Year End Tax Planning Ideas

Year-End Tax Planning Ideas

Another year is coming to an end and we would like to remind you of items that should be address before December 31, 2011.  The information below will assist you in getting the most benefit on your 2011 individual and business tax returns.

I.                    INDIVIDUAL TAX PLANNING

Residential Energy Credit

The tax law provides a 10% tax credit, up to a maximum of $500, for certain energy saving installations in the home. The list of qualified expenses ranges from insulation to energy-efficient central air conditioning units and furnaces. Previously, a maximum credit of $1,500 was allowed for 2009 and 2010.

Year-end action: Make energy-saving improvements before January 1, 2012. Unless this tax break is extended again by Congress, it will expire on December 31, 2011.

The maximum $500 credit must be reduced by any credits claimed under the prior rules in 2009 and 2010.  And, you will need a receipt by the contractor or store that it qualifies for the credit!

Charitable Donations

             Normally, you can deduct the full amount of your cash contributions to charity, as long
as you get a receipt.  And, you may be able to deduct the fair-market value of donated property that has appreciated in value if you have owned the property longer than one year. For example, if you have a piece of art you inherited from your Aunt Ethel that you despise, but is worth more than when you got it, you can donate it to charity for the increased value!

Year-end actions: Complete donations before January 1, 2012 to lower your taxes for 2011. If you are planning to give something next year to a charitable organization, consider donating it this year.  If you make a charitable gift by credit card and the charge is posted by December 31, 2011, it is currently deductible, even if you actually pay off the charge in 2012.

Deductions for donations of used clothing and other household items are generally available for those items in “good condition.”

Retirement Contributions

            When it comes to retirement savings, rule number one is to contribute the maximum amount allowed every year.  For 2011, the IRA contribution limit is $5,000, and those 50 and older can contribute $6,000.  Participants in a 401(k) plan can contribute as much as $16,500 ($22,000 if 50 or older).

            Did you know you can make IRA contributions for your spouse when you’re working and your spouse is not?  For 2011, the maximum spousal IRA contribution is the lesser of $5,000 or your combined earned income.  You can add an additional $1,000 when your spouse is over age 50.

            If you’re self-employed, establishing a retirement plan such as a SEP or a SIMPLE means a current-year tax deduction in addition to tax-deferred growth.  For 2011, you can contribute 25% of your salary to a SEP plan, up to a maximum contribution of $49,000.  The maximum SIMPLE contribution is $11,500, plus an additional $2,500 as a catch-up contribution if you’re over age 50.  A federal tax credit may also be available –up to $500 for each of the first three years of your new plan.  Remember, credits reduce your tax bill dollar for dollar.

Year-end action: Max out your 401K by 12.31.11 or IRA by 4.15.12

Did you Provide Support for any Relatives?

            While planning to maximize deductions, remember to take into account the financial support you provide for relatives.  Potential tax breaks include dependency exemptions, head-of-household filing status, medical deductions, and the dependent care tax credit.  Generally, you’ll need to provide over half of your relative’s living expenses.

            What if you don’t provide more than 50% of support for your relative?  You could enter into an arrangement with other family members who provide help, or you could shift assets you would dispose of anyway to pay for the support.  You would then be shifting the related income and tax to your relative.

            Here’s an illustration of asset and income shifting.  Instead of selling stock at a gain and using the proceeds to pay for a parent’s living expenses, gift the stock to your parent and let him or her make the sale.  Long-term gains could qualify for a zero-percent tax rate if your parent is in the lower tax brackets.

Avoid Penalties by Making Your Estimated Tax Payments Timely

            If you do not pay enough income tax through quarterly installments or income tax withholding, you may be assessed an “estimated tax penalty.” But no penalty applies if payments equal at least 90% of your current liability or 100% of the prior year’s tax liability. The 100% threshold is increased to 110% if your adjusted gross income (AGI) for last year exceeded $150,000.

IMPORTANT Year-end action: Make sure to be at least 90% paid in for 2011 taxes or 100% paid in of 2010 taxes before 1.15.2012. Typically, it is easier to meet the requirement based on the prior year’s tax liability.  Call us to discuss.

Miscellaneous Tax Tips for Individuals

●        Make sure to pay your real estate taxes in 2011 to deduct them for 2011!  Some clients forget to pay and wait until the deadline the following year, thus losing the tax deduction for this year.

●        The tax law allows you to deduct annual unreimbursed medical expenses only in excess of 7.5% of your AGI for 2011 (scheduled to increase to 10% in 2013). If you are close to the 7.5% mark or already over it, schedule non-emergency medical and dental visits before the end of the year.

●        Consider consolidating outstanding personal debts into a home equity debt. Interest on personal debts (like credit cards) is not tax-deductible, but you may deduct mortgage interest paid on the first $100,000 of home equity debt, no matter how the proceeds are used. Caution: The debt must be secured by your home, so use this technique carefully.

●         If you are a parent of a child in college, you may claim a tuition deduction or one of two higher education credits for qualified expenses paid in 2011. However, these tax benefits are phased out for high-income taxpayers.

II.        BUSINESS TAX PLANNING

Depreciable Property

                Certain enhancements to business depreciation provisions are scheduled to expire December 31, 2011, although President Obama has proposed an extension through 2012.

Section 179 – A $500,000 expensing election limit applies to qualifying property purchased and placed in service during 2011.  As a result, many businesses will receive an immediate tax write-off for the cost of most new and used tangible personal property.  Unless Congress acts to further extend the higher limit, it will drop to about $134,000 in 2012.

            Companies that purchase more than $2 million of qualifying property during 2011 have their deduction amount reduced, dollar-for-dollar, for purchases in excess of $2 million.

            Bonus depreciation – Property that does not qualify for an immediate tax write-off under the expensing election may qualify for an increased first-year depreciation deduction under bonus depreciation rules.  Unlike the Section 179 deduction, there are no restrictions on the amount of qualifying property and there is no taxable income limit.  The one restriction on the bonus depreciation is that it is available only on new assets.  The deduction is 100 percent of the cost for property purchased and placed in service during 2011.  Unless Congress acts to extend the bonus depreciation (now proposed by the President), it will not be available for 2012.

The Section 179 deduction may be combined with 100% bonus depreciation in 2011 for an unprecedented write-off of qualified business assets.

Business Tax Credits

            Research and development tax credit – Many business owners in nearly every industry are unaware that federal and state research and development (R&D) tax credit programs exist that may reward their day-to-day efforts aimed at producing an improved product.  This credit is scheduled to expire December 31, 2011.

            Health insurance tax credit – To encourage smaller businesses to offer medical insurance coverage for their employees, the law offers a tax credit to offset all or part of the cost.  If your business qualifies as a small employer, meaning fewer than 25 employees and average annual wages of less than $50,000, you are eligible for a credit of up to 35 percent of non-elective contributions you make on behalf of your employees for medical insurance premiums.  The credit varies based on the numbers of employees and average compensation.

            Credit for hiring new employees – Businesses that hire workers who are members of certain target groups, such as disabled veterans, food stamp recipients and ex-felons, can claim a credit up to 40 percent of the first $6,000 of wages paid to each such employee.

Miscellaneous Tax Tips for Businesses

●         Purchase routine business supplies before the end of the year. A company can generally deduct the cost in 2011—even if the supplies will not be used until 2012.

●        Losses claimed by S corporation shareholders are limited to the basis in the stock plus outstanding debt. Thus, shareholders might make a capital contribution or lend money to the corporation before year-end to increase the basis for loss deduction purposes. Call us to discuss if you think it applies to your situation.

●        A company can deduct 100% of business travel costs and 50% of entertainment and meal expenses. To increase your current deduction, accelerate trips planned for 2012 into 2011. Note: A company can deduct 100% of the cost of a holiday party if the entire workforce is invited.

●        Get a new business up and running before 2012. For 2011, you can claim a maximum first-year deduction of $5,000 of qualified start-up costs.

●        If you buy an SUV or van for business driving, you may be able to claim a first-year deduction of up to $25,000. The usual “luxury car limits” don’t apply to certain heavy-duty vehicles.

III.            FINANCIAL TAX PLANNING

Sales of Stocks and Bonds

               Tax-smart investors can use capital losses from securities sales to offset capital gains and vice versa.

               A capital loss in 2011 may offset capital gains plus up to $3,000 of ordinary income. Any remainder is carried over to next year. Under current law, the maximum tax rate on long-term capital gains (i.e., on assets owned for more than a year) is 15% and 0% for certain low-income taxpayers.

               Also, if you have capital gains for the year, sell loser stocks to soak up the capital gains, creating a net tax effect of zero. 

Year-end action: When it makes sense, take losses from securities sales before 2012 to avoid tax if you are currently showing a net capital gain. If you really love the stock and still want it in your portfolio, wait 31 days and buy it back, avoiding the wash-sale rules.

The 15% and 0% maximum tax rates for long-term capital gains are scheduled to increase to 20% and 10%, respectively, in 2013. But this may be changed by future legislation.

Roth IRA Conversions

               There are two main types of Individual Retirement Accounts (IRAs): traditional IRAs and Roth IRAs. In brief, contributions to traditional IRAs may be tax-deductible, but tax deductions are phased out for “active participants” in employer-sponsored retirement plans (401K and 403B). Distributions are taxed at ordinary income rates. Conversely, Roth IRA contributions are never tax-deductible, but qualified distributions from a Roth that is in existence five years are 100% tax-free.

Year-end action: Consider converting funds in a traditional IRA to a Roth. The transfer is currently taxable, but can provide future tax-free benefits. This is especially attractive if you are going to be in a lower tax bracket in 2011, as converting now will save you big tax dollars later if you decide to convert in a year when your tax rate is higher.

Unfortunately, a one-time tax break for Roth conversions is no longer available. For 2010 only, taxable income from a conversion could be split evenly over the following two years.

The contribution limit for both traditional and Roth IRAs in 2011 is $5,000 ($6,000 for those age 50 or older). This limit applies to any IRA combination (but Roth contributions are restricted for high-income taxpayers).

Required Minimum Distributions

            As a general rule, you must receive “required minimum distributions” (RMDs) from qualified retirement plans and IRAs once you have reached age 70½. The amount of the distribution is based on special life expectancy tables.

Year-end action: Make sure you take the RMD before January 1, 2012. If you fail to do so, you may be assessed a penalty equal to 50% of the required amount.

If you are still working and not a 5%-or-more owner of the employer, you can postpone RMDs from the employer’s qualified plan until retirement, but not for any IRAs.

Estate and Gift Taxes

                During the last decade, the top estate-tax rate gradually decreased from 55% to 45% while the estate-tax exemption increased from $1 million to $3.5 million, before the estate tax was generally repealed for 2010. Now a generous estate-tax exemption of $5 million, with a top estate-tax rate of 35%, is available through 2012. The chart below summarizes the recent progression.

Year-end action: Review your estate plan with a professional financial adviser. Frequently, it will make sense to reduce your taxable estate with lifetime gifts to family members. The annual gift-tax exclusion allows you to give each recipient up to $13,000 in 2011 without paying any gift tax ($26,000 for joint gifts by a married couple).

The gift-tax exclusion applies annually. Therefore, you can give the maximum tax-free gift to someone in December 2011 and give the maximum to the same person in January 2012.  Therefore, you and your spouse could gift $52,000 to one person over 2 days

Miscellaneous Financial Tax Benefits

●        When it makes sense, you may defer tax on investment income by acquiring certificates of deposit (CDs) and Treasury securities that mature next year. Generally, the income from these investments is not taxable until the year it is received.

●        It is often beneficial tax-wise to sell mutual fund shares before the fund declares dividends (the “ex-dividend date”) generally in the 4^th quarter, and to buy shares after the date the fund declares dividends

●        Consider investments in dividend-paying stocks. As with long-term capital gains, the maximum tax rate on qualified dividends received in 2011 is 15% (0% for low-income taxpayers).

●        Maximize deductions for vacation home rentals. Generally, you may claim a loss only if your personal use does not exceed the greater of 10% of the time the home is rented out or 14 days. However, you may qualify for loss deductions if you are an “active participant” in the rental activity. This tax break is phased out for high-income taxpayers.

Tax changes coming in 2013 to be aware of:

            Some future tax changes have already been enacted but have yet to take effect:

            Effective Jan 1, 2013, a new Medicare Hospital Insurance (HI) tax applies to high income            individual taxpayers:

●        The tax is 0.9 percent of earned income in excess of $200,000 for single filers ($250,000 for joint return).

●        A 3.8 percent tax applies to investment income (including dividends, annuities, royalties and rents, etc.) for the same individuals.

Consider talking with us or your tax adviser about strategies for minimizing this tax.

In 2013, the threshold for the itemized deduction for unreimbursed medical expenses is increased to 10 percent of adjusted gross income from the current 7.5 percent.  You may want to plan for unreimbursed medical procedures in 2011 or 2012 to maximize your tax benefit.  There is a break for older taxpayers.  If an individual or spouse is age 65 or older, the threshold remains at 7.5 percent of adjusted gross income through 2016.

CONCLUSION

            Unfortunately, the ways for middle class taxpayers to save taxes are limited.  When you are a Donald Trump, you employ teams of CPAs and tax attorneys to maneuver your money into special situations within the tax code carved out by politicians for high income people (like themselves).

            This year-end tax-planning blog is based on the prevailing federal tax laws, rules and regulations. Of course, it is subject to change, especially if major tax reform provisions are enacted before the end of the year.

Finally, remember that the letter is intended only as a general guideline. Your personal circumstances will likely require greater examination. Please contact us if you would like to schedule a meeting to discuss your specific situation.