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By Jason Stipp and Christine Benz | 07-26-2012 02:30 PM

Sturdy Shelters for a Cloudy Tax Forecast

Many of the best practices for tax efficiency are even more important for investors in light of possible tax increases next year, says Morningstar's Christine Benz.

Jason Stipp: I'm Jason Stipp for Morningstar. With the pending sunset of Bush-era tax cuts, there is plenty of uncertainty for investors' tax liabilities in 2013. But Morningstar's Christine Benz, director of personal finance, says there are some steps investors can take today to position themselves well for a variety of tax environments. She is here to offer some tips today.

Christine thanks, for joining me.

Christine Benz: Jason, great to be here.

Stipp: There are a variety of tax changes that might happen at the end of the year if Congress doesn't take action. Can you tick through some of the big ones?

Benz: Well, income tax rates are set to go up, so the highest rate will go from 35% to nearly 40% in 2013.

Dividend tax rates are set to go from their currently low 15% for most investors back up to your ordinary income tax rate.

The estate tax is set to affect estates over $1 million and will jump from 35% to 55%.

Capital gains tax rates are going up, and then we're also going to see, Jason, this new Medicare surtax going into effect as well. That will be a 3.8% tax, and it will affect the lesser of your net investment income or any of your adjusted gross income that comes in above a certain threshold.

Stipp: So, that, Medicare's surtax looks like it probably will happen because it was a part of that health-care package that the Supreme Court basically reaffirmed with their decision.

The other tax increases, though, may or may not happen depending on whether Congress acts to extend those earlier tax cuts. This leaves investors in a tough spot because they don't know whether they're going to be on the hook for higher tax bills next year.

Benz: Right. A lot of investors have been chattering about what strategies can they take, if indeed taxes do go up. When you look at the deficit, I think a lot of people say, well, realistically we probably will see higher taxes at least on some of these things. So, one strategy that I know a lot of our users have been talking about is, if they have long held winners in their portfolio, maybe pre-emptively selling them at today's relatively low capital gains rates, and they can even re-buy the same position after they have made the sale, and there is no wash-sale rules or anything like that that governs taking a tax loss. You can actually do that and not undo the tax advantage of selling at the lower capital gains rates.

Stipp: So, certainly if there are some positions that you were thinking about cutting anyway or trimming anyway, to do it this year versus next year, if it was a decision you were going to make anyway, it could make sense given that there is a likelihood that we could see those higher tax rates next year.

But also in addition to some of those plans investors might already have, you have some evergreen tips for investors that can help with their tax positioning, and basically good things for them to do whether or not we see these tax rates. The first one has to do with your tax-advantaged accounts and how you use them, so especially the Roth versions of those accounts. Why is Roth in this environment particularly attractive?

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