Financial Abundance

Ready for a riddle?  What federal government program requires 72,000 pages of written text to explain, has an annual compliance cost of over $350 billion and is a key contributor to our current economic morass?  The answer is the US tax code.  The current tax code is so broken that no amount of tweaking will fix it.

Let’s explore why the code has become so complex and why both political parties are unwilling to fix it.

First, let’s examine the individual income tax.  In 2010, the US treasury collected $899 Billion in individual income taxes.  Estimates from the GAO and other sources estimate that the cost of compliance (tax preparation) in 2010 for individuals was approximately $150 Billion.  This cost includes the “fair value” of each individual’s time in compiling tax data, the time required to fill out the complex tax forms for those who do their own taxes and the revenue collected by CPAs and tax lawyers to file individual tax returns.

The vast majority of these compliance costs could be saved if individuals merely paid a percentage of their total income with no deductions or credits of any kind.  To protect the poor, there could be a minimum level of income below which no taxes are levied.  With this approach, the compliance costs could be turned into tax revenues with no net cost increase to the American taxpayer.

If such a simple change could increase tax receipts with no effect on the individual tax payer, why aren’t politicians clamoring for this reform.  The answer lies in the 72,000 pages of our tax code.  Every segment of our tax code has special interest “gifts” that are important to special interest groups who give money to the politicians that protect them.  As an example, the mortgage interest deduction benefits home builders, realtors, mortgage brokers, lawyers, banks and investment speculators.  These groups provide millions of dollars to politicians in both parties.

The corporate income tax is even more insidious.  In 2010, the US Treasury collected $191 Billion from corporations.  It is estimated that in 2010, corporations spent almost $190 Billion in tax compliance.  Large corporations are the obvious benefactors of the current tax code distortions, with corporations such a GE paying no income tax in 2010.  How many millions do you suppose GE spent on lawyers and accountants to assure this tax outcome?

The current US corporate tax code is 35% of net earnings, the highest corporate tax rate of any industrialized country.  If all of the corporate welfare ( and with it the tax code compliance cost) were eliminated, corporations could pay a lower percentage of their total earnings and the federal government could collect almost twice the revenue, with no negative impact on the corporation’s total expenses.

With this approach, the US corporate tax rate could likely be cut dramatically and still provide twice the current tax revenue.  An added benefit is that lower federal corporate tax rates would attract foreign companies to the US and provide less incentive for US companies to move operations abroad.  This combination could dramatically increase our GDP while significantly decreasing our rate of unemployment.

By eliminating all deductions and credits in the current tax code so individuals and corporations pay taxes equal to their current taxes plus their current tax preparation/ tax compliance cost, the federal deficit could be reduced by over $3 Trillion dollars (over a 10 year time frame), with the a net increased cost to both individuals and corporations of $0.

So once again the question, if this approach is so simple, why are some billionaires calling for higher tax rates instead of tax code reform.  Once again, the answer can be found in the 72,000 pages of the tax code.  The current tax code protects the super rich from paying the same income tax rates as the rest of us.

Regardless of your thoughts on  federal government spending or higher tax rates on the rich, we have an annual $350 Billion in deficit reduction staring us in the face. Perhaps it is time to tell both parties that they must begin supporting their constituents instead of the special interest groups protected by our broken tax code.

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I have never met anyone who wished to pay more income taxes than they legitimately owe.  The super rich have accountants and lawyers scrutinizing every aspect of their income and expenses to assure they take advantage of every tax loophole and pay the absolute minimum in taxes.

Since most of the rest of us cannot afford personal tax lawyers, here are seven simple ways that you may be able to lower your tax bill for 2011.

1) Spousal IRAs: If only one spouse has a company retirement plan, the other spouse may contribute up to $5,000 ($6,000 if age 50 or over) to his own IRA, even if he has no earned income in 2011.  The spousal IRA contribution is fully tax deductible and must be made before April 15, 2012.  Your combined incomes must be less than $169,000 to receive the full spousal IRA deduction.

2) Investment Tax harvesting:  Taxable investments with short or long term losses can be sold by year end to provide a tax deduction of up to $3,000 in 2011.  Be careful not to repurchase the same security in less than 30 days as this creates a “wash sale,” eliminating the loss deduction.  However, buying a similar fund is allowed.  Let’s assume that you have the iShares MSCI Emerging Markets ETF (EEM).  You may sell the EEM ETF and immediately buy the similar Vanguard MSCI Emerging Markets ETF (VWO) without creating a wash sale.

3)  Mutual Fund sales:  If you are considering selling a mutual fund, but are waiting until 2012 to avoid paying capital gains taxes in 2011, you may end up paying capital gains taxes in both years.  Most mutual funds have year-end distributions of short term and long term capital gains in December.  By selling now, these year-end distributions can be avoided.

4) Charitable contributions:  If year-end charitable contributions are planned and you have stocks with long term capital gains, consider donating shares of appreciated stocks.  No capital gains taxes are ever paid on the donated appreciated stock and the full charitable deduction is provided for the value of the stock.  The simplest method of accomplishing this is by setting up a donor advised fund through your custodian (brokerage firm).

5) State Sales Tax Deduction: If you itemize deductions and are retired or received limited income in 2011, utilizing the state sales tax deduction instead of state income taxes might prove beneficial.  The benefits of using state sales taxes will only apply if sales receipts for higher priced purchases (each of which was taxed at over 8% in Colorado) have been saved.  If you did not save your receipts in 2011, consider saving receipts in 2012.

6) Colorado 529 Plan: If you are a Colorado resident with a child or grandchild in college, consider putting next year’s funds for tuition, room and board and other required expenses into College Invest, the Colorado 529 plan.  Any contributions made to College Invest in 2011 are dollar for dollar deductible against 2011 Colorado income taxes.  Assume that college expenses for 2012 will be $30,000.  By depositing that amount into College Invest during 2011, the 2011 Colorado income tax bill will be almost $1,400 less.  With this short term approach, keep 529 funds in the money market investment option until they are used to pay for a child’s or grandchild’s college expenses.

7) Roth IRA contributions:  Even if you are covered by a company retirement plan, contributions of up to $5,000 ($6,000 if age 50 or over) to a Roth IRA are allowed, as long as adjusted gross income is below $169K for joint filers or $107K for single filers.  While a Roth IRA contribution does not lower 2011 income taxes, Roth income grows tax free throughout your lifetime and potentially the lifetime of your beneficiary.  If funds are ever required from the Roth IRA, the funds contributed can be withdrawn with no taxes or penalties.

Hopefully, one or more of these tax savings ideas will be helpful in reducing 2011 taxes.  If these tips provide some unexpected savings, I hope that you will save and invest these funds to help you prepare for a financially abundant future.

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The economy, government spending and debt, unemployment, housing foreclosures and our banking system all contribute to a fear of the financial future.  These fears are all outside of our control.  However, we can control many decisions related to our own financial future.

Financial Abundance Guide (available free at www.finabguide.com) identifies many areas of personal finance that can be controlled.  I also developed the Seven Steps to Financial Abundance to help people reach their financial goals.  With so much fear of the financial future, following the seven steps can help increase our power to control our financial future.

“Spend less than you earn,” is the required first step.  Over a 40 year career (age 25 to age 65), assume that your average income is $80,000 (in 2011 dollars) and the annualized investment real rate of return is 5%.  Saving 10% of income ($8K) each year will produce savings of over $1 million (in 2011) dollars at age 65.

By “maximizing your financial resources” (step 2) , savings can be increased with no negative impact on spending.  If a company offers a 4% of salary match with their 401(k) plan, by contributing at least 4% of salary, this amount is matched by the company. Using the previous example, annual savings are increased from $8,000 to $11,200, increasing the savings available at age 65 to almost $1.5 million.

“Minimizing your taxes” (step 3), also provides additional savings with no impact on spending.   Financial Abundance Guide provides many tax savings techniques available to people of all income levels.  One example is a spousal IRA, allowing a non working spouse to contribute $5,000 per year to an IRA.  For a couple paying 25% in federal taxes and a 5% state income tax, a $5,000 IRA contribution would yield $1,500 in annual tax savings.  Continuing with our example, the additional $1,500 in annual tax savings would  provide almost $1.7 million in 2001 dollars by age 65.

“Managing your investments” (step 4), can significantly increase investment returns.  This may require the help of an investment professional.  If so, carefully choose an investment advisor and be wary of anyone providing “free” advice.  A “free” advisor must be compensated through commissions on the investment products they sell.  Fee only advisors are compensated by the fees they charge to manage investments.  Continuing the above example, if the real rate of investment return is increase by only 0.5%, the couple would have almost $1.9 million at age 65.

Using the simplistic assumption that a couple, at age 65, can withdraw at least 4% of their investments each year and never run out of money, $76K (in 2011 dollars) can be withdrawn each year throughout retirement.  Since their previous annual expenses were $72K, with $8K per year in savings, even with no Social Security or other retirement benefits, our couple can more than maintain their lifestyle throughout retirement.

Fear of the unknown often produces a sense of financial scarcity.  “Protecting your financial resources” (step 5), through appropriate, lower cost insurance products can help keep this fear at bay.   An insurance product that is often overlooked is a $1 – $2 million umbrella liability policy.   In our litigious society, one may be sued because someone was hurt on their property or by a car driven by a family member.  For very little money, peace of mind can be secured by adding an umbrella liability policy to your auto or home insurance policy.

Financial planning helps “control your personal finances” (step 6). There are many available resources to help you produce you own financial plan.  If you have neither the time nor interest in financial planning, engage a fee only Certified Financial Planner (CFP^®)  who will listen to your concerns and provide a comprehensive plan that enumerates the options available to meet your financial goals.  A financial plan helps increase control over personal finances.  Planning will reduce the fear of scarcity, providing more financial security on the path toward financial abundance.

“Have faith in continued abundance” is the seventh step. Implementing the first six steps addresses what you can control in your personal finances.   Faith that financial abundance will continue helps eliminate the doubts and fears of the unknown often caused by events over which you have no control.

Financial abundance is a lifetime pursuit.  There will always be ups and downs in the economy and markets.  By applying the seven steps and seeking appropriate outside support as required, you will be on the pathway toward financial abundance.

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Years ago, most of us had such wonderful health insurance coverage that we never considered keeping track of medical expenses for tax deductions, as medical expenses were never above 7.5% of Adjusted Gross Income (AGI).  However, for many of us, those days are only fond memories.

For at least the next two tax years, the AGI medical deductible hurdle of 7.5% will remain in place.  Even if you make over $100K per year, you may find that keeping track of your medical expenses will help lower you’re the amount you pay in taxes.  Let’s look at some deductible medical expenses of which you might not even be aware:

1. Medically related travel: Whenever you must travel to a doctor’s appointment by car, for 2011, the IRS allows a mileage deduction of $.19 from January through June and $.235 for July through December.  If you must fly to an out-of-town clinic, the full cost of your flight plus a per diem allowance of $50 per person per day is deductible.

2. Medical Insurance Payments, including long term Care Insurance: If you pay for your own medical insurance, the premiums paid are fully deductible.  If you pay for long term care insurance, the premiums are deductible up to a maximum amount based on your age at the end of the tax year.  The maximum deductible amounts for long term insurance premiums are: Age 40 or less $340; Age 41 through age 50 $640; Age 51 through age 60 $1,270; Age 61 through age 70 $3,390; Age 71 or older $4,240.

3.  Uninsured medical treatments: This includes what you spend for an extra pair of eyeglasses or on contact lenses, false teeth, hearing aids or artificial limbs.

4. Rehab treatment for drug, alcohol, or any other recognized addictive disorder: This includes amounts you pay for an inpatient’s treatment at a therapeutic center for alcohol or other addictions, including meals and lodging provided by the center during treatment. You can even include amounts you pay for transportation to and from 12 Step meeting, if the attendance is pursuant to medical advice that membership is necessary for the treatment of a disease.

5. Weight-loss, smoking cessation and other health related issues: If a doctor prescribes it, you can deduct it.

6. Laser vision correction surgery: These surgeries are allowable expenses to deduct on your taxes

7. Doctor-recommended equipment and related expenses: If your doctor tells you that you need a humidifier installed on your heating and air conditioning system to aid your breathing problems, you may be able to deduct the full amount of this home improvement.

8. Home improvements or equipment: If you do a home improvement or bring in special equipment that’s considered medically necessary, for you, your spouse or your dependents, you may deduct the cost of this equipment and it’s installation. This may include special entrance/exit ramps, widening doorways, modifying kitchens or bathrooms, or adding a chairlift   If the improvement increases the value of your home, only the amount of the expense that exceeds the increase in the property value of your home is deductible.

9. Medical education costs: If you, your spouse or a dependent have a chronic medical condition and you attend a conference related to this condition, your conference admission and transportation expenses are deductible.  However, meals and lodging are not deductible.

10. Out-of-town treatment for a dependent: When accompanying a minor dependent to out-of-town medical treatment, your hotel bills will likely be at least partially deductible.

11. Nursing services: Out-of-pocket payments for a home-based nurse are fully deductible,

12. Lead paint removal: If your house has any lead paint, the full cost of lead paint removal is deductible.

13. Medical Insurance payments by the self-employed: If you are self employed, the full cost of your family’s medical insurance premiums are deducted, as an adjustment to gross income.  This payment is not subject to the 7.5% deduction hurdle, but is a direct deduction from gross income.

From this non-exhaustive list, it is obvious why it is not too difficult for medical expenses to exceed 7.5% of AGI.  Unfortunately The AGI hurdle is set to increase to 10% in 2013 under the Patient Protection and Affordable Care Act (PPACA) passed in 2010.

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In March of 2010, the Patient Protection and Affordable Care Act (PPACA) was passed by Congress and signed by the President.  In spite of its lofty title, this act includes several “features” that will raise the amount of taxes we pay on medical related services, regardless of your income bracket.

It has always seemed inequitable to me that we may deduct 100% of our mortgage interest payments from federal income taxes, but are only allowed to deduct medical expenses that exceed 7.5% of our Adjusted Gross Income (AGI).  From this inequity, we must  assume that our government places a higher priority on buying a house than it does on medical expenses.

When PPACA was first introduced, I assumed that it would address this inequity by  eliminating the 7.5% AGI deduction hurdle on medical expenses.  This would definitely provide “more affordable (medical) care,” much like the home mortgage deduction makes home ownership more affordable. However, I was shocked to see that PPACA not only does not remove the 7.5% tax hurdle, it makes medical treatment more expensive by raising the AGI threshold hurdle to 10%.

This medical tax increase hurts the middle class much more than the wealthy, as very few tax payers, whose AGI exceeds $200K, can claim a medical deduction.

Consider a couple with $70K AGI that has $7,000 in medical bills.  Under current tax law, this couple could deduct $1,750 in medical expenses from their federal income taxes.  However, staring in 2013, PPACA will reduce their in medical deductions to $0, while they will still be able to deduct 100% of their home mortgage interest payments.

Another area where PPACA increases the middle class’ medical costs is through its reduction of Flexible Spending Account (FSA) medical contributions.  Under current law, you may contribute up to $5,000 each year to an FSA, to pay for medical expenses that are not covered by insurance.  The $5,000 FSA contribution is directly deducted from your income, meaning that it is fully tax free, including FICA taxes.

A single person in the 25% federal tax bracket (AGI exceeds $34,000), with state income taxes of 5%, has combined federal, state and FICA taxes of 37.65%.  This represents $1,882 in total taxes on $5,000 of income.  By putting $5,000 into an FSA, they save $1,882, as long as they have at least $5,000 in uncovered medical expenses during the year.

Starting in 2013, PPACA lowers the maximum amount that can be contributed to an FSA to $2,500, cutting the tax saving for a medical FSA in half.  The relatively low income person shown above will pay an additional $941 in taxes, thanks to PPACA.

For higher income taxpayers, PPACA has additional Medicare taxes.  Starting in 2013, single taxpayers earning over $200K and couples earning over $250K per year will be pay an additional 0.9% in Medicare taxes on income that exceeds these limits.

Another Medicare tax is the new 3.8% “unearned” income tax on single taxpayers with an AGI exceeding $200K and couples with an AGI exceeding $250K.  Virtually any income that does not come from employment will be subject to this tax.

As an example, consider a couple with an AGI of $300K, of which $200K comes from their joint earned income and $100K comes from royalties, rents, annuity distributions, capital gains and dividends.  $50K of their income would be subject to the 3.8% Medicare tax, increasing their tax bill by $1,900.

It can always be debated whether the “wealthy” are paying their fair share of taxes.  Thus, the PPACA provisions that require higher income individuals to pay more in taxes are open to political debate.

However, it seems unconscionable for an act that is supposed to make health care more affordable, to increase the price of health care on the middle class.  The PPACA has already been modified to remove the $600, 1099 reporting requirement.  Perhaps it is now time to help our government understand that 1) medical expenses should have at least the same deductibility as home mortgage interest payments and 2) FSAs are good for people of all income brackets, so leave them alone.

Medical costs continue to sky rocket.  The last thing that we need is to increase the taxes that everyone must pay on these expenses.

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Even though 2010 taxes were only finalized in April, now is the time to begin planning for reducing your 2011 taxes.  Regardless of what the government decides about future tax rates, it will always be incumbent upon the US taxpayer to pay the minimum taxes owed.

The wealthy have lawyers and accountants that look for legal ways to avoid paying higher taxes.  The rest of us must use all of the resources available to only pay our fair share.  Here are three ways to reduce your tax bill on April 15, 2012.

Colorado 529 Plan Contribution = Immediate tax deduction – If you are a Colorado resident, every dollar contributed to a Colorado 529 plan is Colorado tax deductible.  Thus, if you contribute $40,000 to a Colorado 529 Plan in 2011, you can deduct $40,000 from your Colorado taxable income, whether you are a parent, a grandparent or even an uncle.  Let’ assume that you are paying for your daughter (or paying for your granddaughter) to go to Harvard, costing approximately $48K per year.  You can put the $48K into a Colorado 529 plan money market fund and withdraw it this year, as the yearly payments to Harvard come due.  There is no risk of loss from the investment and the $48K is fully deductible on your Colorado income taxes.  I wish I had been aware of this approach when my two kids went to college.

Save Those receipts – If you itemize tax deductions for federal income tax purpose, you may choose between deducting the state and local income taxes paid or deducting the amount of sales taxes paid in 2011.  Almost everyone in Colorado, regardless of their income, deducts their state and local income taxes.  However, if you are retired, having a low income year or buying an expensive new car, it may be more advantageous to deduct state and local sales taxes instead of state income taxes.

Assume that you buy $80,000 in fully taxable items in Colorado during 2011.  With Colorado’s 8.5% sales tax you pay $6,800 in Colorado sales taxes.  If your federal taxable income is $100,000, at Colorado’s 4.64% income tax rate, your Colorado income tax deduction is $4,640.  By saving your sales tax receipts, you can deduct an additional $2,160 from your federal income taxes.

The IRS sales tax tables significantly understate actual sales tax payments. For the sales tax alternative to succeed, you must save your sales tax receipts.  However, a little effort may save hundreds of dollars in federal income taxes.

Roth Conversions NOW – Anyone, regardless of income, may now convert IRA funds to a Roth IRA.  While immediate taxes are due on the amount converted, the ability of these funds to grow tax free for both the rest of your life and the rest of your beneficiary’s life makes these funds a valuable asset.

You may be hesitant to convert funds before the year-end deadline, since, if the market crashes after the funds are converted, you would pay taxes on the higher (conversion) value and have significantly less funds in the tax free Roth account.  Thanks to “recharicterization” rules, this is not be a concern.

When you convert IRA funds to a Roth IRA at anytime during 2011, you have until October 15, 2012 to “recharacterize” these funds.  This allows you to move the funds back into the original IRA and remove the tax consequences associated with the 2011 Roth conversion.  You are still able to do a Roth conversion in 2012, paying lower taxes on the same net amount converted.

These are only three of the tax saving opportunities provided by our convoluted tax code.  If there are any questions about how to safely and successfully execute these tax saving strategies, do not hesitate to give a call.

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There is guaranteed way to increase investment returns without adding any investment risk or even changing your current investments.   Most investors have taxable investment accounts as well as tax deferred retirement accounts and even tax-free (Roth) accounts.  To increase investment income, determine which investment assets should be held in which types of accounts.  With this approach, you can maximize after-tax income by minimizing investment taxes.

Now that Congress has approved an extension of the investment income tax rates, it is important to examine investment holdings.  If possible, have only tax efficient investments in taxable accounts.  Let’s examine what types of investments are tax-efficient.

Through at least 2012, “qualified” stock dividends and long term capital gains are taxed at a maximum rate of 15%.  Most stock’s dividends are “qualified”, as long as the stock is held for more than 60 days. Stocks held for at least one year and a day will have their appreciation (capital gains) taxed at the maximum rate of 15%, making them very tax efficient.  Indexed stock funds, including most Exchange Traded Funds (ETFs), are also considered tax efficient, if held over one year.  Unfortunately, actively managed mutual funds require some research before determining their tax efficiency.

Each year, mutual funds must distribute all realized capital gains and dividends.  Mutual funds with high turnover rates will likely produce short term capital gains.  Regardless of how long a mutual fund is held, income taxes must be paid each year on all realized capital gains and dividends.  High turnover rate funds may have a significant amount of short term gains, taxed at ordinary income rates. This type of mutual fund is not  tax-efficient.

Stock based ETFs generally avoid year end taxable distributions, as do many stock index based mutual funds.  As long as the fund is held for over one year, actively managed mutual funds with low turnover rates and index based ETFs and mutual funds will typically be tax-efficient.

Whenever possible, place tax-inefficient investments in your tax-deferred or tax free (Roth) retirement accounts.  Tax-inefficient investments are investments in which most, if not all of their income is taxed at ordinary income tax rates.  Interest payments on bonds and bond funds, as well as “nonqualified” dividends are taxed at ordinary income rates.

Investments that generate short term capital gains are also tax inefficient, since short term capital gains are taxed at ordinary income rates.  If you plan to trade stocks on a short term basis or wish to invest in high turnover rate mutual funds put these investments in your tax deferred account.

Real Estate Investment Trusts (REITs) or REIT funds pay nonqualified dividends.  Bonds and bond based funds pay taxable interest income.  Since these payments are taxed at ordinary income rates, these investments are considered “tax-inefficient” and should be kept in your tax deferred accounts, when possible

With ETFs, owning gold or silver is now as easy as buying a stock.  However, with precious metal ETFs such as GLD (SPDR Gold Shares) or SLV (iShares Silver Trust), the shareholder is treated as if they own the actual gold or silver that backs the ETF.  The IRS considers precious metals to be collectibles.  Collectibles have a long term capital gain tax rate of either 25% or 28%, depending upon the taxpayer’s marginal income tax rate.  Precious metal ETFs are therefore tax-inefficient investments to be kept in tax deferred or tax free accounts.

Commodity ETFs such as DBC (PowerShares DB Commodity Index) often invest in futures contracts.  At the end of each year, the capital gains from a fund’s futures contracts holdings are taxed at 60% long term rates and 40% at short term rates.  This income is reported on the annual K-1 form.  When possible, minimize both your taxes and tax reporting hassles by holding these investments in a tax-deferred account.

Step 3 of the Seven Steps toward Financial Abundance is “minimize your taxes.”  By paying close attention to the types of accounts in which investments are held, you can minimize your taxes while maximizing your after-tax investment return.

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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.

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If you are considering retirement and have an ownership position in your business worth $250K or more, the two year extension of the “Bush tax cuts” could provide an opportunity for significant tax savings.

For the next two years, long term capital gains and qualified dividends will be taxed at a maximum rate of 15%.  In 2013, capital gains tax rates will likely increase to at least 20% and could increase to 28% on the “wealthy” (couples earning $250K or more per year).  On top of this likely tax increase, 2013 will also usher in increased Medicare taxes which could add 3.8% in taxes to all investment income.   Let’s look at what this could mean if you are considering the sale of your business interests.

We assume that you are married and that you and your spouse’s Adjusted Gross Income is $250K.  Let’s also assume that your business ownership interest has a net value of $1 million.  If you sell your business ownership interest by the end of 2012, the federal income taxes owed from the sale of your business interests will be $150K, allowing you to keep $850K.  However, if the same business ownership is sold at the end of 2013, federal taxes owed will likely be significantly higher.

Assuming that long term capital gains rates “only” rise to 20% in 2013, you will owe $200K in capital gains taxes, an increase in federal taxes of 33%.   However, since your 2013 AGI remains at $250K, the $1 million income from the sale of your business will be fully subject to the 3.8% Medicare tax, providing an additional $38K in federal taxes owed.  Selling your business at the end of 2013, instead of 2012, will likely add a minimum of $88K to your federal tax bill, representing a 58% federal tax increase.

Many people believe that the capital gains rates for the “wealthy” could increase to the 1996 level of 28% in 2013.  If this occurs, the total federal taxes that could be owed on the sale of a $1 million business interest would rise to $318K, leaving only $682K remaining after federal taxes.  If this scenario occurs, postponing the sell of a business could more than double the amount of federal income taxes that must be paid.

Thanks to the recent extension of current tax rates, there is a two year window of tax certainty.  Based on previous government actions, it seems reasonable to expect that nothing further will be done regarding taxes until the end of 2012, at the earliest.  If you are considering the sale of a substantial business interest in the near future, it might be wise to begin this process now, so it can be completed before the end of 2012.

As with all investments, you should never let the “tax tail” wag the investment dog.  If you are enjoying your business and expect it to keep growing in value over the years to come, short term tax consequences will be diminished by the increase in total value that you will receive by selling your business in the future.

However, if your business is not growing rapidly and you are not enjoying it like you once did, it may be time to sell.  As the economy continues to improve and banks begin to offer business loans, preparing your business for a sale by the end of 2012 could maximize your after tax business returns.

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