Don't Panic! Strategies for Coming Higher Capital Gains Taxes

Long-term capital gains rates for all taxpayers will go up substantially in 2013 unless Congress acts. Should you take your gains before year’s end?

Not necessarily. But take a close look at your portfolio and tax situation now and figure out your strategy.

Current rates for long-term gains are 15% for people in the 25% marginal tax bracket or higher. Taxpayers in the 10% and 15% brackets pay 0%. Next year, the rates are scheduled to go up to 20% and 10%, respectively.

Here are some strategies and tactics you should consider:

Do nothing

Standing pat is often the best move.

Deferring federal and state taxes is powerful. If you sell now and have a gain, you’ll lose money to taxes. You’ll probably come out ahead by holding that investment, even if you have to pay a higher tax rate on the gain 20 years from now.

Sell appreciated securities if you have a good reason

If you’re in the zero capital gains bracket, selling some securities this year might be a winning strategy, especially if you don’t have any offsetting losses.

But first, do the math to see if the gain from the sale would push you into a higher bracket, which would negate the savings.

People who would pay 15% tax on their gains should consider selling only if they have a good reason to do so. If you’re going to sell an investment anyway, this year might be the year to do it. Besides getting a low capital gains rate for certain, you may also save on the new Medicare tax, which kicks in next year for high-income people.

Use your losses; time the sales right

If you have securities that are underwater, you can sell them and use the losses to balance any capital gains, without limit. If your losses exceed your gains, you’re limited to a net loss of $3,000, and the excess will be carried over into future years.

If you don’t have offsetting gains, you might be better off selling in 2013, when you might get a bigger write-off for your losses — for instance, 39.6% instead of 35% for taxpayers in the top ordinary income tax bracket

Either way, you’ll normally want to replace the security you sold at a loss with a similar one so your asset allocation doesn’t change.

Pay for education by giving securities to your kids or grandchildren

If you have children or grandchildren age 19 or older (24 or older if a full-time student) whose income is relatively low, consider giving appreciated securities to them. Because they’re in a low tax bracket they’ll pay no federal capital gains tax if they sell the investments in 2012. (It doesn’t work for younger children because of the so-called kiddie tax.)

Donate appreciated securities to charity

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You can give appreciated securities to your favorite charities. By doing so, you get a tax deduction for your donation completely avoid any capital gains tax.

If you’re making a big gift, remember that the deduction for such gifts in the current year is limited to 30% of your adjusted gross income (20% in certain circumstances). However, unused charitable deductions can be carried forward for five years.

If you don’t know which charities you want to give to or want to spread out your donations, you can give securities to a special kind of charitable vehicle called a donor-advised fund. Such funds are managed by a financial institution, such as Fidelity, Schwab and Vanguard, or an independent sponsor. You simply tell the fund to give the money to a charity whenever you like.

Consider a CRUT if you’re wealthy

A Charitable Remainder Unitrust, or CRUT, may make the most sense if you want to combine giving with tax reduction, while retaining an income stream from the asset. It’s particularly attractive if you want to sell an asset that has appreciated greatly, but whose value has probably peaked.

The CRUT can then sell the asset, realizing the capital gain. Since the trust is tax-exempt, the gain isn’t taxed and is retained in the trust. When annual distributions to you take place, a portion of the gain is passed out with the distribution.

Because of the expense of hiring a lawyer to draft the paperwork and a tax expert to file annual returns, you’ll need to donate a dollar amount in the high six figures, or more, to make a CRUT worthwhile.

Eric Meermann, CFP, AVA, EA, is a financial planner in the Scarsdale office of Palisades Hudson Financial Group. He can be reached at eric@palisadeshudson.com.

Palisades Hudson (www.palisadeshudson.com) is a fee-only financial planning firm and investment advisor headquartered in Scarsdale, N.Y., with more than $1 billion under management. It offers investment management, estate planning, insurance consulting, retirement planning, cross-border planning, business valuation and appraisal, family office and business management, tax preparation, and executive financial planning. Branch offices are in Atlanta, Fort Lauderdale, Fla. and Portland, Ore.