Taxes can be taxing for investors

Nobody likes paying taxes -- it’s tough watching your hard-earned cash go straight to the government. However, taxes are necessary and pay for important stuff, like medical programs, education, and public forms of transportation. As investors, it’s important to consider the impact of taxes on both your paycheck and your portfolio. This includes the taxation of capital gains and dividends, short-term vs. long-term gains, tax-exempt accounts, and more.

A vital aspect of investment taxes that should not be overlooked by investors is federal versus state taxes. Having the most appropriate investment accounts and asset classes can help you maximize your tax benefits in order to achieve your long-term financial goals -- and everybody likes that! Of course, it’s important to consult an expert when deciding how to set up these accounts and investments.

Not all investments are taxed by both

While federal and state tax rates clearly differ, not all accounts and investments are subject to all forms of taxes. For instance, 529 plans, which are tax-advantaged savings accounts that can be used for a child’s future education costs, are sponsored by states, state agencies, or educational institutions. As such, there are many states where contributions are tax deductible. Knowing the particular rules within your state is one step toward maximizing your investment dollars. Cha-ching!

Examples of how different investments are taxed

One type of investment subject to different federal versus state taxation treatment is municipal bonds. These are bonds issued by state and local governments and can be a source of investment income for investors like you. In general, the interest paid by muni bonds is free from federal taxes, and there can be local tax benefits as well. The opposite is generally true of Treasury bonds, issued by the federal government. Interest income from these bonds is usually free from state and local taxes, but it will be subject to federal income tax.

Change is inevitable -- even for taxes

It’s also critical to understand that federal and state tax rates can change over time. Federal tax rates were lowered for most taxpayers when the most recent tax reform passed in Congress in late 2017. While this didn’t directly affect state tax rates, there were changes that could affect what you pay nonetheless. For instance, the bill placed a limit on state and local tax (SALT) deductions, which are itemized deductions some taxpayers can use based on what they pay at the state and local level. Again, it’s important to discuss your specific situation with an expert to determine how this may or may not affect you.

Be in the know about taxes, achieve success

As investors, it’s essential to have the most appropriate accounts and investments to  help you reach your long-term goals. Understanding the taxes you may be subject to at the federal and state levels is an important step toward achieving investment success. 💸