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One of the Last Tax Havens  Thumbnail

One of the Last Tax Havens

True or Not True?

“The hardest thing in the world to understand is the income tax.” Albert Einstein

In a recent speech on the campaign trail, Donald Trump was quoted saying, as a nation, we pay the highest tax rates than anywhere else in the world. True or Not True? Not true. A little history on taxes paid in the U.S… Between 1929 and 2014 the portion of the U.S. economy collected in federal, state and local taxes has ranged from 10% to 29%, with the median being 25% and the average 23%. In 2014, the figure was 27%.

A few countries that have the highest tax rates.

Aruba (An island in the Southern Caribbean Sea): 58.95% Tax Rate.

Sweden: 56.6% Tax Rate. Education is free, Public Transportation is free, and they have subsidized healthcare support.

Denmark: 55.56% Tax Rate. In Denmark, their tax rate was as high as 62.3% in 2008.

Netherlands: 52% Tax Rate. They don’t have payroll duty; stamp duty, capital tax duty. Transfer tax is payable at 6% of the price of real property.

Belgium: 50% Tax Rate.

With the tax deadline just around the corner (this year the tax filing deadline is Monday, April 18th) taxes are on the minds of many of our clients – hang in there.

Muni bonds or Tax-free bonds are one of the last tax havens left and are often missed in many investment plans. Why? First of all, they are not appropriate for retirement plans like IRA’s, Roth’s, SEP’s and 401(k)’s to name a few, and they don’t capture as much tax benefit for those in lower tax brackets that are investing outside of retirement accounts.

Typically, we start by looking at the tax-equivalent yield to decide whether municipal bonds are appropriate for you. With the help of your CPA or tax advisor, we may uncover additional benefits where you were ineligible for certain tax breaks based on a higher adjusted gross income or if taxable interest caused you to loose some of your itemized deductions or personal exemptions. An example would be when higher taxable income creates a phase-out of these benefits.

Also, muni bonds can have a greater appeal in a higher income tax state where you maintain your state of residence, and you invest in bonds issued by those states. The state of Minnesota has one of the highest state income taxes in the country topping out at 9.85% on taxable income of $258,261 and above. Don’t feel too bad; California tops out at 12.3% on taxable income of $526,444 and above, and if you’re lucky enough to make over $1 million or more there is a 1% surcharge making California’s highest marginal rate at 13.3%!

A look at tax equivalent yields using the Federal Marginal Income Tax Rates listed below:


*The information we used is for illustrative purposes only and is not an offer to sell or solicit. The Average 20-year yield for AAA-rated municipal and corporate bonds as of March 9, 2016. Source: Bonds Online Network

As you can see from the example above, even in the lowest marginal tax bracket the muni bond has a higher tax equivalent yield, which is not typical.

The income from muni bonds is generally free from federal income tax; however, the IRS considers that interest income part of your “modified adjusted gross income” for determining how much of your social security benefits, if any, are taxable. Here’s how this works: If you are married filing jointly and half of your social security benefits plus any other income, including tax-exempt muni bond interest is more than $32,000 then up to 85% of your social security benefits are taxable.

If you are subject to AMT, it’s important to understand how Private activity bonds, which are issued to fund stadiums, housing projects, hospitals, etc. affect your AMT calculation. Generally, the income from these bonds is free of ordinary income taxes, however, that income is included in your AMT calculation. Bottom line, the interest you thought you were getting was free from income tax could end up getting taxed at 28% on the margin. One thing to note about private activity bonds is they usually carry a higher yield than regular municipal bonds that have a comparable maturity date are similar in quality. Unfortunately, it’s generally not enough to overcome the AMT hit.

Bottom line, as a fiduciary, fee-only, Registered Investment Advisory firm, we offer objective advice, not products. We have a solutions-oriented approach for our client’s wealth management needs and we strive to provide the highest level of personal service while adhering to the strictest standards of fiduciary excellence. We build trusted, long-term relationships that give our clients an edge in an increasingly complex world.


Important Disclosures

Fixed income securities are subject to increased loss of principal during periods of rising interest rates. Fixed-income investments are subject to various other risks including changes in credit quality, market valuations, liquidity, prepayments, early redemption, corporate events, tax ramifications and other factors.

Individual bonds are subject to the credit risk of the issuer. Changes in interest rates can affect a bond’s market value before a call or maturity. Bonds are subject to credit, interest rate, and inflation risks. Also, bonds incur ongoing fees and expenses. A bond fund’s Net Asset Value will fluctuate with the price of the underlying bonds and portfolio turnover activity. Return of principal is not guaranteed.

Income from municipal bonds may be subject to the Alternative Minimum Tax (AMT), and capital appreciation from discounted bonds may be subject to state or local taxes. Capital gains are not exempt from federal income tax.

This information is not intended to be a substitute for specific individualized tax, legal or investment planning advice. Where specific advice is necessary or appropriate, Total Wealth Advisors, LLC recommends consultation with a qualified tax advisor or CPA.

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The type of securities mentioned may not be suitable for everyone. Each investor needs to review a security transaction for his or her particular situation. Data contained here is obtained from what are considered reliable sources; however, its accuracy, completeness or reliability cannot be guaranteed.