Tax season is barely over and the last thing you may want to revisit is your (or your client’s) tax position.
But with the year more than half over, it might be prudent to consider making adjustments to manage tax liability for 2015 and beyond.
Adjust your withholding/estimated tax payments
Compare your income now with what you anticipated when you set up your 2015 tax withholding or estimated tax payments. Is the income what you expected? More? Less? If more, do you need to increase your withholding or your estimated payments to ensure you’re not under withheld and subject to penalties?
Remember, there’s a withholding safe harbor that allows you to pay either 100 percent of your prior year tax liability or 90 percent of your current year liability to avoid penalties. For those who make more than $150,000, the safe harbor is met when you pay 110 percent of your prior year tax liability or 90 percent of your current-year liability.
Note also that if you are making estimated payments, the third payment is due Sept. 15 and the final payment is due Jan. 15, 2016. Assuming your income for the year is evenly distributed, you should make four equal estimated tax payments.
If your income is not evenly distributed over the year, then making estimated tax payments is more complex. The tax system is a pay-as-you-go regime and you cannot backload your estimated taxes. Failure to make estimated payments mirroring the timing of your income will result in an IRS penalty and interest charges, notwithstanding that you have had the appropriate amount withheld for the full year.
If you find you’ve withheld less than you should have for the first two quarters of 2015, and if you or your spouse has wage income as an employee, consider paying more tax by adjusting your withholding. Because any tax paid through employer withholding will be treated as paid evenly throughout the year, you may decrease any under withholding for prior periods.
If you are under-withheld and neither your spouse nor you works for an employer, then pay the under-withheld portion as soon as possible. Each day you are under withheld adds to IRS-imposed penalties and interest.
Make or adjust IRA and retirement plan contributions
Review your IRA and retirement plan contributions and consider if you want to modify the amount.
If your employer matches your contribution, you may want to time your contributions for each pay period to not lose the match. If you front load your contributions and max them out, and if your employer matches each contribution, you’ll lose the match for the part of the year you’re not making contributions.
Ideally, you’ll want to fully fund both your IRA and retirement plan. This goes the same for your clients.
Manage increasing mutual fund capital gain distributions
If you invest in a mutual fund outside an IRA or retirement plan, you’re probably aware the fund periodically distributes taxable capital gains. Even though you haven’t sold a share of your investment, you must pay tax on capital gains triggered by the underlying purchases and sales of investments within the fund. With the duration of the bull market, capital gains distributions are growing in many mutual funds. Many investors have been surprised by the increase in taxes owed on the same investment.
The capital gains tax triggered by internal trading in a mutual fund is different than the tax that you pay when you sell shares. For one thing, you control when you sell shares but the fund manager controls what the fund trades. Also, when you sell shares, you have the proceeds to pay your tax liability. The capital gain “distribution” you receive from a mutual fund is somewhat of a misnomer; you do not actually receive funds and you must pay the tax liability from your other assets (or sell some of the fund, possibly triggering more tax liability).