2016 Federal Income Tax Planning

April 28th, 2016
The Tax Planning Environment in 2016
While more than 15 major pieces of tax legislation have been enacted into law since 2000, the current tax-planning environment has been heavily shaped by the American Taxpayer Relief Act of 2012, and the Protecting Americans from Tax Hikes (PATH) Act of 2015.
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Income Tax Fundamentals
Let’s start with some basic federal income tax concepts, including gross income and taxable income. How do deductions fit in? What about choosing a filing status? What’s a marginal tax rate?
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2016 Federal Income Tax Rates for Individuals
How much federal income tax are you liable for? Federal income tax rate schedules for individuals allow you to determine your federal income tax by looking up your taxable income and filing status.
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Deductions
Personal deduction planning is one aspect of tax planning. Here, your goals are to utilize deductions in the most efficient manner and to take all deductions to which you’re entitled.
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Tax Credits
A tax credit results in a dollar-for-dollar reduction of your tax liability. In some cases, if your tax credits exceed your tax liability, you will be able to claim the difference as a refund.
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Investment Tax Basics
You should understand the difference between ordinary income and capital gain. Special tax rates apply to long-term capital gain and qualified dividends. There’s a lot to think about, including a 3.8% net investment income tax that may apply.
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Understanding the Alternative Minimum Tax (AMT)
The alternative minimum tax (AMT) is a significant factor for many when it comes to tax planning. You should understand when it applies, and how it could affect you.
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MLPs vs. the Media

April 18th, 2016

Until the fall of 2014, when the price of oil began to tumble, master limited partnerships (MLPs) were a “hot” investment. Perhaps not quite as hot as stocks like Tesla (NASDAQ: TSLA) and Google (NASDAQ: GOOGL), but nevertheless MLPs had become increasingly popular among individual investors. Looking back, we can attribute some of this popularity to the way the media portrayed MLPs to investors, and in the process inadvertently distorted reality.

Why Invest in MLPs?

Essentially, a master limited partnership combines the tax benefits of a limited partnership with the liquidity of a publicly traded security. A majority of MLPs are in the energy sector, with many owning pipelines that are leased to oil and gas companies to transport petroleum products. The lease agreements between the MLPs who own the pipelines and the companies that use them are typically long-term, stable agreements. Such MLPs are called “midstream” because they sit between the companies that drill for petroleum and those that market the refined products.

MLPs have historically offered consistent, predictable cash flows in the form of regular dividends. In addition, these payouts tend to be tax advantaged. So it should not surprise you to learn that MLPs are attractive to individual investors, particularly those in high tax brackets, who seek investments with regular cash flows. As a result, they were seen as stable, “boring” investments—until last year.

MLPs: The Hype and the Reality

Periodically, certain investments are hyped out of proportion by the media and the investment community. In the late 1990s, it was technology. More recently, the focus has been on income-producing investments such as high-dividend stocks, as investors “reach for yield” in a low-interest environment. MLPs seemed to be just what the money doctor ordered: stable, boring investments with high, tax-advantaged dividends that seemed to rise every year.

The nearly inevitable result was that large numbers of individual investors piled into MLPs, many without a good understanding of their true nature. As is usually the case when an investment becomes “hot,” MLP prices were pushed well above their intrinsic value, only to fall back to earth (and then deep underground) once investors realized that even MLPs have risk.

Investors bought into the idea—propagated by both the media and the financial industry—that MLPs are “non-cyclical,” meaning they are unaffected by the general direction of stocks or the economy. This idea probably originated from the observation that MLPs tended to have predictable cash flows, much like bonds. At the same time, investors imagined that MLPs are immune to declines in the price of oil, despite being closely tied to the energy industry.

Not surprisingly, when both these ideas proved false, investors went to the opposite extreme, dumping MLPs like they were toxic waste. Take a look at the following graph, which shows how both MLP prices (in blue) and oil prices (in orange) declined almost in tandem starting in the summer of 2014. So much for MLPs being non-cyclical and immune to falling oil prices!

MLPs: Worth considering after the pullback?

While MLPs are not the dream investment that many thought them to be when oil prices were $100/barrel, we believe they continue to have a place in portfolios as a source of tax-advantaged cash flow. Furthermore, we believe that certain MLPs have been hit harder than they deserve, particularly the “midstream” MLPs mentioned above. These companies are essentially “toll collectors,” transporting oil and gas from the drillers (upstream) to the refiners and marketers (downstream). Because they typically have long-term contracts that guarantee a stable rate of payment, most midstream MLPs have been maintaining—or even increasing—their payouts despite the sharp decline in oil prices.

Investors don’t tend to be discriminating when they start selling out of a previously hot investment, and have not always distinguished between upstream MLPs, whose fortunes are tightly bound to oil prices, and midstream MLPs with their far more stable cash flows. The only real risk to midstream MLPs’ cash flows is if upstream producers go bankrupt because of persistently low oil prices and can’t make good on their contracts. And while bankruptcies in the oil patch are a real concern, cash flow to all midstream MLPs from upstream oil producers adds up to less than 10% of their total cash flow. Thus, even a mass wave of bankruptcies would likely have only a small effect, and this risk is already well reflected in their stock prices.[i]

In sum, we believe that a number of midstream MLPs are significantly underpriced owing to investor misunderstanding. With relatively stable, tax-advantaged dividends, even with oil prices in the $30s, we view the midstream MLP sector as particularly attractive right now, especially for income-oriented and highly-taxed investors.

What KCS is doing

Starting in December of last year, KCS began increasing our clients’ exposure to midstream MLPs (up to about 5% of the portfolio for most; considerably higher for certain clients), as well as re-focusing broader MLP exposure toward the midstream sector. Clearly, higher oil prices would be most helpful for this asset class, but even with oil at its current low price, we believe that the business models of midstream MLPs will allow them to prosper.

Please do not hesitate to reply with comments, suggestions or questions (about MLPs or otherwise).

Dr. Ken Waltzer, MD, MPH, AIF®, CFA, CFP®

Managing Director, KCS Wealth Advisory

Laura Gilman, CFP®, PFP, MBA

Managing Director, KCS Wealth Advisory

Adam Bragman, CFA

Director of Investment Research, KCS Wealth Advisory

[i] Analysis presented by Energy Income Partners, LLC on February 23, 2016; details available upon request.

KCS Wealth Advisory is a registered investment adviser. Our services include discretionary management of individual and institutional investment accounts, along with personalized financial, estate and tax planning services.

Opinions expressed are subject to change without notice and are not intended as investment advice or to predict future performance. The economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful. Past performance does not guarantee future results. Investing involves risk, including loss of principal. Consult your financial professional before making any investment decision. Other methods may produce different results, and the results for different periods may vary depending upon market conditions and portfolio composition. This email does not represent an offer to buy or sell securities.

Weekly Market News

April 15th, 2016

The Markets

The equities market has been volatile thus far this year. Following last week’s gains, the indexes listed here all closed the week in negative territory. Both the Dow and the S&P 500 fell 1.21% for the week — this following a rally last Friday after gains in the price of oil. Uncertainty over whether continued austerity would hasten global growth was felt in the foreign markets, as the Global Dow fell more than half a point and is over 2.0% behind its year-end closing price. Money moved into long-term bonds as increasing prices drove 10-year Treasuries down 6 basis points from the prior week.

The price of crude oil (WTI) closed the week at $39.66 a barrel, up $3.03 over the prior week’s closing price. The price of gold (COMEX) rose by last week’s end, selling at $1,240.10 by late Friday afternoon, up from the prior week’s closing price of $1,223.60. The national average retail regular gasoline price increased for the seventh week in a row, selling at $2.083 per gallon on April 4, 2016, $0.017 over the prior week’s price but $0.330 under a year ago.

Market/Index

2015 Close

Prior Week

As of 4/8

Weekly Change

YTD Change

DJIA

17425.03

17792.75

17576.96

-1.21%

0.87%

Nasdaq

5007.41

4914.54

4850.69

-1.30%

-3.13%

S&P 500

2043.94

2072.78

2047.60

-1.21%

0.18%

Russell 2000

1135.89

1117.68

1097.31

-1.82%

-3.40%

Global Dow

2336.45

2302.06

2287.60

-0.63%

-2.09%

Fed. Funds rate target

0.25%-0.50%

0.25%-0.50%

0.25%-0.50%

0 bps

0 bps

10-year Treasuries

2.26%

1.77%

1.71%

-6 bps

-55 bps

Chart reflects price changes, not total return. Because it does not include dividends or splits, it should not be
used to benchmark performance of specific investments.

Last Week’s Headlines

· Reversing what had been a favorable report in January, factory orders decreased $8.0 billion, or 1.7%, following a 1.2% increase in January, according to the Commerce Department’s full report on manufacturers’ shipments, inventories, and orders for February. Shipments, down 10 of the last 11 months, once again decreased, falling $3.4 billion, or 0.7%. Unfilled orders for manufactured durable goods decreased $4.1 billion, or 0.3%, following a 0.1% increase in January. Inventories, down 8 consecutive months, continued that trend, dropping $2.6 billion, or 0.4%. This report once again highlights the continuing weakness in the manufacturing sector.

· The Institute for Supply Management® Non-Manufacturing Index for March, at 54.5%, is 1.1 percentage points higher than February. Based on surveys from firms involved in services, construction, mining, agriculture, forestry, and fishing and hunting, index readings of 50% and above are indicative of growth. According to the ISM® report, respondents felt that business conditions are mostly positive and that the economy is stable and will continue on a course of slow, steady growth.

· The trade deficit increased from $45.9 billion in January to $47.1 billion in February. The deficit is reflective of a greater increase in imports over exports. February imports were $225.1 billion, $3.0 billion more than January imports, while February exports were $178.1 billion, $1.8 billion more than January exports. Year-to-date, the goods and services deficit increased $10.8 billion, or 13.1%, from
the same period in 2015. February’s trade deficit is the highest in the last six months as the ongoing strength of the dollar overseas continues to cut into exports, curtailing overall U.S. economic growth.

· The latest job openings and labor turnover (JOLTS) report reveals that the number of job openings decreased from 5.6 million in January to 5.4 million on the last day of February. The job openings rate was 3.7%. The number of hires (5.4 million) and total separations (5.0 million) also increased over January’s figures. Over the 12 months ended in February, hires totaled 62.1 million and separations totaled 59.4 million, yielding a net employment gain of 2.7 million.

· The Federal Open Market Committee (FOMC) minutes from its March meeting indicate that, while some positive economic trends were noted, many Committee members expressed a view that “the global economic and financial situation still posed appreciable downside risks to the domestic economic outlook.” As to the prospect of raising interest rates in the near term, “many participants expressed the view that a somewhat lower path for the federal funds rate than they had projected in December now seemed most likely to be appropriate for achieving the Committee’s dual mandate.” It is interesting to note that not all members of the Committee shared this view — some thought it was appropriate to raise rates in March, and will likely suggest raising rates in April unless economic conditions deteriorate.

· For the week ended April 2, there were 267,000 claims for unemployment insurance, an increase of 9,000 from the previous week’s revised level. The advance seasonally adjusted insured unemployment rate remained at 1.6%. The advance number for continuing unemployment insurance claims for the week ended March 26 was 2,191,000, an increase of 19,000 from the prior week’s revised level.

Eye on the Week Ahead

Inflation indicators are front and center this week as the latest figures on producer prices, retail sales, and
consumer prices are available. The week closes with an important report from the Federal Reserve on industrial production, which has been sagging for quite some time.

Data sources: News items are based on reports from multiple commonly available international news sources (i.e. wire services) and are independently verified when necessary with secondary sources such as government agencies, corporate press releases, or trade organizations. Market data: Based on data reported in WSJ Market Data Center (indexes); U.S. Treasury (Treasury yields); U.S. Energy Information Administration/Bloomberg.com Market Data (oil spot price, WTI Cushing, OK); www.goldprice.org (spot gold/silver); Oanda/FX Street (currency exchange rates). All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results. All investing involves risk, including the potential loss of principal, and there can be no guarantee that any investing strategy will be successful.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2,000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indices listed are unmanaged and are not available for direct investment.

A Shift in Sentiment

April 15th, 2016

Spring has arrived in most of the nation. As we enter this new season, we have recently seen a break from the significant volatility we experienced in the first two months of the year. However, although there is increased clarity on several issues that cast a cloud of uncertainty over financial markets in January and February, we cannot forget that heightened volatility is likely not gone for good.

We have just emerged from a historic first quarter for the market. After being down more than 10% at its lows, the S&P 500 bounced back in March and finished the quarter positive. The S&P 500 hasn’t erased a 10% quarterly loss to finish positive since the Great Depression. Experiencing market volatility like this is not easy; yet witnessing this kind of reversal reminds us of the importance of maintaining a long-term perspective.

So, what changed between January and February and today to help calm markets? The mid-winter market malaise was multifaceted and years in the making, but largely revolved around the Federal Reserve (Fed), China, oil, corporate profits, and the U.S. dollar. The market was concerned that the four 25 basis point (0.25%) rate hikes the Fed projected for 2016 would lead to a recession and exacerbate the imbalances emerging in the global economy. These imbalances stemmed from a series of missteps by Chinese policymakers, the oversupply of oil, weak corporate profits, and unprecedented strength in the U.S. dollar.

In the past couple of months, many of these issues have started to resolve. At its March policy meeting, the Fed changed its tune slightly from the December 2015 meeting and reduced its forecast for rate hikes this year from four to just two, citing concerns around global imbalances and economic growth. This more market-friendly projection helped to push the dollar lower and oil higher, alleviating some stress in global financial markets (though oil was already benefiting from supply cuts and speculation of an OPEC production freeze). Meanwhile, China, which said or did all the wrong things managing its currency, economy, and financial markets during the second half of 2015 and again in early 2016, has mostly turned that around recently. The weaker dollar, soothing words from China, and the rebound in oil prices helped to renew a slightly more positive corporate profit outlook and sparked an impressive market rebound.

After the market dips, reversals, and dramatic shifts in investor sentiment, what can we expect as we look ahead? In our view, the second quarter of 2016—and the rest of the year—may look a lot like the first quarter, as many of the areas of concern we faced—Fed rate hikes, oil prices, earnings declines—remain in the background.

Although a continuation of this heightened volatility throughout the rest of 2016 is expected, the LPL Research forecast is still for stocks to deliver mid-single-digit returns in 2016 as the U.S. economic expansion continues.* And through this, we must remember the importance of maintaining a long-term perspective and staying committed to a well-formulated investment plan.

Sincerely,
Westside Investment Management

*Historically since WWII, the average annual gain on stocks has been 7–9%. Thus, our forecast is roughly in-line with average stock market growth. We forecast a mid-single-digit gain, including dividends, for U.S. stocks in 2016 as measured by the S&P 500. This gain is derived from earnings per share (EPS) for S&P 500 companies assuming mid- to high-single-digit earnings gains, and a largely stable price-to-earnings ratio (PE). Earnings gains are supported by our expectation of improved global economic growth and stable profit margins in 2016.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual security. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. Indexes are unmanaged and cannot be invested into directly.

Economic forecasts set forth may not develop as predicted.

The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

Investing in stock includes numerous specific risks including: the fluctuation of dividend, loss of principal and potential illiquidity of the investment in a falling market.

This research material has been prepared by LPL Financial LLC.

Market News

April 1st, 2016

The Markets

After five consecutive weeks of gains, stocks cooled as each of the major indexes listed here slid into negative territory by the close of last week. With the latest downturn, only the Dow is ahead of its 2015 year-end closing value. Several of the markets were closed for Good Friday. Favorable reports on the GDP and new home sales could spur the market this week.

The price of crude oil (WTI) had a volatile week, yet it is clearly trending upward as the price increased again last week, closing the week slightly ahead at $39.59 a barrel, $0.24 ahead of the prior week’s closing price. The price of gold (COMEX) fell by last week’s end, selling at $1,218.70 by late Friday afternoon, down from the prior week’s closing price of $1,256.

The national average retail regular gasoline price increased for the fifth week in a row, selling at $2.007 per gallon on March 21, 2016, $0.046 over the prior week’s price but $0.450 under a year ago.

Market/Index

2015 Close

Prior Week

As of 3/25

Weekly Change

YTD Change

DJIA

17425.03

17602.30

17515.73

-0.49%

0.52%

Nasdaq

5007.41

4795.65

4773.50

-0.46%

-4.67%

S&P 500

2043.94

2049.58

2035.94

-0.67%

-0.39%

Russell 2000

1135.89

1101.67

1079.54

-2.01%

-4.96%

Global Dow

2336.45

2327.69

2279.29

-2.08%

-2.45%

Fed. Funds rate target

0.25%-0.50%

0.25%-0.50%

0.25%-0.50%

0 bps

0 bps

10-year Treasuries

2.26%

1.98%

1.90%

-8 bps

-36 bps

Chart reflects price changes, not total return. Because it does not include dividends or splits, it should not be used to benchmark performance of specific investments.

Last Week’s Headlines

· Following a strong month for existing home sales in January, which had yielded the highest annual rate in six months, the National Association of Realtors®
reported that existing home sales fell 7.1% in February. Total existing-home sales, which are completed transactions that include single-family homes, townhomes, condominiums, and co-ops, dropped to a seasonally adjusted annual rate of 5.08 million in February, down from 5.47 million in January. Despite last month’s large decline, sales are still 2.2% higher than a year ago. The drop in sales is largely attributable to low supply levels and increasing asking prices. The median existing-home price for all housing types in February was $210,800, up 4.4% from February 2015 ($201,900). February’s price increase marks the 48th consecutive month of year-over-year gains. Total housing inventory at the end of February increased 3.3% to 1.88 million existing homes available for sale, which is still 1.1% lower than a year ago (1.90 million).

· The new home sales market gained strength in February as the annual sales rate for new single-family houses increased to 512,000–2.0% ahead of January’s revised rate of 502,000 but 6.1% below the rate for February 2015. The median sales price of new houses sold in February increased over 6.0% to $301,400, while the average sales price came in at $348,900. The seasonally adjusted estimate of new houses for sale at the end of February was 240,000. This represents a supply of 5.6 months at the current sales rate.

· Orders for durable goods (expected to last at least three years) fell 2.8% in February from January’s revised figures, according to the latest report from the Commerce Department. Low oil prices, a strong dollar, and overall financial volatility are the leading contributors to the decline. January’s spike in durable goods orders may have been an exception, as goods orders have otherwise fallen three of
the past four months. Also, new orders for capital goods decreased 1.8%–an indication that business investment also pulled back in February.

· An anticipated surge in the manufacturing sector in March apparently did not materialize, according to the latest Markit Flash U.S. Manufacturing Purchasing Managers’ Index™. The index, at 51.4, is indicative of “subdued growth” in the manufacturing sector, up marginally from February’s 51.3 reading. The index reading of 51.7 for the first quarter is the weakest improvement over any quarter since the third quarter of 2012. Slightly stronger rates of output, new business, and employment growth were offset by the sharpest decline in pre-production inventories since January 2014.

· The gross domestic product can fluctuate with each release as new data is integrated. As such, the third estimate of the fourth-quarter 2015 GDP increased at an annual rate of 1.4%. Last month’s “second estimate” had the GDP increasing 1.0%. In the third quarter, real GDP increased 2.0%. The increase in real GDP in the fourth quarter reflected positive contributions from personal consumption expenditures, residential fixed investment, and federal government spending that were partly offset by negative contributions from nonresidential fixed investment, exports, private inventory investment, and state and local government spending. Imports, which are a subtraction in the calculation of GDP, decreased.

· For the week ended March 19, there were 265,000 claims for unemployment insurance, an increase of 6,000 from the previous week’s revised level. The advance seasonally adjusted insured unemployment rate remained at 1.6%. The advance number for continuing unemployment insurance claims for the week ended March 12 was 2,179,000, a decrease of 39,000 from the prior week’s revised level.

What to expect

As the month of March and the first quarter come to a close, there are several important economic reports to consider. The week starts with the latest information on consumer income and spending, and the Census Bureau’s report on international trade in goods. Federal Reserve Chair Janet Yellen may reveal more information on the Fed’s perspective of the economy and the status of interest rates when she speaks to the Economic Club of New York. The week closes with the latest report on the employment situation for March, which will likely have some impact on the equities markets to kick off the month of April.

Data sources: News items are based on reports from multiple commonly available international news sources (i.e. wire services) and are independently verified when necessary with secondary sources such as government agencies, corporate press releases, or trade organizations. Market data: Based on data reported in WSJ Market Data Center (indexes); U.S. Treasury (Treasury yields); U.S. Energy Information Administration/Bloomberg.com Market Data (oil spot price, WTI Cushing, OK); www.goldprice.org (spot gold/silver); Oanda/FX Street (currency exchange rates). All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. Neither the information nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. Past performance is no guarantee of future results. All investing involves risk, including the potential loss of principal, and there can be no guarantee that any investing strategy will be successful.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange. The Russell 2000 is a market-cap weighted index composed of 2,000 U.S. small-cap common stocks. The Global Dow is an equally weighted index of 150 widely traded blue-chip common stocks worldwide. Market indices listed are unmanaged and are not available for direct investment.