Tips for Preparing Your Taxes

Income Tax (Photo credit: LendingMemo)

It's that time of year again. While many people cannot say they enjoy preparing their income-tax returns, you'll like it even less if you make mistakes and pay more tax, penalties, and interest than you need to. Here are some things to watch out for as you prepare this year's return or ready your tax documents for your accountant.

Qualified Dividends versus Nonqualified Dividends: Nothing can be more frustrating than receiving a corrected 1099 from your brokerage company. The 1099 is used to report various types of income other than wages, salaries, and tips. If you receive one after you had already filed your taxes, you might have to amend your return.

The problem is that mutual fund companies are required to submit tax information by the end of January, and in some cases they might not have the correct breakdown of qualified and nonqualified dividends by then. Because the tax treatment of qualified dividends might result in you paying less income tax, a revised 1099 might be to your advantage (although in many cases, only by a small amount). So it might pay to wait a bit before filing your tax return if you expect to receive a 1099.

Capital Gains and Losses: When you sell an investment for less than you paid for it, you realize a capital loss. The bright side is that capital losses can help you save on taxes. You can use capital losses to offset capital gains in your portfolio. You'll need to know if your gains and losses are short term or long term. If you held an investment a year or less, it will be a short-term gain or loss. If you held an investment longer than a year, it will be a long-term gain or loss.

In 2014, short-term capital gains are taxed at ordinary income-tax rates from 10% to 39.6%. Long-term capital gains, meanwhile, are taxed at lower, preferential tax rates from 0% to 20%.

Municipal Bond Income: If you own municipal bonds, interest income you receive is exempt from federal income tax. That income may or may not be exempt from state income tax. If the bonds are issued in your state of residence, you usually won't have to pay state and local taxes on the interest. You can find out for sure by contacting your state or the brokerage company at which you hold your securities.

Does that mean all money you receive from municipal bonds isn't subject to taxes? Not necessarily. If you own a municipal-bond fund that paid out capital gains, that money is taxable on your federal and most state returns. In addition, if you own municipals that are classified as "private-activity" bonds, you may be subject to the Alternative Minimum Tax. You may want to consult an accountant about this type of bond. To see if you have both interest income as well as capital gains distributions, check the 1099 forms you received.

Exclude Interest from U.S. Government Securities: Don't forget to exclude the interest from government securities on your state income tax return. You can exclude all income from "direct" government securities (for example, Treasuries). Some states also allow you to exclude income from "indirect" securities (for example, agency bonds like GNMA and FNMA securities). To know for sure, contact your state or the brokerage firm at which you hold your bonds.

Some mutual fund companies can be very good about sending information on the percentage of your funds that are invested in government securities. But there have also been situations where the fund company will only provide this information if you ask.

If you didn't obtain this type of breakdown when you received your 1099 statements, visit your fund company's website to find the information, or call the fund's customer-service line.