For many, the holiday season means getting together with family and friends. But as the new year approaches, consider spending some quality time with your tax adviser as well-some simple moves may save you a bundle.[i] We've compiled a few items below that may make 2017's tax season a bit cheerier.[ii]
Take Your RMD
RMD stands for "Required Minimum Distribution"-it's the smallest sum many retirees are allowed to withdraw annually from retirement accounts like a 401(k) or traditional (i.e., tax-deferred) IRA.[iii] Distributions generally must begin early in the year after you turn 70 ½-so, for example, if you hit that milestone in 2016, you must take that first required distribution by April 1, 2017. Afterwards, the RMD deadline becomes December 31. (Waiting until the April deadline, though, will require you to take two RMDs in calendar year 2017, as no such delay applies in year two or beyond.)
The RMD amount will vary based on your age and savings, and if you have multiple accounts, each one will have an RMD. You can combine the accounts for simplicity if you like, but we recommend telling your adviser if you do so.
The IRS installed this rule to ensure they will get a slice of your assets someday, and if you don't act, they will ding you. Failing to take the full RMD amount by the relevant deadline risks tax penalties of up to 50% on whatever you didn't take.
Contribute to Tax-Deferred Accounts
This includes traditional 401(k)s and IRAs, 529 plans for college-related expenses and others. Hitting all these accounts' respective annual contribution limits may reduce your tax burden-and more importantly, help you reach your financial goals. Some investors may also weigh converting a portion of a traditional IRA or 401(k) to a Roth account. This is a taxable event in the here-and now, but effectively moves money from a tax-deferred account (one where you are taxed on withdrawals) to a tax-free one. The decision here is effectively a trade-off that will be heavily influenced by your tax status. If you are planning on doing this in 2016, you probably ought to act now because it can take some time to consult a tax adviser and do some paperwork-establishing a new account (if necessary) and moving assets isn't immediate.
Secure Charitable Deductions
Have some causes you want to support? Let the IRS help you do so-donations to qualifying charities are tax-deductible, and you can donate stock if you like. This can help you minimize your capital gains tax exposure (more on that in a sec). You can also funnel mandatory distributions from retirement accounts directly to charity, satisfying the RMD requirement without creating a taxable event. The best approaches here vary person to person, so again, spend quality time with your tax adviser.
Harvest Tax Losses
Did you sell stocks or bonds at a gain in taxable (non-retirement) accounts? If so, that's great, but capital gains taxes come with the territory. You might be able to minimize your capital gains tax burden by selling losing positions and using the losses to offset tax liabilities incurred from gains elsewhere, if you haven't already. This is called "tax loss harvesting." Just be sure you don't violate the "wash sale rule," which says you can't use tax losses if you buy a "substantially identical" security to replace sold shares within 30 days. To get around the wash sale restriction while remaining invested during those 30 days, you can buy a different security that acts similarly[iv] to what you sold, or something that at least allows you to stay invested in the market. An Exchange Traded Fund (ETF) that tracks a broad market index might come in handy here, though the best option depends on your circumstances.
Now, we aren't saying to sell your losers as an investment strategy. Stocks aren't serially correlated, so the fact a stock is down should have zero bearing on your outlook for it. This is, however, a viable way to minimize taxes. Ultimately, when the wash sale period is up, you can buy back what you initially held, assuming the reason you bought it in the first place remains.
One more thing: If you're using the charitable deduction, giving stocks that have appreciated lets you avoid capital gains taxes on those shares. Alternatively, sell losing positions, donate the cash and once again use the capital loss to offset taxable gains.
Mutual Fund Owners, Beware
If you own shares in a mutual fund, you may receive an unexpected tax bill. Here's why: Whenever a fund sells a position at a profit, the resulting capital gains taxes are spread out across all shareholders (in proportion to their holdings), no matter how recently they bought in. Every year, fund owners are blindsided by tax bills for transactions they themselves didn't make. This matters: Industry research shows only a small portion of mutual funds surpass broader markets, and average tax bills that shave 1.75 percentage points off overall returns are a big reason why. You can wind up paying taxes on gains incurred in a mutual fund even in years the fund declines. It is likely too late for you to take action and avoid this in 2016, but maybe consider moving away from pooled investments like this in 2017.
Your Favorite Deductions Aren't Going Anywhere Yet
Some make much of various tax reform proposals bouncing around Congress and Trump Tower that would reduce, eliminate or make certain tax deductions less attractive, encouraging folks to use them now or lose them. But they're just ideas (and conflicting ones) at this point. Their proponents are politicians, and massive tax changes spur lots of emotions, so they are unlikely to enact them quietly. Most often, they make sufficient noise (pro or con) to clue you in on the pending change (and get their share of credit-or blame, depending on who you ask).
But overall, Congress is still pretty gridlocked, as Republicans hold just a slim, non-filibuster-proof majority in the Senate. Like any legislation (and especially because it's tax-related), this probably faces a long, compromise-heavy journey it might not even complete. So talk to your tax adviser about what's right for you, but don't make snap decisions based on rumor and speculation.
[i] And hey-who's to say you and your adviser can't enjoy some cookies and egg nog while making important tax decisions?
[ii] Note that we said, "a bit cheerier" and not "cheery," as the latter is impossible.
[iii] With some exceptions, RMD requirements don't apply to Roth IRAs.
[iv] Happily, in the eyes of the IRS, this alone doesn't make it "substantially identical."
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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.