The election is over, and the tax tea leaves are murky. Surely the lame-duck session of Congress, which began Nov. 15, will do something about income taxes, and possibly the estate tax. Even without a crystal ball, here are a few financial moves you should be considering before year-end. If you wait until everyone figures out the right moves, financial services providers will be jammed.
Taxes. The lame-duck session of Congress, still controlled by Democrats, is likely to vote on an extension of the current tax rates for most people. They know that if nothing is done, there will be huge tax increases as rates revert back to 2001 levels.
For example, a married couple with three children, both working and each earning $50,000, would see their taxes increase by $3,900 — or 50.4 percent — according to one accounting firm.
But given the congressional balance of power, any compromise might allow taxes to increase on those making more than $250,000. That includes two-income earners who do not consider themselves rich but could take a big hit if rates rise. That makes it important to consider some actions now.
Traditionally, it is smart tax-planning to move income to the next year and take deductions now. But that may be the (SET ITAL) wrong strategy (END ITAL) this year. If you fear higher rates, you’ll want to ask for any income or bonuses to be paid in 2010, if possible. Similarly, deductions such as quarterly estimated state income taxes might be more valuable against higher rates, so consider paying that bill in January.
The big impact could be on capital gains. If the George W. Bush tax cuts are allowed to expire, capital gains will be taxed at (SET ITAL) twice as much (END ITAL) as current levels. This might be the time to sell some of those long-held stocks, pay the taxes at the current 15 percent rate (or 5 percent for those in the lowest tax brackets).
If you really want to hold the stocks, you could then repurchase them. (Remember the “wash sale” rule prevents you from selling a stock at a loss and then repurchasing within 30 days. But it does not apply to taking a gain for tax purposes and then repurchasing the stock.)
Life Insurance. Why think about life insurance now, when you have so many other financial problems to consider? Exactly because no one else is buying life insurance — and that has contributed to the lowest price levels ever on term insurance.
According to Byron Udell of Accuquote.com, one of the largest online life insurance marketplaces, prices of 20-year level term are only half what they were in the mid-1990s. For example, a 40-year-old male in the preferred, non-smoker category could get $500,000 of coverage for $355 a year. Even if you don’t qualify for the very top rating, you could get the same coverage for $460 a year. Women pay lower rates, so a 40-year-old woman could get a half-million in coverage for $310 in preferred plus, or $400 a year in the preferred category.
And it’s not too late to buy the same 20-year level term in your 60s. A 60-year-old man would pay $2,555 annually for that policy in the top category, or $2,990 in a health category that is a step down. A 60-year-old woman pays $1,735 per year, or $2,075.
You’re probably wondering why life insurance comes up in the category of year-end planning. The attraction is more than a bargain price. There is no estate tax this year. But absent action from Congress, estate taxes will go back to their pre-Bush levels, where only $1 million in assets (including your home and retirement plan) are exempt from estate taxes that can ultimately confiscate more than half of your wealth.
But life insurance held in an irrevocable trust outside your estate can provide liquidity to pay those estate taxes. When everyone figures out they need more life insurance, prices will rise. Contact your estate-planning attorney now to set up this simple trust.
Roth IRA. Decide NOW. Those with incomes of more than $100,000 can now convert their IRA, or part of it, to a Roth IRA, which will grow tax-free in the future.
The catch is, you must pay taxes on the entire amount you convert. (Remember, when you put the money in the traditional IRA, it was a pre-tax contribution.) So the amount converted will be added to your ordinary income.
You have two years choices about when to pay the taxes. You can pay it all in April 2011 on your 2010 tax return. Or, if you convert before yearend, you have a onetime opportunity to split the amount in half, and pay half on your 2011 return (due April 2012) and half on your 2012 return (due April 2013). You’ll pay at whatever tax rate is applicable for those years.
So you’re left with the question: Do you want to pay a big tax bill now and get the government’s promise of tax-free withdrawals from your Roth IRA in the future? Or do you want to defer taxes, and pay at whatever rate is in effect when you must start taking withdrawals at age 70-and-a-half?
Here’s a hint: You can make a split decision, converting only one of your IRAs or part of one IRA, to a Roth. But you must act now because mutual fund companies and brokerage firms will be swamped with requests in the next few weeks.
Mark Twain said: “No man’s life, liberty or property is safe while the Congress is in session.” Wise man.