There is no question that December finds many of us fully immersed in the holiday season.  Whether it is searching for the perfect gift or finalizing travel plans, spending time with family and friends is our highest priority.  However, if we can spare a few minutes between shopping and family photos, there is still time to take advantage of many tax saving strategies.

The transition from 2011 to 2012 lacks the same drama and uncertainty we experienced during the end of 2010.  There is no significant tax legislation effective January 1, 2012.  However, there are a few notable provisions scheduled to expire at the end of 2011 unless Congress decides to take action. 

Provisions Expiring at the end of 2011:

• The option to deduct state sales tax will not be available after 2011.  If you find yourself considering the purchase of a big-ticket item, you may want to accelerate the purchase into 2011 in order to assure an itemized deduction option for the sales tax.

• 2011 may be the last year that taxpayers age 70 ½ or older are able to make charitable contributions of up to $100,000 directly from their IRAs and avoid including that amount of the required minimum distribution in taxable income.

• Unlike the regular tax system, the alternative minimum tax (AMT) system is not regularly adjusted for inflation.  Congress must legislate any adjustments.  Typically, they have done this through a “patch” which increases the amount of income exempt from AMT.  The patch increased the AMT exemption to $74,450 for joint filers during 2011.  Currently, there is no patch in place to increase the exemption for 2012.  Therefore, if Congress does not act, the AMT exemption will return to $45,000 for joint filers.  This will result in approximately 25 million additional taxpayers becoming subject to AMT in 2012. 

Year-end planning involves some educated guesswork because we have to consider two years at the same time.  Tax rates will remain relatively the same, at least for another year.  Therefore, if you believe your 2012 income will be similar to that in 2011, it may be beneficial to defer as much income as possible from this year to the next.  The complicating factor is the uncertainty over whether Congress will act before the top tax rates are scheduled to return to 39.6% after 2012.  As always, we will monitor this situation closely and provide you with regular updates.  Until then, we will focus on the current tax saving strategies available to you during the next few weeks.

Strategy:  Postponing Income & Accelerating Deductions

A key portion of year-end planning focuses on income timing decisions.  The last month of the year may be the time to consider postponing income and accelerating deductions.  If you believe your income and deductions will be comparable during 2012, this strategy may allow you to defer taxes to next year since tax rates are relatively stable from 2011 to 2012. 

In order to delay income to the following year, you may be able to:

• Defer year-end bonuses;

• Defer the sale of capital gain property;

• Defer the receipt of IRA distributions (other than RMDs) until January 1^st. 

To accelerate deductions into this year:

• Consider maximizing the use of itemized miscellaneous expenses and/or medical expenses by bunching such expenses in the same year to the extent possible.  This will allow you to meet the required threshold percentages of adjusted gross income (AGI).

• Consider making your January mortgage payment in December in order to deduct the interest paid in the current year.

• Consider paying 2012 property taxes in 2011.

• Consider making next year’s charitable contributions this year.  You may use a credit card to make contributions to ensure they can be deducted in the current year.  Securities with an unrealized gain which you have held more than one year can be one of the best charitable gifts.  You are able to deduct the current fair market value (FMV) and avoid the capital gains tax that you would have paid if you sold the security.  On the contrary, if you have an unrealized loss in the security, you will want to sell it first to recognize the loss and then contribute the proceeds to charity. 

If you believe AMT could be an issue for you, it is important that you exercise caution before utilizing the above strategies.  Certain itemized deductions are not allowed when determining AMT, such as the deduction for property taxes.  Other deductions, such as medical expenses and miscellaneous expenses have higher threshold percentages of AGI for AMT purposes.

Strategy:  Roth Conversions

If you have not made a Roth conversion, doing so at year-end 2011 or even 2012 might be an opportunity worth serious consideration.  If tax rates are expected to increase after 2012, you will want to recognize the income from the conversion before the rates increase.  Please keep in mind that there are many factors to consider when determining if a Roth conversion is right for you. 

Consider the following:

• Your age;
• Your retirement date;
• Your present income tax bracket;
• Your ability to access non-IRA funds to pay the conversion tax; and
• Your ability to postpone distributions from your Roth IRA for at least 5 years.

If you converted an IRA to a Roth IRA during 2010 and took advantage of the income deferral to 2011 and 2012, please remember to factor this additional income into your year-end planning. 

Strategy:  Roth Conversion Recharacterization

If you made a Roth conversion during 2011 and that account balance has significantly declined in value, you may want to consider recharacterizing the conversion.  This will “reconvert” your Roth IRA back to a regular IRA and allow you to avoid paying income tax on the higher account value.  You will be able to convert back to a Roth IRA at a later date.

Strategy:  Advantages of Federal Income Tax Withholding

Year-end planning also involves ensuring that you have paid in sufficient income taxes during the year to avoid an underpayment penalty.  If you believe that you did not pay in enough with your quarterly estimated tax, you still have an opportunity to avoid having the IRS assess an underpayment penalty.  If your income consists of wages and other income, you have the option to request that your employer increase your federal income tax withholding.  Even though the additional withholding will not be submitted until this month, it will be treated as if it were withheld evenly throughout the year.

If you do not have wage income, you still have the ability to take advantage of federal income tax withholding.  You have the option to take an IRA distribution and withhold the amount you believe you have underpaid for the year.  You would then immediately “redeposit” the entire distribution amount (including withholding) back into your IRA account.  The distribution will not be included in your taxable income as long as it is redeposited within 60 days.  However, the amount withheld will be treated as if it were paid evenly throughout the year and you will avoid any underpayment penalty.  Even though you have 60 days to redeposit the funds, it is recommended that you do so before the end of the year.  You are only allowed to redeposit funds once in any 12 month period.  Therefore, if you would like the option to utilize this strategy next year, you will need to have the funds redeposited before December 31^st. 

Estate & Gift Tax 2012 Inflation Adjustments

The unified estate and gift tax exemption for 2012 will be $5,120,000.  This is an increase of $120,000 from the 2011 amount.  The estate tax exemption is scheduled to return to the $1,000,000 limit established under previous law after 2012.

The gift tax annual exclusion will remain at $13,000 for 2012.

Planning for Future Changes

Beginning in 2013, high income individuals may be subject to a new 3.8% Medicare contribution tax on unearned income under the Health Care Reform Bill.  The tax is equal to 3.8% of the lesser of:

• Your net investment income (generally, net income from interest, dividends, annuities, royalties and capital gains, as well as income from a business that is considered a passive activity), or

• The amount of your modified adjusted gross income that exceeds $250,000 for married filing joint or $200,000 for a single filer.

Fortunately, qualified retirement plan and IRA distributions are not considered investment income.  This new tax is also imposed on estates and trusts, although slightly different rules apply. 

2013 Worse Case Scenario:

• The highest ordinary tax rate returns to 39.6%;
• Qualified dividends are once again taxed at ordinary rates; and
• The Medicare contribution tax is not repealed.

If you meet the income thresholds mentioned above, you may have a tax rate as high as 43.4% (39.6% + 3.8%) on certain income.

There is no question that Congress has to tackle some very difficult issues next year.  Their track record for compromising and passing legislation has not been very encouraging.  Next year is an election year and we can be certain that the post-2012 expiration of the Bush-era tax cuts, the expiration of the favorable estate and gift tax rules, and the consequences of the Health Care Reform Bill will be the topic of every campaign.  However, the real question is will Congress pass legislation before the end of 2012 or will they leave us scrambling a year from now while we attempt to plan for 2013?  We will be closely monitoring our legislators during the new year and ensure you have the information necessary to make informed decisions.

Kanaly Trust wishes you and your family a very happy, healthy and prosperous New Year!  If you have any questions regarding this information, please do not hesitate to contact us.

For now, the markets can focus on upcoming economic data rather than speculating about the Fed's next move.  To that end, next Friday brings the August employment report.  The Bloomberg consensus expects a positive 75,000 change in nonfarm payrolls, with the unemployment rate remaining at 9.1%.  Given the slow growth of the U.S. economy and recent uptick in weekly unemployment claims, the risk is to the downside for the employment report.

The good news is that the equity markets broke a string of four straight weekly losses to gain about 5% this week, while gold broke a string of seven weekly gains.   

Drew elaborated on the recent low levels of market volatility as well as the declining dollar and what this means for investors. He believes that now is absolutely the time to be ultra-diversified and to move your portfolio away from the risk trade. Drew suggested dividend-paying stocks, short duration fixed income and Master Limited Partnerships.

Watch the segment

Lehmann is a Certified Public Accountant and possesses over 30 years of financial services, investment management and merger and acquisition experience. Lehmann is currently a director of Republic Services, Inc. (NYSE:RSG), and his previous experience includes serving on the boards of five other NYSE and five NASDAQ companies.  He has also achieved the CIMA  (Certified Investment Management Analyst) and RIA (Registered Investment Advisor) designations during his career. 

“We are pleased to have Nolan join our board and lend us his expertise based on a career of stewarding both businesses and investors’ best interests.  His pedigree will help us continue to offer our clients the finest service and care when it relates to their family’s assets,” asserts Drew Kanaly, Chairman and CEO of Kanaly Trust.

Other continuing members of the Board of Directors of Kanaly include Mr. Eugene A. Schwinger, Mr. H. Michael Tyson and Mr. Edward S. McCullough.  These experienced and respected individuals will continue to be instrumental in overseeing the activities of the outstanding management team which Kanaly has assembled over the years.    

“I am excited to join the Board of Directors at Kanaly Trust. I have admired this firm for a long time, and have the utmost respect for its investment expertise and its track record.  I hope I will be able to assist in new product and business development, including potential alternative investments.  I am confident the firm will continue to exemplify everything that Kanaly Trust stands for,” offered Lehmann.  

About Kanaly Trust

E. Deane Kanaly opened the Kanaly Trust Co. (Houston) in 1975 with the intent of changing the way people take care of their financial affairs. Today, Kanaly Trust is a wealth management firm with nearly $2 billion in assets under management. In addition to asset management, the company provides complete financial planning and trust/estate services to families, individuals and estates, totaling more than $4 billion, and works closely with clients worldwide. The firm is independent of any banking or corporate relationships and does not promote specific financial products or services.  For more information, visit www.kanaly.com.   

First, we would advise against participating in the panic-driven selling that is occurring at the moment, especially if you can afford to take a longer term view.  The selloff has spared very few stocks , and the prices of many companies with strong fundamentals have been overly punished in our view.   This kind of market action is an indication of sudden fear, and as that fear dissipates, we should expect a rally.  In addition, it remains possible that this is simply a stiff correction within the bull market that began in March 2009.

However, there are plenty of reasons to be concerned.  The U.S. economy is barely growing, and while this morning's release of July employment figures was better than most expected, we clearly need to see much improved data to remove the increasing risk of another recession.  In addition, the European debt crisis continues to worsen, threatening the banking system and prospects for global growth.  Finally, the upward trend of the markets has been broken, and declines of this magnitude should be taken as a warning of further declines to come.

So what is our investment strategy?  First, the key to long term wealth preservation and growth is risk management.  Protection against market turmoil should be built into portfolios prior to the storm.  As such, we have taken actions in recent months to get more defensive, including reducing positions in small cap stocks, emerging markets and commodities.  We have also shifted equity exposure more in favor of large, high dividend paying companies.  We would recommend taking advantage of a market rally to further reduce risk and move into defensive sectors.

Second, it appears to us that interest rates will remain very low for quite some time.  Global economic concerns, lack of pro-growth policies in much of the developed world, and the widely-held view that U.S. Treasuries are a safe haven  will create downward pressure on interest rates, despite threats of a U.S. credit rating downgrade (which would normally cause rates to rise).  High unemployment and the need to reduce high levels of debt around the globe should keep inflation at bay.  A a result, we advise against betting on higher inflation and interest rates over the near term.  Investors should avoid high yield corporate debt and focus on higher credit quality fixed income.

• Economic growth to pick up modestly due to several factors.
• The housing market weakness and high unemployment remain major obstacles to growth.
• The global bull market remains intact but is likely entering the latter stages.
• Strong earnings growth and potential for an end to the soft patch could spark a rally once the debt ceiling is lifted.
• Favor growth stocks and dividend payers as comparisons become more challenging.
• The European debt crisis and budget negotiations remain primary risks to our outlook.

Watch a recording of the webinar.

Drew joined host, Neil Cavuto, to discuss how important the success of this year’s earnings season is in relation to the debt ceiling. He explained that Wall Street is focused on money making deals and two-thirds of all reported corporate earnings have beaten estimates thus far. Regarding the debt ceiling, he suggested that the “big show” will not be until 2012. 

Watch the segment.

Drew offered his thoughts in regard to the debt ceiling and how investors can protect their portfolios during these volatile times. He discussed gold as it continues to reach record highs, suggested avoiding long-term treasuries and confirmed that Kanaly Trust is ultra-diversified and positioned long term.

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Most well-diversified portfolios have some exposure to technology and higher than expected 2Q earnings are "a very good sign for the technology sector going forward," James explained during the segment. In addition, he is confident that Washington will raise the debt ceiling and believes that if earnings season is strong, it may help offset European concerns.

Watch the segment.

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