Q: Unfortunately, we just realized we totally forgot to pay our estimated quarterly tax payments last year. We’re afraid to ask, but how do the penalties and interest charges work? 

A: Things happen. Here is a quick rundown using rough figures for tax season 2023. 

The federal government is much more lenient than Michigan. The IRS’ combined penalties plus interest rate works out to about 8% on your unpaid tax that is due. Thankfully, your unpaid tax debt isn’t subjected to that rate for the whole year. You are only expected to pay your total tax due in quarterly installments, thus the name “quarterly estimated tax payments.”

Now, Michigan is downright mean if you fail to send in your estimated payments. The interest rate charged is also about 8% in 2023. But, if you didn’t send any of your estimates, they slap you with a huge add-on 25% penalty on each estimated amount that’s due. They will lower that penalty to “only” 10% if you paid even one tiny estimated tax payment during the year. 

Q: I’ve been holding a large amount of cash in my investment portfolio for some time now. Recently, I’ve been advised to shift some of that money into bonds. It makes me really nervous. Your thoughts?

A: Your bonds vs. cash conundrum is widespread. Your advisor is thinking soundly, in my view. Yes, today you can get over 5% on your cash with little-to-no risk. But, it’s logical to assume this won’t last. If you wait until interest rates start dropping, you might kick yourself for not locking in current yields.

If the economy slows with the continued slowdown in inflation, we should expect the Fed to cut rates. Many expect that to start as soon as their meeting in late March. And, markets are expecting that you’ll see rates about 1% lower by September. So, your advisor is channeling Wayne Gretzky by skating to where the puck is going to be, not where it is now. 

Q: We’ve done Roth conversions in recent years. Our motivation was to take advantage of today’s low tax rates. With the election looming and deficits booming, it seems like we’re headed for higher taxes. Is that a valid enough reason to keep doing Roth conversions or is there more to it? 

A: Roth conversion analyses require both financial know-how and a pretty good crystal ball. If your current tax burden is temporarily lower than it will be in the future, converting some of your pre-tax IRA balance to a Roth is a no-brainer. But, if you are purely focused on making a good guess about future tax hikes, things get more challenging. 

If forced to answer in a blanket manner, I’d err toward considering Roth conversions; when done methodically and in moderation. Our tax code is often quite complex and sometimes Roth conversions have unintended consequences. especially if not done carefully. This is fresh fodder for a future column.

Q: I’m turning 73 later this year and understand that I’m now required to take money out of my IRA. Should I do it right away or wait until later in the year?

A: Honestly, your timing for your required minimum distribution (RMD) is quite personal. The deadline for taking your RMD is technically December 31, but you can certainly do it anytime during the year.

If you need the cash for living expenses, I’d say just go ahead and take the money out of your IRA when you need it. If you tend to get really busy, near the end of the year, it might be wise to get it done earlier. But, if you don’t urgently need the money and usually donate to charity late in the year, consider satisfying your RMD in December after you’ve completed your direct-from-IRA donations.  

Q: We’re still not earning very much on our cash sitting in the bank. We’ve finally noticed some decent savings rates on CDs. Should we invest in them now?

A: The short answer is, yes, you should absolutely be earning interest on your cash savings. Luckily, you now have some choices.

Besides purchasing CDs at your bank, which can be convenient, you might think about transferring your surplus savings into a brokerage account. Money market rates currently sit at about 5.25%. With an electronic link established, you easily zap money back and forth between your brokerage account and bank account.

Ultimately, if you’re earning less than 5% on your cash, it’s time to act.

Q: Last year, I donated money directly to charities right out of my IRA for the first time. I’m unsure of how to get the tax benefits. Will my donations be included on my usual tax reports from my brokerage firm, or do I have to keep track of it all?

A: It’s fantastic that you’ve used the smart tax planning tool of giving directly to charity out of your IRA. With the standard deductions today, most people aren’t able to deduct charitable donations funded from their regular checkbook. Using your IRA is a great way to support your chosen charities and still enjoy a tax break.

Whenever you take money out of your IRA, your brokerage firm will provide you with a Form 1099-R showing you all the dollars withdrawn in the prior year. That’s true whether you donated every penny to qualified charities or happened to spend it all on a family vacation. If it came out, it’s shown on your Form 1099-R.

So, to get the tax break, it’s absolutely up to you to inform your tax preparer about your total direct-from-IRA donations. If you fail to communicate, or they don’t ask you, you could end up paying taxes that you don’t owe. And, that’s never good!

I’m in full Santa-mode. Believe it or not, I’m still making a list and checking it twice. Thankfully, I’m not talking about my last minute shopping. Instead, I’m reviewing my year-end financial tasks for my clients. Here’s some of what’s on my mind. It might prompt you to review your own list.

Tax Loss Harvesting: If you have realized capital gains this year and want to offset them, scour your portfolio for some losing investments to sell. For those who own mutual funds, look for December capital gain distributions that might have gone unnoticed. If you have an advisor, just ask them if some tax loss harvesting is right for you.

Roth Conversions: As a refresher, a Roth conversion is when you shift money out of your regular, tax-deferred IRA and put it into a forever, tax-free Roth IRA. You’ll want to consider a Roth conversion when you determine the resulting tax bill now will be lower than future projections. Obviously, figuring this out takes some analysis, but there’s still a little time before the end of the year.

College Savings: In Michigan, you get a state income tax deduction for the contributions you contribute to a college savings plan (known as 529 Plans.) If you don’t pay state income taxes (and many retirees don’t), you might consider gifting the money to your kids to help them save for their own children. Naturally, December 31st is the deadline for this tax year.

Property Taxes: This is not a real December 31st deadline, for most readers. If you don’t itemize your deductions, your property taxes aren’t going to show up on your tax return anyway. But, if you do happen to itemize or if you own a rental property, you should talk to your advisors to see if prepaying your property tax bill is a good tax planning move.

Contributions to IRAs or HSAs: Here’s some relief, you don’t have to worry about December 31st when it comes to making your IRA contributions or funding your health savings account. April 15th is your true deadline for these types of contributions.

Required Minimum Distributions: This is a very real December 31st deadline! Remember, required minimum distributions (RMDs) apply for anyone with an IRA who has reached age 73 or has inherited an IRA from someone else. Of course, the RMD rules for inherited IRA is more complex and is worthy of some tax planning.

IRA Charitable Donations: This one is really, really important. Charitable donations made directly from your IRA need to be completed by the end of the year. These charitable donations will count toward your required minimum distributions (RMD) from your IRA. But, not if a donation check is just sitting uncashed, it won’t count.  

Q: My husband and I are interested in giving our children some money for the holidays. We figure it’s better to do it now while they need it. But, we’ve heard there is a limit to how much we can give and we don’t understand the tax implications of our gift to our kids or to us.

A: A gift of cash is tax-free to your kids. Keep in mind, if you give appreciated stock, any unrealized capital gain is shifted to them and they’d owe capital gains tax upon the sale of the shares.

In 2023, you can give up to $17,000 (increasing to $18,000 in 2024) to any person without having to report it on your tax return. Now, if you give more than $17,000 to anyone, you will need to file Form 709 to report the amount over the annual gift limit. And, the amount over the limit will count against your current tax-free lifetime gift “allowance” of about $13 million. You can multiply that by two as a married couple.

As you can see, most people don’t have to worry about taxes on gifts; giving or receiving. The only thing is whether or not you need to file a Form 709 to keep track of amounts over the annual gift limit.

Q: We have rental property that loses money each year from a tax perspective. But, when I look at my past tax returns, our rental loss doesn’t seem to show up. If I remember correctly, our tax preparer said it’s because we make too much money. If that’s the case, will we ever benefit from those tax losses?

A: It sounds like you are running into the limit on passive activity losses due to your income level. The tax code loves complexity, but I hope this explanation will simplify it a bit for you.

If your modified adjusted gross income or MAGI is below $100,000, you are allowed to deduct up to $25,000 of your rental losses. But, if your MAGI is above $100,000, $1 of your rental losses get “held in suspense” for every $2 of income above the limit. As you’ll see, by the time your MAGI reaches $150,000, the entire $25,000 passive loss deduction is disallowed and is effectively held in “suspense” for later use.

So, when will you ever get to use those suspended rental losses? When your MAGI dips below $150,000, you’ll get to use some of them. And, regardless of your income, if and when you decide to sell the rental, your suspended losses will be unlocked. So, they are not “lost” losses, they are just suspended deep in your tax return on Form 8582.

Jason P. Tank, CFA, CFP® is the owner of Front Street Wealth Management, a purely fee-only advisory firm in Traverse City. Contact him at (231) 947-3775, by email at Jason@FrontStreet.com and at www.FrontStreet.com

Another year will soon enter the history books. If I had to pick one word to best describe the stock and bond markets in 2023, I’d choose the word, vicissitudes. Fittingly, this word was often used by Warren Buffett’s mentor, Benjamin Graham, in his seminal book, The Intelligent Investor. Vicissitudes; a change or variation in the course of something. 

About a year ago at this time, the stock market was 25% to 30% off its peak. To make matters far worse,  bonds were also experiencing one of their deepest bear markets ever, down around 15%. Together, it resulted in one of the single worst periods for balanced portfolios. In all practicality, there was almost no place to hide. Doom and gloom had descended upon the scene.

With such negativity already baked into the cake, it left open the possibility that things might actually turn out better than feared. As we all know now, inflation basically peaked at this darkest moment, declining from around 8% to just about 4%. By the end of July, the stock market breathed a heavy sigh of relief by rising a whopping 30% off its low and the bond market returned almost 5%, too. 

At this point in time, the worries of a looming recession this year began to fade. Inflation was in steady decline, as they had hoped it would be, and the economy was seemingly cruising along relatively unharmed by so many rate hikes. This was the case even in the face of a mini-crisis in banking that was uncomfortably reminiscent of the ’08 financial crisis. Goldilocks had confidently entered the scene. 

Then, as if right on cue, the progress on inflation stalled out with the economy inconveniently picking up steam. In response, the Fed shifted its tone to one of cautious vigilance and signaled the possible need for still more rate hikes to avoid the mistakes of the ‘70s. Almost overnight, longer-term rates jumped higher and stocks fell over 10% and bonds dropped 5%. The lights dimmed and Goldilocks exited stage left.

Naturally, the show never really ends. Over just the past few weeks, Fed officials are seeing signs of the long-awaited economic slowdown and the most recent inflation report showed some renewed progress. They have calmed investors’ nerves by publicly signaling they might actually still be in pause-mode. In truly knee-jerk fashion, just like that both stocks and bonds have almost fully rebounded from their post-summer swoon.

Now, if anything is true, 2023 certainly shows how impossible it is to forecast markets. Nonetheless, if I were forced to make a forecast, I’d say it’s wise to count on the continued vicissitudes of markets to darken the stage a few more times. After all, we all know that Goldilocks is a fairy tale.