the-Additional-Medicare-Tax.

    The second new tax is the 3.8% Net Investment Income Tax (NIIT) on net investment income. This applies to the lesser of net investment income or modified adjusted gross income exceeding $250,000 for married persons filing jointly and qualifying widowers, $200,000 for single persons and head of households and $125,000 for those who are married but filing separately. (These thresholds are not indexed for inflation.) Investment income subject to the tax includes, but is not limited to, taxable interest, dividends, non-qualified annuities, rents and royalties, capital gains and passive income from partnerships. Capital gains from the sale of one’s primary residence is subject to the tax to the extent the income exceeds the applicable home sale exclusion ($500,000 for joint filers and $250,000 for single filers). Excluded from the new tax are tax-exempt interest (e.g., municipal bond interest payments), distributions from individual retirement accounts (IRAs) and distributions from qualified retirement plans (e.g. 401(k) plans). The IRS has answers to common NIIT questions at www.irs.gov/uac/Newsroom/Net-Investment-Income-Tax-FAQs.

    Uninsured medical expenses must exceed 10% of adjusted gross income before they can be claimed as a deduction in 2013. This is an increase from the 7.5% floor that existed in 2012. Individuals age 65 and older continue to qualify for the lower 7.5% floor, however.

    Flexible savings arrangement contributions are now limited to $2,500 annually. This limit will be adjusted for inflation starting in 2014. Previously, the maximum contribution was set by employers.

    Change in Capital Gains Reporting

    Effective January 1, 2012, brokers and mutual fund companies were required to report the cost basis for mutual fund, exchange-traded fund (ETF) and dividend reinvestment program (DRP) shares bought and sold by their clients after January 1, 2012. This is a change from previous years, when brokers and mutual fund companies only reported the proceeds from a sale. This was the second part of a rule that went into effect in 2011 and required brokers to report the cost basis for stocks sold by their clients and bought during 2011 or later. Similar requirements for options and bonds just went into effect on January 1, 2013, for options and bonds purchased after January 1, 2013.

    If you sold a capital asset in 2012, you will need to fill out Form 8949. See the special write-up in the “Cost Basis” box here for details on the new rules.

    Self-Employed Health Insurance

    Medical insurance premiums for the self-employed are deductible and can be used to reduce adjusted gross income for 2012 and 2013 on Form 1040.

    Tax Software, Books and Guides

    Although the tax rates, deductions and exemptions for 2012 are mostly known, if you use a software program (e.g., TurboTax), book (e.g., “J.K. Lasser’s Your Income Tax 2013”) or a related aid, check for updates before filing. Doing so will ensure that you are using the most up-to-date information.

    Be sure to check for updated information regarding 2013 as well, if you intend to plan for this year. Since the new legislation was not passed until the start of January 2013, the first versions of the aids will likely have incomplete or outdated information. Check with the provider of any software, book or guide to see if a download or a supplement is available.

    For a complete tax guide to the buying and selling of your personal investments, go to our Personal Investments 2012 Tax Guide.

    Useful Tax Numbers

    Here is a list of the tax rates, deductions, exemptions, credits and other related items that may apply to your 2012 and 2013 taxes. These numbers have been updated to include changes made by the American Taxpayer Relief Act of 2012. (This new law was passed after this guide’s original publication.)

    Standard Deduction

    For 2012, the standard deduction is $11,900 for married couples filing a joint return, $5,950 for those who are single or those who are married filing separate returns and $8,700 for heads of household.

    For 2013, the standard deduction will be $12,200 for married individuals filing a joint return, $6,100 for singles and married individuals filing separate returns, and $8,950 for heads of household.

    Personal Exemptions

    The 2012 personal exemption is $3,800. The exemption can be claimed for yourself, your spouse (if filing a joint return) and any qualifying dependents. There is no phase-out for the personal exemption—regardless of your income level, you can claim the full amount.

    The personal exemption will rise to $3,900 in 2013. The exemption will start to phase out at $300,000 for married couples filing jointly and $250,000 for single filers.

    Individual Retirement Accounts and 401(k) Plans

    The maximum allowed IRA contribution is unchanged in 2012 at $5,000 ($6,000 for any individual who is age 50 or older). The contributions can be fully deducted for modified adjusted gross incomes (modified AGI) below $92,000 for joint returns and below $58,000 for single filers. In 2013, the maximum contribution amounts will increase by $500 to $5,500 ($6,500 for those age 50 or older). The maximum modified AGI levels will rise to $95,000 and $59,000 for married filing joint and single returns, respectively.

    In 2012, the maximum annual contribution limit for 401(k)s is $17,000 ($22,500 if you are age 50 or over); in 2013, those amounts will rise to $17,500 and $23,000 respectively.

    In 2012, the maximum annual contribution for SIMPLE plans is $11,500 (those age 50 or over can make a maximum catch-up contribution of $2,500); in 2013, the maximum contribution will rise to $12,000.

    Qualified Plan Contributions

    In 2012, the maximum annual contribution for qualified plans, including SEP and Keogh plans, is $50,000 or 25% of your compensation, whichever is less; in 2013, the maximum contribution will be $51,000 or 25% of your compensation, whichever is less.

    Estate and Gift Tax Limits

    The 2010 revisions to the estate tax law established a $5.12 million exemption in 2012. This exemption was portable. The exemption is indexed to inflation and will rise to $5.25 million in 2013. See the previous section about the estate tax for information on calculating taxable gains from the sale of the inherited assets.

    The annual gift tax exclusion is $13,000 in 2012 and $26,000 for consenting couples. (You will need to file Form 709.) The exclusions rise to $14,000 and $28,000 in 2013.

    Required Minimum Distributions (RMDs)

    Individuals age 70½ and older were required to take a distribution from their retirement accounts by December 31, 2012. These accounts included 401(k) plans, 403(b) plans, 457(b) plans, traditional IRAs, SEP IRAs, SARSEP IRAs, SIMPLE IRAs and Roth 401(k) plans. Roth IRA plans are exempt while the owner is alive.

    You were also required to take a required minimum distribution (RMD) in 2012 if you were 70½ or older during the calendar year.

    If you turned 70½ in 2012, you have until April 1, 2013, to take your first RMD. You will need to take a second RMD during 2013 to satisfy that year’s distribution requirement.

    According to the IRS, “Generally, an RMD is calculated for each account by dividing the prior December 31st balance of that IRA or retirement plan account by a life expectancy factor that IRS publishes in tables in Publication 590, Individual Retirement Arrangements (IRAs).”

    Child Tax Credit

    In 2012 and 2013, the maximum child tax credit for dependent children younger than 17 is $1,000.

    Kiddie Tax

    In 2012, the “kiddie tax” applied to children up to age 18 and could apply to children up to age 23—depending on how much earned income they have and whether or not they are full-time students.

    Under the kiddie tax rules, children with investment income above a certain amount may have part or all of their investment income taxed at their parents’ income tax rate.

    For 2012, the kiddie tax applies if the child is age 17 or younger by the end of the year and the child’s total investment income for the year is more than $1,900. In 2013, the kiddie tax will apply if the child’s total investment income exceeds $2,000.

    In addition, the kiddie tax can apply to older children, depending on how much earned income they have and whether or not they are full-time students:

    • Starting in the year that your child turns 18, the kiddie tax will apply if your child’s earned income (including salaries and wages, commissions, professional fees and tips) is less than half of the child’s overall support.
    • Starting in the year your child turns 19, the kiddie tax will apply if your child is a full-time student.
    • The kiddie tax will stop applying in the year your child turns 24.
    • The kiddie tax will also not apply if your child is married filing jointly.

    Charitable Donations

    Donations of clothing and other personal items must be in “good condition” or better in order to be deducted. Form 8283 must be filled out if your total deduction for all noncash contributions exceeds $500.

    In addition, charitable contributions of cash (regardless of the amount) to any qualified charity must be supported by a dated bank record (such as a cancelled check) or a dated receipt from the charity that must include the name of the charity and the date and amount of the contribution.

    The American Taxpayer Relief Act of 2012 extends a provision that allows those age 70½ or older to distribute up to $100,000 from their traditional individual retirement account (IRA) tax-free to qualified charities for both the 2012 and 2013 tax years. (You have until January 31, 2013, to make a charitable distribution from your IRA for the 2012 tax year.)


    Taxpayers who itemize deductions can deduct (as a medical expense) the premiums they pay for Medicare Part B supplemental insurance and Medicare Part D prescription drug insurance. Premiums for voluntary coverage under Medicare Part A are only deductible by those over the age of 65 and not covered by Social Security.

    Medical expenses must exceed 7.5% of adjusted gross income to qualify for deductions. In 2013, a new, higher 10% floor for deducting medical expenses has been instituted for those under the age of 65. Those age 65 and older can still deduct uninsured medical expenses above 7.5% of their adjusted gross income.

    Itemized Deduction Phase-Outs

    The phase-out of itemized deductions for taxpayers with adjusted gross income above a certain amount was fully repealed in 2010. This repeal remains in place for 2012, allowing the full benefit of itemized deductions to be applied. The phase-out returns in 2013 for both single and married filing jointly taxpayers with incomes of $250,000 and $300,000, respectively, or higher.

    Planning Considerations: Married taxpayers filing jointly will need to calculate whether taking the increased standard deduction or itemizing deductions will generate the most tax savings overall. When doing so, make sure to consider whether state law restricts the ability to itemize to only those who itemize for federal purposes. The higher deductions may also require more couples to pay alternative minimum tax (AMT).

    Health Savings Accounts

    You may be able to deduct contributions to a Health Savings Account (HSA). These tax-free savings accounts were established under the Medicare Act of 2003, and can be used to pay for medical expenses incurred by you, your spouse or your dependents. They are used in conjunction with high-deductible health plans, where your basic health insurance does not cover first-dollar medical expenses.

    HSAs may be established by anyone who is covered by an HSA-qualified “high-deductible health plan,” is not covered by any other health insurance and is not enrolled in Medicare. Qualified high-deductible health plans must have an annual deductible of at least $1,200 for self-coverage and $2,400 for family coverage in 2012; these minimums rise to $1,250 and $2,500, respectively, for 2013.

    Tax-deductible contributions can be made to the health savings account up to a maximum of $3,100 for self-coverage and $6,250 for families in 2012. In 2013, these amounts will increase to $3,250 and $6,450, respectively. If you are over age 55, you can also make a “catch-up” contribution to your account of up to $1,000 and still enjoy the same tax advantages.

    Individuals can also make a one-time transfer from their IRA to an HSA, subject to the contribution limits applicable for the year of the transfer.

    Contributions to HSAs can be made by you, your employer or both. You can fully deduct your own contributions to an HSA, even if you do not itemize, and contributions made by your employer are not included in your taxable income. The interest and investment earnings generated by the account are also not taxable while in the HSA.

    Amounts distributed from the HSA are not taxable as long as they are used to pay for qualified medical expenses. They can be used to:

    • Cover the health insurance deductible and any co-payments for medical services, prescriptions, or products;
    • Purchase over-the-counter drugs (a doctor’s prescription is required to deduct over-the-counter medication) and long-term care insurance and expenses; and
    • Pay health insurance premiums or medical expenses during any period of unemployment.

    Amounts distributed that are not used to pay for qualified medical expenses will be taxable, plus a 20% penalty will be applied.

    HSAs are similar to IRAs in that they are owned by individuals—you are not dependent on a particular employer to enjoy the advantages of an HSA. And if you change jobs, the HSA goes with you.

    What if you already have an existing medical savings account (MSA)? In that case, you can either retain it or roll the amount over into a new HSA.

    For more information on HSAs, read IRS Publication 969, available at www.irs.gov.

    Sales Tax Deduction

    The provision allowing taxpayers who itemize deductions the option of choosing between a deduction of sales taxes or income taxes when claiming a state and local tax deduction was extended into both 2012 and 2013.

    Tax-Exempt Interest Reporting

    State and local governments are required to report interest paid on tax-exempt state and local bonds on Form 1099-INT, Interest Income. This amount must be shown on your tax return and is for information only.

    Health Savings Accounts

    You may be able to take a deduction if you contributed to a Health Savings Account (HSA). To qualify, you must be covered by a “high-deductible health plan.”

    More information on this can be found here.

    Education Savings

    The maximum American Opportunity education credit was $2,500 per year for the first four years of post-secondary education for tuition and related expenses (including books). This credit has been extended and can be claimed in both 2012 and 2013.

    The Lifetime Learning credit can be claimed for education expenses beyond the fourth year of post-secondary education and for non-degree courses intended to improve job skills. The maximum credit is $2,000 annually and is subject to income phase-outs.

    You can make non-deductible contributions to qualified tuition plans, also known as section 529 plans. (However, the contributions may be deductible from your state income tax, depending on where you live.) These accounts, offered by states or their designees, are maintained solely for the qualified higher education expenses of a beneficiary. Distributions are tax-free, provided that the distributions are used to pay qualified expenses.

    For 2012 and beyond, the contribution limit to a Coverdell Education Savings Account stays at $2,000 per beneficiary. The contributions are not deductible, but they grow tax-free in the IRA. Coverdell accounts may be used to fund qualified elementary, secondary and higher education expenses. However, the amount that can be contributed is limited for higher-income taxpayers.


    ‘How Much of Your Social Security Is Taxed?’

    Investment Strategies: 2013 and Beyond

    The fiscal cliff was just the latest event to make long-term tax planning difficult. It was merely two years ago that a temporary, last-minute deal was required to extend the Bush-era tax cuts. With a long-term debt reduction plan needed and an economy that is still growing at a slow pace, it is likely that more tax law changes will be made.

    Though we cannot predict what the politicians in Washington will do, or when they will do it, there are strategies that make sense regardless of the legislative environment. Listed below are traditional tax planning strategies that can help keep your tax bill down. It is important, however, to keep in mind that your goals and risk tolerance, not just the income tax impact of an investment, should drive your investment decisions.

    Consider Roth IRA Conversion Opportunities

    You have the option of converting all or part of your traditional IRA into a Roth IRA, regardless of your adjusted gross income. Roth IRAs can provide certain advantages: The converted assets can be withdrawn tax-free at any time, future earnings are also tax-free (with some limitations) and Roth IRA owners are not required to take any minimum distributions in retirement. The downside, however, is that the conversion amount is taxable in the year it occurred.

    While the benefits of a Roth IRA conversion could be considerable, taxpayers must carefully weigh the upfront tax costs against the long-term tax advantages. For more on this, see “Retirement Plans: Evaluating the New Roth IRA Conversion Opportunity” by Christine Fahlund in the November 2009 AAII Journal and “New Rules for Converting to a Roth IRA” by William Reichenstein, Alicia Waltenberger and Douglas Rothermich in the January 2010 AAII Journal (both available at AAII.com). Though the articles discuss the one-time, 2010 option for delaying the taxes from the conversion, their suggestions regarding whether to convert or not continue to be applicable. You may also want to consult a tax adviser for the best strategy. (Note that if you converted to a Roth IRA in 2010 and chose to spread the tax payments over two years, the second-half of the liability is due with your 2012 taxes.)

    You cannot convert required minimum distributions (RMDs) from your traditional IRA for a particular year (including the calendar year in which you reach age 70½) to a Roth IRA. IRS publication 590 explains the rules for RMDs and Roth IRA conversions.

    What You Can Keep From Selling Your Home

    You may be able to exclude up to $250,000 of gain ($500,000 for married taxpayers filing jointly) when you sell your main home. The exclusion is allowed each time you sell your main home, but no more than once every two years.

    To exclude the gain, you must have owned the home and used it as your principal residence for at least two out of the five years before its sale. Periods of use include short absences (such as summer vacations), but not longer breaks (such as one-year sabbaticals). You also must not have excluded the gain on another home sale during the two years before the current sale.

    Married taxpayers filing a joint return can exclude gains if either qualifies for the year of the sale, but both spouses must meet the use test to claim the $500,000 maximum exclusion.

    If you do not meet the ownership and use tests, you may be allowed to exclude a reduced amount if the sale was due to health, a change in employment or certain unforeseen circumstances.

    A widow or widower can take up to two years after the death of a spouse to sell a home and claim the $500,000 exclusion, as long as the survivor has not remarried and the sale would otherwise meet the requirements.

    Be aware that under a change in tax laws that took effect in 2009, if you convert a second home into your main home, you may not be able to exclude all of your gain on the subsequent sale of that home even if you meet the ownership and use requirements. The portion of the gain that is no longer excludable is based on the ratio of the time after 2008 that it was a second home relative to the total time you owned it.

    Excluded gains are not reported on your federal tax report; unexcluded gains are reported on Schedule D, Capital Gains or Losses.

    For a complete description of the rules, see IRS Publication 523, Selling Your Home, available at www.irs.gov.

    Take Advantage of Lower Marginal Rates

    Deferring income that is taxed at higher ordinary tax rates makes sense. Most taxpayers will pay long-term capital gain tax rates of 0% or 15%. For single filers with income above $400,000 and married couples filing jointly with income above $450,000, long-term capital gains rates rise to 20% in 2013. Short-term capital gains, in contrast are taxed at ordinary income tax rates, which run as high as 39.6% in 2013. The new 3.8% Net Investment Income Tax (NIIT), which went into effect on January 1, 2013, applies to taxpayers with income above the $200,000/$250,000 threshold in 2013. This tax applies to both short- and long-term capital gains, as well as taxable interest, dividends, non-qualified annuities, rents and royalties, and passive income from partnerships.

    Similar rules apply to qualified dividends. For single filers with income above $400,000 and married couples filing jointly with income above $450,000, dividends will be taxed at 20% in 2013.

    Though tax considerations should never be the primary reason for selling a security, if you have large positions in either gifted or inherited stocks, or stocks received from a sale of a business, you should consider whether it makes sense to sell shares over a period of time to take advantage of the long-term capital gains rates and use the proceeds from selling the stock to diversify your portfolio. This is particularly the case if a large portion of your wealth is concentrated in just a few securities.

    Use Losses Carefully

    While tax considerations should not drive your investment decision, you can take advantage of losses in holdings that you would prefer to either sell or reduce from an investment standpoint.

    Capital losses first reduce capital gains: long-term losses reduce long-term gains first, and short-term losses reduce short-term gains first. Any long-term losses left over reduce short-term gains, and vice versa. If you still have losses remaining after offsetting capital gains, you can reduce your “ordinary” income by up to $3,000. Losses not used this year can be carried forward to future years until they are used up. For more information, see “Capital Pains: Rules for Capital Losses” by Julian Block in the September 2010 AAII Journal (available at AAII.com).

    When planning, make sure you don’t run afoul of the wash-sale rules. If you sell an investment at a loss and then acquire substantially identical securities during the 30-day period before or 30-day period after the sale, the loss will be disallowed. If your loss is disallowed by the wash-sale rule, you can reduce the cost basis of the new stock by the amount of the disallowed loss. The holding period for the new stock is also adjusted to include the holding period of the stock sold at the disallowed loss. You cannot adjust the cost basis or holding period, if you acquire the investment in an IRA or Roth IRA, however.

    Be Careful With Fund Distributions

    Investment returns generated by a mutual fund or an exchange-traded fund (ETF) can take the form of dividends, interest or capital gains and losses. Funds are required to distribute dividends, interest and net realized gains to you each year. (However, both mutual fund and ETF managers can use strategies to limit distributions and offset realized capital gains; therefore, it is possible for a fund not to distribute a realized gain for a given year.)

    Distributions are taxable whether you take them in cash or reinvest them in fund shares, unless they are income dividends from tax-exempt municipal bond funds, or if they are within a tax-sheltered account such as an IRA. (Capital gain, dividend and ordinary income taxes are generally not triggered for funds held in an IRA; rather, withdrawals from a traditional IRA, or similar type of account, are taxed.)

    The status of any capital gain or dividend distributed to you by a fund depends on how long the fund owned the securities that produced the gain or dividend—not on how long you owned shares in the fund. The information you will need to determine how your distributions are taxed will be on your fund’s Form 1099.

    What about losses?

    A fund’s capital losses are never distributed to shareholders, but are used to offset capital gains realized by the fund during the year. Any additional losses are carried forward by the fund to apply against gains realized in the future. The only losses you can claim are those you may have incurred when you redeemed your own shares of a fund.

    Because fund distributions are taxed even if they are reinvested, it is important to remember that you should add reinvested income, dividends and capital gains (from both taxable and tax-free funds) to your original cost basis when it comes time to figure gains or losses on any fund shares that are sold. If you do not, you will, in effect, be paying taxes twice on those distributions. (As of January 1, 2012, mutual funds and brokers were required to report the cost basis for mutual fund shares and ETFs bought and sold after that date.)

    In addition, consider delaying an investment in a fund if you are investing close to the fund’s ex-dividend date. When a distribution is made, it is subject to tax, even if you reinvest it in that fund (although the reinvested amount increases your tax basis in the fund).

    Most funds commonly make distributions toward the end of the year. Investors must be wary of the distribution date. Generally, you should not invest in a fund shortly before its distribution date, because a portion of your investment will be immediately returned to you with an accompanying tax liability. Most mutual fund and ETF providers should be able to give you a good idea of when their year-end distributions will take place, so calling the fund company prior to investing can be a wise move.

    AAII’s “Individual Investor’s Guide to the Top Mutual Funds” and “Individual Investor’s Guide to the Top Exchange-Traded Funds” list tax-cost ratios for all covered funds. The February 2013 AAII Journal will include the latest mutual fund guide; the ETF guide was published in the August 2012 AAII Journal.

    Consider the Impact of Taxes on Mutual Fund Investments

    Selecting tax-aware managers of mutual funds may be important to maximizing your aftertax rate of return in your taxable investment portfolio.

    You may choose when to sell shares of the fund and may, therefore, create long-term versus short-term capital gains, as long as you notify the fund family or your broker in writing with specific instructions. But you don’t control the investments within the fund. Should an equity manager fail to extend the holding period on a stock, it could cost you 19.6% of your gain (39.6% ordinary rate for short-term capital gains versus the 20% long-term capital gains rate).

    Some mutual fund dividends can be treated as qualified dividends and eligible for the reduced tax rate (if legislation to extend it is passed), while others will not qualify. Dividends paid by stocks held by the fund and passed through to the shareholder are eligible for the qualified dividend tax treatment. However, capital distributions and bond interest are not. These payments are reported on Form 1099, which specifies the type of distribution.

    More on mutual fund distributions can be found at here.

    Reconsider Taxable Versus Tax-Free Bonds

    Interest from tax-free municipal bonds is generally exempt from federal income taxes, unlike the interest from taxable bonds, which is taxed as income. Like any bond, credit quality matters, as you want to ensure that the issuer will not default. Changing yields can also alter the aftertax yield advantage, making municipal bonds more or less attractive to taxable bonds.

    Additionally, private-activity bonds (a type of tax-free bond) could increase your exposure to the alternative minimum tax since their interest income is taxable for purposes of the alternative minimum tax. There are exceptions, including qualified 501(c)(3) bonds, New York Liberty bonds and Gulf Opportunity Zone bonds. Furthermore, the interest on qualified bonds issued in 2009 and 2010 is not subject to the alternative minimum tax. Check with the bond issuer to find out the bond’s tax status.

    You should review your bond and money market accounts to make sure that you are earning the highest aftertax return. But don’t forget to consider the state tax implications of switching from tax-free to taxable bonds before making any final portfolio decisions.

    Consider Increasing Retirement Savings

    Increasing retirement savings makes sense from a financial planning standpoint and, depending on your adjusted income, may reduce your tax bill. You have until April 15, 2013, to make an IRA contribution for the 2012 tax year.

    The payroll tax cut was not extended into 2013. Workers will resume paying a 6.2% Social Security levy on earnings. This tax will apply to earnings up to $113,700.

    Review the Tax Implications of Taxable Versus Tax-Deferred Accounts

    The spread between capital gains and ordinary income rates has important implications with respect to your asset allocation between taxable and tax-deferred (retirement) accounts. For example, from a tax perspective, holding individual stocks in tax-deferred accounts and bonds in taxable accounts could be expensive because the long-term gains resulting from stocks held in tax-deferred plans such as IRAs or 401(k) plans will be taxed at ordinary rates when taken as a distribution. By reversing that structure, taxable bonds and other tax-inefficient assets will be shielded from taxation in the deferred accounts, while equities will enjoy the reduced rates for capital gains in personal accounts. Tax-free municipal bonds should, of course, remain outside of retirement accounts. Individuals should also consider the cost of commissions and taxes, current cash flow needs, and the new 0.9% Additional Medicare Tax and 3.8% NIIT before making any investment moves between taxable and tax-deferred accounts.

    Protect Social Security Benefits

    If you are receiving Social Security benefits, you may have to pay taxes on them if your modified adjusted gross income (primarily your taxable income plus any tax-exempt interest income plus half of your Social Security benefits) exceeds certain levels. To protect your benefits, watch the amount of interest you receive from municipal bonds, since this amount is included in your modified adjusted gross income when determining the Social Security benefit taxability. In addition, you may want to delay taxable distributions from a retirement plan or IRA.


    It is important to remember that taxes are not the key to investment planning. However, one thing is certain: There will be more tax changes coming, and everyone should consider how the changes directly affect their overall tax and investment strategies.

    Tax Planning Strategies

    All Taxpayers: Determine Where You Are at the End of the Year

    At the end of each year, you should take the time to assess your tax situation. Doing so will give you the opportunity to shift certain items around, should that be beneficial in terms of your tax liability. Taking a few initial steps now and using year-end planning strategies can result in significant tax savings.

    How can you effectively plan?

    Here are the basic steps you should take to help start your personal tax planning:

    • Estimate your income, deductions, credits and exemptions for 2012 and 2013 using the Tax Forecasting Worksheet (page 17 and on AAII.com in a fillable PDF; the worksheets have been updated to reflect the new tax law);
    • Identify items that you can shift from 2013 into 2014 and beyond (or vice versa);
    • Determine your marginal tax rate—the rate at which your next dollar of income will be taxed—for 2013 and 2014;
    • Determine how much tax you owe and when you must pay it to avoid underpayment penalties;
    • Determine whether you are subject to the alternative minimum tax (AMT);
    • Consult with your tax professional, and then take the actions needed to make the best of your tax situation.

    To minimize your taxes, consider both short-term and long-term tax planning issues and strategies. Starting early will give you extra time to obtain additional information about items that concern you and to investigate additional ideas for tax savings or deferral. The Tax Forecasting Worksheet will provide a starting point for evaluating the tax effects of various strategies.

    Avoiding Tax Underpayment Penalties

    Make sure you determine your 2013 tax liability as early as possible, as well as the due dates for paying those taxes (including the self-employment tax and the alternative minimum tax), so that you avoid underpayment penalties.

    Federal tax law requires the payment of income taxes throughout the year as you earn your income. This obligation may be met through withholding, quarterly estimated tax payments, or both. If you do not meet this obligation, you may be assessed an underpayment penalty.

    If your total tax due minus the amount you had withheld is less than 10% of your total tax due, you will not be assessed an underpayment penalty. The disadvantage of overpaying throughout the year, though, is that you are in effect making an interest-free loan to the government. However, the underpayment penalty can be high, and it is calculated as interest on the underpaid balance until it is paid, or until the regular filing date for the final tax return, whichever is earlier.

    You can avoid underpayment tax penalties by adopting one of the safe harbor rules. The basic rule is to pay the required amount by the end of the year through withholding and quarterly estimated payments. The required amount will be one of the following, depending on your individual situation:

    • 90% of the current year’s tax liability;
    • 100% of the prior year’s tax liability (increases to 110% for taxpayers who had adjusted gross income in excess of $150,000 or $75,000 for those married filing separately for 2012 and 2013); or
    • 90% of the tax liability based on a quarterly annualization of current year-to-date income (See IRS Form 505 and IRS Publication 505 for worksheets).

    Penalties are based on any underpayment, which is the difference between the lowest amount required to be paid by each quarterly payment date and the amount actually paid by that date. The annual required amount, based on either of the first two alternatives, is paid in equal installments. In the case of the third method, which is based on annualized income, the amount due each quarter is based on actual income received for each installment period. The third method is typically more beneficial if you do not earn income evenly throughout the year (e.g., you operate a seasonal business) or had an unexpected increase in income because it allows for lower required payments in the early quarters.

    Income tax payments made through withholding from your paycheck (or from your pension or other payments) are given special treatment. The IRS treats income tax that is withheld as having been paid equally throughout the year (unless you prefer to use actual payment dates). This lets you make up for underpaid amounts retroactively because amounts withheld late in the year may be used to increase the amounts paid in earlier quarters.

    State and Local Rules: Be aware that many states have underpayment rules that vary from the federal requirements.

    Where’s My Money? Tracking Your Refund 24/7

    If you are expecting a refund on your 2012 income tax, you can check on its status if it has been at least three to four weeks since the date you filed your return by mail, or 72 hours if you filed electronically. You will need to supply the following information: your Social Security number or IRS Individual Taxpayer Identification number, your filing status and the exact whole-dollar refund amount as it is shown on your return.

    You can check the status of your refund in two ways:

    • On the Internet, go to www.irs.gov and click on “Refunds” and then “Where’s My Refund.”
    • By telephone (for automated information), call 800-829-4477.

    If you are unable to get information on your refund through either of these two automated services, you can call the IRS for assistance at 800-829-1040.

    The IRS website also allows you to start a trace for lost or missing refund checks, or to notify the IRS of an address change when refund checks go undelivered. Taxpayers can avoid undelivered refund checks by having refunds deposited directly into a personal checking or savings account. This option is available for both paper and electronically filed returns.

    Timing: Income & Deductions for Taxpayers Not Subject to AMT

    You have opportunities to reduce your taxes if you can control the timing of either your income or expenses. However, it is important to make sure you understand whether you may be subject to the alternative minimum tax (AMT) before adopting these strategies. (Click here for more information.)


    Your income is generally taxed in the year of receipt, so having the ability to control when you receive it affords a strategic tax planning opportunity. Deferring income until a later year will, in most cases, delay the payment of tax. You cannot defer taxation by merely delaying receipt of the income if the funds are available to you and the time of payment is subject to your unrestricted discretion. Any decision to defer income must be weighed with the lost time-value of the money and other risks that could alter or forfeit your right to the income.

    The timing of bonuses, recognition of capital gains from the sale of stocks, and the exercise of non-qualified stock options are all events that can easily be delayed into a subsequent year. Consider the deferral of compensation through the use of various retirement plans and deferred-compensation arrangements. If you operate a business or collect rental income and report that income on the cash receipts and disbursements method, you have an opportunity to delay or accelerate the billing to your customers or tenants and determine the timing of the related income.

    AMT: An Unpleasant Surprise

    Are you subject to the alternative minimum tax? This tax comes as a surprise to many taxpayers. You may be subject to this tax, especially if any of the following criteria apply to your situation:

    • You have large itemized deductions for state and local taxes, including property and state income tax, or from state sales tax;
    • You have exercised incentive stock options;
    • You have significant deductions for accelerated depreciation;
    • You have large miscellaneous itemized deductions or a large deduction for unreimbursed employee business expenses;
    • You have a large capital gain.

    The alternative minimum tax is calculated by first determining the tentative minimum tax. The tentative minimum tax is 26% of the first $175,000 ($87,500 for married filing separately) of alternative minimum taxable income in excess of the exemption amount, plus 28% of any additional alternative minimum taxable income. However, for alternative minimum tax purposes, dividends and capital gains will be taxed under the same rules as those used for regular tax calculations. The alternative minimum tax is the excess of the tentative minimum tax above the regular tax calculated.

    Alternative minimum taxable income adds back certain preference items to regular taxable income—including state income taxes, real estate taxes and miscellaneous itemized deductions—and can cause the alternative minimum tax to be larger than the regular tax.

    In addition, although the tax rate on capital gains and dividend income is the same for both the regular tax and the alternative minimum tax, the disparity in rates between the alternative minimum tax and the regular tax may result in a higher effective rate on all income, including capital gains and dividends.

    The IRS offers the AMT Assistant, an electronic version of the AMT Worksheet in the 1040 Instructions. By filling in a few simple questions, you can determine whether or not you owe the alternative minimum tax. The AMT Assistant is found in the Tools area at www.irs.gov.


    You can reduce taxes by controlling the payment of deductible expenses. If paid by December 31, you may deduct certain expenses that are due the following year on your current year tax return. This strategy helps when you have a higher tax liability in the current year than you expect to have in the coming year. Again, you must balance this decision with the time-value of money and other inherent risks.

    For example, if you pay a deductible expense in December 2013 instead of April 2014, you reduce your 2013 tax instead of your 2014 tax, but you also lose the use of your money for three-and-one-half months. Generally, this will be to your advantage, unless you have an alternative use for the funds that will produce a very high return in that three-and-one-half-month period. You must decide whether the cash used to pay the expense early should be used for something more urgent or more valuable than the accelerated tax benefit.

    For those who will pay 2014 estimated taxes based on their 2013 tax liability, reducing your 2013 taxes has another advantage: Your 2014 estimated tax payments may be smaller.

    State Taxes

    If accelerating deductions makes sense for you and you choose to claim a deduction on your state and local income taxes, you may want to prepay the balance on your estimated state tax liability in December 2013, rather than waiting until 2014. This secures that deduction on your 2013 tax return, even though the payment might not be required by the state until January 15, 2014, or April 15, 2014.

    Charitable Contributions

    If you are planning on making a gift to a charity in 2014, consider making the gift in 2013 to accelerate the tax benefit of the contribution. However, it is important to note that certain limitations exist with respect to deductions for charitable contributions.

    You should also consider the benefits of gifting appreciated stock to a charity. If you donate long-term appreciated stock directly to the charity, you get a deduction for the full fair market value of the stock; whereas, if you sell the stock first and donate cash, you only get a deduction for the aftertax cash donated. (If you have an unrealized loss in the stock, however, it might be more beneficial from a tax standpoint to sell the stock and then donate the cash proceeds. Doing so would give you deductions for both the capital loss and the charitable donation.)

    When making a gift to charity, you must have an appropriate record of the gift in order to properly support the deduction. In addition, cash contributions of any amount must be supported by a written record, either in the form of a bank record (for example, a cancelled check) or a written receipt from the charity. The record must include the name of the charity, the date and the amount of the contribution.

    Prepaid Interest

    A cash basis taxpayer may not deduct prepaid interest before the tax year to which the interest relates. However, there is some flexibility to prepay year-end interest that is due early in the following year. For example, if a mortgage payment is due on January 10, a taxpayer can accelerate the deduction of the portion of the interest relating to the period up to January 1 by mailing the check in December.

    The most significant interest deductions currently available are for home mortgage interest and for investment interest expense to the extent of current-year investment income. Interest paid in relation to investments that earn a tax-free return is not deductible.

    Medical Expenses

    If the timing of certain medical and dental expenditures is flexible and your overall medical expenses are high in the current year, you may want to accelerate the timing of these expenses. Because unreimbursed medical expenses are only deductible to the extent that they exceed 10% of adjusted gross income starting in 2013 (7.5% for those age 65 and older), it is best from a tax standpoint to incur expenses—such as replacement eyeglasses or contact lenses, elective surgery, dental work and routine physical examinations—in a year in which you have already gone over (or the added expenses would take you over) the 10% threshold.

    Miscellaneous Itemized Deductions

    Miscellaneous itemized deductions are only deductible to the extent that they exceed 2% of adjusted gross income. This category is large but includes:

    • Tax preparation fees such as tax preparation software, tax publications and any fee paid for electronic filing; and
    • Investment fees, custodial fees, trust administration fees and other expenses paid for managing your investments that produce taxable income.

    Accelerating miscellaneous itemized deductions only benefits taxpayers who accumulate expenses sufficient enough to exceed the 2% threshold. If possible, it may be advantageous to pay these types of expenses in one year if, because of the 2% floor, you would not receive a benefit of the deduction in each of the two consecutive years.

    Timing Caution for Taxpayers Subject to AMT

    The alternative minimum tax (AMT) was originally designed to ensure that everyone would pay his or her fair share of income taxes. In 1987, only 140,000 taxpayers were subject to the AMT. Since then, however, it has evolved into a separate tax regime that could affect millions of unsuspecting taxpayers at some time in the future.

    The wisdom of conventional tax planning advice to defer income and accelerate certain types of deductions may not hold true if an individual expects to be subject to the AMT. Accordingly, during the tax planning process, it is critical that you determine whether you are subject to the AMT in both the current year and the following year.

    If you are continuously subject to the AMT, avoid investing in private-activity (municipal) bonds. Income from these bonds is taxable for AMT purposes. (There are exceptions, including qualified 501(c)(3) bonds, New York Liberty bonds and Gulf Opportunity Zone bonds. Also, the interest on qualified bonds issued in 2009 and 2010 is not subject to the alternative minimum tax. Check with the bond issuer for the bond’s tax status.) Furthermore, you should be aware that unusual combinations of income and deductions might require AMT planning that runs contrary to conventional tax-planning advice.

    Although the exercise of an incentive stock option (ISO) does not give rise to regular taxable income for the employee, the difference between the exercise price and the market price of a stock must be recognized for AMT purposes for the year in which the option is exercised. Accordingly, the exercise of incentive stock options with a large bargain element often causes a tax liability under the alternative minimum tax regime.

    The AMT arena is extremely complex, so generalizations are difficult to make. If you think you may be subject to the alternative minimum tax, you should consult with a tax professional to determine how to minimize your exposure.

    Year-End Estate and Gift Tax Planning

    Year-end planning from an estate planning perspective typically involves ensuring that “annual exclusion” gifts are completed by the end of a calendar year.

    Under the federal gift tax system, each donor is permitted to make non-taxable gifts of a certain amount each year to any donee. These gifts are called “annual exclusion” gifts and do not count against the donor’s lifetime gifts exemption. The annual gift tax exclusion level was $13,000 for 2012 and is $14,000 for 2013. To the extent not used, the annual exclusion evaporates at the end of each calendar year.

    Annual transfers that take advantage of this exclusion can both diminish the donor’s estate tax liability and improve the lives of the recipients. These gifts can take many forms (cash, stocks, real estate, partnership interests) and can be given outright through Uniform Transfers to Minors accounts, and even through a trust—provided it contains special provisions designed to allow the gift to qualify for the annual exclusion.



    A special note of thanks goes out to Mark Luscombe, a principal federal tax analyst at tax authority CCH (www.CCHGroup.com), a Wolters Kluwer business, for answering detailed questions about the current and prospective rules. “J.K. Lasser’s Your Income Tax 2013” (John Wiley & Sons, 2012) was extremely helpful in creating this year’s guide, and we wish to thank J.K. Lasser contributing editor Barbara Weltman for her assistance in answering questions.


    Jeff from OR posted over 3 years ago:

    In 2013, people in the 10% and 15% tax brackets will continue to have a 0% rate on capital gains and dividends. Is this tax rate for capital gains and dividends now permanent or was it only continued for the 2013 tax year?

    Rick Corwin from FL posted over 3 years ago:

    Retirees covered by Medicare should be aware that the premiums are adusted for income. The Social Security Administration uses "Modified Adjusted Gross Income" (=AGI + tax-exempt interest income) for 2011 to adjust the 2013 premiums for Medicare Part B and prescription drug coverage. MAGI over $214,000 can generate monthly adjustments of $230 and $67, respectively. While not part of the Form 1040 reporting, this is nevertheless a tax on income.

    Tom Byrne from CA posted over 3 years ago:

    Just downloaded it. Will have to digest this over a glass of wine ;-) The discussion section is apparently going to be very helpful to me. Thanks to everyone.

    Daniel Simon from NC posted over 3 years ago:

    This review was very informative to a retired investor such as myself. The staff did a great job.

    Dan Simon

    T Becker from CT posted over 3 years ago:

    In the section “Avoiding Tax Underpayment Penalties” you state that “Income tax payments made through withholding from your paycheck (or from your pension or other payments) are given special treatment. The IRS treats income tax that is withheld as having been paid equally throughout the year (unless you prefer to use actual payment dates)”. This also applies to RMD if taxes are withheld. So if I take my RMD in December and have taxes withheld the IRS will treat this tax as having been paid equally throughout the year. This is a good technique to make up some ground on underpayment of taxes and avoiding penalties.

    Alfred Hess from NC posted over 3 years ago:

    I appreciate the information and service that AAII provides. I, and I believe that many others, would appreciate if AAII would present the informational graphs of Market Returns of stocks and funds using a logarithmic scale for the vertical gain (or loss) scale. This allows one to see and compare at a glance how the gains (or losses) of several funds on the same graph compare, since equal slopes means equal rate of gain anywhere on the same graph. For example of this see the stock and fund graphs produce by YAHOO finance using the log gain scale. Thanks, Alyce, NC

    Joseph Zaremba from TX posted over 3 years ago:

    I found all the info very useful.I've always used a blank 1040 page for a work sheet and the worksheet provided was lacking on the income portion.I prefer having all the dollar amounts on the worksheet so as not to to many pieces of scratch paper for the figures. It worked okay for me but it was a little confusing at times.
    Thanks Joe, Tx

    Scott Devine from NY posted over 3 years ago:

    Is this statement true that was written in the article? I thought that if you had a retirement plan at work or a pension, you could not fully deduct an IRA contribution $5000.


    Individual Retirement Accounts and 401(k) Plans

    The maximum allowed IRA contribution is unchanged in 2012 at $5,000 ($6,000 for any individual who is age 50 or older). The contributions can be fully deducted for modified adjusted gross incomes (modified AGI) below $92,000 for joint returns and below $58,000 for single filers.

    Charles Rotblut from IL posted over 3 years ago:


    Yes, it is true. Here is the IRS rule on it:


    Scott Devine from NY posted over 3 years ago:

    Thanks Charles...but this is what your link states:

    If you’re covered by an employer retirement plan for a tax year if your employer (or your spouse’s employer) has a:

    Defined contribution plan (profit-sharing, 401(k), stock bonus and money purchase pension plan) and any contributions or forfeitures were allocated to your account for the plan year ending with or within the tax year;

    Defined benefit plan (pension plan that pays a retirement benefit spelled out in the plan) and you are eligible to participate for the plan year ending with or within the tax year.

    I have a 401K and a pension....so I do not believe I can deduct a contribution of say $5K to an IRA.....

    Samuel Owusu from MD posted over 3 years ago:

    Just a quick question.

    My spouse is over 71 and half, she is currently still working. Does she delay taking out her Required Minimum Distribution (RDM) amounts from her deferred pension plans because she has not retired?


    Charles Rotblut from IL posted over 3 years ago:

    Hi Samuel,

    Here is what the IRS says about RMDs:

    You may also want to read:

    Given you wife's age, it might be helpful to consult a tax professional to be sure you get a clear and correct answer.


    Samuel Owusu from MD posted over 3 years ago:

    Thanks, guys. I appreciate your comments and I will follow them.

    Robert Schmidt from CT posted over 3 years ago:

    Question for you that I have not seen answered before. If you are required to take a RMD, such as for $20K, are you able to still contribute $6K to an IRA and take that deduction on your taxes?

    Charles Rotblut from IL posted over 3 years ago:


    Here is what the IRS says about who can open and make contributions an IRA:
    You can open and make contributions to a traditional IRA if:

    You (or, if you file a joint return, your spouse) received taxable compensation during the year, and

    You were not age 70½ by the end of the year.

    You can have a traditional IRA whether or not you are covered by any other retirement plan. However, you may not be able to deduct all of your contributions if you or your spouse is covered by an employer retirement plan. See How Much Can You Deduct , later.

    Both spouses have compensation. If both you and your spouse have compensation and are under age 70½, each of you can open an IRA. You cannot both participate in the same IRA. If you file a joint return, only one of you needs to have compensation.

    More information can be found at:


    Roger Grossel from FL posted over 3 years ago:

    Re: Tax Forecasting Worksheet.
    I thought I saw a previous comment on this -don't see it now.
    How about a downloadable pdf or Excel sheet to allow us to work at our PCs on our forecasting & then to save it as we go.

    Robert Schmidt from CT posted over 3 years ago:

    Thanks, Charles. I appreciate the information.


    Leon Taksel from MD posted over 3 years ago:

    re: the wash sale rule. You state that for any loss disallowed, the amount of the loss reduces the basis of the acquired stock. NOTE: it INCREASES the basis of the acquired stock, so that any future gain is reduced by that amount or any future loss is increased by that amount.

    Chas Rupert from VA posted over 3 years ago:

    I thought the information was helpful and
    answered some questions I had.

    G Abramo from PA posted over 3 years ago:

    This Q&A from CFR Title 26 (Internal Revenue) 1.408A-4 (Converting amounts to Roth IRAs) was brought to my attention by Vanguard and probably merits some attention in future editions of the Tax Guide. It indicates that taking a Roth Conversion *before* an RMD, in the same tax year, could be interpreted as making an excess Roth Contribution in that tax year.

    Q–6. Can an individual who has attained at least age 70 1/2 by the end of a calendar year convert an amount distributed from a traditional IRA during that year to a Roth IRA before receiving his or her required minimum distribution with respect to the traditional IRA for the year of the conversion?

    A-6. (a) No. In order to be eligible for
    a conversion, an amount first must be eligible to be rolled over. Section 408(d)(3) prohibits the rollover of a required minimum distribution. If a minimum distribution is required for a year with respect to an IRA, the first dollars distributed during that year are treated as consisting of the required minimum distribution until an amount equal to the required minimum distribution for that year has been distributed. [....]


    Steve from Florida posted over 3 years ago:

    I am new to AAII. I just recently formed my own entity for a " self " stock trading business out of my home. Does the organization provide a list of CPA's and/or attorneys (or provide some sort of direction),that are familiar with tax treatment in regards to owning an LLC specifically dealing with day or swing trading? Any information would be much appreciated. There are a couple of organizations on the net that I have looked into (Robert Green of Green Trader Tax and Courtney Kurisko, CPA and who also specializes on stock trading small business'), but would like to use someone local to South Florida.

    Thank you.

    L Woolford from WY posted over 3 years ago:

    My Question about a Roth IRA:

    My Roth IRA has been established since 1999. I have added the maximum to it when I have qualified earned income.

    I have used this Roth IRA to invest in Mutual funds and some of the Shadow Stock Portfolio equities when I can.

    Question - Can I deduct the commission expenses for such investments as part of "investment Expense" on my Schedule A (itemized Tax deductions) when submitting yearly Federal and State tax forms?

    Charles Rotblut from IL posted over 3 years ago:


    The answer is no because you are not recognizing taxable gains or losses in a Roth IRA.

    In a taxable account, the commissions are added to the buy price and deducted from the sell price for calculating capital gains.


    L Woolford from WY posted over 3 years ago:

    Hello Charles,

    Thanks for the clear answer on my question.

    Lynn W.

    Charles from Pennsylvania posted over 3 years ago:

    Hi, I wanted to know; I sold my principal home in 2013 for a $100,000 loss. I have company stock that earns me dividends each quarter but I want to sell shares worth about $25,000. What I want to know is will my home loss offset any gains I have to pay on my stocks.


    Jim from N.C. posted over 2 years ago:

    Are you still in business? It appears that you're way behind here.

    Jean Henrich from IL posted over 2 years ago:

    Jim - we are preparing our annual update to the Tax Guide right now and it will be posted at the beginning of December. We schedule our update for as soon after the IRS releases their information for the next year as possible. Thanks for your interest. - Jean at AAII.

    James Kim from FL posted about 1 year ago:

    My wife retired at age 68 and died in the middle of the year. Do I have to file the tax this year as a single or couple? Is there provision for the death. Would appreciate how to handle the tax in this situation.

    Charles Rotblut from IL posted about 1 year ago:


    TurboTax has commentary you might useful concerning the death of a spouse.


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