Your tax strategy goes with investment strategy

Dec 18, 2012 by Guest Writer

With today’s market fluctuations and four more years of possible political gridlock in the U.S., it is more important than ever to reevaluate and adhere to an investment strategy.

This strategy must be based on personal goals, circumstances and risk tolerance. If investors understand this basic investment advice, they will be in a better position to ride out recurring market volatility.

This article focuses on investors who, for whatever reason, need a big tax deduction on this year’s income taxes and still want a modest return on their investments. With the much talked about topic “fiscal cliff”, many are trying to figure out what to do. Some are selling off and taking their capital gain this year before the new tax changes.

Others also believe more focus will be on cleaner energy.

The biggest obstacle for investors to overcome is the desire to do something hasty about falling investments just because it might feel better than doing nothing at all. Many investors sell when the market is low because of fear it will go lower, while others keep their investment after it has a medium or substantial growth hoping it will just go higher.  

For those who plan their long-term objectives with an adviser, these objectives can be managed by considering market volatility.

With the constant change of government leaders, it can be difficult to keep up with new tax rules and the impact they have on our investments. There will be changes in capital gains tax, dividend taxes and estate tax.

In mapping out your financial future, investors need to keep these tax variables in mind as well when choosing investment options. There will be future articles to try and make sense of the new changes and how they could affect you and your investments.

Don’t forget that tax strategy and investment strategy go hand in hand because it is your net return after taxes that counts most. Many investors do not factor that in when making decisions.
Investors looking for dividend income or returns but maybe less-taxable dividends may want to look into dividends from natural gas. These dividends usually are modest but combined with tax benefits you could get a higher net potential return depending on your tax bracket.   

The safest way to invest in natural gas would be in Limited Partnerships (LPs). Be aware there may be qualifications to participate in these types of investments.  

The benefit is that investors participate as part owners and can take advantage of a portion of the tax benefits passed on to owners. Investors usually need to be listed as a general partner to do so but many of these investments will move investors to a limited partner status after the tax benefits are lost.

Let’s dissect a typical natural gas partnership. For example, a partnership could consist of raising $20 million to drill 25 wells in a proven area. This approach mitigates the risk by diversifying into 25 different wells.  
If all the wells are all drilled and expensed in the first year, then your total investment would have been an expense with little tangible capital left on the books. In other words, there is no asset except the natural gas, which has not yet been pulled out of the ground. All the drilling equipment is leased from drilling companies, including labor, etc. This is called Intangible Drilling Cost or IDC.

In extreme circumstances, the gas company participates with its capital in the LP but does not normally need the IDCs and passes those on to the general partners for their tax benefit. With this approach, the general partner investor could actually see a 100 percent tax write off on their investment the first year. The plan would then be to receive royalties from the wells in future years.

Some natural gas LPs also sell direct to the consumer. In this example, the gas company markets and sells the gas to the end consumer (prisons, schools, and other large-end users). They are sold future prices, which can be higher than the present price. These consumers are on strict budgets and cannot go over because of gas market price fluctuations.  

Investors familiar with annuities may recognize that a natural gas LP can be similar. A lump sum of money is invested and a monthly income stream is expected until the funds are exhausted.  

There are two benefits to this approach. First, investors get a huge tax break in the year they invest. Second, they participate as a partner and benefit from the depletion and depreciation expenses all while receiving monthly royalty checks and reduced taxes.  

The big question I always ask is: Do you think taxes will stay the same, go up, or go down in the future?
With that in mind, choose investments wisely, not only for now but for the future. Also, consider the type of investment and how taxes are paid on it, now and in the future.  

Information in this column is not intended to be specific advice for anyone. You should use the information to help you work with a professional regarding your specific financial goals and whether or not you qualify to invest in this type of investment.  

Capt. Mark A. Cline is a chartered senior financial planner. Comments on this column are welcome at +1-954-764-2929 or through