Planning for the Unknown
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Planning for the Unknown | Tax Planning, Tax Burden, Capital Gains, Accelerated Income, Estate Tax, Gift Tax, Roth IRA, Retirement Funding, John Scott, Heidi Schmidt, HORNE LLP, USAA Wealth Management

Heidi Schmidt

Author’s Note: With the lead time required for a monthly publication, the interviews for this article were conducted prior to the national elections on Nov. 6. Even once the outcome of the election is known, however, there is still a great deal of uncertainty in how the ‘lame duck’ Congress will respond to a number of pressing financial issues that must be addressed before year’s end considering the level of acrimony that exists between the two major parties. As John Scott, CPA, a partner at HORNE LLP, succinctly put it, “The losers are going to be mad.


Nothing is certain but death and taxes.

With all due respect to Benjamin Franklin, death is still a sure bet … but the tax rules going forward are anything but certain.

Although much has been made of the impact of the recent presidential election, the makeup of Congress in the wake of the national election plays a huge role in what happens to the Bush-era tax cuts. Taxpayers, particularly high-income taxpayers, must prepare for a number of contingencies as they evaluate year-end options for 2012 and look ahead to 2013.

Heidi Schmidt, CFP, a USAA wealth manager, said the uncertainties for 2013 run the gamut and include questions surrounding capital gains and other unearned income, tax bracket percentages, gifting, and estate planning.  Without intervention, many individuals will face hefty tax increases. Although Congress has intervened to extend the lower tax rates for a number of years, it’s difficult to gauge what will happen over the next few weeks. Congress has a very short window in which to make a number of big decisions, Schmidt said.

John Scott, CPA, a tax services partner for HORNE LLP, noted if there is one thing the markets hate, it’s uncertainty. “If people don’t know what their tax rates are going to be, that affects hiring … investments. That impacts both parties so it’s possible they’ll strike a deal … whether it’s for all of 2013 or for a few months of 2013 … to alleviate some of the short-run angst,” Scott said. Then again, he added ruefully, it is also possible lawmakers could opt to dig in their heels.

For individuals with adjusted gross incomes over $200,000 for single filers and $250,000 for joint filers, there are a number of additional considerations to factor into the 2012 year-end scenarios. In making plans, Scott said the first rule of thumb is, “You never want to make an investment decision based on taxes only.” Instead, he continued, investors should discuss long-term goals and strategies with their advisors.

In the here and now, however, Scott said, “My recommendation is it’s definitely time to pay attention to the news, definitely time to be in touch with your tax advisors … sooner rather than later … to plan your alternatives for the end of the year.”


Unearned Income

Unearned income from capital gains, interest and dividends is an area where high earners could potentially take a big tax hit in 2013.

Schmidt said, “If you are truly trying to diversify … you have too much of one stock … then now would be a good time to sell, realize those capital gains, and then diversify.”

However, Schmidt noted she has recently been asked by individuals with highly-appreciated stock if it would be a good plan to sell now and then turn around and buy the stock back. This isn’t a strategy she recommends for those who want to keep the stocks in question in their portfolio for the long haul. After all, she added pragmatically, no one knows what will happen down the road.

While keeping the long-term plan in mind, Scott said, “If it makes sense to sell a highly-appreciated investment asset at the end of ’12 or sometime in ’13, you’d want to consider it in ’12.”

While there is uncertainty about whether or not Bush-era tax cuts will be allowed to expire, there is definitely a new Medicare tax of 3.8 percent on unearned income set to go into effect for 2013 that was part of the Affordable Care Act.

“For ’12, you know you’re capped at 15 percent,” Scott said of the rate currently in place for unearned income. “Next year, it could be 20 percent if the Bush tax cuts expire plus the 3.8, which is the new tax.”

Schmidt reminded investors these final weeks of 2012 are a good time to see if there are potential losses on the books, as well as gains, to lower the tax burden. “A lot of mutual funds pay out capital gains so it’s a good time to do some tax loss harvesting in your non-IRA accounts to offset some of those capital gains,” she said.

Another option is to take advantage of the higher gifting limits set to expire at the end of 2012. “If they have some highly-appreciated stock, they may benefit by gifting that stock to charity,” Schmidt added.


Accelerating 2012 Income

If the Bush tax cuts expire, Scott noted the top rates, which are now 33 and 35 percent, would rise to 36 and 39.6 percent. Additionally, ACA called for employers to withhold an additional 0.9 percent from wages of high earners ($200,000 for single filers, $250,000 for joint filers). The Medicare tax rate for this group increases from 1.45 percent to 2.35 percent.

Scott said that a usual strategy for many cash-basis taxpayers, including physicians, would be to defer billings and collections to the next year. However, with the uncertainty of the top tax bracket rates and the addition of the 0.9 percent tax on wages, it might make sense to reconsider business as usual.

“It’s a little bit backwards from the usual year-end tax planning,” Scott noted. However, he continued, “If you have a cash-basis physician practice, it may make sense for the doctors to consult with their tax advisors soon to see if it makes sense to accelerate billings and collections into 2012 versus taking a chance on higher tax rates in ’13.”


Estates & Gifting

Schmidt noted the estate tax exemption is slated to move from $5 million to $1 million … and as the law is on the books right now, the portion outside of the exemption would be taxed at the highest rate of 55 percent. That means the estate tax for someone who dies on Dec. 31, 2012 and leaves $5 million would be $0. If that same person died on Jan. 1, 2013, the tax burden would be $2.2 million.

“Definitely review your estate plan and make sure it is flexible enough to work with the changes and be aware of what those changes are,” she advised.

Similarly, she said the amount of tax-exempt gifting is $5 million per person … $10 million per couple … for the remainder of 2012 before limits revert to $1 million each. “Certainly make sure any gifting you want to do happens before Dec. 31,” Schmidt said. For those considering gifting, she continued, “If capital gains do increase, it could potentially become worth a lot more to them to make that gift and remove it out of their estate.”


Don’t Forget Retirement Funding

Schmidt said her number one piece of advice to clients is to make sure the maximum amounts are going into retirement plans. Even when they are diligent in funding their own plans, she said physicians and executives often overlook funding options for stay-at-home spouses.

“One common thing I find is they have not taken advantage of spousal IRAs for a non-working spouse,” she said. “If their spouse doesn’t have any other IRAs, they can immediately perform a Roth conversion,” she continued, noting that in retirement, this could mean big savings in terms of tax-deferred earnings and potentially tax-free funds.

Executives who have only a 401K with all of their qualified funds could also explore this option. Schmidt added that Roth conversions are also possible in other situations but can become very complicated from a tax position. As with any significant financial or tax planning strategy, she stressed the importance of consulting a qualified advisor. 





Accelerated Income, Capital Gains, Estate Tax, Gift Tax, Heidi Schmidt, HORNE LLP, John Scott, Retirement Funding, Roth IRA, Tax Burden, Tax Planning, USAA Wealth Management

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