Five Valuable Tips for the Tax-Smart Investor

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Five Valuable Tips for the Tax-Smart Investor

What would be the primary factor that impacts all investors? Inflation? Interest rates? Financial conditions? Guess again: tax tops them all! Who likes taxes? No one and no one can escape them. And can you believe how intricate tax laws have become? Today, accountants must earn a degree to become a specialist on it and must keep up-to-date regularly through a continuing process of education to stay alert in the labyrinthine world of taxes and tax laws.

On top of that, various factors can also influence an investor's tax condition. Firstly, tax laws can vary widely from country to country, region to region, state to state, or town to town. Secondly, individual circumstances can play a big part on how to deal with taxes for any investor in the world. Because of dynamic nature of taxes, our aim here is to simplify the matter by dispensing only some usable general tips for the ordinary investor to appreciate the subject. The following five tips may not be sufficient; but they provide valuable information to help you realize some tax savings.

Tax-deferred programs are like free money

Each time an investor trades a stock, one becomes open to capital-gains tax liability; nevertheless, if you do buy under a tax-deferred account, you stand to benefit from a sizeable savings. There various types and classes of tax-deferred accounts. Most popular among these are SEP (Simplified Employment Pension) accounts and IRA. Using these accounts, you can need not pay taxes on the funds until you withdraw, which is when you pay taxes based on your present income-tax bracket. Moreover, if you wait until you retire, you can realize higher benefits since your income will likely be less than at present.

Aside from having reduced capital gains you might likely pay, these classes of plans usually enable your investments to accumulate tax-free, producing much higher advantage for you. Formerly, tax-deferred accounts held the old stigma of merely being retirement funds. That is no longer the case today. Consider this vital tip: When you utilize the funds from your IRA to buy your first house, you could actually withdraw the amount without any penalty. A great deal indeed.

Match your profits and losses in the same year

Under many circumstances, if you match the sale of a productive asset with the sale of one that is not (within the same year) you can avail of advantages under certain tax laws. Capital losses can be utilized to offset capital gains, while short-term losses can be deducted from short-term gains. Likewise, during any certain down year, you can carry over $3,000 of your loss to future years.

For instance, you invest $5,000 equally in two companies at the start of the year – say, Cory's Tequila Company (CTC) and the TSJ Sports Conglomerate. Assume that TSJ has a run of two good consecutive years because two of its franchises win their corresponding sport's titles. With a raise in the stock price of 40%, you gain $2,000 on top of your initial $5,000 investment. However, your other investment in CTC went kaput, reducing the firm’s potential earnings and suffering a stock price dip of 40% to $3,000. From that time until the end of the year, you opt to trade away both stocks. You end up not paying capital gains on your TSJ shares and claiming your loss from the CTC shares. It is what we call a gain-and-loss wash, leaving you a net tax bill of $0 for both transactions. Although it is a very simplistic example, it shows how you can use a capital loss to balance out a capital gain.

Purchase tax-free or tax-advantaged investments

Majority of portfolios assign certain resources to fixed-income securities. Surprisingly, state and municipal bonds are not subject to federal taxes. Even more interesting to note is that if you reside in the municipality where the bonds were issued, such bonds are likewise tax-exempt. Munis (as such bonds are called) are popular as they offer almost a guaranteed investment – technically speaking, states and cities could go bankrupt; however, it is improbable -- and they provide a reasonably high rate of return after taxes are computed. As a case in point, a Treasury bond (issued by the federal government) that offers 6% annual revenue is taxed at a rate of 20% -- or $60 on each $1,000-bond earns you only $48, and that 6% revenue suddenly drops to 4.8%. In comparison, a muni that pays 5.5% annually is better because it is tax-free.

Beyond municipal bonds, some insurance investments, including as annuities, also offer tax-exempt features. Every discriminating investor will consider tax-exempt securities, even as a tiny part of their portfolio.

Consider adding broker commissions and fees to your stock cost

No stock trading is ever free: you must pay for broker’s commissions and maybe even transferring fees for changing brokerages. Add all these expenses to the amount you paid to acquire a stock. Once your sell off the shares, deduct the amount you paid for commission from the stock’s selling price. Consider these expenses as a tax write-off since they are necessary expenditures for your potential to earn from your investment.

As much as you can, try to keep commission expenses to the minimum; and with the help of online brokers with their discounted fees, the process has become even more conveniently easy.

Keep your stocks for a minimum of 12 months

Another fact that will appeal to the buy-and-hold investor: Short-term capital gains (within a year period) are usually taxed more compared to long-term gains, to a difference in tax rates that can reach as much as 13% or even more.

If you hold a stock below a year period, the capital gain you pay is merely taxed at your income tax rate (as much as 40% for some). However, if you hold it for over one year, capital gains are likely taxed by a rate of about 20% (it can also vary). Obviously, holding stock on a long-term basis allows you to enjoy significantly lower rates of capital gains tax.

Certain jurisdictions offer a kind of super long-term investments, which are held for a period of over five years, offering greatly reduced rates.


Again, to reiterate the point, taxes can be highly personal matter, depending on the individual’s peculiar circumstances. Still, these five tips apply generally for most situations one may encounter and which any investor can apply to evaluate one’s investment options.

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