Year-End Planning Can Take the Bite Out of Future Tax Bills
Presented by Adam Brooks, Daniel Evans, & Jared Pearson
As the end of the year approaches, many of us are likely too preoccupied with holiday plans to think about our taxes. But there’s a reason to put tax planning high on your to-do list this year: The Bush tax cuts are set to expire at the end of 2010, and 2011 taxes could rise to as high as 39.5 percent on income and dividends and 20 percent on capital gains.
Opportunities for minimizing tax liabilities
To get started, you’ll need your prior year’s tax return, as well as your current paystubs and account statements. Based on this information, you can make some rough projections regarding your tax bill. If you’re in a position similar to last year, you can expect a similar outcome; if your situation has changed dramatically, you may need to revise your potential tax liabilities up or down. Then you can address the following:
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Are you withholding the right amount?
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If you anticipate owing taxes, you can:
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Ask your employer to increase your federal income tax withholding amount to avoid owing a potential penalty.
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If you anticipate a large refund, you can:
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Ask your employer to decrease your withholding amount so you can receive your money now rather than waiting for a refund check.
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Will you be subject to the alternative minimum tax (AMT)? The AMT attempts to ensure that high-income individuals pay a minimum tax amount. The following are possible triggers for the AMT:
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Large numbers of personal exemptions
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Itemized deductions for medical expenses
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Deductions for state, local, personal property, and real estate taxes
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Home equity loan interest where the financing isn’t used to buy, build, or improve your home
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Exercising incentive stock options
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Large miscellaneous itemized deduction amounts from items such as investment expenses and unreimbursed employee business expenses
When you project your taxes, calculate your regular income tax on Form 1040; then consider your potential AMT liability using Form 6251. If you are subject to AMT, you may need a different planning strategy and should consult a tax professional.
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Should you change the timing of your income and deductions? Federal income tax rates are scheduled to increase in 2011, unless Congress acts before the end of the year. With the uncertainty around income tax rates for 2011, you may benefit from some last-minute moves to either accelerate or delay your income and/or deductions. For example, if you expect to be in a higher tax bracket next year, you might want to accelerate income into this year so you will pay tax on it this year. If you are in the higher marginal tax brackets, you also may want to accelerate deductions in order to pay less tax this year. In 2010, there is no reduction for itemized deductions for higher-income taxpayers, but the phaseout of deductions will return in 2011.
To accelerate income into this year:
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Consider selling capital gain property you anticipate selling in 2011.
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Convert a traditional IRA to a Roth IRA.
To accelerate deductions into this year:
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Consider paying medical expenses in December rather than January, if doing so will allow you to qualify for the medical expense deduction.
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Prepay deductible interest.
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Pay real estate, state, and local taxes before year-end.
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Make next year’s charitable contributions this year.
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Don’t forget to take deductions and credits that are only available for 2010, such as the energy efficient home improvement credit.
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Have you considered gifts that give back—to you? You may also want to consider noncharitable gifts; in 2010 and 2011, you can give up to $13,000 ($26,000 for married couples) to as many individuals as you choose, without incurring any federal gift taxes. Transferring assets during life can save on future estate and gift tax bills, and you get the pleasure of watching your heirs enjoy your gift today.
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Can you save by maximizing contributions to retirement savings vehicles? Depending on your personal financial situation, you may be eligible to make tax-deductible contributions to an IRA, or you can contribute after-tax dollars to a Roth IRA (qualified distributions will be tax-free). If you are contributing to an employer plan, you may want to make the maximum pretax contribution. Remember that while pretax contributions reduce this year’s income, there is never a better time to save for retirement than today.
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Are your assets protected? The end of the year is a good time to review and update your estate plan to account for any changes in your financial life, circumstances, or tax laws to ensure that your asset titling and beneficiary choices are still in line with your plans.
Special considerations for business owners
As a business owner, you have other tax considerations. Be sure to consult a professional for assistance with your situation.
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Expensing of business property. For 2010, small businesses are allowed up to 50 percent additional depreciation for qualifying property purchased and placed into service before December 31.
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Corporate employee-shareholders. If you are an owner of a corporation who also works in the business, you need to consider employment taxes in your salary structure. Medicare tax, in particular, is tricky because it is not capped and will be levied against all income received as salary. You can look at your salary level and company income distribution for opportunities to reduce your taxes. Keep in mind, however, that the IRS expects you to take a reasonable salary, so you’ll want to consult with a tax professional.
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Leverage your gift tax exclusion with your business. You may be able to gift ownership interests that are eligible for valuation discounts. Structures such as family limited partnerships (FLPs) and LLCs can also provide valuation discounts when interests are transferred. These discounted gifts can help transfer assets to save future estate or gift taxes and can be made a regular part of the year-end tax review routine.
Keep tuned to breaking news coming from Congress at the end of this year, which may give you a last-minute opportunity to reduce taxes. With a bit of effort and some professional assistance, you can pave the way for happier tax years to come.
This material has been provided for general informational purposes only and does not constitute either tax or legal advice. Investors should consult a tax or legal professional regarding their individual situation.
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Adam Brooks, Daniel Evans, & Jared Pearson are financial advisers practicing at Brooks Capital Strategies 360 SW Powerhouse Dr., Suite 310 Bend, Oregon 97702 . They offer securities as registered representatives of Commonwealth Financial Network®, a member firm of FINRA/SIPC. Brooks Capital Strategies is a Registered Investment Adviser. They can be reached at 541-330-6411 or at brooks@brookscs.com.
© 2010 Commonwealth Financial Network®