In December 2015, the Federal Reserve raised the federal funds target rate to a range of 0.25% to 0.50%, the first rate increase from the near-zero range where it had lingered for seven years. Many economists viewed this action as a positive sign that the Fed had finally deemed the U.S. economy healthy enough to withstand slightly higher interest rates. It remains to be seen how rate increases will play out for the remainder of 2016. In the meantime, try taking this short quiz to test your interest rate knowledge.

 

Quiz

 

1. Bond prices tend to rise when interest rates rise.
a. True
b. False

 

2. Which of the following interest rates is directly controlled by the Federal Reserve Open Market Committee?
a. Prime rate
b. Mortgage rates
c. Federal funds rate
d. All of the above
e. None of the above

 

3. The Federal Reserve typically raises interest rates to control inflation and lowers rates to help accelerate economic growth.
a. True
b. False

 

4. Rising interest rates could result in lower yields for investors who have money in cash alternatives.
a. True
b. False

 

5. Stock market investors tend to look unfavorably on increases in interest rates.
a. True
b. False

 

Answers

 

1. b. False. Bond prices tend to fall when interest rates rise. However, longer-term bonds may feel a greater impact than those with shorter maturities. That’s because when interest rates are rising, bond investors may be reluctant to tie up their money for longer periods if they anticipate higher yields in the future; and the longer a bond’s term, the greater the risk that its yield may eventually be superceded by that of newer bonds. (The principal value of bonds may fluctuate with market conditions. Bonds redeemed prior to maturity may be worth more or less than their original cost.)

 

2. c. Federal funds rate. This is the interest rate at which banks lend funds to each other (typically overnight) within the Federal Reserve System. Though the federal funds rate affects other interest rates, the Fed does not have direct control of consumer interest rates such as mortgage rates.

 

3. a. True. Raising rates theoretically slows economic activity. As a result, the Federal Reserve has historically raised interest rates to help dampen inflation. Conversely, the Federal Reserve has lowered interest rates to help stimulate a sluggish economy.

 

4. b. False. Rising interest rates could actually benefit investors who have money in cash alternatives. Savings accounts, CDs, and money market vehicles are all likely to provide somewhat higher income when interest rates increase. The downside, though, is that if higher interest rates are accompanied by inflation, cash alternatives may not be able to keep pace with rising prices.

 

5. a. True. Higher borrowing costs can reduce corporate profits and reduce the amount of income that consumers have available for spending. However, even with higher rates, an improving economy can be good for investors over the long term.

Here are 10 things to consider as you weigh potential tax moves between now and the end of the year.

 

1. Set aside time to plan
Effective planning requires that you have a good understanding of your current tax situation, as well as a reasonable estimate of how your circumstances might change next year. There’s a real opportunity for tax savings if you’ll be paying taxes at a lower rate in one year than in the other. However, the window for most tax-saving moves closes on December 31, so don’t procrastinate.

 

2. Defer income to next year
Consider opportunities to defer income to 2017,particularly if you think you may be in a lower tax bracket then. For example, you may be able to defer a year-end bonus or delay the collection of business debts, rents, and payments for services. Doing so may enable you to postpone payment of tax on the income until next year.

 

3. Accelerate deductions
You might also look for opportunities to accelerate deductions into the current tax year.If you itemize deductions, making payments for deductible expenses such as medical expenses, qualifying interest, and state taxes before the end of the year, instead of paying them in early 2017, could make a difference on your 2016 return.

 

4. Factor in the AMT
If you’re subject to the alternative minimum tax(AMT), traditional year-end maneuvers such as deferring income and accelerating deduction scan have a negative effect. Essentially a separate federal income tax system with its own rates and rules, the AMT effectively disallows a number of itemized deductions. For example, if you’re subject to the AMT in 2016,prepaying 2017 state and local taxes probably won’t help your 2016 tax situation, but could hurt your 2017 bottom line. Taking the time to determine whether you may be subject to the AMT before you make any year-end moves could help save you from making a costly mistake.

 

5. Bump up withholding to cover a tax shortfall
If it looks as though you’re going to owe federal income tax for the year, especially if you think you may be subject to an estimated tax penalty,consider asking your employer (via Form W-4)to increase your withholding for the remainder of the year to cover the shortfall. The biggest advantage in doing so is that withholding is considered as having been paid evenly through the year instead of when the dollars are actually taken from your paycheck. This strategy can also be used to make up for low or missing quarterly estimated tax payments.

 

6. Maximize retirement savings
Deductible contributions to a traditional IRA and pretax contributions to an employer-sponsored retirement plan such as a 401(k) can reduce your 2016 taxable income. If you haven’t already contributed up to the maximum amount allowed, consider doing so by year-end.

 

7. Take any required distributions
Once you reach age 70½, you generally must start taking required minimum distributions(RMDs) from traditional IRAs and employer-sponsored retirement plans (an exception may apply if you’re still working and participating in an employer-sponsored plan).Take any distributions by the date required–the end of the year for most individuals. The penalty for failing to do so is substantial: 50% of any amount that you failed to distribute as required.

 

8. Weigh year-end investment moves
You shouldn’t let tax considerations drive your investment decisions. However, it’s worth considering the tax implications of any year-end investment moves that you make. For example,if you have realized net capital gains from selling securities at a profit, you might avoid being taxed on some or all of those gains by selling losing positions. Any losses over and above the amount of your gains can be used to offset up to $3,000 of ordinary income ($1,500 if your filing status is married filing separately)or carried forward to reduce your taxes in future years.

 

9. Beware the net investment income tax
Don’t forget to account for the 3.8% net investment income tax. This additional tax may apply to some or all of your net investment income if your modified AGI exceeds $200,000($250,000 if married filing jointly, $125,000 if married filing separately, $200,000 if head of household).

 

10. Get help if you need it

There’s a lot to think about when it comes to tax planning. That’s why it often makes sense to talk to a tax professional who is able to evaluate your situation and help you determine if any year-end moves make sense for you.

Many differences exist among baby boomers, Generation Xers, and millennials. But one thing that brings all three generations together is a concern about their financial situations.

According to an April 2016 employee financial wellness survey, 38% of boomers, 46% of GenXers, and 51% of millennials said that financial matters are the top cause of stress in their lives. In fact, baby boomers (50%), Gen Xers(56%), and millennials (60%) share the same top financial concern about not having enough emergency savings for unexpected expenses. Following are additional financial concerns foreach group and some tips on how to address them.

 

Baby boomers
Baby boomers cite retirement as a top concern,with 45% of the group saying they worry about not being able to retire when they want to. Although 79% of the baby boomers said they are currently saving for retirement, 52% of the same group believe they will have to delay retirement. Health issues (30%) and health-care costs (38%) are some of the biggest retirement concerns cited by baby boomers. As a result, many baby boomers(23%) are delaying retirement in order to retain their current health-care benefits.

Other reasons reported by baby boomers for delaying retirement include not having enough money saved to retire (48%), not wanting to retire (27%), and having too much debt (23%).
Generation X
While baby boomers are concerned about retiring when they want to, Gen Xers are more specifically worried about running out of money in retirement, with 50% of the surveyed group citing this as a top concern. More Gen Xers(26%) than baby boomers (25%) or millennials(21%) have already withdrawn money held in their retirement plans to pay for expenses other than retirement.

Besides worrying about retirement, 25% of GenXers are concerned about meeting monthly expenses. Forty-four percent find it difficult to meet household expenses on time each month,and 53% consistently carry balances on their credit cards.

Being laid off from work is another financial worry among Gen Xers, cited by 22% of those surveyed–more than cited by baby boomers or millennials.

Gen Xers (26%) report that better job security would help them achieve future financial goals, which may help explain their worry about both future (retirement) and current (living) expenses.

 

 

Millennials
Unlike baby boomers and Gen Xers who worry about future financial needs, millennials seem to be more concerned about meeting current expenses. This concern has grown substantially for millennials, from 23% in the same survey conducted in 2015 to 35% in2016. Millennials are also finding it increasingly difficult to pay their household expenses on time each month, with the number jumping from 35% in 2015 to 46% in 2016.

Considering the amount of debt that millennials owe, it’s probably not surprising that they worry about making ends meet. Specifically, 42% of the millennials surveyed have a student loan(s),with 79% saying their student loans have a moderate or significant impact on their ability to meet other financial goals.

In an attempt to make ends meet, 30% of millennials say they use credit cards to pay for monthly necessities because they can’t afford them otherwise. But 40% of those who consistently carry balances find it difficult to make their minimum credit-card payments on time each month.

 

 

How each generation can address their concerns
Focusing on some basics may help babyboomers, Gen Xers, and millennials address their financial concerns. Creating and sticking to a budget can make it easier to understand exactly how much money is needed for fixed/discretionary expenses as well as help keep track of debt. A budget may also be a useful tool for learning how to prioritize and save for financial goals, including adding to an emergency savings account and retirement.

At any age, trying to meet the competing demands of both short- and long-term financial goals can be frustrating. Fortunately, there is still time for all three generations to develop healthy money management habits and improve their finances

A traditional grantor retained annuity trust (GRAT) or a traditional qualified personal residence trust (QPRT) can be used to obtain a valuation discount for federal gift tax purposes while removing the trust property from your estate for federal estate tax purposes (if you survive the trust term). By modifying a few trust provisions, a step-up GRAT or QPRT can be used instead to obtain a stepped-up income tax basis for appreciated property, regardless of whether you or your spouse dies first. If you are considering a GRAT or a QPRT, you should consult an estate planning attorney.

 

What is income tax basis?

 

Income tax basis is the base figure used to determine whether capital gain or loss is recognized on the sale of property for income tax purposes. Initially, basis is typically equal to the amount you paid for property, but adjustments may be made. If the property is sold for more than its adjusted basis, there is a gain. If the property is sold for less than its adjusted basis, there is a loss.

 

What is a stepped-up basis for inherited property?

 

When your heirs receive property from you at your death, they generally receive an initial basis in property equal to its fair market value (FMV). The FMV is established on the date of your death, or sometimes on an alternate valuation date six months after your death. This is often referred to as a “stepped-up basis” because basis is typically stepped up to FMV. However, basis can also be “stepped down” to FMV.

 

There is no step-up (or step-down) in basis for income in respect of a decedent (IRD). IRD is certain income that was not properly includable in taxable income for the year of the decedent’s death or in a prior year. In other words, it is income that has not yet been taxed. Examples of IRD include installment payments and retirement accounts.

 

A step-up in basis is not available if you give appreciated property to anyone within one year of that person’s death and the property then passes to you (or your spouse).

 

Both spouses’ shares of community property qualify for a step-up (or step-down) in basis upon the death of the first spouse to die.

 

So how can you and your spouse be fairly certain of a step-up in basis for appreciated property (excluding IRD, which cannot be stepped up), regardless of who dies first? Except for community property, whether there is a step-up in basis when the first spouse dies generally depends on that spouse owning the appreciated property at death. A couple of step-up trusts may help provide for a step-up in basis for appreciated property no matter which of you dies first.

 

What is a traditional GRAT or QPRT?

 

In a traditional GRAT, you transfer property to the trust and retain a right to a stream of payments from the trust for a term of years. After the trust term ends, the remaining trust property passes to your beneficiaries (such as your children). The gift of the remainder interest is discounted (possibly to zero) because it will be received in the future.

 

With a traditional QPRT, you transfer your personal residence (it can be a vacation home or a second residence) to the trust, while retaining the right to live in the residence for a term of years. After the trust term ends, the personal residence passes to your beneficiaries (such as your children). The gift of the remainder interest is discounted because it will be received in the future. If you wish to live in the residence after the trust term ends, you need to pay rent at fair market value.

 

How do you turn a traditional GRAT or QPRT into a step-up GRAT or QPRT?

 

In order to turn a traditional GRAT or QPRT into a step-up GRAT or QPRT, a few trust provisions must be changed when the trust is created. First, the trust should terminate upon the earlier of the death of you or your spouse (rather than at the end of a term of years). Second, the trust should provide that when that death occurs, the trust property would pass to your spouse, or to your spouse’s estate if your spouse predeceases you (rather than to other beneficiaries). Your spouse provides in a will that the property in his or her estate passes back to you if your spouse predeceases you.

 

The initial transfer of a remainder interest in the trust to your spouse generally qualifies for the marital deduction for gift tax purposes.

 

If you die first, all or a substantial portion of the property in the step-up GRAT or QPRT will generally be included in your estate and receive a step-up in basis. If your spouse dies first, all of the property in the step-up GRAT or QPRT will be included in your spouse’s estate and will generally receive a step-up in basis. In either case, the property passes to the surviving spouse and should generally qualify for the marital deduction and avoid estate tax.

 

Caution: If your spouse dies first and within one year of your transfer to the trust, a step-up in basis is not available because the property passes back to you.

 

If you are married, a step-up GRAT or QPRT can be used to obtain a stepped-up income tax basis for appreciated property, regardless of which spouse dies first. A higher basis can reduce or eliminate the amount of gain recognized for income tax purposes on a subsequent sale of the property.

 

Note: Appreciation and gains are not guaranteed; depreciation and losses are possible. Payments from trusts are not guaranteed. There are fees and expenses associated with the creation of trusts.

Yes, if you qualify. The law authorizing qualified charitable distributions, or QCDs, has recently been made permanent by the Protecting Americans from Tax Hikes (PATH) Act of 2015.

 

You simply instruct your IRA trustee to make a distribution directly from your IRA (other than a SEP or SIMPLE) to a qualified charity. You must be 70½ or older, and the distribution must be one that would otherwise be taxable to you. You can exclude up to $100,000 of QCDs from your gross income in 2016. And if you file a joint return, your spouse (if 70½ or older) can exclude an additional $100,000 of QCDs. But you can’t also deduct these QCDs as a charitable contribution on your federal income tax return–that would be double dipping.

 

QCDs count toward satisfying any required minimum distributions (RMDs) that you would otherwise have to take from your IRA in 2016, just as if you had received an actual distribution from the plan. However, distributions (including RMDs) that you actually receive from your IRA and subsequently transfer to a charity cannot qualify as QCDs.

 

For example, assume that your RMD for 2016 is $25,000. In June 2016, you make a $15,000 QCD to Qualified Charity A. You exclude the $15,000 QCD from your 2016 gross income. Your $15,000 QCD satisfies $15,000 of your $25,000 RMD. You’ll need to withdraw another $10,000 (or make an additional QCD) by December 31, 2016, to avoid a penalty.

 

You could instead take a distribution from your IRA and then donate the proceeds to a charity yourself, but this would be a bit more cumbersome and possibly more expensive. You’d include the distribution in gross income and then take a corresponding income tax deduction for the charitable contribution. But the additional tax from the distribution may be more than the charitable deduction due to IRS limits. QCDs avoid all this by providing an exclusion from income for the amount paid directly from your IRA to the charity–you don’t report the IRA distribution in your gross income, and you don’t take a deduction for the QCD. The exclusion from gross income for QCDs also provides a tax-effective way for taxpayers who don’t itemize deductions to make charitable contributions.

 

 

 

Yes, you can name a charity as beneficiary of your IRA, but be sure to understand the advantages and disadvantages.

 

Generally, a spouse, child, or other individual you designate as beneficiary of a traditional IRA must pay federal income tax on any distribution received from the IRA after your death. By contrast, if you name a charity as beneficiary, the charity will not have to pay any income tax on distributions from the IRA after your death (provided that the charity qualifies as a tax-exempt charitable organization under federal law), a significant tax advantage.

 

After your death, distributions of your assets to a charity generally qualify for an estate tax charitable deduction. In other words, if a charity is your sole IRA beneficiary, the full value of your IRA will be deducted from your taxable estate for purposes of determining the federal estate tax (if any) that may be due. This can also be a significant advantage if you expect the value of your taxable estate to be at or above the federal estate tax exclusion amount ($5,450,000 for 2016).

 

Of course, there are also nontax implications. If you name a charity as sole beneficiary of your IRA, your family members and other loved ones will obviously not receive any benefit from those IRA assets when you die . If you would like to leave some of your assets to your loved ones and some assets to charity, consider leaving your taxable retirement funds to charity and other assets to your loved ones. This may offer the most tax-efficient solution, because the charity will not have to pay any tax on the retirement funds.

 

If retirement funds are a major portion of your assets, another option to consider is a charitable remainder trust (CRT). A CRT can be structured to receive the funds free of income tax at your death, and then pay a (taxable) lifetime income to individuals of your choice. When those individuals die, the remaining trust assets pass to the charity. Finally, another option is to name the charity and one or more individuals as co-beneficiaries. (Note: There are fees and expenses associated with the creation of trusts.)

 

The legal and tax issues discussed here can be quite complex. Be sure to consult an estate planning attorney for further guidance.

If you are subject to the 3.8% net investment income tax, there are strategies that may help you manage that tax. The tax is applied to the lesser of your net investment income or the amount by which your modified adjusted gross income (MAGI) exceeds the applicable income tax threshold. MAGI is basically adjusted gross income plus any associated foreign earned income exclusion. Any strategy you consider should be directed at the appropriate target.

 

If your net investment income is greater than your MAGI over the threshold, then your focus should be aimed at reducing your MAGI. Conversely, if your MAGI over the threshold is greater than your net investment income, you should try to reduce your net investment income.

 

Here are a few strategies that may help you manage the net investment income tax:

  • • Before selling appreciated securities, consider whether you can offset the gain with capital losses. Likewise, if you have any capital loss carryforwards, you should review your portfolio for capital gain opportunities to make use of the capital losses.
  • Consider gifts of appreciated securities to tax-qualified charities.
  • If passive income is from a business, offset passive income with passive losses. If you don’t have passive losses, you may be able to convert the passive income to non-passive income (not subject to the tax) by becoming more active in the business.
  • You may be able to reduce your MAGI by increasing contributions to a traditional IRA, 401(k), or 403(b).
  • Consider investments that may have growth potential but typically do not generate dividends.
  • Generally, any gains in tax-deferred annuities and cash value life insurance are not reportable as income unless withdrawn, which may help reduce both your MAGI and your net investment income.

 

While any of these alternatives may help reduce your net investment income or your MAGI, they may also affect your financial planning. So before implementing strategies to reduce or eliminate exposure to the net investment income tax, consult with a tax professional to help with your specific situation.

You might, depending on a few important factors. A 3.8% net investment income tax is imposed on the unearned income of high-income individuals. The tax is applied to an amount equal to the lesser of:

  • Your net investment income
  • The amount of your modified adjusted gross income (basically, your adjusted gross income increased by an amount associated with any foreign earned income exclusion) that exceeds $200,000 ($250,000 if married filing a joint federal income tax return, and $125,000 if married filing a separate return)

So if you’re single and have a MAGI of $250,000, consisting of $150,000 in earned income and $100,000 in net investment income, the 3.8% tax will only apply to $50,000 of your investment income.

The 3.8% tax also applies to estates and trusts. The tax is imposed on the lesser of undistributed net investment income or the excess of MAGI that exceeds the top income tax bracket threshold for estates and trusts ($12,150 in 2014). This relatively low tax threshold potentially could affect estates and trusts with undistributed income. Consult a tax professional.

 

What is net investment income?

 

Net investment income generally includes all net income (income less any allowable associated deductions) from interest, dividends, capital gains, annuities, royalties, and rents. It also includes income from any business that’s considered a passive activity, or any business that trades financial instruments or commodities.

 

Net investment income does not include interest on tax-exempt bonds, or any gain from the sale of a principal residence that is excluded from income. Distributions you take from a qualified retirement plan, IRA, 457(b) deferred compensation plan, or 403(b) retirement plan are also not included in the definition of net investment income.