The Independent Investor: Confusion Reigns as Taxes Change
At the best of times taxes are confusing, so much so that most people hire an accountant to prepare them. This coming year should be a real doozy for the accountancy industry.
Given the massive changes to the tax code that will go into effect next year, taxpayers are rightly concerned (and confused) on exactly what the rules will be and how they will impact their families.
"Most (although not all) taxpayers would owe less under the new rules, according to analyses by various independent think tanks, including the Tax Foundation and the Tax Policy Center," according to Charles Schwab and Co.
In high tax states, lines are already forming at the local assessor's offices. New York Gov. Cuomo just signed an emergency executive order that urges counties in the state to send 2018 property tax bills now before the end of the year. That way, residents can pay next year's taxes before the end of the year thereby still taking a tax deduction against their federal tax bill.
Money management firms across the country are also being besieged by clients who want to pay next year's fees in advance in an effort to take advantage of that tax deduction before those too expire in 2018 under the new legislation. Phone lines to most accountancy firms ring busy and even office voice mails are full.
Let's start with your tax brackets. There are still seven tax brackets but the new legislation generally lowers rates across income levels. For a couple filing jointly, the new brackets will be 10 percent for taxable income up to $19,050, 12 percent on $19,050 up to $77,400; 22 percent on income up to $165,000; 24 percent up to $315,000; 32 percent to $400,000; 35 percent to $600,000; and 37 percent on income above $600,000.
In addition, since most Americans do not itemize their tax deductions, the standard deduction available to those taxpayers has doubled from $12,000 for individuals and $24,000 for couples. However, what the government giveth, the government can also taketh away. The personal exemptions for individuals were also removed, which comes out to $4,050 per person.
However, overall, if you're a low- or middle-income household, an increased standard deduction combined with an increased child tax credit should lower your tax bill.
The new tax law has placed a cap on itemized state and local tax deductions that have been up to this point fully tax deductible against your federal taxes. The cap on combined state and local taxes amounts will be no more than $10,000. People with heavy tax burdens in high-tax states such as New York, New Jersey, California and Massachusetts will be hurt the most.
And in order to close as many loopholes as possible, the Republican lawmakers barred these taxpayers from prepaying in 2017 any state or local taxes that will be due next year.
Those who have been choosing to itemize deductions may now have to reconsider which is better: a reduced level of itemized deductions versus the standard deduction. Some families may now fare better taking the simpler standard deduction.
The Internal Revenue Service has also warned high-property state taxpayers not to prepay property taxes before the end of the year unless your local government has already assessed your property for 2018. For example, my town has already billed me for next year's taxes, while across the border in New York State, the local authorities bill in the year taxes are due.
Mortgage interest amounts will also be limited to the first $750,000 of a loan for a newly purchased first or second home. Although it is early days, many analysts believe this tax change will have a devastating effect on areas that rely on second homes and their owners for their livelihood. People who might have considered buying a second home will find the new rules will be a disincentive to purchase. It could also make it harder for home owners in those markets to sell their homes. The net effect would be a dampening of economic activity in those areas.
This would impact many lower income families who depend on second home owners for their livelihood. Those who provide landscaping, lawn care, house maintenance and repairs, snow plowing and a myriad of additional services supplied by mostly blue collar workers would feel it the most.
There are countless other areas from healthcare to pass-through income that has been affected by the new rules. In future columns, I will examine many of these changes. But for now, rest assured that as 2018 unfolds, there will be countless variations to this legislation that will continue to impact the economy and all of us in unexpected ways.
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@theMarket: The Market That Keeps on Giving
You can't say enough about a stock market that continues to climb, day after day, month after month. Best of all, it looks like it will continue to do so through the end of the year. What happens in 2018? Well, that may be a different story.
There is no evidence, however, that things will have to change in the New Year. Thanks to the big fat tax refund check that Corporate America will receive next year, investors will be expecting several quarters of better earnings. At the very least, that should support stock prices for a few months, if not more.
Let's not get into whether the tax cuts are good or bad for the economy. If you have been reading my columns, you know my opinion on that. Instead, let's just focus on the stock market and how things might change within the markets. For example, technology shares, especially the FANG names, have been leading the market all year. So have semiconductor stocks, a major ingredient in so many technology products, as well as large cap growth stocks.
Recently, small cap stocks have started to outperform. This is largely due to the tax reform legislation. The thinking behind these gains is that small businesses who are mostly focused on domestic markets will gain the most from the tax cuts. As such, the sector has seen some outsized gains in the last few months.
The question I am asking is will the leadership change in the new year?
I have noticed that since the beginning of December some lagging sectors are beginning to join the party. Energy stocks are getting some buying interest, as are basic material companies. Even precious metals are participating in the market's move higher. Why then should that be the case?
One explanation could be that "a rising tide lifts all boats," meaning even the laggards get to participate, whether they deserve to or not. Another explanation may have to do with President Trump's recent comments that 2018 might be the time to refocus America's attention on infrastructure spending. All sorts of basic material companies, producing everything from steel to cement, would benefit.
While energy might not be directly impacted by infrastructure spending, it helps support prices, as does the recent production cuts engineered by OPEC. Those factors, combined with continuing global economic growth, have convinced the majority of oil analysis that the worst is behind us in oil price declines. Many are looking for oil to rise into the sixty dollar-plus range next year. At that price, most energy companies will do okay earnings-wise and the stocks are cheap.
Then there is also a growing camp of worry-warts, who fear that the $1.5 trillion in tax cuts, combined with additional infrastructure spending, layered on top of an already-growing global economy may spell rising inflation in the near future. Commodities usually do quite well in an inflationary environment and since these sectors are already selling at a steep discount to the rest of the market, why not take a bet on these groups.
But all of these topics are for next year's columns. It is enough to know that we have all done quite well in the markets this year. The fact that I have urged you to stay invested throughout all of it makes me feel grateful and happy. I am going to carry that feeling with me throughout this holiday season. Happy Chanukah and Merry Christmas to all of you and give your loved ones a hug for me.
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The Independent Investor: To Roll, or Not to Roll Your 401(k)
Rolling your 401(k) or 403(b) into an IRA can be a good idea for some savers but not for others. Here are some things to think about before you make a decision.
In my last column, I outlined some of the more obvious reasons for rolling over your retirement accounts: cost savings, larger selections of investment choices, more flexibility. I also discussed some of the cons against rolling it over: the ability to borrow against your 401(k), a lower age for beginning distributions from your 401(k) (55, versus 59 ½ for an IRA), the ability to delay minimum required distributions after 70 1/2, if you are still working.
This week, I want to focus on one of the greatest weaknesses of just about all employee tax-deferred retirement accounts. When the public and private sector came up with the concept of tax-deferred retirement accounts to replace pension funds, they forgot one extremely important detail. Pension funds for a company's employees were managed by full-time professionals.
That makes sense because managing retirement savings is a full-time job. Unfortunately, the government ignored that fact when they gave the responsibility of managing tax-deferred retirement savings to the worker. Few workers are qualified to do that. They are totally focused on the full-time job of making a living, getting ahead and providing for one's family, as they should be.
Even if they had the education, knowledge and skill to manage money, (which most don't), they have few resources to do that job successfully. And as years of contributions have accumulated, many retirees now have hundreds of thousands of dollars (if not millions) invested in these employee-sponsored plans.
At the same time, the financial markets have changed enormously. It is a world of derivatives, leveraged investments and the commoditization of everything from individual stocks to Bitcoin, the individual investor is increasingly outgunned.
As a result, most 401(k) contributions are funneled into funds that automatically change your exposure to bonds and stocks based on the date you plan to retire. These target date retirement funds tend to be expensive and have a number of unintended consequences. One of which is that the closer you get to retiring, the more bonds are added to your portfolio (since bonds are considered a safer investment). In an environment where interest rates are rising and bond prices are falling, however these "safe" investments are fraught with risk.
In today's constantly-changing, global financial markets, the set-it- and-forget-it approach to investments does not work very well, just witness the debacle in losses back in 2008-2009 to most savers' 401(k) assets.
By rolling over your 401(k) to an IRA, the option of professional money management becomes available. It is one of the reasons that brokers, annuity salesmen and investment advisers are so focused on the area. This "gold rush" by the financial community to manage these assets has led to a myriad of abuses. Unscrupulous brokers, financial planners and advisers have stuffed these rollover accounts with high-priced investments with sub-par returns that have generated big commissions and fees for their firms while stiffing the poor retirees.
Worst of all, countless elderly retirees have been sold annuity products that are not federally-insured or regulated. These restrictive investments are inappropriate for the vast majority of savors. They command some of the highest fees of almost any investment product (as much as 15-20 percent of the entire investment over the lifetime of the annuity contract). What's
worse, if you try to sell them (as many do) they are saddled with huge penalties for years.
Money management, on its own, is no panacea; there are good advisers and bad ones, so you still need to do your due diligence. Make sure that whoever you select is registered, is a fiduciary and, if possible, offers more than just money management. In planning for retirement there are a number of other areas besides money management that are important, everything from financial and estate planning to Medicare, Social Security and elder care issues.
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@theMarket: Here Comes Santa
With less than two weeks until Santa Claus shimmies down your chimney, investors are betting that what the Big Man has in his sack is lots and lots of gains to finish out 2017.
Now some might say that the signing of a massive tax cut is all the present investors need. After all, despite the rhetoric, we all know that the Republican tax cut is solely directed toward the wealthy, big business, and the stock market. As such, the indexes should continue to levitate between now and the New Year.
Investors are stocking up on the shares of those companies that will benefit most from the windfall profits they will receive as part of the reduction in the corporate tax rate from 35 percent to around 21 percent. Many of these Fortune 500 companies, such as Cisco Systems, Pfizer Inc. and Coca-Cola, have already said they will turn over their tax cut gains to shareholders.
Jamie Dimon, JP Morgan Chase Chairman and CEO, says companies will buy other companies, raise their dividends and buy back stock. Some may even raise wages, he added, as an afterthought. These stated plans fly in the face of claims by President Trump and Republican lawmakers. They have promised that corporations will invest this money in plant and equipment, use the funds to raise wages, and hire new workers-- none of those statements appear to be true.
The very politicians who decry "fake news" have been working overtime to spread their own brand of this dubious commodity.
Since my focus has always been on the economy and financial markets, I see some troubling ramifications of this tax cut for the future. As readers know, the U.S. economy as well as the global economy, has been picking up steam. Our economy should finish the year with a gain of between 2.3-2.5 percent. The global economy will do better (3.4 percent or so). Next year should see our economy nudge up to 2.9 percent while worldwide growth should hit 3.7 percent. This is before the effect of any tax cut.
Now, the political rhetoric maintains that we should see our economy explode next year, based on all this corporate tax cut money. Yet, few economists outside of those paid by the GOP to come up with rosy forecasts, see much evidence that the tax cut will have any impact on growth next year. But let's say the Republicans and their president are correct; what happens
There is a high probability that the Federal Reserve Bank, which would then be headed by Trump appointees (who are decidedly more hawkish than the Yellen crowd), would be forced to hike interest rates sharply in order to stave off any inflation threat. This is an especially clear and present danger, if all this supposed new growth creates job openings in an economy that is already at an historic low rate of unemployment.
As it is, corporations still cannot fill many of the job vacancies they have because they can't find enough skilled labor. Even if the Fortune 500 embarked on a massive job training drive, it will be several years before the first graduates could fill the existing job openings. In the meantime, a bidding war could ensue, sparking unbridled wage growth. The Fed wouldn't like that either.
These would be luxury problems as far as the economy is concerned. The stock market, on the other hand, might see it differently. The good news, however, is that these potential scenarios will not appear until at least the second half of next year, if they do at all. In the meantime, I expect we will see future gains into the first half of 2018.
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The Independent Investor: Should You Roll Your 401(k) Into an IRA?
Some retiring workers roll their 401(k) tax-deferred savings account into an Individual Retirement Account (IRA). There are good reasons to do so. But for those who are not retiring, the decision is not so clear cut. Here are some pros and cons to ponder.
In my neighborhood, for example, a local company with more than 300 employees is being acquired by another company from Chicago. As a result, the employees of the acquired company are being offered a choice: they can roll over their existing 401(k) into a new plan offered by the Chicago company, roll their 401(k) into an IRA, or just take the money out, pay taxes and spend it.
Obviously, the last option is the worst choice. The tax bill on such a lump sum would be quite large and if the employee is not yet 55 years old, an additional 10 percent tax penalty would be levied on the money as well. So let's assume that you are a rational human being who can see that option would be financial suicide.
The two most obvious reasons to roll over your money into an IRA is that you suddenly have an entire universe of investment options to choose from instead of the typical 10-20 choices normally listed in a company 401(k) menu. The second reason is that you will have more control over your retirement funds. You may, for example, identify better performing funds with lower costs. If the markets take a tumble, you can step aside, rather than stay invested.
Sometimes, you can also reduce costs, while at the same time improving your performance. Few 401(k)'s offer the option to invest in index based exchange-traded funds (ETFs). Some of those ETFs charge a lot less than some mutual funds. This can be especially important to someone who contributes regularly to their plan over two to three decades. Studies have shown that in the past, total fees and expenses can amount to as much as 33 percent of your total retirement assets over a 25-year period.
However, some large companies with billions of dollars of assets in their employee 401(k)s have access to institutional-class funds that charge lower fees than their retail counterparts. Your choice of investments is still limited, but at least your costs are lower.
But there are other reasons, depending on your circumstances to simply roll over your 401(k) to another one. Some 401(k) plans offer stable-value funds, which are a low-risk option for an extremely conservative investor. These funds provide an attractive alternative to a typical money market fund. And unlike pure bond funds, they won't get decimated if interest rates rise.
Sticking with a 401(k) is also the best option if you plan to retire early. If you roll your money into an IRA and plan to start withdrawing before the age of 59 1/2 years old, you will be charged a 10 percent penalty by the IRS. In a 401(k) plan, workers who leave their jobs in the calendar year they turn 55 or later can take penalty-free withdrawals. In both cases, however, you will still have to pay regular income taxes on your withdrawals. You can also take out a loan against your 401(k) but not from your IRA.
On the other end of the spectrum are guys like me, who don't ever plan to retire. Ordinarily, at age 70 1/2, I would be required to take a required minimum distribution (RMD) from both my IRA and 401(k). If I continue to work past that age, however, not only can I continue to contribute but I am not required to take an RMD from my company 401(k).
In my next column, I will discuss additional positives and negatives as well as some real life examples of those who have opted for one over the other. Clearly, this is a complicated subject that requires analysis and direction. It would be a good idea to seek outside professional advice. If you do so, make sure you ask an adviser who is a registered fiduciary that puts your best interest above herself and her company's.
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