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Insights & Ideas

Tax Smart Investing

For many investors, it isn't what you earn that counts in the end, but what you get to keep — your after-tax return. Taxes are inevitable, but long-term, tax-smart investing strategies may help you keep more of what you earn. Keep in mind that your primary concern should be to have a well-diversified portfolio of investments that supports your growth and income objectives.

Remember, it is always wise to consult your tax advisor when making investment decisions regarding possibly lowering your tax bill.

Tap the Power of Tax Deferral

There are a number of tax-deferred savings vehicles available to you as an investor, such as IRAs, 401(k)s, 403(b)s, and 529 plans. The chart below will help you understand why these investments are so important in helping you achieve your financial goals. In a comparison of two identical investments of $100,000 over a 20-year period, the difference tax-defferral would have made is substantial. After 20 years of investing you would have $200,000 more than if you had invested in a taxable account. Of course, you will be subject to taxes at the time of withdrawal from the tax-deferred account.

The Advantage of Tax Deferral

Maximize Your Contributions to Your Retirement-Sponsored Retirement Plans

If you're eligible, sign up as soon as possible for your employer-sponsored retirement plan, such as a 401(k) or 403(b). Try to max out your contribution and put in at least enough to take advantage of your employer's matching contributions. Learn more about 401(k) and 403(b) Accounts.

This information is general in nature and is not intended to constitute tax advice. Please consult your tax advisor for more detailed information on tax issues and for advice on your specific situation.

Consider an IRA

As long as you or your spouse has income from work, you may be eligible to contribute to an IRA. Just like employer-sponsored plans, IRAs also offer tax-deferred savings while typically providing for a much wider investment selection. Learn more about IRAs.

For those who aren't eligible for a traditional IRA or a Roth IRA, an annuity may be right for you. This alternative retirement investment offers tax-deferred growth during the accumulation phase with a wide range of investment options. Learn more about annuities.

For investors who are small business owners or employees of a small business, a SEP IRA allows you to invest money towards your retirement in a tax-deferred account. Sole proprietors can contribute up to 20% of their profits from self-employment, and owners of incorporated businesses can contribute up to 25%. Employee contributions to SEP-IRAs are subject to the same limitations placed on traditional or Roth IRAs, and depending on income and other factors, contributions to traditional IRAs can be either deductible or nondeductible. Learn more about SEP IRAs.

There are significant current income tax penalties for non-qualified distributions from IRAs. These include a 10% federal penalty tax and 20% withholding tax if withdrawn prior to age 59½. Please consult your tax advisor to determine if an IRA is a suitable investment for you.

This information is general in nature and is not intended to constitute tax advice. Please consult your tax advisor for more detailed information on tax issues and for advice on your specific situation.

Remember the Alternative Minimum, Gift and Estate Tax

Beware of the Alternative Minimum Tax (AMT)

The AMT was originally created in the late 1960's to prevent very wealthy people from living tax-free. Because it was never indexed for inflation, many middle-income taxpayers are finding that they also owe the AMT - particularly if one or more of the following apply:

  • Income over $75,000 and some large itemized deductions
  • Several children
  • Interest deductions from second mortgages
  • Interest from specified tax-exempt private activity bonds
  • High state and local taxes
  • Realized gains on incentive stock options


Investors already affected by the AMT, or those who are close to it, should consider speaking with a tax advisor or other professional to find out what steps they can take for better AMT planning.

Consider Charitable Contributions

For taxpayers that itemize their deductions, there may be a great way to write off your charitable gifts. Instead of giving cash to your favorite charity, consider donating stocks that you purchased some time ago that are now worth more than their original purchase price. This way, you can deduct the full market value of the stock and you won't be hit with any capital gains taxes. Note that this strategy is only helpful when you donate stocks that are worth more than their original purchase price. For stocks that are worth less, you should consider selling them and using your losses to offset your gains.

Think Before You Sell

There are several reasons your capital gain distributions - and your tax bill — could rise, even if you don't sell your fund shares:

  • Your equity fund's portfolio manager sells securities that have significantly appreciated in value, resulting in a large capital gain distribution.
  • Your fund has a high portfolio turnover rate, which may increase the fund's capital gain distribution.
  • Other fund investors redeem their shares, forcing the portfolio manager to sell securities — which could trigger a taxable event for you — so these investors can "cash out" of the fund.

If your capital gain distributions go up, perhaps you should think twice before you redeem any of your shares to pay your tax bill. Why? Because you may incur short- or long-term capital gains by selling shares, which could increase your tax burden even more.

Investors should consider the investment objectives, risks, charges, and expenses of a fund carefully before investing. Download a prospectus, or summary prospectus, if available, that contains this and other information about a fund, and read it carefully before investing.