Tax Planning Moves for Year-End
As the end of the year approaches, it is a good time to consider planning moves that will help lower your tax bill for this year and possibly the next. In many cases, this will involve the time-honored approach of deferring income until next year and accelerating deductions into this year.
This time-honored approach may turn out to be even more valuable if Congress succeeds in enacting tax reform that reduces tax rates beginning next year in exchange for fewer deductions.
Regardless of whether tax reform is enacted, deferring income also may help you minimize or avoid income-based phaseouts of various tax breaks that are applicable for 2017.
Over the next two articles, we will explore possible tax planning strategies, first discussing ideas for individuals this time, and then tackling business planning tools in two weeks. While space limits an in-depth discussion of each move, you will be given valuable food for thought.
Not all actions will apply in your situation, but you (or a family member) will likely benefit from many of them. Consider this your tax planning checklist to identify areas for further exploration.
- Higher-income earners must be wary of the 3.8% surtax on certain unearned income. The surtax is 3.8% of the lesser of: (1) net investment income, or (2) the excess of modified adjusted gross income over a threshold amount ($250,000 for joint filers or surviving spouses, $125,000 for a married individual filing a separate return, and $200,000 in any other case). Deferring income may help reduce this tax.
- Realize losses on stock while substantially preserving your investment position. There are several ways this can be done. For example, you can sell the original holding, then buy back the same securities at least 31 days later.
- Postpone income until 2018 and accelerate deductions into 2017 to lower your 2017 tax bill. This strategy could enable you to claim larger deductions, credits, and other tax breaks for 2017 that are phased out over varying levels of adjusted gross income (AGI), including child tax credits, higher education tax credits, and deductions for student loan interest. Postponing income also is desirable for those taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances.
- If you believe a Roth IRA is better than a traditional IRA, consider converting traditional-IRA money invested in beaten-down securities into a Roth IRA if eligible to do so. Keep in mind, however, that such a conversion will increase your AGI for 2017.
- If you converted a traditional IRA to a Roth IRA earlier in the year and the value of the Roth has declined, you could wind up paying a higher tax than is necessary. You can back out of the transaction by recharacterizing the conversion; that is, by transferring the converted amount (plus earnings or minus losses) from the Roth back to a traditional IRA via a trustee-to-trustee transfer. You can later reconvert to a Roth.
- It may be advantageous to try to arrange with your employer to defer, until early 2018, a bonus that may be coming your way.
- Consider using a credit card to pay deductible expenses before the end of the year. Doing so will increase your 2017 deductions even if you don't pay your credit card bill until after year-end.
- If you expect to owe state and local income taxes when you file, consider paying them before year-end either through withholding or by making estimated tax payments to pull the deduction into 2017, assuming you won't be subject to alternative minimum tax (AMT) in 2017. Pulling state and local tax deductions into 2017 will be especially beneficial if Congress eliminates such deductions beginning next year.
- Take a distribution from a qualified retirement plan before the end of 2017 if you are facing a penalty for underpayment of estimated tax and having your employer increase withholding either can't be done or won't sufficiently address the problem. Income tax will be withheld and applied toward the taxes owed for 2017. You can then timely roll over the gross amount of the distribution to a traditional IRA. No part of the distribution will be includible in income for 2017, but the withheld tax will be applied pro rata over the full 2017 tax year to reduce the underpayments penalty.
- Estimate the effect of any year-end planning moves on the AMT for 2017, keeping in mind that many tax breaks allowed for purposes of calculating regular taxes are disallowed for AMT. If you are subject to the AMT for 2017, or suspect you might be, these types of deductions should not be accelerated.
- You may be able to save taxes by applying a bunching strategy to pull "miscellaneous" itemized deductions, medical expenses and other itemized deductions into this year. This strategy would be especially beneficial if Congress eliminates such deductions beginning in 2018.
- Consider paying contested taxes to be able to deduct them this year while continuing to contest them next year.
- Consider settling an insurance or damage claim in order to maximize your casualty loss deduction this year.
- Take required minimum distributions (RMDs) from your IRA or 401(k) plan (or other employer-sponsored retirement plan). RMDs from IRAs must begin by April 1 of the year following the year you reach age 70 1/2. There are many special rules regarding RMDs, so if you think you are subject, consult your advisor.
- If you become eligible in December of 2017 to make health savings account (HSA) contributions, you can make a full year's worth of deductible HSA contributions for 2017.
- Make gifts sheltered by the annual gift tax exclusion ($14,000 per recipient in 2017) before the end of the year and thereby save gift and estate taxes. Such transfers may save family income taxes where income-earning property is given to family members in lower income tax brackets.