2016 Federal Income Tax Planning

AICPA PFP Sandra Truitt 220 Leigh Farms Road Durham, NC 27707 919-490-4394 [email protected]

June 20, 2016 Page 1 of 17, see disclaimer on final page The Tax Planning Environment in 2016

While more than 15 major pieces of tax • Personal and dependency exemptions legislation have been enacted into law since phase out at higher incomes, and itemized 2000, the current tax planning environment deductions may be limited has been heavily shaped by the American • "Marriage penalty" relief is now permanent Taxpayer Relief Act of 2012, passed in in the form of an increased standard January 2013, and the Protecting Americans deduction for married couples and an from Tax Hikes (PATH) Act of 2015, passed expanded 15% federal income tax bracket late last year. • Expanded tax credit provisions relating to Together, these legislative acts made the dependent care tax credit, the adoption permanent a number of significant tax tax credit, and the child tax credit provisions that had previously existed only in • Increased limits and more generous rules temporary form, and introduced new rates and of application relating to certain education limitations that target high-income individuals. provisions, including Coverdell education But while a host of popular tax benefits savings accounts, employer-provided commonly referred to as "tax extenders" are education assistance, and the student loan 2015 federal income tax now permanent fixtures in the tax code, others interest deduction return filing deadlines for were simply extended, some only through the • Individuals age 70½ or older can make most individuals: 2016 tax year. As a result, 2016 tax planning qualified charitable distributions (QCDs) • Monday, April 18, 2016 takes place in a relatively stable tax from their IRAs, and exclude the • Tuesday, April 19, 2016, if environment, with some small degree of distribution from gross income (up to you live in Massachusetts uncertainty regarding the potential availability $100,000 in a year); QCDs count toward or Maine of specific provisions heading into the 2017 satisfying any required minimum • Monday, October 17, tax year. distributions (RMDs) that would otherwise 2016, if you file for an have had to be made from the IRA automatic six-month Permanent provisions extension by the original • Individuals who itemize deductions on due date Schedule A of IRS Form 1040 can elect to These provisions are now part of the deduct state and local general sales taxes permanent tax landscape: in lieu of the deduction for state and local income taxes • The six individual federal income tax rates • The maximum amount that can be (10%, 15%, 25%, 28%, 33%, and 35%) expensed by a small business owner under that had existed in temporary status for IRC Section 179 rather than recovered more than a decade, and a top 39.6% tax through depreciation deductions is rate that applies to those with the highest $500,000, reduced by the amount by which incomes the cost of qualifying property placed in • Special maximum tax rates generally apply service during the year exceeds to long-term capital gains and qualified $2,010,000 (2016 figures; will be adjusted dividends; the rate is 0%, 15%, or 20% for inflation in future years) depending on your federal income tax bracket • Higher alternative minimum tax (AMT) exemption amounts are in effect and adjusted for inflation; the AMT is essentially a parallel federal income tax system with its own rates and rules, and the higher exemption amounts and other related provisions significantly limit the reach of this tax

Page 2 of 17, see disclaimer on final page Other "tax extender" provisions

Provision Summary Status American The American Opportunity Tax Credit is a modified Made permanent Opportunity Tax version of the original Hope Credit, with a higher Credit maximum credit amount ($2,500 per eligible student per year), more years of education covered, and an increased income phaseout range. A portion of the credit is also refundable. Bonus An additional 50% first-year depreciation deduction is Extended through depreciation available for property placed in service during the taxable 2019 as modified year. (The bonus percentage is reduced to 40% in 2018 and 30% in 2019.) Child tax credit The refundable portion of the child tax credit (the Made permanent "additional child tax credit") can generally be up to 15% of earned income over $3,000. Credit for A 10% credit is available for the purchase of certain Extended through nonbusiness energy-efficiency improvements, including qualifying 2016 energy property insulation, roofing, windows, and doors; specific credit amounts apply for the purchase of specified energy-efficient property, like qualified furnaces and hot water boilers. A $500 lifetime cap applies (no more than $200 can apply to the purchase of windows). Deduction for You may be entitled to a deduction if you paid qualified Extended through qualified higher-education expenses during the year--this includes 2016 higher-education tuition and fees (for yourself, your spouse, or a expenses dependent) for enrollment in a degree or certificate program at an accredited post-secondary educational institution. The maximum deduction is generally $4,000. Limitations based on adjusted gross income (AGI) apply. Deduction for If you're an educator, you can claim up to $250 of Made permanent classroom unreimbursed qualified classroom expenses you paid expenses paid by during the year as an "above-the-line" deduction. educators Qualifying expenses include the cost of books, most supplies, computer equipment, and supplementary materials used in the classroom. Starting in 2016, qualifying expenses also include qualifying professional development expenses. Teachers, instructors, counselors, principals, and aides for kindergarten through grade 12 are eligible, provided a minimum number of hours are worked during the school year. Deduction for Premiums paid or accrued for qualified mortgage Extended through mortgage insurance associated with the acquisition of your main or 2016 insurance second home can be treated as deductible qualified premiums residence interest on Schedule A of IRS Form 1040, subject to AGI limitations. Discharge of Individuals are able to exclude from gross income the Extended through qualified personal discharge of up to $2 million ($1 million if married filing 2016 residence debt separately) of qualified principal residence indebtedness--debt incurred in acquiring, constructing, or substantially improving a principal residence. Refinanced qualified principal residence debt that is discharged can also qualify for the exclusion. Earned income Credit percentage is increased for families with three or Made permanent tax credit more qualifying children, and the income threshold phaseout range is increased for married couples filing joint returns.

Page 3 of 17, see disclaimer on final page Mass transit The monthly exclusion for employer-provided transit pass Made permanent benefits and vanpool benefits is set to the same level as the exclusion for employer-provided parking ($255 monthly for 2016). Qualified 100% of capital gain from the sale or exchange of Made permanent small-business qualified small-business stock acquired at original issue stock during the tax year can be excluded from income provided that certain requirements, including a five-year holding period, are met.

Income Tax Fundamentals What is "gross income"? payments for injury or sickness, certain employment fringe benefits, certain military Your gross income is the total income pay and benefits, interest on some state and reported on your tax return, and includes local bonds, and limited gain on the sale of a items such as wages, taxable interest, principal residence. In some cases, income is dividends, and capital gains. Basically, unless specifically excluded if certain conditions are a type of income is specifically excluded by met. For example, Social Security benefits the Internal Revenue Code, it is included in may be excluded from income, but a portion of determining gross income. benefits is included once your income reaches More than 147 million a certain level. Earnings within certain individual federal income tax Internal Revenue Code (IRC) Section 61(a) tax-advantaged savings vehicles like IRAs, returns were filed for the 401(k) plans, and 529 plans are excluded from 2013 tax year. defines gross income as: [...] all income from whatever source derived, including (but not current income, provided certain criteria are Source: Table 1, Individual met. Income Tax Returns: limited to) the following items: Selected Income and Tax Items (based on tax year 1. Compensation for services, including What is "taxable income"? 2013 preliminary data), fees, commissions, fringe benefits, and www.irs.gov, 4/6/15 similar items You start with your gross income, then 2. Gross income derived from business subtract your adjustments to income--sometimes called "above-the-line" 3. Gains derived from dealings in property deductions--to determine your adjusted gross 4. Interest income (AGI). Adjustments to income may 5. Rents include deductions for student loan interest, moving expenses, and contributions to health 6. Royalties savings accounts and traditional IRAs. 7. Dividends 8. Alimony and separate maintenance You're generally also able to take a standard payments deduction amount that's based on your filing 9. Annuities status. If you choose, you can itemize deductions on IRS Form 1040, Schedule A, 10. Income from life insurance endowment rather than claiming the standard deduction. contracts Itemized deductions include deductions for 11. Pensions medical expenses, mortgage interest, state 12. Income from discharge of indebtedness and local taxes, and charitable contributions. 13. Distributive share of partnership gross You're also able to claim specific dollar income exemptions for yourself, your spouse (if you 14. Income in respect of a decedent are married and file a joint return), and your 15. Income from an interest in an estate or dependents. Subtracting adjustments to trust income, deductions, and exemptions from your gross income results in your taxable What's not included in gross income? Items income, which is used to calculate your that are specifically excluded from gross federal income tax. income include gifts and inheritances, life insurance death benefits, scholarships,

Page 4 of 17, see disclaimer on final page Basic Standard Deduction Amounts Single

Filing status 2015 2016 To use the single status, you must be unmarried or separated from your spouse by Married filing jointly $12,600 $12,600 either divorce or a written separate or qualifying maintenance decree on the last day of the widow(er) year.

Head of household $9,250 $9,300 Married filing jointly Single $6,300 $6,300 Generally, you must be married and living with Married filing $6,300 $6,300 your spouse; you can be married and living separately apart provided that you are not legally separated under a divorce decree or separate maintenance agreement. When filing jointly, The federal income tax Personal Exemption Amounts you and your spouse combine your income, system is progressive, with exemptions, deductions, and credits. higher tax rates applying as 2015 2016 the level of taxable income Married filing separately increases. There are seven tax rate brackets ranging $4,000 $4,050 from 10% to 39.6%. You must be married on the last day of the year. Here, you'd report only your own income Note: Itemized deductions are limited, and and claim only your own deductions and personal exemptions are phased out, for credits. high-income individuals (for 2016, individuals filing single with AGI exceeding $259,400; Head of household married individuals filing jointly with AGI exceeding $311,300; head of household filers You must be a U.S. citizen or resident alien for with AGI exceeding $285,350; and married the entire year and: (1) be unmarried at the individuals filing separately with AGI end of the year (an exception applies if you exceeding $155,650). Additional standard live apart from a spouse and meet certain deduction amounts are available for those 65 criteria); (2) maintain a household for your and older or blind. Special rules apply if you child, dependent parent, or other qualifying can be claimed as a dependent by someone dependent relative (the household must be else. your home and generally the main home of the qualifying individual for more than half of Choosing an income tax filing the year); and (3) provide more than half the status cost of maintaining the household. Qualifying widow(er) with dependent child Your filing status is especially important because it determines, in part, the tax rate To claim this filing status, all of the following applied to your taxable income, the amount of must be true: (1) your spouse died in either your standard deduction, and the types of the last tax year or the tax year before that; (2) deductions and credits available. Because you you qualified to file a joint return with your may have more than one option, make sure spouse for the year he or she died; (3) you you understand the qualifications. Your filing have not remarried before the end of the tax status is determined as of the last day of the year; (4) you have a qualifying dependent tax year (December 31). There are five child; and (5) you provide over half the cost of possible filing statuses: keeping up a home for yourself and your qualifying child.

Page 5 of 17, see disclaimer on final page Determining your tax

The federal income tax system is progressive, with higher tax rates applying as the level of taxable income increases. There are seven tax rate brackets ranging from 10% to 39.6%. A tax rate bracket is the tax rate that applies to a specified range of taxable income. For example, if you file as single for 2016, the first $9,275 of your taxable income is taxed at a rate of 10%, but the next dollar in taxable income is taxed at a rate of 15%. You'll generally calculate your tax by looking up your taxable income in a tax table, or by using a tax rate schedule specific to your filing status.

There are, however, a number of complicating factors in determining the correct amount of tax. For example, special rules and rates apply to long-term capital gains and qualified dividends. You might also be affected by the alternative minimum tax (AMT), rules that apply to a child's unearned income (i.e., the "kiddie tax" rules), or the 3.8% net investment income tax that applies on the unearned investment income of some high-income individuals. Fundamentals at a glance

Page 6 of 17, see disclaimer on final page 2016 Federal Income Tax Rates for Individuals

Single taxpayers

If taxable income is: Your tax is: Not over $9,275 10% of taxable income Over $9,275 to $37,650 $927.50 + 15% of the excess over $9,275 Over $37,650 to $91,150 $5,183.75 + 25% of the excess over $37,650 Over $91,150 to $190,150 $18,558.75 + 28% of the excess over $91,150 Over $190,150 to $413,350 $46,278.75 + 33% of the excess over $190,150 Over $413,350 to $415,050 $119,934.75 + 35% of the excess over $413,350 Over $415,050 $120,529.75 + 39.6% of the excess over $415,050

Married filing jointly and qualifying widow(er)

If taxable income is: Your tax is: Not over $18,550 10% of taxable income Over $18,550 to $75,300 $1,855 + 15% of the excess over $18,550 Over $75,300 to $151,900 $10,367.50 + 25% of the excess over $75,300 Over $151,900 to $231,450 $29,517.50 + 28% of the excess over $151,900 Over $231,450 to $413,350 $51,791.50 + 33% of the excess over $231,450 Over $413,350 to $466,950 $111,818.50 + 35% of the excess over $413,350 Over $466,950 $130,578.50 + 39.6% of the excess over $466,950

Married individuals filing separately

If taxable income is: Your tax is: Not over $9,275 10% of taxable income Over $9,275 to $37,650 $927.50 + 15% of the excess over $9,275 Over $37,650 to $75,950 $5,183.75 + 25% of the excess over $37,650 Over $75,950 to $115,725 $14,758.75 + 28% of the excess over $75,950 Over $115,725 to $206,675 $25,895.75 + 33% of the excess over $115,725 Over $206,675 to $233,475 $55,909.25 + 35% of the excess over $206,675 Over $233,475 $65,289.25 + 39.6% of the excess over $233,475

Heads of household

If taxable income is: Your tax is: Not over $13,250 10% of taxable income Over $13,250 to $50,400 $1,325 + 15% of the excess over $13,250 Over $50,400 to $130,150 $6,897.50 + 25% of the excess over $50,400 Over $130,150 to $210,800 $26,835 + 28% of the excess over $130,150 Over $210,800 to $413,350 $49,417 + 33% of the excess over $210,800 Over $413,350 to $441,000 $116,258.50 + 35% of the excess over $413,350 Over $441,000 $125,936 + 39.6% of the excess over $441,000

Page 7 of 17, see disclaimer on final page Deductions "Above" vs. "below" the line 2016 Standard Deduction Amounts

Adjustments to income are deductions that are Filing Status / Factors 2016 subtracted from your total, or gross, income to arrive at your adjusted gross income (AGI). Married filing jointly or qualifying $12,600 These deductions are often described as widow(er) "above-the-line" deductions because they are Head of household $9,300 factored in above the line on which AGI is calculated. Note that you can claim any Single $6,300 above-the-line deductions to which you are entitled regardless of whether you itemize Married filing separately $6,300 deductions on IRS Form 1040, Schedule A. Additional deduction for age 65+ $1,550 or blind (single or head of Common "above-the-line" deductions household) • Educator expenses • Health savings account deduction Additional deduction for age 65+ $1,250 or blind (all other filing statuses) • Moving expenses • Deductible part of self-employment tax • Contributions by self-employed Example: For tax year 2016, Jack, 62, and individuals to SEP, SIMPLE, and Jill, 47, are married filing jointly. Neither is qualified plans blind. They decide not to itemize their deductions. Their standard deduction is • Health insurance deduction $12,600. If Jack was blind, their standard (self-employed individuals) deduction would be $12,600 plus $1,250, or • Alimony paid $13,850. If both were blind, their standard • Deductible contributions to a traditional deduction would be $12,600 plus $2,500, or IRA $15,100. If both were blind and Jack was also 65, their standard deduction would be $12,600 • Student loan interest deduction plus $3,750, or $16,350. If both were over 65 • Deduction for qualified higher-education and blind, their standard deduction would be expenses (tuition and fees)* $12,600 plus $5,000, or $17,600. *Available for 2016, but not for 2017 (absent new legislation) Note: If you can be claimed as a dependent on another taxpayer's tax return, your Other deductions are factored in after AGI is standard deduction in 2016 is generally limited calculated. It's important to note that these to the greater of (a) $1,050 or (b) the sum of "below-the-line" deductions provide a tax $350 and your earned income for the year but benefit only if you itemize deductions on not more than the standard deduction you Schedule A, and generally only if your could otherwise have claimed (if you could not Schedule A itemized deductions are greater be claimed as an exemption by someone than your standard deduction amount. Note as else). well that the allowable amount of some of these deductions depends in part on the Itemized deductions amount of your AGI. For example, medical deductions are allowed only to the extent that Itemized deductions are various deductions they exceed 10% of AGI (7.5% for those 65 reported and claimed on Schedule A of your and older). federal income tax return (Form 1040). They include certain personal expenses, such as Standard deduction medical expenses, mortgage interest, state taxes, charitable contributions, theft losses, The standard deduction is a fixed dollar and miscellaneous itemized deductions. If you amount, indexed annually for inflation, that is have enough of these types of expenses, your determined according to your filing status itemized deductions may exceed the standard (e.g., married filing jointly, single). An deduction to which you're entitled. In that additional standard deduction amount applies case, itemizing deductions may be if you (or your spouse, if you're married and advantageous. If your itemized deductions are file a joint return) are age 65 or older. An less than your standard deduction, you'll additional standard deduction amount also generally want to use the standard deduction. applies for individuals who are blind.

Page 8 of 17, see disclaimer on final page There are a few things worth noting, however. 2016 AGI Thresholds for Itemized First, if you file your tax return using the Deduction Limitation married filing separately status and your spouse itemizes deductions, you cannot take Filing Status AGI a standard deduction. Any deductions you Threshold take must be itemized. Second, if you are subject to the alternative minimum tax (AMT) Married filing jointly or $311,300 (discussed later), you might be better off qualified widow(er) itemizing your deductions even though your total itemized deductions do not exceed your Head of household $285,350 standard deduction--that's because the Single $259,400 standard deduction is reduced to zero for AMT purposes. Finally, itemized deductions are Married filing separately $155,650 limited once your AGI reaches a certain level.

Itemized Deduction Breakdown for 2013 Note: Total itemized deductions must be Tax Year reduced by the smaller of (a) 3% of the amount by which your AGI exceeds the AGI Of an estimated 147.7 threshold for your filing status or (b) 80% of million federal income tax your itemized deductions that are affected by returns filed for the 2013 tax the limitation. Deduction amounts relating to year, just over 44 million medical and dental expenses, investment claimed itemized interest expenses, nonbusiness casualty and deductions. theft losses, and gambling losses are not Source: Table 1, Individual subject to this limitation. Income Tax Returns: Selected Income and Tax Timing or "bunching" Items (based on tax year 2013 preliminary data), deductions www.irs.gov , 4/6/15 For most people, income is reported in the year that it's received, while deductions are generally taken for the year in which the expenses are paid. In many cases, you can control whether you incur an expense this year or next. That means you can control the timing of your itemized deductions to some extent. For example, paying medical expenses in December rather than in January potentially accelerates the deduction for those expenses into the earlier year. Postponing major dental work--scheduled for December--to January would delay the expense, and the resulting deduction, until the following year.

Based on percentage of total itemized Why would you want to do that? One reason deduction dollars for 2013 tax year. might be if those deductions are worth more to you in one year than in the other. For Source: Table 1, Individual Income Tax example, if you're in a higher income tax Returns: Selected Income and Tax Items bracket this year than you expect to be in next (based on tax year 2013 preliminary data), year, you may want to accelerate your www.irs.gov, 4/6/15 deductions into the current year to help minimize your tax liability. Or, if you find that your itemized deductions typically fall just short of the standard deduction amount that applies to you, you might try "bunching" deductions in alternate years to exceed the standard deduction amount in those years.

For example, let's say that you file as single and have total itemized deductions of $6,250 for 2016--less than the $6,300 standard deduction amount for 2016. Let's assume as

Page 9 of 17, see disclaimer on final page well that you will be in a similar situation next Bunching deductions can also help at a more year, with itemized deductions that equal your granular level. Some deductions are subject to standard deduction amount. In this situation, an AGI threshold. For example, medical and your itemized deductions provide no tax dental expenses are generally deductible only benefit. Consider what would happen, to the extent that unreimbursed expenses however, if you were able to defer $1,000 in exceed 10% of your AGI (7.5% of AGI through allowable deductions to next year. There 2016 if you or your spouse are age 65 or would be no effect on your 2016 taxes, since older). If you're close but under the AGI you were already claiming the standard threshold, consider whether taking steps to deduction amount. But next year, your "bunch" medical expenses into a single year itemized deductions would exceed your might allow you to exceed the threshold in a standard deduction amount by $1,000, giving given year, resulting in additional deductions you an additional $1,000 in deductions that that would otherwise have been lost. would otherwise have been lost.

Tax Credits What is a tax credit?

A tax credit results in a dollar-for-dollar reduction of your tax liability. After you calculate the amount of tax for which you are liable, based on your taxable income, you subtract the total amount of any tax credits for which you are eligible. In some cases, if your tax credits exceed your tax liability, you will be able to claim the difference as a refund. What's the difference between a tax deduction and a tax credit?

A tax deduction reduces your taxable income. Because your federal income tax is based on your taxable income, a tax deduction will decrease the amount of tax owed. The extent to which a deduction reduces tax, though, depends on your marginal federal income tax bracket. The higher the rate at which you're paying tax, the more a tax deduction reduces your tax liability. Here's an example: If you're in the 28% marginal tax bracket and have $1,000 in tax deductions, your tax liability will be reduced by $280. That same $1,000 tax deduction would result in a $350 reduction in tax liability if you are in the 35% marginal tax bracket.

A tax credit, on the other hand, is a dollar-for-dollar reduction. A tax credit of $1,000 will reduce your tax liability by $1,000, regardless of your tax bracket. Refundable vs. nonrefundable tax credits

Most tax credits are nonrefundable. That means a tax credit can reduce your tax liability to zero. If there's any credit remaining after offsetting all tax liability, it is generally lost, or in some cases carried over to other years.

Credits that are refundable are paid to you even if there is credit left over after reducing your tax liability to zero. Common tax credits for individuals

Tax Credits That Are Refundable or Partially Refundable

Earned income This is a credit for certain lower- and moderate-income people who work. tax credit The amount of the credit is based on your adjusted gross income (AGI), your filing status, and the number of qualifying children you have (if any). The maximum earned income tax credit for 2016 is $6,269, which applies to taxpayers with 3 or more qualifying children, and AGI below $23,740 (married filing jointly) or $18,190 (other qualifying filing statuses). Child tax credit A credit of $1,000 for each qualifying child you claim on your return. The credit is limited if your modified AGI is above a certain amount ($75,000 if filing status single, $110,000 if married filing jointly, $55,000 if married filing separately). Up to 15% of earned income in excess of $3,000 is refundable.

Page 10 of 17, see disclaimer on final page American A credit of up to $2,500 for qualified tuition and related expenses paid for Opportunity tax each eligible student. This credit is available for the first four years of credit* post-secondary education. An eligible student must be enrolled at least half-time for at least one academic period during the year, and can have no felony drug conviction on his or her record. The credit phases out at higher incomes (modified AGI between $80,000 and $90,000 for single filers, $160,000 and $180,000 for married filing jointly). Up to 40% of the credit is refundable.

Nonrefundable Tax Credits

Adoption tax A tax credit of up to $13,460 in 2016 for qualifying expenses paid to adopt credit an eligible child. The credit is not available for any reimbursed expense. The credit is phased out for those with modified AGI between $201,920 and $241,920. Child and This credit is available if you paid someone to care for a qualifying individual dependent care so you (and your spouse if you are married) could work or look for work. The credit credit amount is a percentage (maximum 35%) of the work-related child and dependent care expenses you paid to a care provider, and it is based on your AGI. You may use up to $3,000 of the expenses paid in a year for one qualifying individual, or $6,000 for two or more qualifying individuals. These dollar limits must be reduced by the amount of any dependent care benefits provided by your employer that you exclude from your income. Credit for the You may be able to take the credit for the elderly or the disabled if: (1) you're elderly or the age 65 or older and meet certain income requirements, or (2) you're under disabled age 65, retired on permanent total disability, and received taxable disability income during the year. Foreign tax This credit is intended to reduce the double tax burden that would otherwise credit arise when foreign-source income is taxed by both the United States and the foreign country from which the income is derived. Qualified foreign taxes do not include taxes that are refundable to you or taxes paid to countries whose government is not recognized by the United States. You can choose to take the amount of any qualified foreign taxes paid or accrued during the year as a foreign tax credit or as an itemized deduction on Schedule A of Form 1040. Credit for If you make eligible contributions to an employer-sponsored retirement plan contributions to or to an IRA, you may be able to take a tax credit. The amount of the retirement plans available saver's credit is based on the contributions you make (up to and IRAs $2,000), your credit rate, and your AGI. If you qualify for the credit, your ("saver's" credit rate can be as low as 10% or as high as 50%, depending on your AGI credit) and filing status. The maximum credit is $1,000 per individual. Lifetime A credit of up to $2,000--20% of up to $10,000 in tuition paid for all students Learning credit* enrolled in eligible educational institutions. There is no limit on the number of years for which this credit can be claimed. The student does not need to be pursuing a degree or other recognized educational credentials. The credit is available for one or more courses. The credit phases out at higher incomes (for 2016, modified AGI between $55,000 and $65,000 for single filers, $111,000 and $131,000 for married filing jointly).

*You can't take both the American Opportunity credit and the Lifetime Learning credit in the same year for the same student.

Page 11 of 17, see disclaimer on final page Investment Tax Basics Ordinary income For example, assume you had an adjusted basis in stock of $10,000. If you sell the stock Examples of ordinary income include wages, for $15,000, your capital gain will be $5,000. If tips, commissions, alimony, and rental you sell an asset for less than your adjusted income. Investments often produce ordinary basis in the asset, you'll have a capital loss. income in the form of interest. Many investments--including savings accounts, Short term vs. long term certificates of deposit, money market accounts, annuities, bonds, and some Generally, the amount of time that you've preferred stock--can generate ordinary owned an asset is referred to as your holding income. Ordinary income is taxed at ordinary, period. A capital gain is classified as short or regular, income tax rates. term if the asset was held for one year or less, and long term if the asset was held for more Note: It's possible for an investment to than one year. generate an ordinary loss, rather than ordinary income. In general, ordinary losses reduce Whether your capital gain is classified as short What is a "wash sale"? ordinary income. term or long term can make a difference in A wash sale occurs when you how you calculate tax. Short-term capital sell a security at a loss and gains are taxed at the same rate as your acquire the same or a Capital gain and loss ordinary income. The tax rates that apply to substantially identical security long-term capital gains, however, are (or an option on such a If you sell stocks, bonds, or other capital generally lower than ordinary income tax security) within 30 days of the assets for more or less than you paid for them, rates. sale (before or after). Any you'll end up with a capital gain or loss. losses that result from a wash Special capital gain tax rates may apply. sale are disallowed and added You can use capital losses from one These rates may be lower than ordinary investment to offset the capital gains to the cost basis of the stock or income tax rates. securities. from other investments (special ordering rules apply in netting gains Understanding basis and losses). If your total capital losses exceed your total capital gains, you Generally speaking, basis refers to the can generally use your excess capital amount of your investment in an asset. Your loss to offset up to $3,000 of ordinary initial basis usually equals your cost--what you income in a tax year ($1,500 for paid for the asset. For example, if you married persons filing separately). purchased one share of stock for $100, your Losses not used in one year can be initial basis in the stock is $100. However, carried forward to future years. your initial basis can differ from the cost if you did not purchase an asset but rather received it as a gift or inheritance, or in a tax-free exchange. Long-term capital gain

Your initial basis in an asset can increase or For long-term capital gains, special tax rates decrease over time. For example, if you buy a apply. The maximum tax rate at which your house for $100,000, your initial basis in the long-term capital gains are taxed depends on house will be $100,000. If you later improve which ordinary federal income tax rate bracket your home by installing a $5,000 deck, your you fall into. adjusted basis in the house may be $105,000. You should be aware of items that increase or If your taxable income places you in the decrease the basis of your asset. For a lowest two tax brackets for ordinary income detailed discussion of basis and adjustments tax purposes, a 0% tax rate generally applies to basis, see IRS Publication 551, Basis of to long-term capital gains. So, for 2016, if your Assets. filing status is single and your taxable income is less than $37,650, you'll generally pay no Calculating gain or loss tax on long-term capital gains.

Capital gain (or loss) equals the amount that If you're in the 25%, 28%, 33%, or 35% tax you realize on the sale of your asset (i.e., the brackets, the maximum rate that applies to amount of cash and/or the value of any long-term capital gains is generally 15%. If property you receive) less your adjusted basis you're in the top federal tax bracket (39.6%), in the asset. If you sell an asset for more than the maximum tax rate that applies is generally your adjusted basis, you'll have a capital gain. 20%.

Page 12 of 17, see disclaimer on final page Maximum Long-Term Capital Gain Tax Rate Based on 2016 Taxable Income

Single Married filing Married filing Head of Tax rate jointly separately household Up to $37,650 Up to $75,300 Up to $37,650 Up to $50,400 0% $37,650 up to $75,300 up to $37,650 up to $50,400 up to 15% $415,050 $466,950 $233,475 $441,000 More than More than More than More than 20% $415,050 $466,950 $233,475 $441,000

What is the "kiddie tax"? Note: Special rates and rules apply to certain types of assets. For example, long-term capital gain from the sale of collectibles is subject to a 28% tax rate. Special rules commonly referred to as the "kiddie tax" rules apply when a child has Qualified dividends But if purchased as part of a tax-exempt unearned income (for example, municipal money market or bond mutual fund, investment income). Children If you receive dividend income, it may be any capital gains earned by the fund are subject to the kiddie tax are taxed either at ordinary income tax rates or at subject to tax, just as any capital gains from generally taxed at their parents' the rates that apply to long-term capital gain selling an individual bond are. Note also that tax rate on any unearned income. If the dividends are qualified tax-exempt interest is included in determining income over a certain amount. dividends, they're taxed at the same tax rates if a portion of any Social Security benefit you For 2016, this amount is receive is taxable. $2,100 (the first $1,050 is that apply to long-term capital gains. Qualified generally tax free and the next dividends are dividends paid to an individual $1,050 is taxed at the child's shareholder from a domestic corporation or a The interest received on Series EE rate). The kiddie tax rules apply qualified foreign corporation, provided that you savings bonds is exempt from state to (1) those under age 18, (2) hold the shares for more than 60 days during and local income taxes. In addition, the those age 18 whose earned the 121-day period that begins 60 days before interest on Series EE bonds purchased income doesn't exceed the ex-dividend date (a longer holding period on or after January 1, 1990, may be one-half of their support, and requirement applies to dividends paid by exempt from federal income taxation if (3) those ages 19 to 23 who certain preferred stock). the bonds are used for certain are full-time students and educational purposes and if certain whose earned income doesn't requirements (including AGI limitations) exceed one-half of their Some dividends (such as those from money support. market funds) continue to be treated as are met. ordinary income. Generally, ordinary dividends are shown in box 1a of Form 1099-DIV, while qualified dividends are shown in box 1b. Net investment income tax Tax-exempt income High-income individuals generally face an additional 3.8% net investment income tax Some income is specifically exempted from (also referred to as the unearned income federal income tax. For example, while the Medicare contribution tax) on unearned interest on corporate bonds is subject to tax at income. This surtax is equal to 3.8% of the the local, state, and federal level, interest on lesser of: bonds issued by state and local governments (generically called municipal bonds, or munis) • Your net investment income is generally exempt from federal income tax. If • The amount of your modified AGI you live in the state in which a specific (basically, your AGI increased by an municipal bond is issued, it may be tax free at amount associated with any foreign earned the state or local level as well. Note that the income exclusion) that exceeds $200,000 income from Treasury securities, which are ($250,000 if married filing jointly, $125,000 issued by the U.S. government, is exempt if married filing separately) from state and local taxes but not from federal So if you're single and have modified AGI of taxes. $250,000, consisting of $150,000 in earned income and $100,000 in net investment Caution: Interest earned on tax-free municipal income, the 3.8% net investment income tax bonds is generally exempt from state tax if the will apply only to $50,000 of your investment bond was issued in the state in which you income. reside, as well as from federal income tax (though earnings on certain private activity Net investment income generally includes all bonds may be subject to regular federal net income (income less any allowable income tax or to the alternative minimum tax). associated deductions) from interest,

Page 13 of 17, see disclaimer on final page dividends, capital gains, annuities, royalties, income taxes when you make a withdrawal.* and rents. It also includes income from any For 2016, you can contribute up to $12,500 to business that's considered a passive activity, one of these plans; individuals age 50 and or any business that trades financial older can contribute an additional $3,000. instruments or commodities. (SIMPLE 401(k) plans may also allow Roth contributions.) Note: Net investment income does not include interest on tax-exempt bonds, or any gain Employer-sponsored plans (401(k)s, from the sale of a principal residence that is 403(b)s, 457 plans): Contributions (typically excluded from income. Distributions you take made on a pre-tax basis) to these plans grow from a qualified retirement plan, IRA, IRC tax deferred, but you'll owe income taxes Section 457(b) deferred compensation plan, or when you make a withdrawal.* For 2016, you IRC Section 403(b) retirement plan are also can contribute up to $18,000 to one of these not included in the definition of net investment plans; individuals age 50 and older can income. contribute an additional $6,000. Employers generally allow employees to make after-tax Tax-advantaged savings Roth contributions in lieu of pre-tax contributions, in which case qualifying vehicles distributions will be tax free.

Taxes can take a bite out of your total Annuities: You pay money to an annuity investment returns, so it's helpful to consider issuer (an insurance company), and the issuer tax-advantaged savings vehicles when promises to pay principal and earnings back to building a portfolio. Some tax-advantaged you or your named beneficiary in the future savings vehicles allow you to defer paying (you'll be subject to fees and expenses that taxes on earnings until some point in the you'll need to understand and consider). future, while other tax-advantaged savings Annuities generally allow you to elect an vehicles allow earnings to escape taxation income stream for life (subject to the financial altogether under certain circumstances. strength and claims-paying ability of the issuer). There's no limit to how much you can Tax-advantaged savings vehicles for invest, and your contributions grow tax retirement deferred. However, you'll owe income taxes on the earnings when you start receiving Traditional IRAs: Anyone under age 70½ distributions.* who earns income or is married to someone with earned income can contribute to a *Withdrawals prior to age 59½ may be subject traditional IRA. Depending upon your income to a 10% federal income tax penalty unless an level and whether you're covered by an exception applies (the penalty may be 25% in employer-sponsored retirement plan, you may the case of a SIMPLE IRA if withdrawals are or may not be able to deduct your taken within two years of beginning contributions to a traditional IRA. Your participation in the plan). contributions always grow tax deferred, but you'll owe income taxes when you make a Tax-advantaged savings vehicles for withdrawal.* For 2016, you can contribute up college to $5,500 to an IRA, and individuals age 50 and older can contribute an additional $1,000. 529 plans: College savings plans and prepaid tuition plans let you set aside money for Roth IRAs: Roth IRA contributions can be college. Your contributions grow tax deferred made only by individuals with incomes below and can be withdrawn tax free at the federal certain limits. Your contributions are made level if the funds are used for qualified with after-tax dollars but will grow tax deferred, education expenses.** These plans are open and qualified distributions (those satisfying a to anyone regardless of income level. five-year holding period and made after age Contribution limits are high--typically over 59½ or after becoming disabled) will be tax $300,000--but vary by plan. free when you withdraw them. The amount you can contribute is the same as for Coverdell ESA: Coverdell education savings traditional IRAs. Total combined contributions accounts are open only to individuals with to Roth and traditional IRAs cannot exceed incomes below certain limits. But if you qualify, $5,500 for 2016 for individuals under age 50. you can contribute up to $2,000 per year, per beneficiary. Your contributions grow tax SIMPLE IRAs and SIMPLE 401(k)s: These deferred and can be withdrawn tax free at the plans are generally associated with small federal level if the funds are used for qualified businesses. As with traditional IRAs, your education expenses.** contributions grow tax deferred, and you'll owe

Page 14 of 17, see disclaimer on final page Note: Investors should consider the availability of tax and other benefits may be investment objectives, risks, charges, and conditioned on meeting certain requirements. expenses associated with 529 plans. More There is also the risk that the investments may information about specific 529 plans is lose money or not perform well enough to available in each issuer's official statement, cover college costs as anticipated. which should be read carefully before investing. Before investing, consider whether **Earnings are subject to federal income tax your state offers a 529 plan that provides and potentially a 10% penalty tax if the funds residents with favorable state tax benefits. The are not used for qualified education expenses.

Understanding the Alternative Minimum Tax (AMT) What is the AMT? don't itemize deductions, is not allowed for purposes of calculating the AMT. Nor can you The AMT is essentially a separate federal take a deduction for personal exemptions. income tax system with its own tax rates and its own set of rules governing the recognition Itemized deductions and timing of income and expenses. If you're subject to the AMT, you have to calculate your Under the AMT calculation, no deduction is taxes twice--once under the regular tax allowed for state and local taxes paid, or for system and again under the AMT system. If certain miscellaneous itemized deductions. Key AMT "triggers" include your income tax liability under the AMT is Your deduction for medical expenses may the number of personal also be reduced if you or your spouse are age exemptions you claim, your greater than your liability under the regular tax system, the difference is reported as an 65 or older (the AMT adjustment for medical miscellaneous itemized expenses effectively applies only to those who deductions, and your state additional tax on your federal income tax and local tax deductions. return. If you're subject to the AMT in one have reached age 65 and therefore have a year, you may be entitled to a credit that can lower AGI threshold for deducting medical be applied against regular tax liability in future expenses on Schedule A), and you can only years. deduct qualifying residence interest (e.g., mortgage or home equity loan interest) to the extent the loan proceeds are used to Who is liable for the AMT? purchase, construct, or improve a principal residence. Key AMT "triggers" include the number of personal exemptions you claim, your Exercise of incentive stock options (ISOs) miscellaneous itemized deductions, and your state and local tax deductions. So, for Under the regular tax system, tax is generally example, if you have a large family and live in deferred until you sell the acquired stock. But a high-tax state, there's a good possibility that for AMT purposes, when you exercise an ISO, you might have to contend with the AMT. IRS income is generally recognized to the extent Form 1040 instructions include a worksheet that the fair market value of the acquired that may help you determine whether you're shares exceeds the option price. This means subject to the AMT (an electronic version of that a significant ISO exercise in a year can this worksheet is also available on the IRS trigger AMT liability. If ISOs are exercised and website), but you might need to complete IRS sold in the same year, however, no AMT Form 6251 to know for sure. adjustment is needed, since any income would be recognized for regular tax purposes Common AMT adjustments as well.

Here are some of the more common AMT Depreciation adjustments. If you're depreciating assets (for example, if Standard deduction and personal you're a sole proprietor and own an asset for exemptions business use), you'll have to calculate depreciation twice--once under regular income The federal standard deduction, generally tax rules and once under AMT rules. available under the regular tax system if you

Page 15 of 17, see disclaimer on final page TIP: If you owe AMT, you AMT exemption amounts taxable income increased or decreased by may be able to lower your AMT preferences and adjustments. total tax (regular tax plus AMT) by claiming itemized While the AMT takes away personal exemptions and a number of deductions, it The lower maximum tax rates that deductions on Form 1040, generally apply to long-term capital even if your total itemized provides specific AMT exemptions. The deductions are less than the amount of AMT exemption to which you're gains and qualified dividends apply to standard deduction. This is entitled depends on your filing status. the AMT calculation as well. So even because the standard under AMT rules, a maximum rate of deduction is not allowed for Your exemption amount, however, begins to 20%, 15% (for individuals in the 25%, the AMT and, if you claim phase out once your taxable income exceeds 28%, 33%, or 35% tax bracket), or 0% the standard deduction on a certain threshold. (Specifically, your (for individuals in the 10% or 15% tax Form 1040, you cannot exemption amount is reduced by $0.25 for bracket) applies. However, long-term claim itemized deductions capital gains and qualified dividends for the AMT. every $1.00 you have in taxable income over the threshold amount.) are included when you determine your Source: 2015 Instructions taxable income under the AMT system. for Form 6251, Alternative AMT Exemption Amounts by Filing Status That means large capital gains and Minimum Tax, Individuals qualifying dividends can push you into the phaseout range for AMT 2016 exemptions and can indirectly increase Married filing jointly $83,800 AMT exposure. Single or head of household $53,900 Note: When it comes to the phaseout of AMT Married filing separately $41,900 exemption amounts, a special calculation applies to individuals who are married filing separately. These individuals have to add an AMT Exemption Phaseout Threshold additional amount to their AMTI before calculating the exemption phaseout. 2016 Married filing jointly $159,700 AMT rates Single or head of household $119,700 Under the AMT, the first $186,300 (for 2016) Married filing separately $79,850 of your taxable income is taxed at a rate of 26%. If your filing status is married filing separately, the 26% rate applies to your first Note: In the context of AMT exemption $93,150 (for 2016) of taxable income. Taxable amounts and tax rates, taxable income really income above these thresholds is taxed at a refers to your alternative minimum taxable flat rate of 28%. income (AMTI). Your AMTI is your regular

Page 16 of 17, see disclaimer on final page IMPORTANT DISCLOSURES

Broadridge Investor Communication Solutions, Inc. does not provide investment, tax, or legal advice. The information presented here is not specific to any individual's personal circumstances.

To the extent that this material concerns tax matters, it is not intended or written to be used, and cannot be used, by a taxpayer for the purpose of avoiding penalties that may be imposed by law. Each taxpayer should seek independent advice from a tax professional based on his or her individual circumstances. AICPA These materials are provided for general information and educational purposes based upon publicly PFP available information from sources believed to be reliable—we cannot assure the accuracy or completeness of these materials. The information in these materials may change at any time and without notice. Sandra Truitt 220 Leigh Farms Road Durham, NC 27707 919-490-4394 [email protected]