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How To Prepare For Your Tax Savings

Aug 17, 2007
Tax Preparation - Tax Tips For Investors

As the tax code grows by several encyclopedia volumes each year, more and more tax preparation services and software programs spring up all over the country.

Proper preparation is something to take very seriously, as the amount of money illegally saved by tax cheats is said to be dwarfed by the amount that law-abiding taxpayers overpay each year.

Who is to blame for this? Well for starters, the tax preparation professionals, who often fail to properly address their clients' needs. But ultimately, losses due to excess taxation are the fault of the individual taxpayer.

Each and every American should be aware of tax code basics in order to ensure that they pay the least amount of taxes legally permissible. This is what preparation is all about!

Tax Preparation Tip - Know Your Tax Rates

Were you aware that not all income is taxed equally? Yes, the more you earn, the higher your tax rate, but this refers only to earned income at your job.

Most truly affluent people make the bulk of their money through capital gains, dividends, and interest. It's important to know the differences between these rates for tax and investment planning purposes.

Buy, Sell, or Hold - Capital Gains and Tax Preparation

Long-term capital gains are taxed at a maximum rate of just 15 percent. This maximum rate applies only to people in the highest tax bracket (i.e. those most in need of preparation help). For people in lower tax brackets, the long-term capital gains tax rate can be as low as zero.

Short-term capital gains are taxed at the owner's normal tax rate, however, they are not subject to FICA, the 7.65 percent killer that funds Social Security and Medicare.

Since long-term capital gains apply to securities (stocks, bonds, etc.) held for one year or longer, and short-term capital gains are charged for securities held for less than one year, tax preparation planning might be a factor in deciding whether to buy, sell, or hold. For example, you may want to hold a stock that you've owned for 11 months for just one month longer.

Dividends and Tax Preparation

Even after capital gains were given a tax cut, dividends were still taxed as regular income until recently. They are now taxed at the same 15 percent maximum rate as long-term capital gains, and can be taxed less for people not in the highest income brackets.

Tax Preparation Caution:

This is one of the most hotly contested tax issues in Congress. Some elected representatives think it is unfair that working people are essentially taxed at a higher rate than more well-to-do investors, and they are fighting to have dividends taxed as regular income.

If you make dividends a primary part of your investment strategy, be sure to stay on top of changes in the tax code and the debate in Congress. Perhaps you should even write to your representative to let him or her know where you stand on the issue.

Interest Income and Tax Preparation

Interest, however, is still taxed at the individual's regular tax rate, although it is not subject to FICA. This means that bonds are a bad investment for tax purposes.

While you may crave the safety of fixed income, perhaps a dividend-paying blue chip stock would be a better investment, or maybe even preferred stock with its tax advantages, would be preferable to bonds.

Tax Preparation Planning - It's Not The End All, Be All

As an investor, you must be aware of the tax advantages and disadvantages of each asset class, however, you should never let tax considerations be the only factor in deciding whether to buy, sell, or hold any investment.

For example, if you feel strongly that the stock you've held for 11 months is set to crash, sell it now and worry about the tax preparation consequences later.

If you feel a given bond is the right investment vehicle for you, then buy it. The important thing is that you're aware of tax preparation strategies and that you factor them in to your investment planning.
About the Author
William Smith the author provides additional financial information on many subjects as well as the secret to his success in the market along with 5 Free power stock picks emailed daily so grab your Free subscription on his website at Tax Savings (All is Free)
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