Q. I'm interested in improving my year-end tax planning. Do you have
any advice regarding planning areas or strategies to consider,
especially in light of the 2001 tax legislation?
A. The general trend of the 2001 tax legislation is to lower future
years' tax rates, particularly in the upper brackets, and particularly
in 2006 and later. Five tax brackets will see a decrease in the tax
rate. For example, the legislation carved out a new lower tax rate of
10% from the existing 15% tax bracket at the lowest income levels. For
2001, most individual taxpayers have already benefited from this
reduction via advance refund checks ($300 to $600), issued prior to
12/5/2001.
From a planning perspective, the small decrease in the five tax
brackets means that tax deductions postponed to next year will be worth
less to you in tax savings than if they could be deducted this year.
Conversely, the tax bite on income deferred from this year to next will
be lessened due to the decrease in tax rates. As with everything else
in life, the devil is in the details, so careful planning and
discussion with your advisor are needed before implementing any
specific tax reduction strategy. To assist in reducing your 2001 tax
bill, we are noting below a number of areas that you should review
prior to the year's end. Remember, it's too late to do your 2001 tax
planning on the eve of April 15th.
Retirement Money
If you haven't already done so, consider contributing the maximum to
your company-sponsored retirement plan, such as a SIMPLE IRA, 401(k),
etc. Check whether you have the option to make additional
contributions, wage deferrals, or commission deferrals, into the plan
prior to December 31, 2001. Ask if any or all year-end bonus payments
might be contributed to the plan, particularly if there is a company
match available.
IRA Contributions
To the extent that you have already met contribution limits to your
employer-sponsored retirement plan, consider funding a 2001 IRA
account. See other areas of our site to determine which IRAs are
available to you. The earlier you fund the IRA the more you will save.
If need be, consider partially funding an IRA with amounts less than
the maximum permitted.
Required Minimum Distributions for IRAs
Regular readers already are aware of the confusion generated by the
January 2001 release (and subsequent "clarification") of proposed
regulations to simplify the calculation of required minimum IRA
distributions and, in many instances, to reduce the required amount.
Consider following the regulations in 2001, although they won't be
mandated until 2002. As murky as the regulations are, the bottom line
is that implementing them for the 2001 tax year can reduce your taxable
income. This is not an issue for the faint of heart to tackle without
assistance, due to the 50% penalty assessed on distribution shortfalls.
Itemized Deductions
Remember, a dollar of deduction is worth more before January 1, 2002
than after. Therefore, steps should be taken to accelerate their
payment. Generally fruitful areas to review include:
-
Interest expenses - Prepay your January 1, 2002 mortgage payment on
or before December 31, 2001. Ideally, you will mail this payment in
time for the mortgage company to record its receipt and include this
amount on your 2001 Form 1098 (Statement of Mortgage Interest Paid).
Some companies include these year-end payments if the envelope is
postmarked on or before December 31, while others use a strict date-of-
receipt methodology. To simplify your 2001 Form 1040 filing, you want
your 2001 Form 1098 to include all interest payments made during the
calendar year without having to explain any differences to the IRS, so
mail early.
-
Charitable contributions - Several last minute savings techniques are
still available. For example, you might donate in-kind items such as
clothing, furniture, household effects, automobiles, etc. If you donate
appreciated property (notably stock), in many cases you will receive a
deduction for the full current value of the stock without ever paying
tax on the gain. Also, you can make year-end donations with a credit
card, even though the charge is not paid until early next year.
-
Miscellaneous itemized deductions - This is an area that generally
requires a multi-year outlook, due to the 2% of income threshold that
must be exceeded in order to enjoy a deduction. Be careful to
reasonably ascertain the nature and amount of all possible deductions
that fall into this "catch-all" category. In many cases these expenses,
including employee business expenses, union and professional dues,
business subscriptions, investment-related fees, tax preparation costs,
etc., are incurred on a regular basis. In any one year, their total may
not exceed your 2% threshold; however, this total may be exceeded if
you can bunch their payment into one taxable year. With some
forethought, you may be able to ensure that payment of all your
renewals, purchases, and fees coincide with one calendar year. This may
include paying some portion of a prior year's bill, the current year's
bill, and the bill for up to one year's future service, all in one
calendar year. You may need to chart out your current and future
payments in this area. A word of caution: always quantify your intended
outcomes to ensure you succeed in obtaining a deduction without falling
into the alternative minimum tax trap. Consult with your advisor for
assistance.
-
Tax payments as deductions - Verify, to the maximum extent possible,
that you have paid your complete projected 2001 state and local income
tax liability by December 31, 2001 via your withholding and or
estimated tax payments. You may even wish to accelerate payment of any
fourth-quarter state (not Federal) estimated tax payment, normally due
by January 15, 2002, to December 31, 2001, or earlier. Remember that
many states now accept credit card authorizations. Of course, the
infamous alternative minimum tax must likewise be considered in this
area as well.
-
Tax payments as pre-payment credits - Not only do we wish to lower
our tax liabilities, we wish to avoid unnecessary penalties as well.
Penalties for underpayment of estimated taxes and/or withholding
generally may be avoided if we pay either 100% of last year's tax
liability (line 57 of 2000 Form 1040), or 90% of this year's tax
liability. Plenty of exceptions to this general rule exist, so verify
your specific situation with an advisor. One way to address any
shortfall is to have your employer immediately modify your Federal
and/or state tax withholdings on your final paychecks for the year. If
your withholdings fall terribly short, ask your employer to process a
"voluntary additional tax payment." In this situation, you make a
payment to your employer, who then includes this amount with their
deposits to the tax authorities and includes the amount in your year-
end W-2 totals. This technique often gives retroactive protection from
penalty that a quarterly estimated tax payment does not.
-
Capital losses - Recognize capital losses prior to the year-end rush.
Capital losses may be used in two ways. First, they may offset any
recognized capital gains, including capital gains distributions from
mutual funds. Second, they may generate up to a $3,000 tax deduction in
any one year. Any net capital losses in excess of $3,000 are carried
forward to subsequent tax years. Discuss with your advisors the ability
to recognize any paper losses that you may have, while still continuing
to participate in the market. This situation can be realized through a
number of techniques that avoid the "wash sale" rules. The best
technique for you depends on your individual circumstances as well as
your prognosis for the market over the next few weeks.
-
Long-term versus short-term gains - What to do if you have a
significant, short-term gain available (less than one year), but you
believe that the market may not hold onto that gain for the remainder
of the required one-year holding period? Discuss with your advisor the
advantages of selling a deep in-the-money call option against this
position, which can essentially lock in the gain, while deferring the
sale date to a time after your one year holding period is attained. As
a bonus, the premium that you receive for selling the call option also
may be awarded with long-term capital gain treatment. Remember: the
holding period is measured on the trade dates, not the settlement dates.
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www.mbaa.org/consumer/
Shopping for a home? Do you currently own a home and are thinking
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If so, this site is for you. Here, you will find detailed news and
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(c) 2001 Copyright Claimed, Internet Retirement Alliance.
Abstracts (c) Information, Inc., Bethesda, Maryland 301-215-4688.
Redistribution is prohibited.
The material and information herein is obtained by from a wide variety of
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without any express or implied warranties.
The Internet Retirement Alliance (IRA.com) does not provide legal,
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