South Lake Tahoe Money News: Investing for income; Why all income is not equal

Today we are faced with broad challenges in our investing climate. Rising interest rates and high stock valuations can create unforeseen challenges.

Did you know that all investment income is not equal, at least in the eyes of the IRS? Let us start with some of the basics before we digress into more complicated subject matter.

Interest Income – Commonly created by Savings Accounts, Certificates of Deposit (CD’s), and Individual Bonds or Loans. This income is taxed at your Ordinary Income Tax Rates. Ordinary income has the potential to be the highest of all of your tax rates capping out at 37 percent for the Feds and 13.3 percent for California.

Tax Free Income – You can receive “Tax Free” income from Municipal Debt. A municipal bond, also known as a muni, is a debt security used to fund capital expenditures for a county, municipality or state. One of the major advantages of unmis is that they are typically exempt from federal income tax. They are often excused from local and state tax as well, particularly when the bond’s investor lives in the state in which the bond was issued.

Dividend Income – While it is true some stocks pay dividends many people do not also realize that the income generated by Mutual Funds and Index Funds also qualifies for this preferred tax treatment. The most common dividends are the distributions of profit that a corporation pays to its shareholders. Dividends are most frequently distributed as cash, but they may also come in the form of stocks, stock options, debt payments, property, or even services.

Payments from mutual funds may also be dividends. A mutual fund is an investment company that buys and sells assets to earn profit for itself and its investors. The portions of the profit passed on to investors are dividends, unless the assets were held long enough for the profits to be considered capital gains.

And here it gets a little more complicated:

What are ordinary and qualified dividends?

There are two types of dividends:
• Ordinary dividends are the most common type of dividend and are usually paid out from the earnings of a corporation. Generally, any dividend that is paid out from a common or preferred stock is an ordinary dividend unless otherwise stated.
• Qualified dividends are dividends that meet the requirements to be taxed as capital gains. Under current law, qualified dividends are taxed at a 20 oercebt, 15 percent, or 0 percent rate, depending on your tax bracket.

What Taxes Do I Have to Pay on Dividends?

Ordinary dividends and qualified dividends each have different tax rates:
• Ordinary dividends are taxed as ordinary income.
• Qualified dividends are taxed at a 20 percent, 15 percent, or a 0 percent rate, under current law. For more insight, you need to understand the difference between how long-term and short-term capital gains are treated.

It is actually possible to pick a Mutual Fund or Index Fund that invests in these interest baring investments and also receive a more preferred tax treatment, so you see not all income is equal. In order to truly evaluate the income your investments provide you need to fully understand the income tax ramifications.

Sometimes it may actually be possible to Keep More by Earning Less.

This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.

Nic Abelow CFP® CERTIFIED FINANCIAL PLANNER™ Practitioner is a LPL financial advisor with Abelow, Pratt & Associates Financial Advisors and Wealth Management in Lake Tahoe. Securities and advisory services offered through LPL Financial, a registered investment advisor, Member FINRA/SIPC. For a list of states in which I am/we are registered to do business, please visit www.tahoefinancialadvisors.com