Tax Strategies with Your Professional Tax Adviser
The fact that women live from five to ten years longer than men probably comes as no surprise to anyone. In fact, centenarian experts claim that of those over age 100, 85% are women. While the reasons for this has been a subject of debate, what should not be up to debate is that women need to pay special attention to their financial planning needs to account for this increased longevity.
There are a number of things that married women should do to be sure that what that day comes and they find themselves alone, that they will be able to cope with their financial situation. Establishing your own credit and learning how to pay bills and balance your checkbook are common topics that financial advisers recommend, but few address the taxation issues that may arise.
Suddenly Single
While you will realize that again, you are single, so will the Internal Revenue Service. Many never address this issue in their financial planning work as it is something that your investment adviser or insurance salesman would never bring up. Without careful planning though, as a single taxpayer, you might find yourself paying almost twice as much tax as you were when your were filing as married-filing jointly.
A key reason for this increase is because you move into a higher tax bracket more quickly as a single taxpayer than married. While those filing as married-filing jointly move from the 15% to 25% tax bracket once income tops $67,900 (in 2009), a single taxpayer moves to the 25% level after $33,950! A single taxpayer then moves to the 28% taxpayer after an income of $82,250 while a married-filing jointly taxpayer shifts after $137,050.
That’s not all. A single filer gets less deductions as well. Of course, you would no longer have 2 exemptions to claim. You lose a $3,650 deduction there. Also, if you use the standard deduction instead of itemizing, your deduction drops in half from $11,400 as married-filing jointly to $5,700 as a single filer. The bottom line is if you had a joint income of $100,000 (not including social security) and continue to receive this same income as a single filer, your tax bill would jump from approximately $11,360 as a joint filer to $20,800 as a single filer! If you were comfortable living on a net income of $90,000, you might find it a struggle to make it on $80,000.
Understanding Taxes
There are a number of things that can be done to improve your tax situation. First of all, you need to understand how different types of income are taxed. There are three basic types of income to understand: Ordinary income, Long-Term Capital Gains and Tax-Free income.
Ordinary income most likely makes up the bulk of your income, especially if you are retired. In addition to wages, Traditional IRA and 401(k) distributions, interest income, deferred compensation and the taxable portion of your social security are all considered ordinary income. It is taxed at your highest rate.
Long-Term Capital Gains Income consists of gains taken on the sale of capital investments, such as stocks and bonds, held longer than a year. Under current tax laws, the maximum federal tax on long-term capital gains is 15%. In some cases, long-term capital gain income can be taxed as low as 5%.
Finally, Tax-Free income includes distributions from Roth IRAs, income from certain municipal securities, return of principal, insurance death benefits, gifts and up to $500,000 of capital gains realized from the sale of your main residence.
By reviewing and structuring your investments early, you can make sure that you have adequate resources in each of these income brackets to keep your taxes to a minimum. For example, plan to receive only enough ordinary income so that you do not creep into the 25% tax bracket but remain within the 15% tax bracket. For the married-filing jointly couple, you could receive up to $86,600 of ordinary income before moving to the 25% bracket ($67,900 plus your standard deduction and two exemptions). A single person could receive up to $43,300.
The Plan
While planning, be sure to hold regular investment accounts in addition to your IRA or 401(k). All distributions from qualified retirement accounts are taxed as ordinary income while a regular broker account enables to you develop a portfolio of investments which can later be distributed as return of capital and long-term capital gains. Consider establishing a Roth IRA as well. Distributions from this account come out tax free if you are at least 59 ½ and have held the account for five years.
If, as a single person, you took $43,300 as ordinary income, $28,350 as 15% capital gains and $28,350 as return of capital or Roth distributions, you can reduce that $21,000 tax bill to less than $9,000, leaving more money for you. By managing your taxes appropriately, you can help ensure that your money will last long enough to keep you independent no matter how long you live.
Tags: Financial advisers, Financial planning, Financial situation, Income, Insurance death, Taxes, Taxpayer