Two new taxes went into effect in 2013, as a result of the adoption of health care reform. An additional 0.9% Medicare tax applies to wages in excess of $200,000 ($250,000 for marrieds filing jointly). This applies to the employee only, not to the employer. For the first time, an element of the Social Security tax will not be applied at a flat rate.
Another first: Social Security taxes apply to investment income. For those whose adjusted gross income (AGI) is above $200,000 ($250,000 for marrieds filing jointly, $125,000 for marrieds filing separately), a 3.8% additional tax will apply to investment income above the threshold.

What is taxed, and what is not

“Investment income” includes interest, dividends, rents, royalties and capital gains. Pension income, IRA distributions and municipal bond income will not be hit by the 3.8% tax. The taxable portion of annuity payments will be subject to the tax unless they are part of a company pension plan.
Note that, because the income is keyed to adjusted taxable income, having substantial itemized deductions will not affect this tax—even if a loss is large enough to bring taxable income down to zero! Also, the capital gain on the sale of a personal residence could be taxed if it is larger than the $250,000 exclusion ($500,000 for couples).

Examples

John and Mary (example is fictitious) have pension and Social Security income of $80,000 and investment income of $170,000. They will not owe additional tax, because their total AGI is right at the threshold.
Now assume that the couple takes a $60,000 withdrawal from their IRA. IRA withdrawals are not hit by the 3.8% tax, but they will be added to the couple’s AGI. That pushes $60,000 of their investment income into the taxable zone.

Portfolio impact

Higher taxes could make municipal bond income even more. That could push up prices for muni bonds, driving down yields and increasing the spread compared to taxable instruments.
The opposite effect might be seen with dividend-paying stocks. Dividends will be less tax efficient than capital gains. If investors come to value dividends less highly, the prices of such stocks may suffer.
One way to take more control over one’s tax exposure is to convert traditional IRAs to Roth IRAs. That will eliminate the need for required minimum distributions from the IRA, which might trigger excess taxes. What’s more, distributions from the Roth IRA are potentially tax free, and as such, they would not increase AGI and the taxes on investment income.

© 2014 M.A. Co. All rights reserved.
Any developments occurring after January 1, 2014, are not reflected in this article.

New estimates suggest that 70% of Americans who reach age 65 will, at some point, need extended health care. The U.S. Department of Health and Human Services projects that some 20% of retirees could require five or more years of such care. To pay for this care, many are turning to long-term care insurance (LTCI). However, these policies come with a profusion of confusing choices.

Here are five sample areas that you need to come to grips with before buying an LTCI policy. There are no right or wrong answers here. If one chooses all the most expensive approaches, the premiums could become unaffordable. A balancing of costs and benefits is needed, with a prudent regard for current and future resources.

Daily or monthly benefits. LTCI benefits are capped at some number of dollars per day for care. The testing for the cap may be done on a daily or a monthly basis. The different approaches may lead to markedly different benefit payments for a given set of circumstances.
Imagine that John’s policy has a $400-per-day benefit, calculated daily. He needs 15 days of care in a month, and the care costs $600 per day. John’s benefit will be limited to $6,000, the $400 times the 15 days.
Mary has a $400-per-day benefit, but it is calculated on a monthly aggregate basis. If she has the same 15 days of $600 expense for care that John has, her benefit will cover the entire $9,000 in expenses. In effect, she gets some credit for the days in the month with no expenses.

Elimination period. LTCI benefits typically start being paid after an “elimination period.” The period begins once an individual becomes unable to perform one or more of the activities of daily life as a result of injury or disease. Some policies define the elimination period in terms of service days, that is, days when services are received. Days when no services are received don’t count. Thus, if care is required only every other day, a policy owner will have to wait much longer before receiving benefits. A policy that does not link the elimination period to service days will begin paying benefits sooner.

Reimbursements versus cash benefits. Some policies reimburse the owners for expenses as they are incurred and submitted to the insurance company for approval. Others simply pay a stated cash benefit each month once the conditions for making the claim are satisfied. With the cash approach, the owner can use the money for expenses, such as copays, that usually are not covered in reimbursement plans.

Partial payment for home care. Some policies pay only 50% or 75% of the stated benefit if the care is received in the home. At first blush, this may seem reasonable because home care is much less expensive than care in a nursing home. But let’s say that an individual incurs $5,000 of monthly expenses for in-home care. With a 100% benefit, those costs would be covered in full. If the benefit is reduced by 50%, the policy owner must pay the $2,500 difference.

Cost-of-living adjustments. Although inflation has been pretty tame in recent years, health care costs have been rising steadily. Most observers expect health care costs to continue to grow in the coming years. Therefore, a cost-of-living feature can be a very important safeguard against having an LCTI policy provide inadequate benefits in the future. Alternatively, some advisors recommend the “guaranteed purchase option.” In this approach, there is no automatic inflation adjustment. Instead, the insured has the opportunity to increase benefits every three years without having to prove insurability. This approach postpones the higher premiums needed to support the higher benefits.

Over the course of our financial lives, we buy many types of insurance—life, auto, homeowner’s. By shopping for insurance over the years, we become familiar with the choices and tradeoffs. We might change policies many times. LTCI policies are different; most people will buy this policy only once. Therefore, it is especially important to read the fine print on any LTCI policy, or to work with an advisor who understands the ins and outs of these policies and can explain them to your satisfaction.

© 2014 M.A. Co. All rights reserved.
Any developments occurring after January 1, 2014, are not reflected in this article.

Ensuring financial security for yourself and your family comes at a price. We’re not talking about dollars, but what might be commodities just as precious: your time and concentration.
When was the last time that you undertook a review of all aspects of your financial life? Like many people, you’ve probably reviewed your portfolio and perhaps made some adjustments in light of recent economic and market conditions. But what about an integrated, strategic overview of where you stand today, and where you want to be tomorrow?

As the saying goes, there’s no time like the present.
Continue to review your portfolio now, and regularly. If you have reviewed your asset allocation strategy recently, your job isn’t over. It’s necessary to keep the allocation in balance and modify it as economic conditions and your personal circumstances dictate.

Have your objectives changed? Are there new liquidity needs or tax issues that should be addressed? These factors and others will play a part in deciding what modifications to your current investments are desirable in the coming years.

Are you nearing the end of your working years? Retirement calls for some new investment thinking. Usually, the focus is on risk reduction, income enhancement and the protection of your purchasing power. Ideally, you want to start your planning well before the retirement date on the calendar, because it’s impossible to predict with accuracy the best time to make buy-and-sell decisions.

Make certain that your insurance coverage is adequate
A key element of financial planning is risk management: protecting your assets and income in the event of the unexpected. To have insurance in place that will keep your family financially secure should you not be available to provide for them.
First step: Review your current coverage. Is your life insurance still sufficient? Have you explored the wide variety of policies available—whole life, variable, universal and term? What about disability insurance?
Other kinds of coverage may not spring automatically to mind, but bear examination. First, should you purchase a long-term care insurance policy? There is a wide variety of policies and options to consider. And because age determines the premium amount, you may want to explore coverage now.
Insurance may play an important role in your estate planning. If you own a family business or other illiquid asset, a life insurance policy in your name, or in an irrevocable life insurance trust, can be used to pay the taxes and avoid a forced sale of the property.

Put a plan in place for retirement
Consider just a few of the tasks necessary to determine how much you’ll need for your retirement. For instance, you’ll need to project your annual income and expenses during retirement. Adjust your numbers for inflation between now and your retirement, and after retirement. Find out how much your Social Security benefits will be (and when you’ll want to begin receiving them) as well as your retirement plan benefits (pension or lump sum payment).
If you are entitled to receive a lump sum distribution, will you take it in hand or roll it over into an IRA? If you choose the latter route, you can continue to shelter your retirement assets from tax, but you’ll need to take the right steps. In either case, you’ll want to consider what kind of investments will best suit your needs.
All these decisions need to be made well in advance of retirement in order to keep all of your options and opportunities available.

Formulate and monitor your estate planning
An initial estate plan is not a final one. Even if you have done some estate planning already, revisiting your planning regularly is essential.
Is your will up to date? Changes to your family constellation (new children or grandchildren, marriage or divorce) may prompt some rethinking. Changes in your financial life may make new provisions a must (sale of a business, an inheritance). External factors (the ups and downs of the market, new tax laws) also may, in effect, rewrite your will and estate plan.

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Is it time for a comprehensive review of your financial plan? We would be glad to assist you in developing a strategy to meet your unique needs and circumstances. Call on us.

© 2014 M.A. Co. All rights reserved.
Any developments occurring after January 1, 2014, are not reflected in this article.

As a young man, Robin Trupp competed in equestrian events. He did well enough to be considered for the U.S. Olympic equestrian team. Robin’s horse-riding days ended when he entered law school.

But his interest in horses remained and was renewed when his son Austin began to ride in equestrian shows. In the 1990s Trupp began to represent clients in the equine industry, establishing a solo practice in that field. He joined a law firm in 2004 and continued to practice equine industry law, as well as doing other legal work.
Trupp attended equestrian shows with his son, which usually ran Fridays through Sundays. He was known as the attorney father of Austin Trupp, so people would approach him with their legal problems at the shows. He claimed to have acquired 40 clients in this manner over the years.

In the 2005 tax year, Trupp agreed to pay certain equestrian-related expenses to people who allowed his son to ride their horses at shows. He now proposes to deduct $71,836 as “business promotion” expenses in that year.
Not a winning argument, the Tax Court has ruled. The equestrian activities were not engaged in for profit, at least not enough to support the deduction. Factors that the Court considered included:
• the manner in which the activity was carried out;
• expertise of the taxpayer in the field;
• time and effort invested in the activity;
• expectation that assets used in the activity might appreciate in value;
• success of the taxpayer in carrying out similar or dissimilar activities in the past;
• history of income or losses in the activity;
• amount of occasional profits;
• financial status of the taxpayer; and
• elements of personal pleasure or recreation.

Although Trupp claimed 40 new clients in the equine field, he only documented income from four such, and the most important of these was unrelated to his attendance at horse shows. He did not advertise his presence at the shows but waited for potential clients to approach him. Given Trupp’s background as a distinguished equestrian, he must have taken great pleasure in attending the events in which his son participated. Although Trupp may have gained some business through attendance, it was not sufficient to support the tax deduction.

© 2014 M.A. Co. All rights reserved.
Any developments occurring after January 1, 2014, are not reflected in this article.