Year End Tax Planning Tips

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TAX PLANNING

Year End Tax Planning Tips

By The BIDaWIZ Team on December 20th, 2009 at 8:00 am

As painful as it is, you might as well start building a tax plan now since the alternative is scrambling last minute, burning the midnight oil, only to find out that you don’t have a clue what to do.

1) Start Tax Planning & Organizing NOW
First and foremost, proper planning needs to happen now. You will want to review your current year’s expected income & expenses and then think about what expenses fall under tax deductions & credits. If you can, you will also want to have an estimation of next years expected income and expenses because this will help you determine if you want to make payments at the end of the year or January (we’ll explain why later). If you have such poor documentation that you can’t properly estimate either your income or expenses, you will want to stop here as you aren’t even ready to think about taxes. Instead, start gathering all of your payment stubs, brokerage statements, receipts, bank statements, credit card statements, & enter that information into a spreadsheet organized by expenses and income. If you aren’t comfortable working with spreadsheets, there are several great free personal finance web-application services such as Mint & Justthrive.

2) Tax Credits & Deductions Galore!
It seems as though every day there is a new tax deduction or credit available and keeping track of it all can be quite overwhelming. Our listing of tax credit related articles below should help you sort through the information. We also provided a separate section for the first time home buyer credit since that is such a hot topic.

Teachers & College Students. Save Your Receipts For Back to School & Tuition!
The Unemployed. Recently Laidoff? The Stimulus Package Offers Some Help
Homeowners. Energy Tax Credits for Your Home

Boggled Down with the First Time Home Buyer Tax Credits?
Well, we are hearing that a lot these days. To help you out we have provided the general guidance but you will want to consult with one of the tax advisors because the rules can get complicated if your situation is not completely straight forward.

So Who Is Considered a First Time Home Buyer?
A buyer who has not owned a principal residence, during the 3 yrs up to the date of purchase.

How Much is the Tax Credit?

2009 Purchasers – can claim up to $8,000

* Eligible – If purchased before April 30, 2010 and closed by June 10, 2010
* Purchased on or PRIOR to Nov 6, 2009 – Phase outs begin if your Modified Adjusted Gross Income (MAGI) = $75K to $95K; $150K to $170K if joint filer
* Purchased AFTER Nov 6, 2009 – Phase outs begin if your Modified Adjusted Gross Income (MAGI) = $125K to $145K; $225K to $245K if joint filer

What if I Don’t Qualify for the First Time Home Buyer Credit?
There is the “Long Time Resident Credit” which is for buyers that have owned or used a principal or primary residence for 5 consecutive years of the 8 years ending up to the date of purchase of their new replacement home. This buyer will be entitled to a tax credit of up to $6,500. The MAGI phase out ranges above also apply for this credit.

What Form Do I Have to File?
IRS Form 5405; A new version is slated to come out in the end of Dec. ‘09

In addition, the IRS website has provided some helpful scenarios for those with questions about the First Time Home Buyer tax credit. It is very important to review this as there are several rules which may pertain to your situation.

3) Offsetting the Capital Gains with Losses & Carrying Forward
Remember you can offset capital losses against gains in the current year and realize up to $3,000 in losses against ORDINARY Income (i.e. wages). If your loss exceeds the $3,000, the remaining is carried forward to future years as either a net short-term capital loss or long-term loss depending on the character of the loss.

Why may now be the right time to realize these losses?
In 2011, long-term capital gains & ordinary tax rates are set to go up ~5% each to 20% for LT cap gains and 31%-39.6% for ordinary income (at the higher income levels). If you start to realize these losses now, you can offset them in the future when the tax rates will be higher. In addition, if you think the market will continue to rebound in 2010, you would want to lock in these losses now to offset the higher tax gains in the future.

So how do I figure out my net capital loss/gain?
To figure this out, you need to net your long-term (> than 1 yr investment) capital gains with the LT losses and then your short-term (< than 1 yr investment) gains with your short-term losses. Then, if applicable, you can net the short-term gain or loss with the long-term gain or loss together to see if you have a net capital loss for the year.

4) The BIG Roth IRA Conversion in 2010
Beginning in 2010, traditional IRA holders will be able to convert into a Roth IRA, even if their household earns over $100,000 in modified adjusted gross income a year. Currently, traditional IRA holders can only convert if their modified adjusted gross income for the year is under $100,000.

How Am I Taxed on the Conversion?
Your principal & earnings growth will be taxed at your marginal tax rate for converting the traditional IRA funds (pre-tax) into a Roth IRA (after-tax). If your traditional IRA was initially funded with (after-tax dollars), you would only be responsible for taxes on the appreciation. Please note that the taxes due can be paid over two years or 2011 & 2012. For conversions after 2010, taxes are due the same year as the year of the conversion.

What if I think I don’t qualify for a Traditional IRA?
Even if you don’t qualify to fund a traditional IRA on a pre-tax basis, you can still fund a traditional IRA with after-tax basis, thus giving you the ability to convert to a Roth IRA. While your contribution is after-tax, remember, your appreciation is tax-free.

Why you may want to start converting now?
Well, when you convert, you are going to have to pay taxes on the gain when converting and pre-tax vs. after-tax difference if IRA is initially funded with pre-tax dollars. As stated before, tax rates are going up in 2011 and if you think the market will rebound more, why not convert now?

5) Itemized Deductions vs. Standard & Timing of Paying Bills
A classic question has always been should I itemize deductions or use the standard deduction. The general guidance which may seem obvious is to claim the deduction that is larger. Another question for you to ask yourself which is often overlooked is will my modified adjusted gross income (MAGI) be greater this year or next year.

Why is (MAGI) important?
The decision to pay a bill this year or next year can result in tax savings & more money in your pocket. For instance, if deductions are higher than the standard deduction ($11,400 married filing jointly) and you have medical expenses that are exceeding the 7.5% threshold, you may want to make payment this year if you expect a higher AGI this year than you would next year. You would have greater tax savings by following this approach. Also, if you fall under the alternative minimum tax (AMT) category the 7.5% threshold is moved up to 10%, just keep that in mind.

Do I Qualify for Itemized Deductions?
For 2009, the IRS states that if your AGI is $166,800 ($83,400 if married filing separately), you may lose part of your itemized deductions. If you qualify to itemize your deductions, you may want to really think about if it is smarter to pay bills this year or next.

6) Feeling Generous This Year? Here’s a Tip – Give a Gift.
Remember you can give up to $13,000 per person and up to $26,000 per person worth of property or cash to another individual. And, if you wanted to pay a Nephew’s college tuition, the $13K limitation doesn’t apply as long as you pay the money DIRECTLY to the education institution.

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Year End Tax Planning Tips

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