Monday, February 23, 2015

Winter isn’t the only season before spring

We’re about to close the chapter on the shortest month of the year. Of course, there’s plenty more winter to endure, but I’d much rather look ahead to springtime activities. Especially baseball. The reports on the Tigers coming in from Florida are a daily reminder that winter will soon be a distant memory.

But there’s a season between winter and spring that’s my least favorite. Perhaps yours as well. Tax season. Every year I receive more and more inquiries from readers asking about various provisions of the tax code.

Most of the questions start out something like this: “I don’t have a complex situation, but I don’t understand why…” The questioner then goes into depth about why they’re confused.

Let me remind readers that most financial advisers, including me, can answer tax questions in a general manner. But when you get into specific detailed information about your tax return, I suggest you meet directly with your tax preparer, accountant or CPA.

True, there are some financial advisers that prepare tax returns and some CPAs that are financial advisers. Nonetheless, I suggest most would be better served by not combining the two professions.

Why? Because I believe using both a tax preparer and a financial adviser gives you the benefit of checks and balances. Even though the vast majority of advisers and preparers are people of integrity, if a financial adviser did something inappropriate it would be relatively easy for them to hide it if they also filed your tax return.

Over the years, during the financial planning process, I have also uncovered some tax preparation errors that required attention. That’s why I often encourage meetings with my client, their CPA and myself working as a team. This practice has led to many tremendous solutions to some complex tax planning and investment concerns.

This also works at the corporate level. Some years ago, the giant company, ENRON, collapsed. Their adviser and tax firm were one and the same. In hindsight, perhaps the checks and balances might have prevented or caught the fraud earlier.

In general, I believe most are better served by separating tax preparation and financial services. That being said, I’m deeply concerned that our tax system is far beyond complex. If it’s not already broken, it’s on life support.

For example, most people understand dividends. But there are various kinds of dividends that are taxed differently. I doubt that most people know the difference between an ordinary and a qualified dividend.

And how many really understand the difference between tax credits and tax deductions? There are many more examples of confusing items and terminology in the existing tax code. For example, healthcare is on the tax returns this year. I believe that’s going to add to the confusion.

Historically, there have been many attempts to overhaul our tax system that have never materialized. While there’s no solution that will please everyone, I believe reasonable steps can be taken to simplify the system. Persons who don’t have a complex situation should be able to get through their returns with minimal stress.

Personally, I enjoy various aspects of both seasons. It’s the season between winter and spring- tax season- that I disdain. I find it to be long, stressful and tedious. And I’m confident that many others would agree.

Monday, February 9, 2015

The federal government should not tax 529 programs

With the formation of the Michigan Education Trust in the late 1980s, Michigan was one of the first states to help encourage families to save for college. The Trust is a prepaid tuition program for Michigan families for Michigan universities.

In the early 1990s, Michigan once again was at the forefront of encouraging college educations when it formed the Michigan Education Savings Program, offering what are commonly called 529 College Savings Programs.

In 1994, the Sixth Circuit Court of Appeals upheld the tax- exempt status of these plans. The ruling opened the door for college savings not only for in-state colleges, but also for most universities throughout the nation.

Since then, virtually every other state has followed Michigan’s lead and created 529 College Savings Programs. There are minor differences from state to state, but basically these accounts are started for the benefit of a child.

Most states offer a menu of investment choices ranging from conservative to growth. The invested money compounds tax-deferred and if properly used for educational purposes, withdrawals are tax-free.

In some states, including Michigan, you might be eligible to receive some minor tax benefits on your state tax return. But for the most part, the plans are a disciplined and organized way for families to save for the extremely high cost of education.

One of the reasons I like them so much is that most programs allow small deposits. In an investment environment where many firms won’t even talk to investors unless they have at least $50,000, most 529 College Savings Programs will accept as little as $50.

From personal experience, I have seen birthday money from grandma and grandpa gifted to a child’s account. Think about it, $50 added for future college savings versus a gift card for more stuff that will be long forgotten by the time the child reaches college age.

Contributing to the college savings of a grandchild, niece, nephew or anyone with college aspirations is one of the best things you can do for their future.

At the risk of touching some political nerves, there has been an abundance of proposals geared to helping jump start middle class America. But while many of these “free programs” are for the benefit of the middle class, the fact is that those tax payers in the top tax brackets will be paying for them.

Now understand, I neither agree nor disagree with the proposed shift in taxes to the wealthier. The reason I bring this up is because 529 College Savings Programs are among the casualties of the proposed changes.

As it now stands, any dollars that are withdrawn from a 529 program come out tax free, provided they’re used for legitimate college expenses. One of the proposed changes would make withdrawals taxable.

How that helps middle America is beyond me. Over the years, I have seen young parents, grandparents and even family friends make deposits into college savings programs for a loved one.

Most of us understand the importance of education and are keenly aware of how incredibly expensive it is to get a young adult through college. Unfortunately, many of them will carry their college debt for years.

In my opinion, we should do everything we possibly can to encourage college savings. Making them taxable is not one of them.

NOTE: Prior to the printing of this column, in response to public outcry, the government withdrew any attempt to tax 529 savings.