DAT Financial & Tax Service
Year-end Tax Planning
In many cases, hundreds or thousands of dollars in taxes can be saved at year-end simply by writing a few checks for deductible expenses and carefully timing the sale and purchase of investments.
Even more may be saved in future years by taking advantage of year-end opportunities to make financial gifts to children, convert traditional IRAs to Roth IRAs and sign-up for your employer's 401(k) plan and tax-sheltered "flexible-spending arrangements" for child-care and medical expenses.
General Suggestions
Most people will find that the best year-end strategy for minimizing tax bills is the traditional one: Prepay some of next year's deductible expenses and defer income where possible until next year.
The strategy will help many people pick up hundreds or thousands of dollars in extra deductions for their income tax returns. And deferring income, such as arranging with your employer to delay issuing a Christmas bonus check until after December 31, will put off the tax for an extra year.
Special Situations/AMT
Deferring income and accelerating deductions won't be the best bet for everyone.
For example, if you expect to be in a higher tax bracket next year, you may be better off trying to accelerate income into this year - instead of deferring it - so that the money will be taxed at your lower rate.
Upper-income individuals who expect to fall prey to the alternative minimum tax this year, but not next year, are also likely to be better off accelerating income because AMT rates are lower than the top regular income tax rates. And instead of accelerating deductions, payment of deductible expenses should be deferred, where possible, until next year. That's because many expenses that are normally deductible - including state taxes and most types of "miscellaneous" itemized expenses - aren't deductible under the AMT computation.
Qualifying for Income-Contingent Breaks
Before shifting income from one year to the next, be sure to consider the impact on your eligibility for any valuable tax breaks you hope to claim.
Many major tax benefits are phased out for individuals with AGIs above certain levels. They include the child tax credit, the Hope and Lifetime college tuition credit, adoption credit, student loan deduction, education savings accounts, traditional deductible IRAs, Roth IRAs, earned income tax credit and write-offs for rental property losses. As a result, it's important to project your income for both this year and next year. If you can't meet the eligibility requirements both this year and next year, see if you can qualify at least one year.
Timing the sale of investments will be critical for many individuals who are bordering on the income thresholds for a valuable tax break. In some cases, it will pay to avoid realizing large investment gains in years in which you expect to be able to reap substantial benefit from the tax breaks.
Shopping for Year-End Tax Deductions
Charitable Contributions
If you plan to make a charitable donation in the near future, consider making it by December 31 if you expect to be able to itemize deductions this year.
If you own stocks for more than one year and have a capital gain, you can claim a charitable deduction for the current market value of your donated shares. In addition, you won't have to pay any capital gains tax on the appreciation. If you donate shares held one year or less, your charitable deduction will be limited to what you originally paid for the shares - not their appreciated value.
Don't donate shares that are selling for less than what you paid for them. If you give money-losing shares to charity, you won't be eligible to claim a capital loss for those shares on your tax return. You can deduct the loss only if you sell the shares yourself.
Check Your Garage
Besides checking your investment portfolio for charitable donations, check your closets, attic and garage for old clothing, furniture and appliances that can be donated to groups that help the needy.
To substantiate your contributions should the IRS later question the size of your deduction, make a list of the items you'll be giving away and have the charity sign it. For in-kind donations valued at over $500, you'll need to know the date you purchased your items and the price you originally paid. You can take as a deduction the estimated current fair market value (what the item would sell for in a thrift shop.) To be tax-deductible, items must be in good condition and valued at thrift store prices.
See Non-cash donations to record your donations.
State Taxes
Make an estimated income tax payment to the state by December 31 to cover any remaining balance of state income taxes you expect to owe for the tax year. By paying now, you'll generally be eligible to deduct the payment on your return.
Job and Investment Expenses
If you expect to be able to write off "miscellaneous" itemized expenses, pay your professional association dues, subscriptions to trade and investment publications and other job and investment-related expenses before year's end. The miscellaneous category also includes tax preparation fees. The deduction is limited to any amount above 2 per cent of your AGI.
Medical Expenses
Pay outstanding medical bills and health insurance premiums by December 31 if you expect to be eligible to write off medical expenses, which are generally deductible only if you itemize and only to the extent they exceed 7.5 per cent of AGI. To make the most of the deductible opportunity, consider scheduling and paying for elective treatments before year's end, such as orthodontia work for your child and eyeglass exams. Also consider year-end purchases of any medical items you'll need in the near future, such as prescription drugs, eyeglasses, orthopedic shoes, dentures and hearing aids.
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