Retirement Strategy: Are We Sticking Our Heads In The Sand? (Part 12)

by: Regarded Solutions

It's hard for me to believe but we will soon be entering the 3rd month of 2012. Baseball spring training has begun, and here in South Florida the weather is at its best.

March also brings us closer to that wonderful time of year, tax time. This year it's April 15th. Wait a second it's always the same time of year isn't it? Geez I thought I just finished my taxes from last year!

As dividend growth investors, we have done quite well for quite some time with a well balanced portfolio of income producing stocks that we use to grow our portfolio for retirement, expand our portfolio for even greater returns, or use the income to pay our bills.

Our current portfolio consists of ExxonMobil (XOM), Johnson and Johnson (JNJ), AT&T (T), General Electric (GE), Annaly Capital (NLY), Southern Company (SO), Exelon (EXC), Procter and Gamble (PG), Philip Morris (PM), Intel (INTC), Realty Income (O), ConocoPhillips (COP), Pfizer (PFE) Chevron (CVX), E.I. du Pont (DD), Duke Energy (DUK), PPL Corp. (PPL), Coca Cola (KO).

In less than 2 weeks I will give a status update on how we are doing and the progress we have made with our retirement portfolio for which we have been waiting for a pullback to add shares to (read this).

With the first quarter of 2012 at hand, and tax time right around the bend we have not discussed one of the most nagging political hot potatoes of the last 10 years. I am not talking about the election because quite frankly it will not matter who is in the WH when action must be taken on the current Bush Tax Cut era of favorable rates on capital gains and DIVIDENDS.

Since 2003, investors have enjoyed favorable tax rates on capital gains and dividends, and since 2007 (effective 2008) even more favorable for lower tax brackets:

2003-2012 2013-
2003-2007 2008-2012 2013-
Ordinary Income Tax Rate Short-term Capital Gains Long-term Capital Gains Short-term Capital Gains Long-term Capital Gains Ordinary Income Tax Rate Short-term Capital Gains Long-term Capital Gains
Tax Rate Tax Rate Tax Rate Tax Rate Tax Rate Tax Rate
10% 10% 5% 10% 0% 15% 15% 10%
15% 15% 5% 15% 0%
25% 25% 15% 25% 15% 28% 28% 20%
28% 28% 15% 28% 15% 31% 31% 20%
33% 33% 15% 33% 15% 36% 36% 20%
35% 35% 15% 35% 15% 39.60% 39.60% 20%

In a nutshell, our taxes are going up for all but the lowest tax bracket. Actually, they are going up big time as the 39.60% top rate does not take into account the 3.8% tax that will be added to this bracket for our new health reform package, or Obamacare as it has been tagged. The top rate will effectively become 43.4%.

This will become one of the largest tax increases in US history folks, and it is 3 ex-dividends away from reality if Congress does nothing. Correct, Congress needs to do absolutely nothing and these new tax rates will automatically take effect on January 1st 2013. Add to that the payroll tax for those still working going up by 2% for the average wage earner because the Social Security tax break will also end.

Take a look at this WSJ article from last September to get your juices flowing.

What Steps Can We Start Thinking About Now

Forbes had an article yesterday (read here) that outlined some of the strategies we can use to mitigate some or part or all of the tax implications for investors.

  • Sell greatly appreciated stocks in 2012 prior to 2013 to take advantage of current rates.
  • Sell those stocks that have risen dramatically NOW, wait 30 days and buy them back at a higher price....paying the current rate on the sale and capital gains, and then owning the stock at higher price points going into 2013
  • If you have a tax deferred account, IRA or Roth IRA, position the dividend stocks in there and divest of them in the taxable accounts. If you are already in them, then you're fine anyway.
  • Several other actions that should be discussed with your tax accountant

I am not a CPA, nor an accountant, nor a tax expert, but at a first glance broad stroke analysis of the tax structure for 2013 and beyond, my opinion is that as regular dividend growth stock investors, we could be paying significantly more in 2013 ( payable in 2014 of course).

The steps mentioned above are not very appealing to many or even most of us, especially those of us who are now retired and relying on the dividends outside of an IRA of any kind.

This article from Morningstar offers investors additional strategies which I believe we should take note of.

I especially like the idea of looking at some Municipal Bonds, value stocks to buy and hold, some tax managed mutual funds, and taking gains against losses more than ever before.

None of this sounds really appetizing, does it? Not to me, but I believe we should begin today, to start thinking of what we can do to reduce our tax burden. Simply because we invest in dividend producing stocks we WILL be paying potentially more taxes in 2013.

In future chapters we will explore all of our options.....and OPTIONS might just be the right answer!

My Opinion

I think I like keeping my head in the sand, but that won't work I suppose. Given the fact that even if a different President or different Congress were to be elected in November this year, they will not take office until late January 2013. The tax hikes take effect at midnight December 31st 2012.

With all of the spending our nation has done, and the unreal budget numbers we are well aware of, we just might have to face the fact that this time, we will have to pay the piper.

In this case it would be our Uncle Sam who gets paid.

Disclosure: I am long XOM, JNJ, GE, NLY, O, KO, SO, T, INTC, PFE.