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Financial StrategiesPlanning Techniques, Procedures and Guidance for Military Professionals
Welcome to the November issue of Financial Strategies. I hope you had a fun Halloween and remember the number one rule.
Any Candy Left Over at Thanksgiving Transfers to Dad.
This issue of Financial Strategies starts with a topic that most military folks think they understand pretty well...State Income Taxes while on Active Duty. But drilling down to the second level there are some things you should consider especially if you are in the transition to the civilian sector.
My quick comment talks about the window for filing your 2013 taxes.
If you're looking for income or diversification in your portfolio you might want to consider Real Estate Investment Trusts (REITS). The third article gives you a primer on them.
The wrap-up articles cover a couple of advanced topics. The first talks about the effects of the Pease Rules on taxes for high income earners and the second covers a sophisticated estate planning tool that may be worth considering if you have a large estate and want to leave the maximum amount to your heirs.
Hard to believe the year is just about over. Enjoy your Thanksgiving and I'll talk to you before Christmas.
Curtis L. Sheldon, EA, AIF®
C.L. Sheldon & Company, LLC
(703)542-400 or (800) 928-1820
Peeling Back the Onion on the SCRA
Most folks on Active Duty have a pretty good idea of how the Servicemember's Civil Relief Act (SCRA, previously known as the Soldiers and Sailors Relief Act) in regards to residency and state income tax. That's why you see so many Florida and Texas license plates on military bases...No State Income Tax. But there is another layer of the onion when it comes to the SCRA. The law states:
50 U.S.C. App. Sec 571(d): INCREASE OF TAX LIABILITY
- A tax jurisdiction may not use the military compensation of nonresident servicemember to increase the tax liability imposed on the other income earned by the nonresident Servicemember or spouse subject to tax by the jurisdiction.
This part of the law could affect your state tax liability in two situations.
- Your Spouse is a resident of the state you are stationed in and has earned income in that state
- You earn income in the state you are stationed in while on terminal leave.
In both cases your family unit may owe state taxes on the income earned from non-military sources. As a reminder...if you work while on terminal leave that income is subject to taxation by the state where it is earned even if you maintain residency in a state that doesn't have an income tax (actually that is true for non-military income earned at any time during your career).
Most states use a formula to apportion income for a non-resident or a couple where one member is a resident. In the two cases above, there will be some income that should be allocated to the state.
In almost all cases your Federal Gross Income will be a part of the calculation. But, if including your military pay in the calculation increases your overall tax bill to the state, you can exclude the military compensation for the calculation and reduce your tax bill. The actual calculations can get a little involved though.
So, what's the point? I suspect that most tax preparation software (or for that matter, tax preparers without experience dealing with military members) will not check to see if military compensation should be excluded when calculating the non-resident allocation. You might want to ask the question or check the math yourself.
The IRS has announced that tax fling season will start late this year. The IRS stated that due to the partial government shutdown, they are behind on testing their software. The IRS also said that the earliest that they will accept returns is 28 January 2014. The start date could move later still.
Of course the due date didn't change. Taxes must be filed by 15 April 2014...
Looking for Income? Consider REITs
For most Americans, an investment in real estate begins and ends with the purchase of a home. Yet investments in commercial real estate -- including shopping centers, office buildings, and hotels -- may be available to investors.
Real estate investment trusts (REITs) allow individuals to invest in large-scale, income-producing real estate. REIT performance has varied historically, with a total annualized return of 11.78% over the past 10 years, and a 19.70% return in 2012.(1)
Types of REITs
There are more than 100 publicly traded REITs, according to the National Association of REITs (NAREIT).
- Equity REITs, which directly own real estate assets, make up most of the market.
- Mortgage REITs loan money to real estate owners or invest in existing mortgages or mortgage-backed securities.
- Hybrid REITs combine the investing strategies of both equity and mortgage REITs.
REITs resemble closed-end mutual funds, with a fixed number of shares outstanding. REITs are also traded like closed-end funds, offering a price per share. Unlike a closed-end fund, however, REITs measure performance by funds from operations (FFO) rather than by net asset value. FFO is defined as net income plus depreciation and amortization, excluding gains or losses from debt restructurings and from sales of properties. REITs' growth benchmark is FFO growth, while valuation is reflected in an FFO multiple (share price divided by FFO) rather than in a price-to-earnings ratio.
The REIT Appeal
REITs offer a number of potential advantages, including the following.
- Diversification: REITs can help to diversify an equity portfolio weighted to stocks in other industries. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not ensure against market risk.
- Built-in management: Each REIT has a management team, sparing investors the effort of researching each property's management team.
- Liquidity: Because REIT shares are traded on the major stock exchanges, they are more readily converted into cash than direct investments in properties. Like direct property investments, REITs may lose value.
- Tax advantages: REITs pay no federal corporate income tax and are legally required to distribute at least 90% of their annual taxable income as dividends, eliminating double taxation of income. Investors can also treat a portion of REIT dividends as a return of capital, although those classified as dividends are taxed at ordinary rates.
Weighing the REIT Risks
As with all investments, REITs have specific risks that are worth considering.
- Lack of industry diversification. Some REITs limit diversification even further by focusing specifically on niche developments such as golf courses or medical offices.
- Potential changes in the value of underlying holdings. These changes can potentially be influenced by cash flow of real estate assets, occupancy rates, zoning, and other issues.
- Concern about performance metrics. Critics contend that FFO could be misleading because it adds depreciation back into net income. NAREIT counters that real estate values fluctuate with the market rather than depreciate steadily over time, making FFO a realistic performance measure. Also, REITs may average the rent they will receive over a lease's lifetime rather than report actual rent received, which critics say can further cloud performance figures.
- Interest rate sensitivity. If rates and borrowing costs rise, construction projects with marginal funding may be shelved, potentially driving down prices across the REIT industry.
- Environmental liability. Companies in the real estate industry are subject to environmental and hazardous waste laws, which could negatively affect their value.
REITs can be a way to add total return potential to a diversified, long-term portfolio. Your financial advisor can help you decide whether an allocation to a REIT could help you pursue your financial goals.
The information in this communication is not intended to be financial or tax advice and should not be treated as such. Each individual's situation is different. You should contact your financial and/or tax professionals to discuss your personal situation.
(1)Source: NAREIT Equity REIT Index, for the period ended December 31, 2012. Past performance is not a guarantee of future results. Individuals cannot invest directly in an index.
Because of the possibility of human or mechanical error by S&P Capital IQ Financial Communications or its sources, neither S&P Capital IQ Financial Communications nor its sources guarantees the accuracy, adequacy, completeness or availability of any information and is not responsible for any errors or omissions or for the results obtained from the use of such information. In no event shall S&P Capital IQ Financial Communications be liable for any indirect, special or consequential damages in connection with subscriber's or others' use of the content.
© 2013 S&P Capital IQ Financial Communications. All rights reserved.
From the Financial Presses
Don't Be Shocked If Your Tax Deductions Are Slashed
Start with the new top regular tax bracket of 39.6%, mix in a higher maximum tax rate of 20% on long-term capital gains, and then add on the new 3.8% Medicare surtax for certain investors. You can see why you tax bill is likely to be higher. However, when you add in another significant new tax on upper-income individuals, the result could be a real shocker. This new rule, called the Pease Limit, among tax professionals, means that many of the itemized deductions you have used year after year to offset highly taxed income could be reduced....(Read More Here)
Why Do GRATs Remain In Such High Demand?
The "death" of the grantor-retained annuity trust-commonly known as a GRAT-has been greatly exaggerated. In fact, GRATs may be reaching their zenith in popularity due to recent developments. Nevertheless, you are well advised to keep an eye on a revenue-hungry Congress which in the past has threatened to reduce or eliminate GRAT benefits....(Read More Here)
|Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by C.L. Sheldon & Company, LLC ), or any non-investment related content, made reference to directly or indirectly in this newsletter will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this newsletter serves as the receipt of, or as a substitute for, personalized investment advice from C.L. Sheldon & Company, LLC . To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. C.L. Sheldon & Company, LLC is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice. A copy of the C.L. Sheldon & Company, LLC 's current written disclosure statement discussing our advisory services and fees is available for review upon request.
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