Around October, investors and financial advisers begin to look at tax loss selling, the practice of generating losses to offset income or capital gains. This is one area where investors can control the timing of the taxable event to manage their tax liability for the year. Generally, capital losses can be used to offset capital gains, and up to $3,000 of excess losses can be used to offset ordinary income. Excess losses are carried forward indefinitely.
During this year’s election, there is expected to be considerable debate around the tax laws and the fiscal cliff. The fiscal cliff is a combination of tax increases and spending cuts scheduled to go into effect on January 1, 2013. In 2011, when Congress could not come to terms on a budget, automatic spending cuts were put into place in exchange for a higher debt ceiling. Since no resolution has come out of Congress in the past year, $55 billion in cuts will come from defense spending and $55 billion from domestic spending, which includes programs like Medicaid and unemployment benefits, come January 2, 2013. Long-term cuts seek to reduce the federal deficit by $1.2 trillion over the next 10 years. From a tax perspective, the fiscal cliff includes the tax bracket increases, an increase in capital gain rates to 20% and dividends will once again be taxed at ordinary income rates.
In our low-interest rate environment, so many investors have turned to dividend paying stocks to supplement their income. Higher rates on dividends could affect investors’ desire to hold these stocks, as well as affect corporations’ incentive to pay dividends. Companies may turn to stock repurchase programs rather than dividend payments. Despite the impending change, many of the S&P 500 companies continued to increase dividends in 2012. We do not think companies will cut dividends, as the market does not treat those who do kindly.
At the end of August, the Senate Finance Committee released a bill that would extend many, but not all of the tax provisions set to expire at year end. The bill proposes extending certain credits and deductions for another two years, however, we are unlikely to see any movement on the bill until after the election. The bill does not address extending current brackets, dividend or capital gain rates.
If the fiscal cliff is reached and automatic spending cuts are enacted along with higher tax rates, economists estimate it will cut nearly 5% of GDP, which could result in another recession.
Closely watching the tax policy debates and additional bills from the Senate Finance Committee may give some foresight into what may happen to tax laws. Depending on the election outcome, you may want to seriously consider your holdings. For instance, a Democratic victory may give additional incentive to recognize capital gains at 2012 rates. For now, investors should look at their holdings and consider the merits of selling concentrated or highly appreciated positions in 2012.
At Henssler Financial we believe you should Live Ready, which includes being aware of how tax laws may affect your investments. If you need help determining the timing of your capital gains, the experts at Henssler Financial will be glad to help. You may call us at 770-429-9166 or email at experts@henssler.com.
This article is meant to provide valuable background information on particular investments, NOT a recommendation to buy. The investments referenced within this article may currently be traded by Henssler Financial. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. The contents are intended for general information purposes only. Information provided should not be the sole basis in making any decisions and is not intended to replace the advice of a qualified professional, such as a tax consultant, insurance adviser or attorney. Although this material is designed to provide accurate and authoritative information with respect to the subject matter, it may not apply in all situations. Readers are urged to consult with their adviser concerning specific situations and questions. This is not to be construed as an offer to buy or sell any financial instruments. It is not our intention to state, indicate or imply in any manner that current or past results are indicative of future profitability or expectations. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing. Henssler is not licensed to offer or sell insurance products, and this overview is not to be construed as an offer to purchase any insurance products.
