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Find this year’s strategy in last year’s return


Andrew Leckey

Andrew Leckey

The best research for formulating your 2011 investment strategy is readily available. It is your 2010 tax return. By taking a line-by-line look at what worked and what didn’t over the past year, you can determine how to invest to your greatest advantage.

The purpose of analyzing your return – though it may be the last thing you want to do right now – is to ponder changes in the coming year. For example, ask yourself how your sources of income may change and whether all of your investments are still relevant.

If you’re getting a big tax refund, don’t brag about it. Instead, make sure that it doesn’t happen again.

“Receiving a big tax refund is madness because it basically involves giving money each week for an entire year with no interest paid on it,” said Eleanor Blayney, consumer advocate for the Certified Financial Planner Board of Standards in Washington, D.C.

People who think a refund is some sort of financial planning because they avoid paying a tax bill with their return are totally wrong, she asserted. They don’t realize that they are simply leaving money on account with the U.S. Treasury. If, on the other hand, you owed an extremely large sum that you found difficult to pay, you should increase your withholding at work.

Your return can help determine whether tax-free or taxable investments make the most sense to your bottom line. You must determine the right answer for you and your holdings.

“Look at the return to see if you’re holding municipal bonds and, if so, if you’re getting adequate value from them,” advised Blayney. “The yield on tax-exempt vehicles is not that great, and you might be better off going with a taxable bond instead.”

The stock market will likely play a role in your strategy.

“Consider that we’re coming off a decent year for the stock market which was preceded by some pretty bad years,” explained Maureen McGetrick, tax partner with BDO USA LLP in New York. “That means a lot of investors have been carrying capital losses for the past few years.”

One of the first things to do is take an inventory of your losses, she said. You can deduct up to $3,000 in realized losses against ordinary income each year and carry forward the remaining portion into future years. You can also offset a gain.

“It may be time to get your big stock winners – such as Apple Inc. – pared down a bit,” added Blayney. “Some mutual funds, especially those in emerging markets, had a phenomenal year, so maybe it is time to whittle down that rapid appreciation and rebalance your portfolio.”

Because the capital gains tax rate hasn’t been increased from the 15 percent level, consider this an opportunity to pay tax, said Mackey McNeill, CPA and president of Mackey Advisors LLC in Cincinnati, Ohio. If your tax bracket is high, it might make sense to take some gains now before the capital gains tax could potentially increase in another two years.

The Tax Relief Act of 2010 included a 2011 payroll tax cut for employees, leading to a slightly higher paycheck. The maximum increase is $2,136 per worker. While the act also carried over the 2010 tax rates through 2012, the brackets are slightly higher due to adjustments in inflation.

Even though the same tax rates will be in place for two years because the Bush tax cuts were extended, she noted, after that the situation is likely to change. Taxes in general do provide something to worry about.

“As budget-hungry states look at their difficult financial situations, one way to raise revenue will be to raise taxes,” warned McGetrick.

People will need to pay attention to their effective tax rates at both the state and federal levels, she said. Determining the difference between taxable and tax-free investments will become increasingly important.

It always makes sense to fund your retirement accounts to their fullest.

“If you have an individual retirement account or are self-employed with a SEP plan, you should be funding those,” said McNeill. “If you’re employed by a company, you will see your 401(k) contributions on your W2 form and should always add as much as possible.”

The income limit for Roth IRA conversions has been permanently removed. Taxpayers may still convert ordinary IRAs into Roth IRAs, but taxpayers who convert to Roth IRAs in 2011 can no longer defer conversion income into later years.

Consider all the possibilities. For example, the American Opportunity Tax Credit was renewed, so you may be able to get a tax credit for up to $2,500 in qualified tuition and related expenses for education this year and next if you meet eligibility requirements.

The tax advantage of giving has been enhanced.

“The tax act changed the gift tax, which used to be a $1 million exemption in a lifetime on gifts,” said McGetrick. “For 2011 it is $5 million, which is the same as the estate tax exemption.”

You can also gift investments to loved ones. This year you can transfer $13,000 per person free from gift tax. A donor can make an unlimited number of $13,000 gifts, so long as they are to different individuals.

Your tax return will help determine your best moves.

Andrew Leckey answers questions only through the column. Address inquiries to Andrew Leckey, 555 N. Central Ave., Suite 302, Phoenix, Ariz. 85004-1248, or by e-mail at andrewinv@aol.com.

About Andrew Leckey