You Can Still Reduce 2010 Taxes

Posted on January 25th, 2011 in Newsletter Articles, Retirement Planning, Taxes by wayne

Even though its 2011, there may still be ways to reduce 2010 taxes.  Funding an IRA between now and April 15 is one of the few remaining methods to reduce 2010 taxable income.  Let’s look at three popular IRAs to determine if a year-end contribution is appropriate for you.

If you are self-employed and have no employees, a SEP IRA may be the best way to reduce your taxable income.  If your company is an S or C Corporation, you can contribute up to 25% of your W-2 income to a SEP IRA.  With a sole proprietorship or an LLC your maximum contribution is 20% of your net adjusted self employment income.  Net adjusted self employment income is calculated by subtracting ½  of the self employment tax from net self employment income. The maximum annual contribution to a SEP IRA is $49,000.

If you cannot contribute to a SEP IRA, you may be eligible to contribute to a traditional, deductible IRA or to a Roth IRA.  To determine if you qualify for an IRA contribution, you’ll need to understand the rules.

To contribute to a traditional IRA, you must be under 70½ years old and you (or your spouse) must have earned income.  In 2010, the maximum IRA contribution is $5,000 ($6,000 if over age 50).

When covered by a company retirement plan, you may deduct the maximum contribution amount if your Adjusted Gross Income (AGI) is no more than $56,000 as a single tax payer or $89,000 as a joint filer.  If your spouse is not covered by a retirement plan and you are, your spouse may contribute the maximum amounts to an IRA, as long as your joint AGI is under $167,000.

If neither you nor your spouse is covered by a retirement plan, you may each contribute the maximum contribution amounts, regardless of your income.  The “spousal IRA” rules allow both spouses to contribute to an IRA, even when only one spouse has earned income.

If you expect to pay higher taxes in retirement than you pay now, contributions to a Roth IRA may be a better choice.  To contribute to a Roth IRA, your Adjusted Gross Income (AGI) must be less than $105,000 as a single filer or $167,000 as a joint tax filer.  As with a traditional IRA, your maximum Roth IRA contribution is $5,000 ($6,000 if you are over age 50).  If you make any traditional IRA contributions, the maximum Roth contribution is reduced by the amount contributed to the traditional IRA.

Sometimes, the decision on whether to fund an IRA or a Roth IRA is made for you.  If you are not covered by a company retirement plan and a single filer with an AGI over $105,000 or a joint filer with an AGI over $167,000, you may only fund a traditional IRA.  If you are covered by a company retirement plan and your AGI is over $90,000 but less than $167,000, as a joint filer, or over $56,000 but less than $105,000 as a single filer, you may only fully fund a Roth IRA.

Your age can also be a factor.  If you have earned income and are over 70½, only a Roth IRA may be funded.

Funding a Roth IRA instead of a traditional IRA has other advantages.  If you are buying your first house, all of your contributions to a Roth IRA plus $10,000 of growth and income can be withdrawn with no taxes or penalties.   If funds are required for any purpose before age 59½, a Roth IRA usually allows contributions to be withdrawn, with no taxes or penalties.  With a traditional IRA, withdrawals before age 59 ½ will always be taxed and will usually include a 10% early withdrawal penalty.

For people under age 40, the tax free growth and ease of withdrawing funds often make Roth IRA contributions a better choice.  As an estate planning tool, Roth IRAs provide an excellent mechanism for passing tax free funds to your children.

Whether you chose a SEP IRA, a traditional IRA or a Roth, if you are eligible to fund an IRA in 2010, do it before April 15.

Why Own Gold?

Posted on January 25th, 2011 in Investments, Newsletter Articles, Risk Management by wayne

It is now easier than ever to “invest” in gold.  With the advent of gold based Exchange Traded Funds that trade like stocks, an investor you can buy and sell gold as easily as buying and selling a stock.  However, the fact that you can do something does not necessarily mean that you should.  As with any investment, the question that must first be answered is “why should I own a position in gold.”

I often hear people say that gold is an inflation hedge.  However, when one looks at the price of gold (on an inflation adjusted basis) there is little correlation between the price of gold and the annual inflation rate.  In my opinion, a much better prospective on gold is that of a currency hedge.

In the past ten years, gold has increased in nominal value by 400% against the US dollar.   Over that same time period, gold has increased 250% against the Euro, 190% against the Swiss Franc and “only” 150% against the Japanese yen.  This demonstrates that, while gold has indeed appreciated over the past 10 years, the larger story may be the dramatic decline in the value of the US dollar over this time period.

To get more perspective on the value of gold as a surrogate for the decline of the US dollar, we compared the (inflation adjusted) value of gold over the past 40 years against the value of the Swiss Franc over that same time frame.  We priced both “currencies” in US dollars.  The Swiss Franc was chosen because it is (arguably) one of the most stable currencies and countries in the world.

When these two “currencies” were compared against the US dollar over the past 40 years, an interesting correlation arose.  From 1971 to 1980, the dollar declined 59% against the Swiss Franc.  During this same time frame, the dollar decreased 86% against the price of an ounce of gold.  In the 1980s and 1990s, the value of the dollar to the Swiss Franc was reasonably stable, while the price of gold fell from its (inflation adjusted) high of $2358 to approximately $350 in 2000.

The 2000s have seen a repeat of the same easy money policy that plagued the seventies.  From 2000 through 2010, the value of the dollar has declined 38% against the value of the Swiss franc and the value of the dollar has declined 73% against the price of an ounce of gold.  Thus, the question for a potential gold investor is what policies are being implemented that will strengthen the dollar and cause a decline in gold prices as occurred in the 1980s.

Only time will tell if the dollar will stabilize, as it did in the 1980s, or if it will continue its decade long decline.  Until concrete policies are implemented by the Fed and the Treasury to strengthen the US dollar, a small gold position might be a reasonable hedge against the possibility of the US dollar’s continued decline.