December 1, 2008
Dear Client,
As the end of the year approaches, it is a good time to think of planning moves that will help lower your tax bill this year and possibly the next. Factors that compound the challenge include the stock market’s swoon, the difficult economic climate we are in right now, and the strong possibility that there will be tax changes in the works next year. In fact, there might even be another economic stimulus package carrying tax changes enacted before the end of this year.
We have compiled a list of actions based on current tax rules that may help you save tax dollars if you act before year-end. Not all actions will apply in your particular situation, but you will likely benefit from many of them. You should not adopt any tax planning strategy offered in this letter without first considering its impact on your overall tax liability. Therefore, we suggest that you contact our firm before implementing any tax planning idea.
Time Your Income and Deductions
Generally, your objective is to defer income and accelerate deductions. This strategy may enable you to claim larger deductions, credits, and other tax breaks that are phased out over varying levels of income. If you are self-employed and use the cash method of accounting, hold off on sending out invoices until very late in the year so that you do not receive payment until next year. If you receive payment before year-end, deferring the deposit does not defer the income. On the expenses side, wherever possible, try to accelerate deduction into this year by stocking up on supplies, paying employee bonuses, making charitable contributions, and prepaying January bills during December. Consider using a credit card to prepay expenses that can generate deductions for this year.
Save for Retirement
Contributing to a retirement plan is one of the best ways to reduce your taxable income and secure your financial future.
You can contribute up to $5,000 ($6,000 if you are age 50 or older by year-end) to your IRA if certain conditions are met. For married couples, the combined contribution limits are $10,000 ($5,000 each) and $12,000 ($6,000 each if both are age 50 or older by year-end) when a joint return is filed provided one or both spouses had at least that much earned income. If you are an active participant in your employer’s retirement plan, your traditional IRA deduction is phased out ratably as your adjusted gross income (AGI) increases from $85,000 to $105,000 on a joint return ($53,000 to $63,000 on a single return). If your spouse is an active participant in his or her employer’s plan and you are not an active participant in a plan, you may contribute the full amount to a traditional IRA as long as the AGI on your joint return is $159,000 or less. The deduction for the non-active participant spouse begins to phase out when your AGI reaches $159,000 and is totally phased out once it reaches $169,000.
Every dollar you contribute to a deductible IRA reduces your allowable contribution to a nondeductible Roth IRA. Your ability to contribute to a Roth IRA is phased out ratably as your AGI increases from $159,000 to $169,000 on a joint return or from $101,000 to $116,000 on a single return.
If you are covered by your company’s 401(k) plan, you should consider putting as much of your compensation into the plan as allowable. The maximum amount is $15,500 ($20,500 if you are age 50 or older by year-end).
If you are self-employed, consider a small business retirement account such as a SEP IRA, SIMPLE IRA, Individual 401(k) or other qualified retirement plan. Contributing to a plan can enable you to reduce your current tax load while increasing your retirement savings. With a SEP IRA, you generally can contribute up to 20% of your net self-employment earnings, with a maximum contribution of $46,000. A SIMPLE IRA, on the other hand, allows you to set aside up to $10,500 plus an employer match. In addition, if you are age 50 or older by year-end, you can contribute an additional $2,500 to a SIMPLE IRA. Generally, calendar-year taxpayers wishing to establish a qualified retirement plan for this year must adopt the plan by December 31. Exceptions to this general rule apply to SEP and SIMPLE plans. You have until the day you file next year, including extensions, to make this year’s employer contribution.
Contribute from Your IRA to Charities
If you have reached age 70 ½, you may have your IRA trustee contribute up to $100,000 from your IRA directly to a qualified charity and exclude the distribution from your income. Although you do not get a charitable contribution deduction, this distribution counts toward any required minimum distribution that you would otherwise be required to take during the year. Having your IRA make a charitable contribution may be beneficial if you do not itemize your deductions or if your itemized deductions will be reduced because your income exceeds certain thresholds. You must have reached age 70 ½ before the date of the transfer. Married individuals filing jointly may each transfer up to $100,000 from each spouse’s own IRA if each has reached age 70 ½. The IRA check must be made payable directly to the charity (not to the beneficiary).
Charitable Contributions
If you are considering making a contribution to charity, it will generally save you taxes if you contribute appreciated long-term capital gain property, rather than selling the property and contributing the cash proceeds to charity. By contributing capital gain property held more than one year (e.g., appreciated stock), a deduction is generally allowed for the full value of the property, but no tax is due on the appreciation.
Sell Loser Stocks
If you have already recognized capital gains in your taxable investment accounts, you should consider selling securities that have declined in value to the extent that realizing capital losses to offset capital gains is consistent with good investment planning. These losses will be deductible on your return to the extent of your recognized capital gains, plus $3,000. However, if within 30 days before or after the sale of loss securities, you acquire the same securities, the loss will not be allowed.
If your stock sales to date have created a net capital loss exceeding $3,000, consider selling enough appreciated securities before year-end to decrease the net capital loss to $3,000. Stocks that you think have reached their peak would be good candidates. All else being equal, you should sell the short-term gain (held 12 months or less) securities first.
Buy Necessary Equipment
If you are thinking about upgrading your computer system, purchasing furniture, or buying machinery or other equipment for your business, purchasing it now will enable you to write off the costs against this year’s income. Code Section 179 permits you to “expense” or fully deduct up to $250,000 of qualified purchases. If you are short of cash, you can finance the purchase. This deduction phases out, dollar-for-dollar, after eligible purchases reach $800,000.
Generally, sport utility vehicles (SUVs) weighing over 6,000 lbs. are entitled to a maximum first-year expensing deduction of $25,000. However, there is no limit on the 50% bonus first-year depreciation allowance for SUVs weighing over 6,000 lbs.
Pass-through Entity Losses
If you own an interest in a partnership or S-corporation, you may need to increase your basis in the entity so you can deduct a loss from it for this year. If you think this situation applies to you, please contact our office to discuss since the basis and loan deduction rules are complex and beyond the scope of this letter.
S-Corporation Health Insurance Premiums
If you are a more than 2% S-corporation owner-employee, make sure the health insurance premiums paid for or reimbursed to you by the S-corporation are included in your W-2 in order to deduct the premiums as an “above-the-line” deduction on your personal return.
Avoid Underpayment Penalties
One way to avoid a penalty for failing to pay or withhold sufficient income taxes is to pay 100% of your prior year’s tax liability in quarterly estimated payments or through income tax withholding. If your prior year’s AGI was over $150,000, you must pay in 110% of your prior year’s tax liability to qualify for this safe harbor. Estimated tax payments cannot be “made up” at year-end. However, if you have not paid sufficient estimates to avoid an underpayment penalty, you may have additional amounts withheld from your wages, year-end bonuses, or retirement distributions. Any withholding is deemed paid equally on each quarterly installment date for estimated tax purposes, even if the withholding occurs in December.
Prepay Quarterly Estimated State Tax Payment
If you anticipate deducting your state income taxes and you are not vulnerable to the alternative minimum tax, consider paying your fourth-quarter estimated state income taxes by December 31 so you can take the deduction on this year’s return. The same idea applies to property taxes as well.
Whether some or all of these suggestions fit your situation, we are only scratching the surface here. We invite you to browse our Web site for more information on these and many other tax planning ideas.
Please contact us with questions about tax saving strategies for yourself, your family, or your business. Tax laws constantly change due to new legislation, cases, regulations, and IRS rulings. Our firm closely monitors these changes and we will be glad to discuss any current tax developments and planning ideas with you.
