TAX GUIDE HOLISTIC FINANCIAL PLANNINGInstead of surrendering to your tax bill every April, what if...

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TAX GUIDE FOR HOLISTIC FINANCIAL PLANNING

TAX FAST FACTS

INTRODUCTION

KEY TAKEAWAYS 05

04

03

TABLE OF CONTENTS

RETIREMENT 06

+ Maxing Out Retirement Accounts + Roth Conversions + Annuities + Tax-Efficient Withdrawal Strategies + RMDs

LEGACY & GIFTING 16

+ The Estate Tax + The Gift Tax + Trust Taxation + Gifting Appreciated Securities

DEDUCTIONS & CREDITS 29

+ Tax Deductions for Saving Money + State Sales Tax + Foreign Tax Credits + Child Care Credit + Job Hunting Expenses + Moving Expenses for a New Job or

Job Location + Baggage Fees

EDUCATION 21

+ College Savings with 529s + Tuition & Education Expenses + Parents Paying Student Loan Interest

HOUSING 24

+ Real Estate Taxes & Deductions

ANNUITIES 26

+ Annuity Types + Annuity Advantages + Annuity Disadvantages13HEALTHCARE

+ FSAs & HSAs + Medicare

SOCIAL SECURITY

SS wage base

FICA tax rate - employeeSECA tax rate - self-employed

Earnings limitation:Below FRA ($1 for $2)Persons reaching FRA ($1 for $3)(Applied only earnings for months prior to attaining FRA)

Social Security cost of living adjustmentQuarter of coverageMaximum benefit: worker retiring at FRAEstimated average monthly benefit

$127,200

7.65%15.3%

$16,920$44,880

0.3%$1,300$2,687$1,360

Annual gift tax exclusion

Estate & gift tax basic exclusion

Applicable credit amount

Generation skipping exemption

Maximum estate tax rate4

$14,000

$5,490,000

$2,141,800

$5,490,000

40%

ESTATE AND GIFT TAX

SOCIAL SECURITY FRA

YEAR OF BIRTH SOCIAL SECURITYS FRA

1943-54

1955

1956

1957

1958

1959

1960 and later

66

66 and 2 months

66 and 4 months

66 and 6 months

66 and 8 months

66 and 10 months

67

These numbers are for tax year 2017, and are subject to change.

The information in these charts is from a third party. It is deemed reliable, but we cannot guarantee its accuracy. Data is subject to change and should be verified with a tax advisor.

Elective deferrals 401(k), 403(b), 457, & SAREPs

Catch-up contribution

$18,000

$6,000

Defined contributions (415(c)(1)(A))

Defined benefit (415(b)(1)(A))

$54,000

$215,000

SIMPLE plan

SIMPLE catch-up contribution

$54,000

$215,000

Maximum includible compensation

Highly compensated employee

Lookback to 2016

Lookback to 2017

Key employee (top-heavy plan)

SEP participation limit

$270,000

$120,000

$120,000

>$175,000

$600

IRA deduction phaseout for active participants

Single

Married filing jointly

Married filing separately

Non-active participant marriedto active participant

$62,000-$72,000

$99,000-$119,000

$0-$10,000

$186,000-$196,000

Roth IRA phaseout

Single


$118,000-$133,000

$186,000-$196,000

IRA or Roth IRA contribution limit

IRA or Roth IRA catch-up

$5,500

$1,000

TAX FAST FACTSMAX AMOUNT MAX AMOUNTRETIREMENT PLANS

MAX AMOUNT

MAX AMOUNT

PERSONAL CAPITAL TAX REPORT FOR HOLISTIC FINANCIAL PLANNING 4

INTRODUCTION

Most Americans hate to think about taxes. Understandably, they find tax management can be complex and overwhelming - a necessary evil to deal with once a year. But what if you approached taxes with a different philosophy? Instead of surrendering to your tax bill every April, what if you actively managed your taxes throughout the year?

This is a comprehensive tax guide that will look at taxes within the framework of holistic, long-term financial planning, including retirement, health care, education, and more. Taxes can – and should – be considered throughout the year, not just at the beginning of the year when forms are mailed out and IRS deadlines rear their heads.

Taxes are critically important and managing them can be tricky – they intersect many aspects of our lives, and at each intersection lies another opportunity to increase the amount of money you ultimately get to take home.

This report is for informational purposes only; we are not in the business of providing tax or legal advice and we generally recommend seeking the advice and counsel of a tax professional before taking any action that may cause a material taxable event.

Introduction

PERSONAL CAPITAL TAX REPORT FOR HOLISTIC FINANCIAL PLANNING

KEY TAKEAWAYS

MAXIMIZE YOUR TAX DEDUCTIONS AND CREDITS

Every dollar counts when it comes to taxes.

GIFT MEANINGFULLY

Donate appreciated securities for a double tax benefit: a charitable deduction and avoiding tax on the unrealized capital gains of the donated property. You can also consider gifting RMDs to keep you from bumping up in to a higher tax bracket.

USE 529 PLANS IF YOU’RE PAYING FOR COLLEGE

You can save for a beneficiary’s college education and lower your tax bill by setting up a 529 plan, and some states even offer a state tax deduction.

EVALUATE ROTH CONVERSIONS

A Roth IRA can offer significant benefits, most notably tax-free growth of assets, tax-free distributions and no required minimum distributions (RMDs) during the original account holder’s lifetime.

MAX OUT YOUR RETIREMENT ACCOUNTS

If your cash flow allows, it generally makes sense to max-out our contributions to retirement accounts to take advantage of their favorable tax status.

529

5 SMART MOVES

6PERSONAL CAPITAL TAX GUIDE FOR SAVVY INVESTORS

CHAPTER 1

It’s difficult to talk about retirement accounts without mentioning taxes in the same sentence. When you start saving for retirement, you also need to consider the tax treatment on those accounts. Contributions to traditional IRAs are tax deductible, but you will owe ordinary income taxes on withdrawals. On the other hand, although there are no tax breaks on the contributions you make to a Roth IRA, your earnings will grow tax free, and qualified withdrawals are tax free.

+ MAXING OUT RETIREMENT ACCOUNTS

+ ROTH CONVERSIONS

+ ANNUITIES

+ TAX-EFFICIENT WITHDRAWAL STRATEGIES

+ RMDS

Retirement


RETIREMENT

Retirement Accounts

The reason it’s a good idea to max out your retirement accounts is simple: they are tax-advantaged. In traditional retirement accounts, there are a few tax advantages:

1. You reduce current income tax, and you don’t pay taxes on investment income and dividends now (i.e. your taxable income is lower)

2. Your investments grow tax-deferred; you don’t pay any taxes until you withdraw funds at retirement (that’s why it’s a good idea to put income-generating assets in your retirement accounts)

In Roth retirement accounts, you pay taxes now on your income, but you benefit from these three tax advantages:

1. Your investments grow tax-free

2. You don’t pay tax when you withdraw

3. There are no RMDs (required minimum distributions)

If your retirement account is employer-sponsored, like a 401k, often times it comes with an “employer match - meaning you get free money. If you’re prioritizing where to put retirement dollars and you get a match, start with your 401k.

Max out your accounts for the biggest tax advantages

Elective deferrals 401(k), 403(b), 457, & SAREPs

Catch-up contribution

$18,000

$6,000

Defined contributions (415(c)(1)(A))

Defined benefit (415(b)(1)(A))

$54,000

$215,000

SIMPLE plan

SIMPLE catch-up contribution

$54,000

$215,000

Maximum includible compensation

Highly compensated employee

Lookback to 2016

Lookback to 2017

SEP participation limit

$270,000

$120,000

$120,000

$600

IRA deduction phaseout for active participants

Single


Married filing separately

Non-active participant marriedto active participant

$62,000-$72,000

$99,000-$119,000

$0-$10,000

$186,000-$196,000

Roth IRA phaseout

Single


$118,000-$133,000

$186,000-$196,000

IRA or Roth IRA contribution limit

IRA or Roth IRA catch-up

$5,500

$1,000

RETIREMENT PLANS MAX AMOUNT


Roth ConversionConsider converting to lower your tax liability

RETIREMENT

1 “Employees are Falling for Roth 401k’s,” Forbes

If you anticipate being in a higher tax bracket in

retirement, then you may want to investigate Roth

conversions further.

One of the more common tax management questions, at least in recent years, is whether to convert a traditional IRA to a Roth IRA—also called a Roth conversion. If you anticipate being in a higher tax bracket in retirement, then you may want to investigate this further. Since 2010, this opportunity is also available to higher earners too, as income limits for IRA contributions expired. It may also be time to convert your 401k to a Roth. Roth 401k plans have only been around since 20061. Check with your employer to see if you can convert to a Roth. In some cases, you may be able to fine-tune your tax planning by converting a portion of your 401k (or IRA) to a Roth IRA.

On the surface a Roth might appear superior. Its tax-exempt nature amplifies compounding investment returns over time. Unfortunately, the answer isn’t this simple. Several criteria must be met before a Roth conversion makes sense.

The most important factor to consider is future tax rates. This is because when you convert to Roth, you pay ordinary income tax on every investment converted. Remember, Roth IRAs are funded entirely with after-tax dollars. Only growth and withdrawals are tax-exempt.

Conversions are typically a one-way street and come with a tax bill now that you’ll need cash to pay for. Before deciding to convert, make sure you have the funds to cover the tax liability you’ll incur today.

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A Roth conversion can also generate a large tax bill. Since a Roth enjoys tax-exempt growth, a greater benefit is realized over time with a higher initial balance. Much of this is erased if you pay taxes out of the actual IRA balance. In other words, a Roth conversion is more impactful if you can pay the tax bill with an outside non-retirement account, like an individual or joint account.

Another factor to consider is time horizon. The longer the timeframe for the assets, the greater the benefit of compounding returns. Put simply, the longer you hold off on making withdrawals, the better. A Roth can also be a great way to pass on assets to heirs because they are not subject to required minimum distributions. This allows more assets to grow tax-free longer.

If you expect your future tax rate to be higher, are able to pay the tax bill with non-retirement assets, and you have a long time horizon, a Roth conversion might make sense. But it’s always a good idea to consult with tax and investments professionals before making the decision to convert.

ROTH CONVERSIONS:

When you convert to a Roth IRA, the converted amount of your traditional IRA will be taxed as ordinary income in the conversion year. A Roth IRA can offer significant benefits, most notably tax-free growth of assets, tax-free distributions and no required minimum distributions (RMDs) during the original account holder’s lifetime. If you convert to a Roth IRA in one year, you can re-characterize it back to a traditional IRA until as late as October 15 of the following year. This gives you time to monitor market conditions and decide to undo the Roth conversion if the account value decreases significantly from the time of conversion, thereby avoiding the recognition of income tax based on the higher value of the account on the date the conversion was made.

Note that any after-tax money you put into a traditional IRA will actually not be taxed when you convert to a Roth IRA. Only pre-tax money will be.

PERSONAL CAPITAL TAX STRATEGY

RETIREMENT ROTH CONVERSION

Since a Roth enjoys tax-exempt growth, a greater benefit is realized over time with a higher initial balance.


Tax-efficient withdrawal strategies can help extend the longevity of assets. The greatest benefits occur when there is a good mix between taxable and non-taxable accounts, and you’re able to minimize the total taxes paid over your entire retirement lifetime.

Contributing to an optimal mix of accounts well ahead of retirement will give you the flexibility to implement a good withdrawal strategy. The best plan will depend on how your assets are spread among different types of accounts. In general, it's better to take money out of taxable accounts so that non-taxable accounts can keep growing over a longer period. Depending on how assets are allocated

Tax-Efficient Withdrawal StrategiesExtend the longevity of your assets

RETIREMENT

between your traditional and Roth IRAs, and your particular tax situation, taking money from your traditional IRA first might be more beneficial than taking it from your Roth IRA first, or vice versa. A combination of both may also be a solution.

You can extend the longevity of your assets by years if you take money out of the right accounts. It’s also important to remember that the more time you give yourself to make sure you have the right mix of accounts, the more flexibility you will have to set up an efficient withdrawal strategy. Roth conversions, RMDs, and your expected retirement lifestyle are important factors to think about years ahead of retirement.

If you have a large amount of your own company’s stock in a qualified plan, you might be able to take advantage of something called Net Unrealized Appreciation. NUA refers to a special rule dealing with company stock held in a 401k account. Normally, if you rollover your company stock into an IRA, you must pay ordinary income tax on the whole value when it comes time to withdraw funds.

Net Unrealized Appreciation (NUA)

However, if you own stock in your own company within your 401k, you have the option to distribute the company stock to a taxable account and pay ordinary income tax only on the stock’s cost basis (and a 10% tax penalty if under age 59.5). When you go to sell the stock, you will be able to pay long-term capital gains tax (not ordinary income) on the difference between the current value and the cost basis, which could be a large difference for those in high tax brackets. There are strict criteria to meet to qualify for the NUA rule, so make sure you talk to a professional.


Required Minimum Distribution (RMDs)Understand the tax implications of retirement withdrawals

RMDs are an annual amount people are required to withdraw from their tax-deferred accounts when they are older than 70. The most common of these are traditional 401ks and traditional IRAs. The government incentivizes people to save for retirement by providing tax deferral in these accounts; however it doesn’t want this deferral to last forever, so it requires us to take out money, starting in the year we turn 70 ½. The required withdrawal amount is a percentage of the account, and increases with age, starting at about 3.5% at age 70.

As with most funds withdrawn from tax-deferred accounts, RMDs are considered taxable income, so withdrawing these funds will increase the income reported on your tax return. Many people fear that, because RMDs increase their income, they will be placed in a higher tax bracket requiring them to pay higher taxes. Heirs will have RMDs on a Roth IRA.

The 10%+ of your IRA balances added to your income in later years seems daunting, but there are actually two factors mitigating the impact of this increase. First, the required annual distributions hinder the growth of the account value, so that it does not balloon over time. By taking your RMD in one year, you are decreasing the account balance relative to what it would have been if you didn’t take one. The effect is small year-to-year, but compounds significantly over time.

Second, and just as important, tax brackets increase with inflation over time. Combined, these factors mean that the tax impact of increased RMD percentages later in life have less of an impact than you might think.

RMDs are required to be withdrawn from tax-deferred accounts, but if you don’t need to spend the money, it makes a lot of sense to simply transfer these funds to your taxable brokerage account and invest them there. If you believe RMDs will place you in a higher income tax bracket in retirement, then there are ways to lower RMDs if you plan ahead. The main way to do this is to withdraw money from your tax-deferred accounts when you are in a low-income year. Often a sweet spot to do so is between retirement and either age 70 or the year you start taking Social Security benefits. For example, doing a Roth conversion could make sense if it doesn’t increase your current tax bracket (the amount you convert is added to your gross income for that tax year), because it would decrease your future tax bracket by decreasing the RMD amount. This is the type of calculation we do for many of our clients who are nearing retirement or recently retired. If you give to charity, you also might want to consider using your RMD distribution to gift. The amount you gift may help lower your tax bracket. It is often a better strategy to use your RMD requirement as a gift vs giving cash from your after-tax savings.


RETIREMENT


RETIREMENT REQUIRED MINIMUN DISTRIBUTION

DISTRIBUTION

$20,000

70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 100 102 104 AGE

$40,000

$60,000

$80,000

$100,000

RealNominal

Suppose you are 70 ½ years old, married filing jointly, with $1 million in your tax-deferred IRA. You have other income including Social Security at about $30,000 per year. Your $1 million IRA has 5.5% annual growth and 2.5% annual inflation. Let’s say you withdrew the RMD amount each year from the IRA but nothing more.

In nominal terms, RMDs start out at about $36,000 and peak at almost triple that amount, around $93,000. However, once adjusted for inflation, the peak is at about $53,000.

RMDs & Inflation

This means that even at the peak RMD year, your adjusted gross income (AGI) would be about $85,000. After exemptions and deductions, your taxable income would likely be well below $75,000 per year. In this case, you would remain in the 15% federal income tax bracket; your RMDs would not have moved you into a different tax bracket. In the cases where they do put you in the 25% tax bracket, it is rare that this is a tax bracket increase from when you were working. Put another way, most people’s tax brackets decrease in retirement, and RMDs usually do not change this. As a general rule of thumb, RMDs are not too worrisome until the value of tax-deferred assets is around $1.5 million or more.


CHAPTER 2

You can avoid paying taxes on a predetermined portion of your salary that you spend on medical expenses. In an employer-sponsor health plan, your employer typically covers the majority of the premium costs, typically 85% of premiums for employees and 75% for dependents2. The employee is then responsible for paying the remaining coverage. If your benefits are offered through a

“section 125 cafeteria plan,” you can pay your premiums in pre-tax dollars – This helps you save on taxes today and pay for your medical benefits.

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22016 Employer Health Benefits Survey, Kaiser Family Foundation

+ FLEXIBLE SPENDING ACCOUNTS

+ HEALTH SAVINGS ACCOUNTS

Healthcare


HEALTHCARE

Health insurance premiums aren’t the only way you can save on taxes. Flexible Spending Accounts (FSAs) and Health Savings Accounts (HSAs) let you use pre-tax dollars to pay for medical expenses you know you’ll have.

The HSA & The FSASave for expenses in a tax-optimal way

FSAs let you set aside before-tax dollars to cover “qualified expenses.” The two most popular types of FSAs cover healthcare (out-of-pocket expenses such as co-pay, deductible or certain over-the-counter medications are considered qualified) and transit (where your parking or public transportation bills are qualified). During your employer’s open enrollment period, you can choose how much money to deduct from your paycheck for the coming year. To be reimbursed, you

most likely need to submit a receipt to your employer or upload it to the FSA. Some larger companies offer debit cards.

Each FSA is subject to contribution limits; for healthcare FSAs, pursuant to the Affordable Care Act, the limit is $2,500 per year. Your contributions are not tax-deductible because the accounts are funded through salary deferrals, but contributing to an FSA does reduce your taxable wages.

Although you lose any money that you don’t use, some employers offer you the option to roll over $500 to the next year. TThe savings can add up when paying for medical expenses in pre-tax dollars. For a simple example to show ballpark tax savings, if you were in the 33% tax bracket and spent $1,000 on medical expenses out of pocket, you’d have to make $1,492 before tax to cover these expenses. However, if you used your FSA, you can allocate $1,000 before tax – thereby receiving an instant tax break.

Flexible Spending Accounts


HEALTHCARE THE HSA & THE FSA

HSAS

The biggest mistake employees make with their HSA is not funding it enough. If you’re in a high deductible health plan, it makes sense to open an account since your money is carried forward and accumulates. Your contributions can be invested and withdrawn when you need them for medical expenses. Speak with your employer to find out when open enrollment takes place to open an account (If you participate in both an FSA and an HSA, make sure you find out how that limits your benefits).


An HSA is a trust that you are eligible to set up if you’re in a high deductible health plan and you’re not enrolled in Medicare. You contribute to your HSA with pre-tax dollars that you may draw from tax-free to pay for qualified medical expenses. HSAs offer two main perks: first, the funds may be invested (and grow tax-free) and second, they remain in your account from year to year until you use them. There isn’t any “use-it-or-lose-it” rule; any remaining balance can be carried over to the following year. In addition, you (not your employer) own your HSA, which means if you change jobs or relocate to another state, you can take your HSA and its balance with you.

You can think of HSAs as like retirement accounts - you not only set aside savings but also invest the money. The only difference is that you can access those funds whenever you want – but only for health-care expenses. From a tax savings perspective, that means they’re even more attractive than 401ks. After age 65, distributions from an HSA account are not subject to a penalty, but money taken out for non-medical expenses will be subject to ordinary income tax. For this reason, HSAs can sometimes be used as an additional retirement savings vehicle.

Health Savings Accounts


CHAPTER 3

Life is meaningful and complex - and so are the taxes associated with it. If you're consider-ing what you would like to leave your family or pursuing charitable giving, there are certain tax implications of both to consider.

+ ESTATE TAX

+ THE GIFT TAX

+ TRUST TAXATION

+ APPRECIATED SECURITIES

Legacy & Gifting


LEGACY & GIFTING

The U.S. tax system imposes an estate tax when a taxpayer dies. Every taxpayer has a credit against the estate tax that protects the first $5 million-plus (for 2017, the amount is $5.49 million) he or she owns (this number is usually adjusted each year for inflation). That means a married couple can protect nearly $11 million from the estate tax. For most people, the estate tax is no longer a real concern, especially when you consider the estate tax marital deduction, which says there’s usually no estate tax on assets that pass

The Estate TaxProtect what you leave behind

to a spouse. Even if you have $50 million when you die, there will be no estate tax if you leave it all to your spouse; however, once your spouse dies, the estate will likely have a large tax bill.

Insurance may be used to pay the taxes on your estate so your heirs won’t have to sell assets to pay the taxes. You can also set up a life-insurance trust to be the beneficiary of the policy so that the death benefits won’t be taxed as part of the estate.

CASE STUDY

This case study is fictional and does not depict any actual person or event

Herman bought stock in a tech company 10 years ago for $8 a share. Today, the stock is worth $208 per share. If he sells it, then he will have a capital gain of $200 per share. Herman thinks about giving $14,000 (the amount the IRS allows as a non-taxable gift per year) of the stock to his daughter, Anne, but realizes the rules say she would have to take Herman’s cost basis. If she sells the stock, she’ll have the same taxable capital gain Herman would have. Different rules apply if she inherits the

stock from him. If she gets his shares because of his death, Anne’s income tax basis will be the fair market value on the date of Herman’s death. Suddenly, inheriting assets makes more sense, especially since the rules allow Herman to pass a very significant amount of assets estate tax free.

Keep in mind that some states impose their own estate or inheritance tax, so you should double-check whether you live in one of them.


The gift tax applies to assets transferred during life. It’s intertwined with the estate tax because a taxpayer’s credit for the estate tax can be applied to the gift tax. You can give away the total amount protected during your life or at your death, but you can’t give more than that amount without paying one of the taxes. For example, each person gets a ~$5.5 million exclusion over their whole lives. They have the option to chip into it over time if in any year they gift more than $14,000 to a single individual.

If you decide to use some of the credit to make big gifts while you’re alive, then you’re required to disclose the transfer by filing a gift tax return (IRS Form 709).

Smart taxpayers take full advantage of another gift tax – the annual exclusion. In addition to the estate and gift tax exemption, every taxpayer can give an unlimited number of people a certain amount tax-free every year. This is a powerful strategy. Smart taxpayers use the annual exclusion to collectively transfer literally billions of dollars a year of assets tax-free.

The Gift TaxMake substantial lifetime gifts without tax penalties


LEGACY & GIFTING

USING THE GIFT TAX EXEMPTION TO MAKE SUBSTANTIAL LIFETIME GIFTS.

This exemption is indexed for inflation and may be used during your lifetime to make gifts or at death to reduce or eliminate estate taxes. You may consider utilizing a substantial portion (or even all) of your gift tax exemption by making a gift to your family members or others. Such a gift could remove the value of the gifted asset, plus any future appreciation, from your estate. Also, if exemptions later decrease, then gifts that were already made might be excluded from estate tax liability calculations. Remember to inform your tax advisor of all gifts you made during the year so he/she can prepare a gift tax return if one is required. One thing to keep in mind when you gift is that your cost basis will generally transfer to the person(s)receiving the gift. This is important if you have highly appreciated assets. Talk to your Personal Capital advisor on how this might affect you.


Trusts can be used for tax planning. There are many different types of trusts and each is taxed differently depending on how they are structured. Some common trusts include:

REVOCABLE/LIVING TRUST – This type of trust allows the grantor (the person who created the trust) to change or cancel certain provisions. Grantors receive income earned from the trust during the trust’s life, with the assets/property transferring to their beneficiaries after death.

IRREVOCABLE TRUST - This type of trust cannot be changed without the permission of the beneficiary; the grantor forfeits ownership of the trust’s assets/property. In many cases, this trust needs more than just beneficiary permission and in some cases, there will be big tax consequences.

TESTAMENTARY TRUST – This type of trust goes into effect upon a grantor’s death and has terms specified through the grantor’s will, which gives the grantor control over when the beneficiary receives the assets/property of the trust. These types of trusts are irrevocable.

Some general information on trust taxation includes:

+ Revocable/Living Trust: The grantor is usually also the trustee (the person in charge of the trust) and will pay taxes at their current income tax bracket. Grantors generally have full control over the assets - both income and principal.

+ Irrevocable/Testamentary: This requires a separate Tax Identification Number (TIN) and a separate tax return must be filed under the trust itself, not an individual.

+ Irrevocable Trusts are separate legal entities and are required to file annual income tax returns. Generally, taxes on taxable income must be paid either by the trust or by the beneficiaries, but not both. If the trust retains income beyond year-end, then the trust must pay taxes on it. However, if the income is distributed, then the beneficiaries pay taxes on it and the trust is permitted to deduct it.

+ Some Irrevocable trusts can go around the trust tax bracket by using language in the trust to “distribute” the income to the beneficiaries so they pay taxes rather than the trust tax (which is significantly higher). Make sure you consult legal and tax advice if you are considering this type of strategy.

Trust TaxationUse trusts to plan for taxes

LEGACY & GIFTING

Trust taxation is highly personal to your own unique tax situation. These guidelines serve as an introduction to trusts and taxes, and you should consult your tax professional for more information.


If you’d like to donate to your favorite charity, consider donating appreciated securities. Not only will you be giving to a worthy cause, you’ll receive a tax deduction based on the security’s fair market value. If you’ve held the securities for longer than a year, you also avoid paying capital gains tax. Plus, unlike tax-loss harvesting, you can buy the same security immediately and enjoy the higher adjusted cost basis.

The same goes for gifts; you can avoid paying capital gains on appreciated securities by gifting them. Note that the IRS allows you to make non-taxable gifts of $14,000 to any individual per year, and up to $5.49 million (in 2017) over your lifetime. Further, it makes the most sense if the recipient is in a lower tax bracket, as the recipient gets the original cost basis (the only time that cost basis is stepped-up is when the investments are inherited).

Appreciated Securities

Non-Cash Charitable Contributions

Non-cash donations, such as clothing and/or household goods, are deductible at fair market value. Organizations can help you determine the value of your donations. Also, expenses you incur on behalf of a charitable organization are deductible as well. For example, if you purchase supplies like stamps or food for a charitable group, that purchase is deductible. Or, if you incur travel expenses to volunteer at the local soup kitchen, or if you deliver meals on wheels in your car, you can deduct money per mile driven. You can’t deduct the value of your time spent volunteering, but don’t overlook out-of-pocket expenses. While individual expenses may be small, they can add up. Note that you have to itemize these.

LEGACY & GIFTING

Donate appreciated securities for a double tax benefit


CHAPTER 4

+ COLLEGE SAVINGS WITH 529 PLANS

+ TUITION & EDUCATION EXPENSES

+ PARENTS PAYING STUDENT LOAN INTEREST

It's never too early to start thinking about this important financial topic. There are ways you can leverage education costs to lower your tax bill.

Education


EDUCATION

CHANGING GRADUATION YEAR TO SUIT INVESTMENT STYLE:

When you invest in a 529 plan, you’ll probably be asked what year your child (or the person you’re opening the account for) will be graduating from high school. That information is used so the mix of investments will be appropriate for your time frame. There may be times, however, when you want your 529 plan invested more aggressively or conservatively than the mix that’s been chosen for you. If that’s the case, you might want to invest your 529 plan according to a college year that is further in the future (for a more aggressive position) than your child’s actual graduation year. Just remember to review your investments often to make sure the mix is still appropriate for your circumstances. Remember to use the Personal Capital app to track all of your financial accounts, including a 529 plan.


College Savings with a 529 Plan

You can save for a beneficiary’s college education – and lower your tax bill – by setting up a 529 plan, which is a state-sponsored plans used for saving towards college education. The amount invested in a 529 plan grows free of federal income taxes and, depending on where you live and what plan you choose, can provide a state tax write-off too. (Note: there are some states, like California and Massachusetts, that don’t offer any benefits.) In exchange for those tax advantages, you have to follow the rules governing 529 plans, but those rules are more flexible than you might think.

If your child decides not to attend college, the funds can be transferred to another qualified beneficiary. However, if you don’t know another beneficiary, you’ll incur a 10% penalty tax and regular tax rates will apply on capital gains. A 529 plan account can be used to pay for more than just tuition. Other college expenses are fair game too, including fees, books, or a computer if the college requires it. A 529 plan can be used to pay on-campus room and board, and off-campus room and board up to the amount of the college’s room and board.

College savings are obviously important. If you’re confident that your child will attend college, you should probably max out any retirement account options – such as a 401k or IRA – before you fund a 529 plan. The tax deduction and long deferred growth of a retirement account tends to outweigh the tax-free growth in your 529 for a shorter time period.

If you’re eligible for a Roth IRA, contribute to that account before a 529 plan. While the principal of a 529 plan can be pulled anytime after the minor turns 18, there is a 10% penalty for withdrawal unless it is for qualified education expenses. A Roth IRA offers increased flexibility for people who would like to fund college costs if necessary, but aren’t positive they’ll need to.

It is imperative to understand the importance of prioritizing your own retirement over paying for college. You can get a student loan for college if need be, but there’s no loan to take out for your retirement if your savings fall short. Plus, if push comes to shove, the beneficiary can take out loans to fund their education. There are no loans to fund spending in retirement.

529


Tuition & Education Expenses

EDUCATION

Parents Paying Student Loans

If parents pay back a child’s student loans, the IRS treats this as if the parent(s) gave the money directly to the child, who then used it to pay the loan debt. If the child is no longer able to be claimed as a dependent, he or she can deduct up to $2,500 of student-loan interest, even if some or all of it was paid by parents. And, the child doesn’t need to itemize in order to take advantage of this deduction.

If you or your dependent(s) are working toward a college degree, you can receive an annual tax credit of up to $2,500 per eligible student for the first four years of higher education through the American Opportunity Tax Credit. Even if you are simply taking a class or two to improve job skills, you may qualify for a credit of up to $2,000 per tax return through the Lifetime Learning Credit. There is no limit on the number of years you can claim the Lifetime Learning Credit. But, there’s no double dipping – you can only choose one type of education tax credit per year. These credits phase out based on your level of income – check with the IRS for the latest information.


CHAPTER 5

+ REAL ESTATE DEDUCTIONSOwning property has many advantages and disadvantages. Many of these are tax-related. Whether it's your primary residence or an investment property, there are many real estate taxes and deductions you should think about.

Housing


HOUSING

YOU CAN DEDUCT YOU CANNOT DEDUCT

Mortgage interest deduction – interest paid up to $1 million in mortgage debt total (first and second mortgage combined)

Prepaid interest deduction – fees paid at closing to lower the APR in the year paid

Property taxes paid

Private mortgage insurance – phase out if adjusted gross income is over $100,000 (phaseout is for married filing jointly; homes purchased or refinanced after 2007)

Home improvement loan of up to $100k

You cannot depreciate a home that is a primary residence 100% of the time

Homeowner insurance payments

Losses from the sale of personal property

HOA fees of personal property

Real Estate Taxes & Deductions

If a property is used as a primary residence (the home you live in) for two out of the last five years, then you can take $250,000 (single) or $500,000 (married) of gains without paying capital gains taxes. If you have an investment property and have not lived in it for two out of the last five years, then you are generally subject to the full long-term or short-term gains if you decide to sell and take the profits.

You may also be able to take depreciation from a rental property to save on taxes. Make sure you have your CPA run the numbers so you are depreciating the right amount.

The following is a list of common deductions you can (and cannot) take if you own property:


CHAPTER 6

An annuity is an insurance contract that typically provides a guaranteed annual amount of income for life once you reach a certain age. The primary appeal of an annuity is that it takes away some of the guesswork in retirement planning, because you don’t have to worry as much about outliving your assets. A steady stream of income for life sounds great, so why isn’t everyone flooding insurance companies to buy an annuity? Because any type of “guarantee” comes at a high cost and not everyone will need one. On top of that there are so many different varieties of annuities with hundreds of options, riders, disclaimers, footnotes and contingencies, making them extremely complex.

+ ANNUITY TYPES

+ ANNUITY ADVANTAGES

+ ANNUITY DISADVANTAGES

Annuities


ANNUITIES

Annuity Types

Each of these can have multiple options – single premium, flexible premium, fixed annuity, variable annuity, life income annuity, joint annuity, equity-indexed annuity, to name a few. A fixed annuity means your money will earn a fixed interest rate set by the insurance company, so when you begin receiving income, a fixed payment is guaranteed. A variable annuity means money will be split into sub-accounts depending on your risk level, and be invested in stocks, bonds or other investments. The

annuity pays a minimum income, which could go up depending on performance but the downside is that it has substantially higher fees than mutual funds.

There are many annuities available that may not be suitable for investors, but if an annuity is appropriate for you, then you should try to find a lower-cost option. You should consult a professional to determine if an annuity is right for you.

There are two basic types of annuities:

1. IMMEDIATE ANNUITY – If you need a guaranteed stream of income right away, you can convert a lump sum to an immediate annuity that pays out monthly, quarterly or annually.

2. DEFERRED ANNUITY – If you are years away from your retirement and want to make sure you have a fixed income coming in every month in your retirement, you can get a deferred annuity. You invest tax-deferred money in the annuity to receive payments at a later date. Until you are ready to start receiving the payments your money will grow tax-free, similar to your 401k.

Annuity Advantages

Annuities offer two types of benefits – tax related and investment related:

REASSURANCE: A big concern among people saving for retirement is the possibility of outliving their retire-ment assets. Some annuities offer a guaranteed stream of income for the remainder of your life.

CONTROL RISKS: A variable annuity will let you take some risks while giving you some control of the outcome.

TAX DEFERRAL: When you buy a deferred annuity, the earnings are tax deferred. You can let the money grow until you start making withdrawals. If you are in a high tax bracket now and expect to be in a low tax bracket at retirement, this can add a good chunk of money to your nest egg.

UNLIMITED CONTRIBUTIONS: Unlike tax-advantaged accounts, there is no yearly contribution limit for an annuity. This can be especially beneficial for people who are nearing retirement and need to catch up or for people who are in a high tax bracket now, but expect to be in a lower tax bracket during retirement.


Annuity Disadvantages

There are some disadvantages to investing in annuities. Oftentimes the costs of owning an annuity can outweigh the benefits.

Below is a laundry list of costs that come with annuities:

You shouldn’t consider getting an annuity if you are not already taking maximum advantage of the tax advantaged accounts (401k or IRA) because these plans provide the same tax advantage but without as many fees. If you have maxed out all your tax-advantaged accounts, then you might want to explore annuities to see if they are right for you.

MORTALITY AND EXPENSE RISK FEE (M&E FEE): This is a major fee that pays the carrier to assume the risk that you and other annuity owners will live longer than expected.

OPTIONAL RIDER FEES: You can add a lot of riders to your annuity, like guaranteed living benefits for deferred variable annuity or long term care insurance. Each of these riders will cost money.

ANNUAL CONTRACT FEE: This fee may be a fixed dollar amount or an expense ratio. For high-value annuities, this fee may be waived.

COMMISSIONS: When you buy an annuity through a broker you will pay a commission. The commissions can range from 1% to 10% depending on the product. The longer the surrender period/higher the surrender fee, the higher the commision.

INVESTMENT MANAGEMENT FEES: This is similar to the management fees you pay an investment manager to manage your investments. Variable annuities can have a lot of subaccounts, each of them holding a different investment. Similar to mutual funds, if the investments are index funds or exchange trade funds, the fees are lower. If they are actively managed funds, the fees can be very high. You will also pay the underlying fund expense ratio.

WITHDRAWAL OR SURRENDER CHARGES: Penalty fees for taking out part or all of the cash value of the annuity prior to a specified date. If you invest the money and want to take it out before this date, you might lose a major portion of your money. There are some annuities with no surrender charge.

SOCIAL SECURITY: You already own an income annuity, called social security. If you have worked and paid payroll taxes in the United States for at least 10 years, you own an annuity from the Social Security Administration. If you are still in the workforce, you own a deferred annuity. If you are 65 or older, you can start taking payments immediately, which means you own an immediate annuity.

ANNUITY TAXATION: Annuity earnings are taxed as ordinary income when you start drawing the payments. In contrast, if you own mutual funds or stocks, you will be paying the long-term capital gains rate on the earnings. This can make a huge difference, depending on your income at retirement.

REDUCED LIQUIDITY: Annuities provide a guarantee. To provide that guarantee, you are giving up the access to your money for a certain period of time – often the more generous the guarantee, the longer you will relinquish access. If you want to get your hands on the money, you will find out that annuity contracts have a lot of fees and penalties that can shrink your investments drastically.

LACK OF TRANSPARENCY: Annuities are a very complex insurance product. You should spend a lot of time and effort researching various annuity products to make sure you are buying the right product for your needs.


CHAPTER 7

There are some commonly overlooked ways to save money at tax time. From state sales tax to child care credit, you should make sure you're saving money every chance you get.

+ STATE SALES TAX

+ FOREIGN TAX CREDITS

+ CHILD CARE CREDIT

+ JOB HUNTING EXPENSES

+ MOVING EXPENSES FOR A NEW JOB OR JOB LOCATION

+ BAGGAGE FEES

Deductions & Credits


DEDUCTIONS & CREDITS

Most people who itemize deductions know that they can deduct state income taxes paid. You can actually choose to deduct either the state income tax you paid or the state sales tax you paid. This deduction is particularly important for people living in a state in which there is no state income tax. But, even if you live in a state with an income tax, if you have a large purchase such as a vehicle or a boat, you may want to see which benefits you most.

Even better than a deduction, you can take a credit for foreign taxes paid on foreign income. Don’t assume that you don’t have any foreign income or that you haven’t paid foreign taxes. Before you dismiss this credit, make sure you check the 1099 forms you received from any mutual funds you own or investment firms in which you hold mutual funds. Many mutual funds have stocks from foreign and/or multi-national companies in their portfolios that may be paying you foreign dividends or capital gains. You might be surprised to see the amount of foreign taxes you are actually paying.

Every dollar counts when it comes to taxes. Here are some commonly overlooked ways to save money at tax time

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State Sales Tax

Foreign Tax Credits

You probably know that you can qualify for a tax credit for 20%-35% of what you pay for childcare while you (and your spouse, if filing jointly) work. The maximum benefit is up to $6,000 for two or more children. Many employers offer a child care reimbursement account, enabling the employee to pay for childcare with pre-tax dollars (even better yet). However, those plans are capped at $5,000. If you are paying for child care with pre-tax dollars and exceed the $5,000 cap, you can still claim the credit using up to $1,000 of additional expenses.

Child Care Credit


DEDUCTIONS & CREDITS

U.S. air carriers are taking in over $3 billion in baggage fees per year. If you are traveling for business and deducting your airline ticket as part of your travel expenses, don’t forget to deduct any baggage fees that you are charged. These fees can be deducted just like other travel expenses.

If you are looking for a job this year that is in the same line of work as your current or most recent job, you will be able to deduct expenses incurred in your job search as a miscellaneous expense, provided you itemize deductions. Qualifying expenses include such items as the cost to print resumes, postage fees, transportation, food and lodging (if your job search took you away from home overnight), employment agency fees, etc. And, you don’t need to be successful in finding a job to deduct these expenses. However, these expenses are not deductible while looking for your first job.

Baggage Fees

Job-Hunting Expenses

If you moved your residence because you got a new job, and your new job or location is at least 50 miles farther from your residence than your prior job location, you can deduct reasonable moving expenses. This could include travel expenses, moving household goods and personal effects, storage costs, etc. Unlike job-hunting expenses, qualified expenses for a move required for a first-time job can be deducted. And, you don’t need to itemize to benefit from these deductions.

Moving Expenses for a New Job or Job Location

If you are a member of the Military Reserve or National Guard, you can deduct expenses associated with travel to training exercises or meetings (provided the travel is more than 100 miles from home and requires an overnight stay). You can also deduct the cost of air or train tickets, lodging, and half the cost of meals. If you drive your own car to get to and from drills, you can deduct miles driven, along with any tolls or parking expenses. This is another deduction you can take even if you don’t itemize deductions.

Military Reserve Travel Expenses

This guide and all data are for informational purposes only and do not con-stitute a recommendation to buy or sell securities. You should not rely on this information as the primary basis of your investment, financial, or tax planning decisions. You should consult your legal or tax professional regarding your specific situation. Third party data is obtained from sources believed to be reliable. However, PCAC cannot guarantee that data’s currency, accuracy, timeliness, completeness or fitness for any particular purpose. Certain sections

of this commentary may contain forward-looking statements that are based on our reasonable expectations, estimate, projections and assumptions. Forward-looking statements are not guarantees of future performance and involve certain risks and uncertainties, which are difficult to predict. Past performance is not a guarantee of future return, nor is it necessarily indicative of future per-formance. Keep in mind investing involves risk. The value of your investment will fluctuate over time and you may gain or lose money.

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