You often hear that you should conduct a top-to-bottom portfolio review at year-end; I've dispensed that advice myself. The idea is that a thorough portfolio assessment is a good idea at least once a year, so why not do it as the tax year winds down, thereby integrating your portfolio-management decisions with sound tax practices?
But it's the tax piece, and not the portfolio piece, that's truly time-sensitive here. Yes, rebalancing is in order in many portfolios now, given the magnitude of stocks' ascent and bonds' lackluster performance so far this year. Yet, the odds of a seismic move in the markets between now and year-end is not high. Moreover, a rushed portfolio review (and correspondingly hurried changes) is worse than taking the hands-off approach. So if you're trying to shoe-horn in your annual portfolio checkup before a trip to the airport to pick up your loved ones, tidying up the guest bedroom or picking up their favorite bottle of wine might be a better use of your time. Save the thorough review for a time when you can really give any changes some thought.
Meanwhile, most tax-related to-dos must be accomplished by year-end. Tuning in to these tasks is arguably more important than ever this year: Not only does the 2013 tax year usher in higher income, capital gains, and dividend tax rates for folks in the highest brackets, but mutual funds are winding up one one of their biggest capital gains distribution seasons in recent memory. Required minimum distributions will also be on the high side as a result of inflated balances. Even if you've done nothing to your portfolio, you could be looking at a higher-than-usual tax bill for 2013.
As the year winds down, focus on the following tax-related to-dos:
RMDs: Ready to Go?
This task must go at the top of any list of year-end tax tips simply because the downside of skipping it towers over all the others. If you're age 70 1/2 or older, you must take distributions from Traditional IRAs and assets in company retirement plans by year-end. (The one exception is that you can delay distributions from your company retirement plan if you're still working.) If you miss them, you'll owe not only the usual ordinary income tax on your distributions, but you may also be subject to a 50% penalty on any amount you should have taken but didn't. Therefore, this is clearly a tip you want to remember. Even if you're not subject to RMDs yourself but have older parents or loved ones, ask them whether they've taken their distributions this year. This article (http://news.morningstar.com/articlenet/article.aspx?id=449996) shares some tips on managing your RMDs; the headline is that you have quite a lot of leeway to be strategic about the investments from where you take your distributions. If you have the high-class problem of not needing your RMDs, this article (http://news.morningstar.com/articlenet/article.aspx?id=583866) provides some guidance.
Take Steps to Reduce the Tax Pain From Your Portfolio
Even if you don't have time to do a top-to-bottom review of your portfolio, you can still do a surgical review of your portfolio's tax positioning and take steps to limit the pain come April 15. You may be too late to avoid funds' capital gains distributions--and that's not usually advisable anyway, for reasons outlined in this video. But with fund distributions at their highest levels in years, and if you've already sold appreciated winners from your taxable account, it's still worth your while to see if you can do anything to offset the tax hit. Tax-loss sale candidates aren't as plentiful as they once were, but you may be able to find them if you look hard enough: Gold and other precious-metals investments, emerging-markets specialists, and even municipal-bond funds could be ripe for the pruning if you own them and they're lower than your cost basis. You can use those losses to offset capital gains or, once you've exhausted your gains, up to $3,000 in ordinary income.
In addition to the possible benefits for health and well-being, giving to charity is also a win from a tax standpoint. Most contributions to public charities are fully deductible as long as the contribution doesn't exceed 50% of your adjusted gross income and you itemize your deductions rather than taking the standard deduction. Just be sure to document your contributions carefully; this Internal Revenue Service tip sheet (http://www.irs.gov/uac/Eight-Tips-for-Deducting-Charitable-Contributions) includes some specifics. If you're taking required minimum distributions (see above), you can have them paid directly to a charity. The advantage of going that route versus taking your RMDs and donating to a charity later is that the donated RMDs reduce adjusted gross income by the amount of your contribution, up to $100,000. And by keeping AGI down, you improve the odds that you'll be able to take advantage of various credits and deductions.
Top Up Your Company Retirement Plan
Here's another to-do for which Dec. 31 is a hard deadline. Although you can squeak in contributions to Traditional and Roth IRAs and health savings accounts until your tax-filing day, year-end is your deadline for making contributions to 401(k)s, 403(b)s, and 457s for the 2013 tax year. Check with your payroll administrator to make sure you're on track to hit the maximum--$17,500 if you're under age 50 and $23,000 for those 50-plus. If not, and you can swing it without breaking your budget, find out if you can increase your contributions during the year's final pay period.
Assess Whether Roth Maneuvers Are in Order (or Not)
Many Morningstar.com readers say that they're conducting partial IRA conversions, converting portions of their IRA kitties from Traditional to Roth each year so that they can enjoy tax-free withdrawals and skirt RMD requirements in retirement. That can be a savvy strategy, and a well-versed tax practitioner or even deft use of tax-preparation software can help you see how much of your IRA you can convert without pushing yourself into the next highest tax bracket.
But Roth conversions won't make sense for everyone, especially those who are nearing retirement and haven't yet saved much. And even if you know you’d like to convert some of your IRA assets from Traditional to Roth, it's worth thinking twice about the timing of your decision. With the market--and in turn many IRA balances--at a lofty level, a conversion right now may trigger a larger-than-necessary tax bill. Of course, you have an escape hatch in that you can recharacterize--or convert back to a Traditional IRA--a conversion that in hindsight was ill-advised. This article (http://news.morningstar.com/articlenet/article.aspx?id=586530) answers some FAQs about IRA conversions
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