FEDERAL
Plan Now, Save Later
With a little smart tax planning now, taxpayers can face their 2007 Form 1040 knowing that they have saved on their tax bill. By December, taxpayers typically have a fairly accurate estimate of what their income and expenses for 2007 will total. Moreover, they should have some insight into what 2008 is likely to hold in store for them. Here are some steps every taxpayer should consider:
Acceleration or Deferral of Income and Deductions. These strategies are old standbys in tax planning but happen to be among the easiest ways to reduce your tax bill. If you are self-employed and think that business might cool off in 2008, as some economists expect, you should consider delaying your December invoices until January. That way, the income becomes taxable for 2008 and might be taxed at a lower rate. Conversely, if you were planning to upgrade the computer system, facilities, or equipment used in your business in 2007, and your 2008 business prospects are looking bright, it might pay to postpone those purchases until after January 1 when they can be used to offset next year’s higher income.
Year-end tax planning isn’t just for the self-employed. Individuals also can accelerate payment of their real estate taxes and state income taxes due in 2008 and have them deducted on their 2007 returns.
Another tactic is to give long term appreciated securities to charities. Individuals who have long term appreciated securities can help others and save on taxes by donating those securities. Not only does this tactic allow for a charitable deduction for the fair market value of the securities, but it helps to avoid capital gains tax on the sale of the securities, thereby allowing you to donate more than if you had just sold the stock and donated the after tax cash proceeds.
Also, if you have securities with losses, you may want to sell them before the end of the year if you have significant gains elsewhere in your portfolio. Selling at a loss can help to offset your overall gains.
A couple of caveats are in order: First, securities should be held for at least one year and one day to get the benefit of the long-term capital gain treatment, and when selling securities at a loss, be careful not to run afoul of the so-called wash sale rule. A wash sale occurs when an investor buys the same security within 30 days before or after the loss-making sale.
There are other factors to consider when deciding whether income and expense acceleration or deferral makes sense. Chief among these is the
Alternative Minimum Tax, which could be triggered by a multitude of planning implementations, including income deferral and an individual’s pre-payment of real estate and state income taxes. Prior to accelerating deductions for real estate and state income taxes, it’s best to determine whether you are in the AMT, because these deductions may not lower the overall tax liability for someone who is subject to the AMT.
Maximizing Retirement Plan Contributions. Another time-honored maxim of tax planning is to make the fullest contribution to your personal retirement plan allowed by the law. Self-employed individuals should consider setting up a Simplified Employee Pension (SEP) IRA or other plan available to self-employed individuals if they don’t have one already. Such contributions reduce your taxable income. As a self-employed individual, the maximum amount you can contribute to this plan is approximately 20% of net earnings up to a maximum of $45,000 for 2007 ($46,000 for 2008 and subject to annual cost-of-living adjustments for later years).
Section 179 Write-Offs. Small businesses can take deductions for purchases of “personal property” worth as much as $125,000 in 2007 if certain requirements are met. Computers, office furniture and equipment qualify for the deductions, but “real property,” such as land, buildings and building improvements do not.
Gift Tax Exclusion. It’s definitely better to give than to receive – at least from the standpoint of taxes. Individual taxpayers are entitled to gift annual amounts of as much as $12,000 per recipient to any number of recipients without triggering a gift tax liability. The cumulative lifetime amount for tax-free gifts remains at $1 million. Meanwhile, the maximum combined estate, gift and generation-skipping transfer tax drops to 45% for 2007-2009.
Hybrid Vehicle Tax Credit. An increasing number of vehicles from domestic as well as foreign manufacturers qualify for the non-refundable tax credit, which applies to purchases of new vehicles with hybrid engines as well as those powered by electricity and natural gas. However, the tax credit that is available varies greatly by vehicle, and it pays to compare different choices. The dollar amount of the credit starts to phase out once the manufacturer sells 60,000 qualified vehicles. So, for example, the credit for a 2007 Lexus GS450h is $775, while a 2007 Saturn Aura hybrid comes with a $1,300 credit and a 2008 Mercury Marine 2WD hybrid carries a $3,000 credit. Another important factor to consider is that the tax code does not allow any unused portion of the hybrid tax credit to be carried over to future tax years, and the credit could be limited by the alternative minimum tax.
Health Savings Accounts. If you don’t have one, consider establishing a Health Savings Account (HSA). Payments to your HSA can also be deducted above the line – meaning they can reduce your adjusted gross income and possibly nudge you into a lower tax bracket. The tax free contribution for an individual with family coverage in 2007 is $5,650 ($5,800 for 2008). Unlike your traditional health care plan, your HSA funds are not subject to a “use it or lose it” policy. Anything you don’t spend one year carries over to the next.
File electronically. Filing electronically not only ensures a quicker processing of refunds, but it also reduces the chances of error in your filing.
Taxpayers should consult with their tax adviser now to review 2007, as well as the upcoming year, and identify steps that can reduce tax bills.
For more information, please contact Sherry Reisch at sreisch@gellerco.com.
