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Tax Newsletter
November, 2015

As 2015 draws to a close, there is little activity on the tax legislation front, as attention has been drawn to other political and legislative issues. We don’t anticipate major tax developments before the end of this year, giving taxpayers an opportunity to start planning early for year end.

Income tax planning

Tax rates remain high. For some taxpayers, a top federal rate of 39.6%, together with the Net Investment Income tax (NII) of 3.8%, an additional Medicare tax of .9% for high wage earners, combine for a federal rate of 44.3%.

  1. The 3.8% tax on net investment income applies when modified adjusted gross income exceeds $200,000 for single filers and $250,000 for married couples filing jointly
  2. The .9% additional Medicare tax applies when wages and self-employment income exceed $200,000 for single filers and $250,000 for married couples filing jointly
Add in the top California tax rate of 13.3%, and the combined federal and California tax exceeds 57% at the top brackets. Strategies for reducing income tax may involve timing of income and deduction items, deferral of income through retirement plans, and shifting liabilities through charitable contributions or non-charitable gifts.
  1. Shifting income by deferring income and accelerating deductions.

    1. The net investment tax and additional Medicare tax are triggered when AGI exceeds certain thresholds (generally, $200,000 for single filers, $250,000 for married). Although taxpayers may not have many options for the timing of income, planning should be directed towards falling below the threshold amounts, if possible.
    2. Taxpayers may have more control over the timing of deductions than income. Taxpayers should be aware, however, that the alternative minimum tax (AMT) may eliminate any benefit to accelerating deductions into 2015.

  2. Harvesting capital losses; possibly accelerating capital gains. Taxpayers who have realized capital gains in 2015 may consider realizing capital losses to offset gains. This is one area where short term benefits may run counter to long-term objectives. Taxpayers should ask themselves whether disposing of an investment with a current loss makes economic sense? Is there a more significant economic benefit that can be realized from holding the investment? Tax considerations:

    1. Short term capital gains are taxed at ordinary income rates; long term capital gains top out at a 20% rate.
    2. Long term capital losses can offset short term capital gains.
    3. If capital losses exceed capital gains for the year, only $3,000 of the loss may be used to offset other income; the remaining capital losses will carry forward.
    4. It is possible that many mutual funds may make year-end distributions resulting in sizable capital gains to shareholders who will have to pay income taxes on the distributions.
    5. It is possible to sell an investment at a loss and reinvest in the same investment. However, beware of the wash sale rules that may restrict use of this strategy at year end. The wash sale rules disallow a loss when substantially identical securities are acquired within 30 days of a loss transaction.

  3. Maximizing retirement plan contributions

    Maximizing contributions to a retirement plan can reduce current year taxable income. Funding the retirement plan contribution of a child or spouse may allow for additional income deferrals. Current year plan contribution limits are:

    IRA $5,500 under 50; $6,500 over 50
    401(k), 403(b) $18,000 and up to $24,000 for those over 50
  4. Charitable contributions

    Gifts of appreciated stock provide an opportunity to benefit charity and avoid tax liability that might otherwise be incurred. An individual could sell appreciated stock, pay the tax, and contribute the net proceeds to charity. Alternatively, that individual could contribute the appreciated stock to the charity and claim a charitable contribution deduction based on the fair market value of the stock. Because the charity is not subject to income tax, it can sell the stock without incurring tax liability.

    A charitable remainder trust is one vehicle for retaining some income from trust assets while also receiving a charitable deduction upon creation of the trust. In the current low-interest rate environment, one might consider a Charitable Lead Annuity Trust (CLAT) as a vehicle to achieve both charitable and estate planning objectives. Under the terms of a CLAT, annuity payments are made to charity for the term of the trust. At the end of the CLAT’s term, the remaining assets are distributed to one or more non-charitable beneficiaries. While the gift of the remainder interest constitutes a gift, the value of the gift using IRS-prescribed interest rates may be lower than the amount actually transferred to the beneficiaries at the end of the term if the trust outperforms the prescribed rate. The October 2015 IRS rate is 2%.

    A contribution to donor advised funds or creation of a private foundation are additional planning tools that may help reduce income taxes while helping you achieve your charitable goals. These may be particularly effective when you wish to make a large charitable contribution in the current year but are uncertain of the ultimate recipient of your charitable gift.

  5. Other strategies

    1. Defer gains by spreading them out with an installment sale and/or participating in a Section 1031 Like Kind Exchange
    2. Invest in tax exempt investments
    3. Invest in life insurance products and/or tax deferred annuity products

Minimizing gift and estate taxes by shifting assets through non-charitable gifts

The American Taxpayer Relief Act of 2012 provided for a lifetime estate tax exclusion of $5 million for non-charitable gifts and transfers at death. The inflated-adjusted exclusion available for calendar year 2015 is $5,430,000. Thus an individual can make lifetime gifts or a transfer of assets at death up to this exclusion amount before gift or estate tax liability results.

In addition, every taxpayer can give an inflation-adjusted annual exclusion gift of $14,000 to as many individuals as he or she may wish without incurring any gift tax or reducing any of their lifetime exclusion amount. Tuition payments made directly to a school and medical service payments made directly to the provider are not counted as part of the $14K annual exclusion.

Section 529 plans are vehicles for investing funds to pay for future educational expenses. Funds grow tax-free and can be distributed tax-free as long as the funds are used for qualified educational expenses. Gifts to a child or grandchild’s section 529 plan is a means of transferring assets that will grow in a tax-free environment to offset future educational costs.

Gifts of appreciated property to children may be one approach to shifting the tax on gains to children in lower tax brackets. However, this strategy will not be effective when the “kiddie tax” causes income to be taxed at parents’ rates.

Planning for Businesses

  1. The IRS has expanded the de minimis safe harbor that allows taxpayers to deduct an unlimited amount of improvement expenditures on qualifying buildings. The safe harbor applies to items of tangible property that cost $5,000 or less for taxpayers with an applicable financial statement; $500 or less for those without such statements.
  2. The cost of property described in section 179 can be fully deducted in the current year, rather than depreciated over several years. The Section 179 annual dollar limitation for the calendar year 2015 is $25,000 (subject to reduction if total section 179-type expenses exceed $200,000).
  3. Businesses subject to the mandatory electronic funds transfer (EFT) requirement in California can use credit card payments to meet this EFT requirement.

Affordable Care Act Beginning in in 2014, the new national health insurance rules provide that individuals must carry health insurance or otherwise pay a monthly penalty (shared responsibility payment) unless exempt. For any month in 2015, taxpayers who fail to have the minimum essential coverage are subject to the “shared responsibility payment”.

In general the penalty is either a percentage of your income or a flat dollar amount, whichever is greater. You will owe 1/12th of the annual payment for each month you do not have coverage and are not exempt. For 2015, the penalty is the greater of 2% of income or $325 per person.

Electronic Filing

As many of you may be aware, there is a trend towards electronic filing of returns as well as electronic payment of taxes. California now requires all business tax returns (including trust returns) to be filed electronically. Certain California tax payments are now required to be transmitted electronically.

Identity Theft

Tax-related identify theft is on the rise. The filing of false returns in order to fraudulently claim a refund is one form of identity theft. The Government Accountability Office reported that during the 2013 filing season, over 5 million returns were filed using stolen identities and resulting in $30 billion in attempted tax refunds. Identity theft is one of the “Dirty Dozen” tax schemes compiled by the IRS. The IRS list also highlights the following--

  • “Phone Scams: Aggressive and threatening phone calls by criminals impersonating IRS agents remains an ongoing threat to taxpayers. The IRS has seen a surge of these phone scams in recent months as scam artists threaten police arrest, deportation, license revocation and other things.
  • Phishing: Taxpayers need to be on guard against fake emails or websites looking to steal personal information. The IRS will not send you an email about a bill or refund out of the blue. Don’t click on one claiming to be from the IRS that takes you by surprise. Taxpayers should be wary of clicking on strange emails and websites. They may be scams to steal your personal information.”
  • Social Security changes

    The Bipartisan Budget Act (BBA) of 2015 was signed on November 2nd. It eliminates two popular strategies for claiming social security benefits—the “file and suspend” strategy and the “claim now, claim more later” strategy.

    File and suspend. Under this approach, the higher-earning spouse could file for retirement benefits at full retirement age, but immediately suspend claiming benefits until a later age. At the same time, the lower–earning spouse could claim a spousal benefit. Under the BBA, spousal benefits are no longer available when benefits of the higher-earning spouse are suspended.

    Claim now, claim more later. This strategy was available when both spouses were eligible for social security benefits. At full retirement, one spouse would claim spousal benefits and delay claiming benefits on his or own individual account. Under the BBA, the option to claim either spousal benefits or delay is eliminated; the individual will automatically be paid the larger of the two benefits.

    Running the numbers.

    Clients are reminded that tax considerations should generally not drive financial decisions. Once financial objectives are defined and understood, it becomes easier to determine the tax planning strategies that are consistent with overall objectives. Unfortunately, frequent changes in the income tax rules, coupled with the changes and uncertainty in the estate tax area, make both short and long-term planning more complex. With the year-end approaching, it may be a good time to review your financial objectives with a view toward assessing whether any of the recent tax incentives can be incorporated into the financial plan. We recommend running tax projections for 2015 and future years before implementing year-end tax strategies. Please let us know if you would like our assistance in preparing a projection.


    The information contained in this newsletter is general in nature and does not constitute tax advice or opinion. Applicability to specific situations should be determined through consultation with your tax advisor.

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