(Posted in Money Mondays)
Why would someone give up 60 cents to save 5 cents? It doesn’t make any sense.
Stupid Tax Trick #1
Apparently the very real threat of the top federal income tax rate returning to 39.6% from the current 35% has people herding toward irrationality. In this example, a couple in Virginia is considering closing up their chiropractic office late next year if they get too close to clearing $250k in profits. Kristina Collins asserts that tax policy is “providing a disincentive to keep expanding a business she founded in 1998.”
I don’t get it. If this couple expands their business past the dreaded $250k mark, they will have to pay 4.6 cents more in tax next year than they would have had to pay this year, on each incremental dollar earned. So let’s say they could grow their business to $300k. This couple would rather walk away from the additional 30 grand they would clear, because that results in $2,500 less than they would have cleared if the rate were still 35%? This doesn’t make any sense.
Stupid Tax Trick #2
As a former tax professional, I understand the concept of accelerating income into the current year if you think next year’s tax rates will be higher. The capital gains rate of 15% is widely expected to go back to 20% in 2013. According to this New York Times article, this acceleration technique “is one of several factors cited in the recent plunge in the price of Apple shares.” Apple shares have dropped 26% since mid-September. So how does it make sense to take a 26% haircut on the value of your Apple holdings just so you can avoid an additional 5% tax on that portion of your holdings that represents capital gains? It doesn’t make any sense.
Financial advisors caution against allowing short-term tax ramifications to impact your long-term investment goals. Mag Black-Scott, of Beverly Hills Wealth Management warns that “any time you make a decision purely for tax reasons, it has a way of coming back and biting you.”
I know. I have been bitten by stupid tax tricks myself.
Stupid Tax Trick #3
Back during the dot-com bubble, I owned a few high-flying tech stocks. Much like these folks in reverse, I figured why sell these stocks this year? I’ll just have to pay tax on the gains. I might as well sit back, watch them appreciate, and then pay the taxes some day in the future. A fine plan, except that all those stocks tanked. I would have come out far ahead if I had sold the stock, paid the tax, and pocketed the difference. It didn’t make any sense.
Stupid Tax Trick #4
We knew when I retired, that at some point we would have to sell our vacation home to make the retirement plan work. In 2008, the value of that home had doubled since the year we bought it. I came up with the brilliant tax plan to convert that home to our principal residence, sell the house, exclude the gain from tax and walk away with all that money. Tax free.
While shuttling between homes for two years to make that plan work, a funny thing happened. That thing was 2008. The value of that home fell to less than what we even paid for it. All that jumping through hoops to exclude that gain from tax, and the gain evaporated. Poof! We would have come out far ahead if we had sold the house, paid the tax, and pocketed the difference. We could still sell the house today and pay no tax on the gain—because there is no gain anymore! That didn’t make any sense.
Stupid Tax Trick #5
Ok, to redirect the spotlight back away from my own failures. Here’s one more. “John Moorin, the founder of a medical equipment company near Indianapolis, said he sold about $650,000 in dividend-paying stocks like McDonald’s and Coca-Cola a few days after the election, worried about the potential increase in taxes.” He goes on to say, “I love these companies, but I’m so scared that now all of the sudden I’m going to get taxed at such a rate with them that they won’t be worth anything.” He loved those companies.
Where’s he going to park that $650k now? In stocks that he doesn't love that don’t pay dividends? So he trades in a bit of dividend income taxed at his marginal rate, for zero dividend income taxed at his marginal rate? Or is he instead going to put that money in bonds? Guess what, that income is already taxed at your marginal rate. Or are you going to put it somewhere where you can’t make any money on it at all just so you won’t have to pay tax on the money you make?
It doesn’t make any sense.
Take tax implications into consideration when comparing your investment options, but don’t cut off your nose to spite your face. Take it from one who knows.
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