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Stern Advice: Don't let your finances fall off the fiscal cliff

By Linda Stern

WASHINGTON, Oct 10 (Reuters) - It's time to watch Washingtonto see just how bad your New Year's eve is going to be. Withoutany action in the Capitol, the U.S. economy is said to be poisedto fall off of a "fiscal cliff."

Projected increases in taxes and cuts in spending wouldthrow the economy into another recession, says the CongressionalBudget Office, and it could throw your family finances over theedge, a cc ording to analysts.

That's because of several issues all hitting at once. TheGeorge W. Bush-era tax cuts expire on December 31, and withoutany extensions personal income tax rates will rise, as willrates on capital gains and dividends. Also expiring is thetemporary 2 percent payroll tax cut that has boosted workers'paychecks for the last two years. Beginning on January 1,there's a new 3.8 percent surtax on investment income for peopleearning more than $200,000 ($250,000 for couples).

At the same time, $109 billion in across-the-board federalspending cuts on everything from education to Medicare tonational park budgets are supposed to hit in January; they arethe result of a process called "sequestration" that was part ofthe 2011 debt ceiling deal.

Oh, and another passel of tax breaks, including theperennial patch that exempts some 30 million Americans from thealternative minimum tax (AMT), already expired on December 31,2011, and has not been extended - yet.

Does all of that make you feel like jumping off that cliff?Don't panic. It's unlikely that everything will get fixed byJanuary 1, but it's also unlikely that nothing will get fixed.(For example, the folks at Intuit Inc's TurboTax unit are sosure the feds will eventually do that AMT patch, they arealready programming their software as if it's a done deal.)

But here in the District of Columbia, nothing is moving nowexcept jawbones. After the election, Congress could jump in andenact some quick fixes - extensions to the 2011 tax breaks andanother kick-the-can-down-the-road measure to smooth the tax andbudget issues for 2013. Or not.

Meanwhile, we all have to protect ourselves. Here's how toput up your own guardrails and then stand aside as policymakersrush to the precipice. It's where they do their best work.

-- Sell or give away winning stocks. Right now, long-termcapital gains are taxed at a maximum rate of 15 percent. Theyhave a 0 percent tax rate for people with adjusted gross incomeunder $35,350 ($70,700 for couples).

"That is the lowest rate they have ever been in ournear-term history, and it's scheduled to go away," saysTurboTax's Bob Meighan. You can't get a better tax rate thanzero, so if you have the wherewithal to help your low-bracketyoung adult kids, you might start by giving them shares ofappreciated stock.

Even if you don't have anyone in the zero bracket to givethose shares to, you could sell them yourself, locking in gainsat comparatively low tax rates. The best-case scenario forinvestors would be that the 15 percent rate get continued;nobody is predicting it will get lower than that. And folksearning enough to be hit by that 3.8 percent investment surtaxwould save by selling this year too.

-- Be very charitable. There are many scenarios in whichyour charitable deductions could be worth less in the future.Republicans have been talking about capping those deductions forhigh-income taxpayers. There's some talk of a Reaganesquerate-lowering, deduction-trimming tax reform that could reducethe value of your contributions as tax breaks. And wealthy folks- anyone with more than $1 million to pass on to their heirs -could see tighter estate tax limits in 2013 and beyond.

The bottom line? If you can afford it, 2012 is a good yearto set up your own donor-advised charitable fund, or give morethan usual to your favorite cause. It's also a good year to funda family trust or give a large estate-tax escaping gift tofamily members, but hurry up: Most estate tax attorneys havebeen slammed since mid-summer.

There's one exception. Retirees over 70 1/2 who have to takemandatory distributions from their individual retirementaccounts had been permitted to make contributions to their IRAswithout taking a tax hit. That went away at the end of 2011.Will it come back for 2012? Experts like Meighan view that asunlikely, but it could happen. He's telling folks who would beaffected to wait and see what happens in November and December.

-- Live below your means. Your paycheck is highly likely togo down in January, because there's scant defense being mountedof that temporary payroll tax cut. Assume you'll be paying 2percent more in payroll taxes come January, so don't commit tospending every bit of every paycheck.

-- Do the opposite of what you'd usually do. "This year weare telling people to accelerate income and defer deductions,"Rick Bailine of McGladrey & Pullen LLP told Reuters journalistsrecently. He's expecting some tax rate increases to materialize,especially for high income taxpayers. That means grabbing yourbonus now if you're given the option, instead of in January - ifthere's a bonus to be had. His view is that tax rates are headedup; even if that doesn't happen immediately, the very long-termview is that we're currently in a low-rate period by historicalnorms. "Even if you are wrong by six months, that still makesgood sense," he says.

-- Just wait and see. Charles Rotblut of the AmericanAssociation of Individual Investors is telling members not to doany dramatic portfolio adjusting in advance of congressionalaction because anything can happen. "People will do more harm byplacing a big bet assuming one outcome and having anotheroutcome appear," he says. Instead, he's telling people to lookahead many months or years, to the long-term trend.

That trend could have you cherry-picking a different kind ofstock to hold, however. Defense and healthcare companies bothcould suffer if even a portion of the across-the-board budgetcuts are allowed to phase in, and both sectors could sufferanyway as the war in Afghanistan phases down and healthcarereform phases in. Dividend-paying companies could take a hit,too, if taxes are to rise over the long term on dividends.

-- Plan for a busy December. Perhaps the best news now isthat you don't have to jump on any of this. You can wait to seewhether the lame duck Congress that comes back after theelection does anything in a hurry. If the past is any guide, allwill become clear right around Christmas eve. That gives you aweek to buy, sell, write checks, make gifts and talk to youradviser. Maybe you should make that appointment now.

(Linda Stern is a Reuters columnist. The opinions expressed areher own. The Stern Advice column appears weekly and atadditional times as warranted. Linda Stern can be reached atlinda.stern@thomsonreuters.com; She tweets at ;

Read more of her work at ;Editing by Prudence Crowther)

((linda.stern@thomsonreuters.com, 202-898-8347, ReutersMessaging: linda.stern.thomsonreuters.com@reuters.net))

Keywords: COLUMN PERSONALFINANCE/