2016 Year-End Strategies: Straddling Two Years of Significant Change (Part 1)
Implementing tax strategies at year-end always presents unique challenges and opportunities. The impact of recent tax legislation and significant IRS rule changes during 2016 raises the stakes. The Protecting Americans from Tax Hikes Act (PATH Act), passed in late 2015, changed both dramatically and through some nuanced revisions the dynamics of planning for the expiration of various tax breaks, and for the permanence of others.
The IRS, for its part, has been busy creating safe-harbor benefits under the "repair regulations," clarifying the definition of marriage for tax purposes, fine-tuning Patient Protection and Affordable Care Act (ACA) requirements, and more, all of which immediately impact the 2016 tax year.
For the next two "Profit From It" musings, we'll take a look at year-end planning considerations. We'll start this week with planning for individuals and will tackle business planning in my December 9 column.
Tax Rate Exposure
Balancing the impact of the existing tax rates on a variety of transactions during the year and at year-end can be challenging: the ordinary income tax rates, the capital gain rates, the net investment income tax rate, and the alternative minimum tax (AMT), all may play a role.
The normal idiom is to defer income and accelerate deductions, but given the matrix of tax rate types referred to above, that may not always be the best move.
For instance, certain deductions are not allowed against AMT, so if you will be subject to AMT this year, you probably should defer those deductions until next year in hopes of gaining some benefit from them then.
Likewise, normally you don't want to accelerate income, but you should consider doing so if you expect your tax rates this year to be lower than next.
Adjusted Gross Income Caps
Monitoring adjusted gross income (AGI) at year-end can also pay dividends in qualifying for a number of tax benefits. Often tax savings can be realized by lowering income in one year at the expense of realizing a bit more in the other: in this case, either 2016 or 2017.
Some of those tax benefits that get phased out depending upon the taxpayer's AGI level include:
• Itemized deductions;
• Personal exemptions;
• Education savings bond interest exclusion;
• Maximum child's income on parent's return (Form 8814);
• Education credits;
• Student loan interest deduction;
• Adoption credits;
• Maximum Roth IRA contributions; and
• Maximum IRA contributions for individuals.
PATH Act "Extenders"
Permanent extenders. The PATH Act permanently extended many tax incentives that were previously temporary, removing for the first time in many years the year-end concern over their temporary applicability. This group includes:
• American Opportunity Tax Credit (incidentally, you now have to have a Form 1098-T from the institution to claim this);
• Teachers' classroom expense deduction (now includes professional development expenses);
• State and local sales tax deduction;
• Exclusion for direct charitable donation of IRA funds up to $100,000 by qualified individuals;
• 100-percent gain exclusion on qualified small business stock;
• Conservation contributions benefits; and
• Five-year solar energy property.
Extenders expiring at end of 2016. The PATH Act renewed several extenders related to individuals only through 2016. This group, which Congress may or may not choose to renew either in the lame-duck session or retroactively sometime in 2017, includes:
• Tuition and fees deduction;
• Exclusion for discharge of indebtedness on principal residence;
• Mortgage insurance premium deduction;
• Nonbusiness energy property credit;
• Fuel cell motor vehicle; and
• Electric motorcycles credit.
Life Events
Life events that occur can affect year-end tax planning as well. This includes such things as marriage, birth or adoption of a child, a new job or the loss of a job, and retirement.
Marriage. Marital status (single, married or divorced) for the entire tax year is determined on December 31st. Because the income tax brackets vary depending upon filing status, a marriage penalty or a marriage benefit may result for any particular couple.
Same-sex marriage. The Supreme Court held in June 2015 that the Fourteenth Amendment requires a state to license a marriage between two people of the same sex. The IRS followed up in 2016 with final regulations.
Retirement. Taxpayers may want to take a look at a number of different provisions at year-end in anticipation of retirement, at the point of retirement, or after retirement. Many of these provisions have opportunities and deadlines keyed to the tax year, including minimum distribution requirements and use of Roth conversions/reconversions strategies.
Dependents. A child born at any time during the tax year (yep, all the way up to 11:59 pm New Years' Eve) is considered a child for that entire tax year. Subject to AGI limits, a child born at year-end 2016 entitles the parent to a full $4,050 personal exemption, a full $1,000 child credit, and up to a $3,000 child care credit, if eligible. These benefits also have cutoff ages that are keyed to the age of a child at the close of the tax year.
Hopefully, this information can help you navigate the often complex but potentially rewarding process of tax planning, or at least help you know when you should let out a cry for help!
