Rathbun: Actions for the fiscal cliffWritten by Gary Rathbun | | GaryRathbun@PrivateWealthConsultants.com
It increasingly looks like Congress is going to do nothing about the fiscal cliff that we are headed for at the beginning of next year. For those of you that are not familiar with the term “fiscal cliff” or the implications of it, let me briefly explain.
At the end of this year the overall tax rates are going to increase, the payroll tax will increase and more than $1 trillion of automatic spending cuts will go into effect. Additionally, there are several new taxes that will take effect in 2013, the Obamacare legislation among them.
All told, there is about a $600 billion impact on the economy next year and that will, according to some experts, plunge us into a deep recession that will last a while. I am not going to discuss this aspect today but rather, what actions you should consider, regardless of what happens.
The first things we are looking at are the tax rates. The tax rates are going to go up next year regardless of the fiscal cliff being dealt with or not. Whether President Barack Obama gets re-elected or Mitt Romney gets elected, Congress will raise tax rates to provide the illusion that it is being fiscally responsible.
With that in mind, between now and the end of the year, one should look at what we call “tax harvesting.”
Under normal circumstances, tax harvesting involves taking some losses at the end of the year to offset gains taken throughout the year or vice versa. Profits always have to be recognized in the year they are realized, but losses are carried forward if they are not used in the year they are realized.
We recently had a case come into our office where the adviser took a $48,000 loss for a client without any offsetting gains in the same year. The losses were then carried forward at the rate of $3,000 against ordinary income per year. (You can use the losses faster if you have gains in the future that are realized.) The problem was that this investor is 96 years old and does not have the possibility of realizing $48,000 of gains in her lifetime.
The adviser clearly wasn’t thinking and openly admitted his mistake.
This year, however, is slightly different in that we will want to take gains where we can so that the taxes are at a lower rate than they will be after the first of the year. Capital gain rates are scheduled to increase and the rate on dividend income will probably increase tremendously for most taxpayers.
We are starting early this year in our tax harvesting since it is likely that there will be a large number of people doing the same thing later this year. Plus, the overall market is up right now and we believe that could change dramatically by the end of the year.
As we get closer to the end of the year, we will get a better picture of what next year will be like so we will make adjustments accordingly. For now, though, it would be good if you started to look at your portfolio from a tax standpoint and talk to your adviser and tax professional sooner rather than later.
Gary L. Rathbun is the president and CEO of Private Wealth Consultants, LTD. He can be heard every day on 1370 WSPD at 4:06 p.m. on “After the Bell with Brian Wilson and the Afternoon Drive” and every Wednesday and Thursday evening at 6 throughout Northern Ohio on “Eye on Your Money.” He can be reached at (419) 842-0334 or email him at garyrathbun@private wealthconsultants.com.