Tax planning challenging but crucial for higher-income taxpayers
At the beginning of 2013, many tax rates and breaks were made permanent. The increased certainty brought by these tax law changes has in some ways made tax planning in 2014 a little easier.
But the changes also brought tax hikes to higher-income taxpayers — including the return of the 39.6% income tax rate and 20% long-term capital gains rate. In addition, some new and expanded taxes under the Affordable Care Act (ACA) now affect higher-income taxpayers: the 3.8% net investment income tax and the 0.9% additional Medicare tax.
It’s also important to remember that, even though many tax law provisions are now “permanent,” this simply means that they don’t have expiration dates. With tax reform still on its agenda, Congress may make some major changes in the future. So in your 2014 planning, don’t count on the tax regime remaining the same indefinitely.
What does this all mean? Tax planning in 2014 will be challenging but crucial for higher-income taxpayers. This guide provides an overview of some key tax provisions that you need to be aware of and offers a wide variety of strategies for minimizing your taxes. But there isn’t space to touch on all of the available tax-savings opportunities. So please contact your tax advisor to learn exactly which strategies can benefit you the most.
Contents and Excerpts –
Year-to-date review [Page 2] – Last year, higher-income taxpayers faced both tax increases on “ordinary income” and reductions to certain tax breaks. Unfortunately, there’s no relief in sight for 2014. So monitor your year-to-date ordinary income, which generally includes salary, income from self-employment or business activities, interest, and distributions from taxdeferred retirement accounts. Also consider how it will be taxed. Finally, keep an eye on your deductible expenses. Smart timing of income and deductions, along with other strategies, may help keep tax increases in check.
Executive Compensation [Page 6] – Executives and other key employees often are compensated with more than just salary, fringe benefits and bonuses: You might also be awarded stock-based compensation, such as restricted stock, restricted stock units (RSUs) or stock options (either incentive or nonqualified). Or you might be offered nonqualified deferred compensation (NQDC). Although these rewards can be valuable, the tax consequences are complex. They involve not only a variety of special rules but also several types of taxes — including ordinary income taxes, capital gains taxes, employment taxes and the expanded taxes under the ACA. That’s why careful planning is critical.
Investing [Page 8] – It’s never been easy to navigate the various tax consequences of buying and selling securities. Among the many obstacles higher-income investors need to consider in 2014 is the relatively new net investment income tax (NIIT). This 3.8% tax may apply to your net investment income if your income exceeds certain levels. (See Case Study III.) And the NIIT can show up when you least expect it — for example, passive-activity and qualified-dividend income are subject to the tax. That’s just one reason why it’s important to plan ahead and consider taking advantage of the strategies available to you.
Real Estate [Page 12] – To maximize the tax benefits of property ownership, homeowners, investors and real estate professionals alike need to be aware of the breaks available to them as well as the rules and limits that apply. Whether you’re selling your principal residence, renting out a vacation property or maintaining a home office, tax savings are available if you plan carefully.
Business ownership [Page 14] – For many business owners, their company is the biggest investment in their portfolio. If your business makes up the bulk of your net worth, it’s critical to not just run it profitably but also to use it to help ensure your long-term financial security. This includes making the most of tax-advantaged retirement plans available to business owners and planning for a tax-efficient exit that will fulfill your income needs.
Charitable giving [Page 16] – Giving to charity can provide not only large tax deductions, but also the satisfaction of doing good. On top of that, it’s one of the most flexible tax planning tools because you can control the timing to best meet your needs. Well-planned gifts also can save estate tax while allowing you to take care of your heirs in the manner you choose. But you must keep in mind various limits that could reduce the tax benefits of your donations.
Family and education [Page 18] – No matter the age of your children or grandchildren, it’s never too early to teach them the benefits — including the tax benefits — of investing in their future. Children can contribute to their own retirement and college savings plans. But you likely want to take advantage of estate planning benefits associated with making gifts to them. Several strategies can enable you to do so without fully giving up control, and some may provide income tax savings for your family as well.
Retirement [Page 20] – With time and tax deferral on your side, investing early and generously to a retirement account can reap rewards unavailable with other investment vehicles. Maximizing your contributions to tax-deferred — or, in the case of Roth accounts, tax-free — retirement plans is particularly important if you’re in the top (39.6%) tax bracket. But be careful not to neglect other available planning opportunities. For example, if you convert a traditional IRA to a Roth IRA, you may ultimately be able to transfer the entire IRA balance to your heirs. Also, it’s important to avoid taking lump-sum distributions when leaving a job and to carefully follow rules regarding required minimum distributions.
Estate planning [Page 22] – Now that estate, gift and generation-skipping transfer (GST) tax exemptions and rates no longer are scheduled to expire, estate planning may be a little easier. Plus, because the exemptions are at record-high levels, far fewer taxpayers need to worry about being subject to these taxes. But Congress could still pass legislation at any time making estate tax law changes — and not necessarily for the better. So whether or not you’d be subject to estate taxes under the current exemptions, it’s a good idea to consider whether you can seize opportunities to potentially lock in tax savings today. Those same opportunities might not be available in the future.
Tax rates [Page 24] – 2014 individual income tax rate schedules