The big theme for tax planning in 2012? Simple – uncertainty. A lot of big changes are in the works that every investor ought to be thinking about now, not later.
For starters, several tax exemptions are likely to expire at the end of the year, which means taking advantage of those while you can. Those include the lifetime gift tax and the generation-skipping tax, which are currently set at $5 million – which means that $5 million can be gifted to any individual without paying any transfer taxes. In addition, for the rest of 2012, there’s no estate tax on the first $5 million of an estate.
“The potential risk of doing nothing is so huge that people have to get through the unwillingness to act.” Tax experts believe that these taxes, as well as those on capital gains and dividends are all headed upward in 2013 – which means it’s an important time to re-evaluate your tax strategy. As New York-based tax attorney Martin Shenkman explained to me: “The potential risk of doing nothing is so huge that people have to get through the unwillingness to act just because we don’t know what the law will be.”
In the spirit of doing something, here are several tax tactics to consider for 2012:
Consider shifting assets into an irrevocable trust
If you have a same sex partner or you have a live-in partner you are not married to and you own property or significant assets together, you should evaluate the potential benefits of making gifts or asset transfers before the law changes.
Additionally, if you live in a state that is decoupled from the Federal tax system (and over 20 states are) transferring some of your assets to a trust may reduce a big state estate tax bill in the future. This year, you can place assets up to $5.12 million into an irrevocable trust without paying the lifetime gift tax, but in 2013 the gift tax exemption is scheduled to decline to $1 million in 2013. Keep an eye on legislation, however: President Obama has proposed changes that might tax certain assets in irrevocable trusts.
Reconsider life insurance
If you’re planning to leave property, a business, or other assets to your family, life insurance may be part of the answer. Permanent life insurance might also be more attractive if you face higher taxes on dividends and capital gains. 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: That way, the death benefits won’t be taxed as part of the estate.
Plan ahead for higher capital gains
In 2013, the Bush tax cuts are set to expire, which could mean a jump in long-term capital gains from 15% to 20% for those in higher tax brackets. Consider carefully what assets you may want, or need, to sell, and why. Just because long-term capital gains taxes will be higher in the future, doesn’t necessarily mean you should sell now. Evaluate the options carefully, especially if you’re a high-income earner.
Consider gifting to family members
If you have a appreciated investment you’d like to give to a family members with little or no income who are not subject to the Kiddie tax, 2012 may be a good time to do it. Another plus: the assets are no longer considered part of your estate, which reduces the amount that is ultimately subject to federal estate taxes.
Take care of big-ticket medical procedures now
It may be better to take care of any medical procedures in 2012 than 2013 if you itemize deductions and your unreimbursed medical expenses will be more than 7.5% of adjusted gross income. In 2013 the deductible will be raised to 10% of adjusted gross income, which will mean that until that 10% threshold is met all medical expenses will come out of pocket. Other proposed tax changes may also affect these deductions.
Consider a Roth conversion
Taxpayers might also consider doing Roth IRA conversions this year instead of 2013, since a Roth can be a great asset protection tool. If you have $100,000 in a traditional IRA, it is protected under many state property tax laws from creditors. But because you still pay taxes on assets in an IRA, you really are only protecting $60,000. If you convert to a Roth IRA, you are protecting the full $100,000.
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