FINANCE: Facing the Fiscal Cliff: What Happens if the Tax Cuts Expire?


According to Morgan Stanley’s Investor Insights (October, 2012), “If the Bush tax cuts expire at the end of 2012 as scheduled, most taxpayers will face some combination of higher tax rates on their incomes, dividends and capital gains in 2013. In addition, high earners also will pay an additional 3.8% tax on their investment income and a 0.9% higher Medicare tax as legislated by the Patient Protection and Affordable Care Act (better known as “ObamaCare”).”

With political pressures affecting the economy, investors should be watching carefully and be even more vigilant in reviewing and adjusting their asset allocation and overall portfolio strategy.

Here are ten strategies to help navigate the uncertain landscape as outlined in the Morgan Stanley Investor Insights report:

  1. Max out retirement plan: since the money you contribute to a company retirement account and/or IRA may be tax deductible, it may lower your taxable income and reduce the amount of income tax you owe.
  2. Consider a Roth IRA conversion: given that income tax rates are expected to increase in 2013, it may be wise to convert some of your assets under today’s potentially lower tax rates.
  3. Review highly appreciated assets: consider capturing current gains before any potential capital gains tax rate hikes go into effect.
  4. Give increased attention to buy-and-hold strategies: if the capital gains tax rate increases, the tax benefits of buy-and-hold strategies can become more valuable.
  5. Augment your tax-advantaged investments with municipal bonds: because municipal bonds are federally tax-free, interest income earned on municipal bonds will feel little if any impact if income tax rates rise.
  6. Consider redeploying assets to a variable annuity: in a rising tax environment, the tax-deferral feature of annuities becomes increasingly valuable.
  7. Consider professionally managed and tax-advantaged investment strategies (or the use of tax-optimization strategies for managed accounts): now is a good time to evaluate the overall tax efficiency of investments in your accounts and consider tax-efficient mutual funds or separately managed accounts (“SMAs”) that are managed to limit the number of taxable events within your portfolio.
  8. Review dividend distributions of your current portfolio: since dividend income will potentially receive the most dramatic impact if higher tax rates go into effect, you will want to look closely at your dividend income and consider realizing gains now to take advantage of lower tax rates.
  9. Engage in gifting and legacy planning: unless there is legislation to the contrary, estate and gift taxes are scheduled to return to rates that are higher than they have been for many years.
  10. Focus on your goals first: As critical as it may be to understand the potential effects of possible tax increases, it is even more important not to make tax planning the sum total of your planning. Focus on what you want most for yourself and your family now and in the future.

Todd Hauer is a Financial Advisor for Morgan Stanley Wealth Management in Denver, Colorado. The information contained in this article is not a solicitation to purchase or sell investments. Any information presented is general in nature and not intended to provide individually tailored investment advice. Financial Advisors do not provide tax or legal advice. The strategies and/or investments referenced may not be suitable for all investors as the appropriateness of a particular investment or strategy will depend on an investor's individual circumstances and objectives.  Investing involves risks and there is always the potential of losing money when you invest. Past performance is no guarantee of future results. The views expressed herein are those of the author and may not necessarily reflect the views of Morgan Stanley Smith Barney LLC, Member SIPC, or its affiliates.



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