Investors: Avoid These 5 Common Tax MistakesWritten by David Twibell
For many investors, and even some tax professionals, sorting through complex IRS rules on investment taxes can be a nightmare. Pitfalls abound, and penalties for even simple mistakes can be severe. As April 15 rolls around, keep following five common tax mistakes in mind – and help keep a little more money in your own pocket. 1. Failing To Offset Gains Normally, when you sell an investment for a profit, you owe a tax on gain. One way to lower that tax burden is to also sell some of your losing investments. You can then use those losses to offset your gains. Say you own two stocks. You have a gain of $1,000 on first stock, and a loss of $1,000 on second. If you sell your winning stock, you will owe tax on $1,000 gain. But if you sell both stocks, your $1,000 gain will be offset by your $1,000 loss. That's good news from a tax standpoint, since it means you don't have to pay any taxes on either position. Sounds like a good plan, right? Well, it is, but be aware it can get a bit complicated. Under what is commonly called "wash sale rule," if you repurchase losing stock within 30 days of selling it, you can't deduct your loss. In fact, not only are you precluded from repurchasing same stock, you are precluded from purchasing stock that is "substantially identical" to it – a vague phrase that is a constant source of confusion to investors and tax professionals alike. Finally, IRS mandates that you must match long-term and short-term gains and losses against each other first. 2. Miscalculating The Basis Of Mutual Funds Calculating gains or losses from sale of an individual stock is fairly straightforward. Your basis is simply price you paid for shares (including commissions), and gain or loss is difference between your basis and net proceeds from sale. However, it gets much more complicated when dealing with mutual funds. When calculating your basis after selling a mutual fund, it's easy to forget to factor in dividends and capital gains distributions you reinvested in fund. The IRS considers these distributions as taxable earnings in year they are made. As a result, you have already paid taxes on them. By failing to add these distributions to your basis, you will end up reporting a larger gain than you received from sale, and ultimately paying more in taxes than necessary. There is no easy solution to this problem, other than keeping good records and being diligent in organizing your dividend and distribution information. The extra paperwork may be a headache, but it could mean extra cash in your wallet at tax time. 3. Failing To Use Tax-managed Funds Most investors hold their mutual funds for long term. That's why they're often surprised when they get hit with a tax bill for short term gains realized by their funds. These gains result from sales of stock held by a fund for less than a year, and are passed on to shareholders to report on their own returns -- even if they never sold their mutual fund shares.
| | 5 Ways To Protect Your Bond Portfolio From Rising Interest RatesWritten by David Twibell
The Federal Reserve recently raised its target federal funds rate for first time since March 2000. This could be just tip of iceberg, though, as many experts believe rising inflation and a strengthening economy will spur continued rate hikes for foreseeable future. This is bad news for bond investors, since bonds lose value as interest rates rise. The reason stems from fact coupon rates for most bonds are fixed when bonds are issued. So, as rates rise and new bonds with higher coupon rates become available, investors are willing to pay less for existing bonds with lower coupon rates. So what can you do to protect your fixed-income investments as rates rise? Well, here are five ideas to help you, and your portfolio, weather storm. 1.Treasury Inflation Protected Securities (TIPS) First issued by U.S. Treasury in 1997, TIPS are bonds with a portion of their value pegged to inflation rate. As a result, if inflation rises, so will value of your TIPS. Since interest rates rarely move higher unless accompanied by rising inflation, TIPS can be a good hedge against higher rates. Because Federal government issues TIPS, they carry no default risk and are easy to purchase, either through a broker or directly from government at www.treasurydirect.gov. TIPS are not for everyone, though. First, while inflation and interest rates often move in tandem, their correlation is not perfect. As a result, it is possible rates could rise even without inflation moving higher. Second, TIPS generally yield less than traditional Treasuries. For example, 10-year Treasury note recently yielded 4.75 percent, while corresponding 10-year TIPS yielded just 2.0 percent. And finally, because principal of TIPS increases with inflation, not coupon payments, you do not get any benefit from inflation component of these bonds until they mature. If you decide TIPS makes sense for you, try to hold them in a tax-sheltered account like a 401(k) or IRA. While TIPS are not subject to state or local taxes, you are required to pay annual federal taxes not only on interest payments you receive, but also on inflation-based principal gain, even though you receive no benefit from this gain until your bonds mature. 2.Floating rate loan funds Floating rate loan funds are mutual funds that invest in adjustable-rate commercial loans. These are a bit like adjustable-rate mortgages, but loans are issued to large corporations in need of short-term financing. They are unique in that yields on these loans, also called “senior secured” or “bank” loans, adjust periodically to mirror changes in market interest rates. As rates rise, so do coupon payments on these loans. This helps bond investors in two ways: (1) it provides them more income as rates rise, and (2) it keeps principal value of these loans stable, so they don’t suffer same deterioration that afflicts most bond investments when rates increase.
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