|Sixteen Things to consider as you end the tax year.
I. Document Your Business Activities
You may not need to pay a 3.8 percent Medicare tax on your business income if you participate in the business enough so that you are not considered a “passive investor.” Participation is almost any work performed in a business as an owner, manager or employee as long as it is not an investor activity. Even so, you must document your activities, and the IRS will not let you make ballpark estimates after the fact. Make sure you document the hours you’re spending with calendar and appointment books, emails and narrative summaries.
II. Prepare Your Information Reporting
You should start gathering information early this year to make sure you can complete your mandatory reporting on time. Congress has enacted new legislation that more than doubles most penalties for late or incorrect information returns. This includes the Form W-2 employers must provide to all employees and the Form 1099 a business must provide to any contractor it pays at least $600 for services. These returns are due to recipients by Feb. 1 and the IRS soon after.
III. Get Your Charitable House in Order
If you plan on giving to charity before the end of the year, remember that a cash contribution must be documented in order to be deductible. If you claim a charitable deduction of more than $500 in donated property, you must attach Form 8283. If you are claiming a deduction of $250 or more for a car donation, you will need a written acknowledgment from the charity that includes a description of the car. Remember, you cannot deduct donations to individuals, social clubs, political groups or foreign organizations.
IV. Remember Your State and Local Tax Obligations
Don’t forget that state and local governments impose their own filing and payment responsibilities with various income, sales and property taxes. Recently, states have become more aggressive in taxing corporations that are not physically present in their states, but have significant sales to customers in those states. While there may be exceptions for limited business activities in particular states, it is wise to check on your activities of your salespeople that often travel to different states to ensure you are filing all state corporate tax returns as needed.
V. Accelerate Deductions and Defer Income
Why pay tax now when you could pay later? The time value of money can make deferring tax almost as valuable as escaping it. Generally, you want to accelerate deductions and defer income. There are plenty of income items and expenses you may be able to control. Consider deferring bonuses, consulting income or self-employment income. On the deduction side, you may be able to accelerate state and local income taxes, interest payments and real estate taxes.
VI. Manage Your Gains and Losses
Capital gains and losses present excellent opportunities for deferral because you have nearly complete control over when you sell them, but be careful when harvesting losses. You generally cannot use capital losses against other kinds of income, and if you buy the same security within 30 days before or after you sell it, you cannot use the loss under the wash sale rules.
VII. Self-Employed Retirement Plan
If you have your own business, consider setting up and contributing as much as possible to a retirement plan. These are allowed even for a sideline or moonlighting businesses. Several types of plans are available which minimize the paperwork involved in establishing and administering such a plan.
VIII. Bunch Itemized Deductions
Many expenses can be deducted only if they exceed a certain percentage of your adjusted gross income (AGI). Bunching itemized deductible expenses into one year can help you exceed these AGI floors. Consider scheduling your costly non-urgent medical procedures in a single year to exceed the 10 percent AGI floor for medical expenses (7.5 percent for taxpayers age 65 and older). This may mean moving a procedure into this year or postponing it until next year. To exceed the 2 percent AGI floor for miscellaneous expenses, bunch professional fees like legal advice and tax planning, as well as unreimbursed business expenses such as travel and vehicle costs.
IX. Make Up a Tax Shortfall with Increased Withholding When You Know You Will Owe
Don’t forget, certain kinds of taxes are due throughout the year. Check your withholding and estimated tax payments now while you have time to fix a problem. If you’re in danger of an underpayment penalty, try to make up the shortfall by increasing withholding on your salary or bonuses. A bigger estimated tax payment can leave you exposed to penalties for previous quarters, while withholding is considered to have been paid throughout the year.
X. Use the Gift-Tax Exclusion to Shift Income
You can give away $14,000 ($28,000 if joined by a spouse) per donee in 2016 (same as 2015), per year without paying federal gift tax. You can give $14,000 to as many donees as you like. The income on these transfers will then be taxed at the donee’s tax rate, which is in many cases lower.
Note: Special rules apply to children under age 18. Also, if you directly pay the medical or educational expenses of the donee, such gifts will not be subject to gift tax.
XI. Invest in Treasury Securities
For high-income taxpayers, who live in high-income-tax states, investing in Treasury bills, bonds, and notes can pay off in tax savings. The interest on Treasuries is exempt from state and local income tax. Also, investing in Treasury bills that mature in the next tax year results in a deferral of the tax until the next year.
XII. Consider Tax-Exempt Municipal Bonds
Interest on state or local municipal bonds is generally exempt from federal income tax and from tax by the issuing state or locality. For that reason, interest paid on such bonds is somewhat less than that paid on commercial bonds of comparable quality. However, for individuals in higher brackets, the interest from municipal bonds will often be greater than from higher paying commercial bonds after reduction for taxes. Gain on sale of municipal bonds is taxable and loss is deductible. Tax-exempt interest is sometimes an element in the computation of other tax items. Interest on loans to buy or carry tax-exempts is non-deductible.
XIII. Give Appreciated Assets to Charity
If you’re planning to make a charitable gift, it generally makes more sense to give appreciated long-term capital assets to the charity, instead of selling the assets and giving the charity the after-tax proceeds. Donating the assets instead of the cash prevents your having to pay capital gains tax on the sale, which can result in considerable savings, depending on your tax bracket and the amount of tax that would be due on the sale. Additionally, you can obtain a tax deduction for the fair market value of the property.
XIV. If Self-Employed, Hire Your Child in the Business
If your child is under age 18, he or she is not subject to employment taxes from your unincorporated business (income taxes still apply). This will reduce your income for both income and employment tax purposes and shift assets to the child at the same time; however, you cannot hire your child if he or she is under 8 years of age.
XV. Take Out a Home-Equity Loan
Most consumer-related interest expense, such as from car loans or credit cards, is not deductible. Interest on a home equity loan, however, can be deductible. It may be advisable to take out a home-equity loan to pay off other nondeductible obligations. If taking it out at the end of the year, the interest will be of no consequence. In that case, it should be used to pay off deductible obligations such as taxes. You can then deduct the accumulated interest at the end of the next year.
XVI. Bunch Your Itemized Deductions
Certain itemized deductions, such as medical or employment related expenses, are only deductible if they exceed a certain amount. When it is apparent that your itemized deductions are not enough to make a difference, it may be advantageous to delay payments like taxes, certain donations or even investments due this year, and pay them with next year’s to bunch the expenses in one year. This way you stand a better chance of getting a deduction.
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