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3 Tax Tips for Investors to Save Big on Their 2014 Tax Bills

3 Tax Tips for Investors to Save Big on Their 2014 Tax Bills

As 2014 comes to a close, proper tax planning will help savvy investors reduce what they pay on investment gains, as well as take advantage of tactics that might not be available in the future.

1. Tax Loss Harvesting and Selling in Lower Tax Brackets

The idea of selling securities (such as stocks or mutual funds) that have gained significant value may seem foolish for most; but, for individuals wanting to take advantage of current “tax loopholes,” selling may not be such a bad idea. Tax loss harvesting is essentially leveraging a well-performing stock or mutual fund account with an underperforming account.

Example:

Joe is in a 25% tax bracket and invests $25,000 in 4 different stocks (for a total of $100,000). The current status of each stock is as follows:

  • Stock A has increased $2,000;
  • Stock B has decreased $6,000;
  • Stock C has increased $3,000;
  • Stock D has decreased $9,000.

At this point, Joe decides to sell and can offset his gains (Stock A and C increased a total of $5,000) with his losses (Stock B and D decreased a total of $15,000) for a total capital loss of $10,000. Joe can use up to $3,000 to offset his ordinary income for the current year, resulting in a tax savings of $750 ($3,000 capital loss x 25% tax bracket = $750). On top of that, he can carry the remaining $7,000 loss to his future tax returns (repeating the same step for the next couple of years).

For those in a higher tax bracket (above 15%), selling securities with significant losses to offset taxes on gains of appreciated assets can be the difference in paying 23.8% or 15% on dividends and long-term capital gains. In 2014, that translates to taxable income over $406,751 if you’re filing single; $457,601 for married couples.

If you’re in the 15% or less tax bracket, you will pay 0% on long-term capital gains (subject to certain exclusions) making the sale more appeasable. In 2014, that translates to taxable income of $36,900 or less if you’re filing single; $73,800 or less for married couples.

Note: IRS wash-sale rules disallow you to claim a loss if you purchase a similar investment within 30 days.

2. Preparing for Potential Higher Taxes

Contributing to your tax-deductible employer-sponsored plan or IRA might make sense for now, but does it make for the future? This depends on whether you believe taxes will decrease, increase, or stay the same. If investors think they will increase, then a Roth IRA will be in their best interest. If decrease or stay the same, then contributing to a tax-deductible plan makes most sense, especially when in the top tax bracket. For those in a lower tax bracket, a Roth is always best because the long-term reward (tax-free) outweighs the short-term gain (a small tax deduction).

Converting to a Roth IRA

Years ago, only individuals with an adjusted gross income (AGI) of under $100,000 were eligible to convert a traditional Individual Retirement Account into a Roth IRA. Today, anyone can convert, and if you have the money to pay the tax now, it might be worth it. With a Roth IRA, individuals pay taxes on their contributions now and make tax-free withdrawals later on; a traditional IRA works the other way around. Also, if tax rates are lower today than they will be tomorrow, it is better to get them out of the way now, which is the purpose of the Roth. All in all, the Roth is the solution for most.

3. Giving to a Charity

Throughout 2012 and 2013, retirees age 70 ½ or older could directly assign their Required Minimum Distributions (RMDs) to their favorite charity and not report it as income (up to $100,000). This accomplished a few objectives such as: taking the mandatory distribution; not having to report the income on the retiree’s tax return; and not dealing with a Schedule A, which requires time and money (if you’re paying an accountant). Known as the Qualified Charitable Distribution (QCD), this little-known technique expired on December 31st, 2013 and hasn’t been reinstated since.

For more information on Qualified Charitable Distributions, please reference the IRS.gov section on their website titled “Charitable Donations from IRAs”.

Even though QCDs aren’t available at the moment, make sure you take advantage of the following:

Charitable Trusts

For gifts of $250,000 or more, a charitable trust probably makes sense. There are two types of charitable trusts; charitable-lead and charitable-remainder.

With a charitable lead trust, payments go the charity every year and whatever is left goes to your beneficiaries (typically family members). As the gift-giver, you are eligible to take a deduction for value of the interest passing to charity, but cannot take an immediate deduction for the whole contribution. Also, this may eliminate capital gains from highly-appreciated assets (such as stocks and mutual funds). Charitable lead trusts also reduce the estate taxes due upon death because they are not subject to current capital gains tax.

The charitable remainder trust is exactly the opposite. A properly structured charitable remainder trust gives your beneficiaries payments first and whatever is left goes to the charity. Tax benefits include: trust assets not being counted for estate tax purposes; appreciated assets are exempt from current capital gains tax; and qualify for an income tax deduction on the estimated present value of the interest going to the charity.

Note: Charitable trusts are irrevocable and assets cannot be withdrawn once either trust is formed.

For gifts over $1 million, you may want to setup a private foundation.

Charitable Deductions

Charitable deductions are based on your Adjusted Gross Income (AGI) and depend on the organizations to which the contributions were made. Usually, the deduction is up to 50% of the individuals AGI, but 20% and 30% limitations apply in some cases.

For most, 2014 has been a prosperous year. Adding these tax-savvy moves will assist in not having a bounty on your tax return by the IRS.


Photo is a modification of “Tax Bill” by 401(K) 2013, used under CC BY-SA 2.0 license.


Are Indexed Annuities the “New Wave” for Retirees?

Are Indexed Annuities the "New Wave" for Retirees?

Before 2001, most Americans could not fathom the idea that their portfolios would obtain less than double-digit returns. Much of that success was a result of a different economic landscape: one where higher income taxes and mortgage interest rates, coupled with the Internet as a new way of making money, created heavy gains in the stock market. However, after Y2K, we’ve endured two major market crashes, job losses, and an unstable economy.

Since then, many retirees’ mind frames have dramatically changed from focusing on wealth accumulation and exorbitant returns to instead concentrating on rising health care expenses and not outliving their hard-earned savings.

The 4 Percent Rule

For years, financial advisors have been touting a supposed safe withdrawal rate, dubbed the “4 percent rule.” Simply put, if you could live off of 4 percent of your investments’ income, it would allow ample time for stable growth and endure downfalls. Recently, that rule has been called into question, and most experts are stating that today’s “safe” rate should actually be around 2 percent. Retirees are putting themselves in jeopardy when they are forced to withdraw more than the suggested rate just with the rising cost of living expenses alone.

So, what options can assure retirees a guaranteed income stream for the rest of their lives? Let’s explore the different options available so you can make the best possible choice.

Certificates of Deposit (CDs)

Known as a safe alternative for saving and backed by the Federal Deposit Insurance Corporation (FDIC), certificates of deposit (CDs) have encountered limitations over the past decade from trying to keep up with inflation and facing historic low interest rates.

According to Bankrate, the average 6-month to 1-year CD rate has dropped from an average of 5 percent (2000) to less than 1 percent (from about 2009). On top of that, the United States Department of Labor shows that inflation has been anywhere from 1.5 percent to a median of 3 percent.

If you are relying on CDs to keep up with the pace of inflation (the “silent” retirement exterminator), make sure you are overfunding and withdrawing as little as possible. A reliance on CDs to fund your “glory days” can result in a massive shortfall that could force you to continue working into retirement.

Mutual Funds

Once known for superb management, diversification and affordability, combined with pleasant returns, mutual funds have been recently scrutinized for their excessive fees and underperformance.

Typically, financial advisors (or brokers operating under a suitability standard) are at the forefront of recommending a mutual fund to a retiree because of convenience. But, as recent complaints have shed clearer light, investors are learning that they are often sold for personal gain and generating new business for the advisor’s firm.

Even mutual funds with an excellent past history do not guarantee performance for the future. That’s why they all disclose, “Past returns do not guarantee future results.”

Variable Annuities

When you invest in a variable annuity, you’re spreading your money into mutual fund-like subaccounts across different investments. Backed by insurance companies to provide reassurance, variable annuities gain and lose depending on market performance.

Usually sold by financial advisors or brokers, most variable annuities are weighed down by excessive expenses. Typical fees can total anywhere from 3 percent to almost 7 percent, in some cases. The most frustrating part of all of it is that, in order to find out what you’re going to pay in fees, you have to struggle through a sizeable prospectus that even some advisors can’t decipher.

Frequently sold for guaranteed retirement income, the majority never actually exercises these benefits. Variable annuities often sound more appealing than they really are.

Indexed Annuities

Regulated as an insurance product and not an investment, the indexed annuity has been a common tool used in retirement planning. According to the Life Insurance and Market Research Association (LIMRA), today’s retirees are depositing more in indexed annuities than variable annuities.

How does an indexed annuity work, and why are retirees relying on them more than variable annuities?

Account values are linked to a market index (such as the S&P 500, Dow Jones, NASDAQ, EURO STOXX, or Hang Seng) but have no immediate exposure to market movements. Each insurance company utilizes a different approach on how interest is credited, which is why you should research which one might be a proper fit.

The majority of the premiums received are invested in the insurance company’s general account, versus subaccounts, as with variable annuities. This allows greater control and hedges on longevity risk that are predictable, versus market risk, which is unpredictable. As a result, these savings can lead to higher guarantees than those provided by variable annuities.

Retirees purchase indexed annuities because they want control over market volatility, protection from inflation, and a guaranteed or predictable stream of income that they cannot outlast. Most are satisfied with not being credited all of the index return in exchange for sustaining losses when there is a plunge in the market.

For retirees, even one year of subpar returns can drastically impact their plans. Remember that if you lose 50 percent in one year, it requires a 100 percent gain the following year just to break even. Losses can cost both existing and future growth, and often at your expense.

If you are a retiree, I urge you to think more carefully about including safeguards to prevent disasters in your retirement plan. With investments like mutual funds and variable annuities, there is always the potential to lose a substantial amount on any given day. On the other hand, CD interest rates have dropped by more than half in the past decade; it’s clear why indexed annuities have been consistently delivering desired results for today’s retiree.

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Article originally appeared on Annuity123

 


Photo is a modification of “Retirement On The Beach” by Kevin Teegardin, used under CC BY-SA 2.0 license.


Professional Athletes: What to Expect After Retirement from Sports

Professional Athletes: What to Expect After Retirement from Sports

For the most part, professional athletes enjoy the life that others can only dream of. From considerable salaries, endorsement and television deals, and an enormous fan base are the result of hard work and dedication.

The end of a career in the public eye for an athlete is almost synonymous with death. The word “retirement” typically signifies the end of a career, which can terrify anyone that is not prepared for uncertainty and the future. As a professional athlete, retirement can be full of financial traps, and it’s simple to make several “rookie” mistakes.

Athletes are learning from their financial mistakes only years after being away from their career. Often, these mistakes occur in their peak income-earning years, ranging from family issues and failed investments.

The following is what most professional athletes should expect from each category after retiring from their respective sport.

Savings

Even with major sports leagues offering 401(k) plans and matching contributions, it is difficult to save in a relatively short period of time. Considering that the average career for a professional athlete is around 3 to 5 years, they will have to plan for 55 years or more in retirement.

Professional athletes often rely on the rate of return of their investments, when in fact they should be controlling their spending and interest rates on debt. Even if they earned 12 percent on their investments, interest on debt at 19 percent is a net 7 percent loss. The bottom line for athletes is to not live beyond their means, maintain a budget, and have a long-term savings plan

Pension

Remarkably, pension plans vary from each league, with some offering pleasant incentives, and others giving the bare minimum. Professional athletes are entitled to some sort of pension, assuming they attain the necessary time period.

Here are the different timetables and amounts for each league:

  • The MLB offers a pension of roughly $34,000 a year with 43 days on an active roster and about $200,000 a year after 10 seasons. After 1 day on an active roster, an athlete has the right to lifetime medical benefits.
  • The NFL offers a pension that is calculated as the sum of all benefit credits vested after 3 seasons. For example, the credit for each season earned between 1998 and 2011 is $470 (which equals an annual benefit of $28,200 a year after 5 seasons). After attaining 4 or more seasons, an athlete is eligible for an additional $80,000 annuity benefit from 2014 to 2017, and $95,000 from 2018 to 2020. Also, the NFL will match contributions up to 200 percent in their optional 401(k) plan. Full retirement age for the pension is 55 years old.
  • The NBA offers a pension of roughly $60,000 a year that is vested after 3 years and $200,000 a year after 10 seasons. Also, the NFL will match contributions up to 140 percent in their optional 401(k) plan. Full retirement age for the pension is 62 years old.
  • The NHL offers a pension of roughly $50,000 a year after participating in 160 games. Full retirement age for the pension is 45 years old.

Although early retirement with reduced benefits is an option, the longer an athlete waits to receive payments; more benefits are available. Pensions work like annuities, and are often funded with annuities to guarantee the payments promised. In fact, a pension can be taken in payments or as a lump sum and converted to an annuity to create a guaranteed stream of income.

Note: If taking a lump sum distribution from the pension plan, one should feel comfortable and know how they are being invested.

Avoiding Scams and Investing Properly

For the typical retiree, mistakes in retirement can be costly. However, for professional athletes, miscalculations can be detrimental. Many athletes often don’t have the time or know-how to effectively manage their own finances. It is crucial that they not place blind trust and research the individuals that are handling their financial affairs.

During their career, most (if not all) professional athletes will encounter several attractive investment propositions, with supposed guaranteed high returns. After their playing days are over, these investment scams may seem more attractive because of the sudden loss of income. Athletes should be diligent, ask several questions, and even obtain a second opinion before they invest.

Most of all athlete investment fraud abuses are never reported because they feel embarrassed and assume there is no recourse against these scams. Sales pitches need to be investigated before action is taken; whether a broker, investment advisor, insurance agent, or any person approaching an athlete.

Declining Income

A typical retiree is told they need to rely on about 60 to 70 percent of their income in retirement. For a professional athlete, that sudden decline in income can be overnight. Most athletes earn the majority of their income in a short period of time versus a business owner or entrepreneur that will earn it over their entire lifetime.

After retiring, professional athletes need to take their earnings and conservatively allocate a sensible amount to preservation and lifetime income. Also, determine if keeping your agent or the fees you are paying your financial advisor make sense. Most investment advice given is generic that it should be placed in a low-cost structure. Retirement is the time to revisit and review your goals and aspirations.

Unfortunately, professional athletes retiring from the game don’t retire from the fame.


Photo is a modification of “BSWA Basketball Court” by John Walsh, used under CC BY-ND 2.0 license.