Welcome to part two of Don't Mess With Taxes' fourth annual Year-end Money Moves series. Today's topic is investing moves you might want to consider by Dec. 31.
As mentioned in the first segment of this year's series, several investment moves also have tax considerations. But, as the old saying goes, don't let the tail wag the dog. Make your investment moves, year-end and otherwise, based on what's best for your financial situation and your portfolio.
Generally, your holdings should be spread among different investments and asset types to reduce risk, since different sectors perform well under different market conditions.
But if one type of investment has done especially well, it might now represent a greater share of your portfolio than you originally intended. And that could mean it's time to bring your holdings back into a more proper alignment to meet your ultimate investing goals.
Cash out your winners
To rebalance, you could sell some assets that have done well and use the proceeds to buy other types of investments that will bring your overall allocation back to an appropriate balance.
There's one problem, though, with selling investments that have appreciated. The IRS will get a cut.
But if you sell long-term holdings, that is, assets you've owned for more than a year, the tax bill will be smaller.
Currently, the tax bite on such transactions is at an historic low: 15 percent for most investors, zero for taxpayers in the 10 percent and 15 percent income tax brackets.
It looks like Washington is working toward maintaining these low capital gains tax rates, but you never know with Congress. So to be sure you get the best tax deal, sell by Dec. 31.
Harvest your losses
If, on the other hand, your portfolio review reveals that some of your holdings stunk, it might be time to sell them.
It's never fun to take an investment hit, but these losers could pay off at tax time. You can use the capital losses to offset your capital gains.
And if you have more losses than gains, you can use your excess bad investment results to reduce your ordinary income by up to $3,000.
Look out for distributions
When a mutual fund pays distributions, its shareholders end up with a tax bill on these earnings.
Often referred to as capital gains distributions, this is your portion of money made when the fund's manager sold assets throughout the year.
Unfortunately, you have no control over these sales and the resulting taxable income it produces. You can, however, prepare for it.
Official word on the tax damage you could face will arrive early next year when you get your annual account statement. But you can call your broker or fund company now to get an idea of what you might be facing. If it's enough to produce a substantial tax bill, account for that in the estimated tax payment due in January.
Pay attention to distribution timing
Speaking of mutual funds, if your if your portfolio rebalancing includes adding a fund or two, don't buy until after the fund makes its year-end payout. If your purchase is just before the distribution date, you'll also be buying yourself a tax bill on your new fund's payout.
Watch out for wash sales
As for other portfolio moves, if you harvested some losses don't be in too big of a hurry to buy the same stock again or one that's substantially the same. If you do that within 30 days before or after you sold the losing stock, that's known as a wash sale. And the IRS says in these cases, you can't deduct the original loss amount
If some of these moves can help you shore up your investments and lower your 2010 taxes, then get to them! You still have a few weeks until the Dec. 31 deadline arrives.
And I'll see you again tomorrow for a look at retirement tips in part 3 of the ol' blog's year-end 2010 money moves.
- Year-end tax moves, December 2010
- Tax moves to make in December
- Midyear Tax Moves 2010
- Just past midyear tax moves
- Weekly Tax Tips for 2010
- Year-round tax moves
- 10 tax tips for 10-10-10
- Year-end tax moves time
- Business tax moves to make by year-end
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