New Year-End, New Headaches
Ideasfor tax planning as 2013 begins to wind up
09/01/2013
By Roger Russell
Despite all therecent tax law changes, most of you taxpayers aren't aware of the steps theyshould take between now and the end of the year to improve their position.
By taking appropriatemeasures, it is possible to minimize the effects of new taxes and higher rates.The problem isn't the same as last year at this time when no one knew what thetax landscape would be after the first of the year. The problem now is thatmuch is new, and more complex.
"The end of lastyear was a disaster for tax planning," said Grafton "Cap"Willey, managing director of Top 100 Firm CBIZ."There was a lot of year-end planning last year, but it was done withoutany certainty as to what would happen. Some of the planning was needed, whilesome was not. For example, we did a lot of accelerating of capital gains. Withthe increase in capital gains rates from 15 percent to 20 percent for peoplemaking more than $250,000, plus the new Medicare tax of 3.8 percent, this yearwe're taking a hard look at net investment income. With the potential increasefrom 15 percent to 23.8 percent, it's an effective increase of 57percent."
"It's become a complicated calculation," he said. "Ifsomeone is in the threshold area, we try to keep their net investment incomedown to get below the threshold. If not, we try to minimize the impact of theincreased rates. We might use municipal bonds, or take a look at tax-deferredannuities, which could take income out of the current year. For example, ifsomeone is near retirement but still has a high income, they might put some oftheir income in tax-deferred annuities until their income rates decrease whenthey stop earning wages."
There are a number ofnew thresholds coming into play, Willey indicated. The new Medicare 3.8 percenttax applies to net investment income of taxpayers with AGI above$200,000 for single taxpayers or $250,000 for joint return filers. The 3percent phase-out of itemized deductions and the 2 percent phase-out ofexemptions have been re-instated. "In the area between $200,000 and$400,000, managing AGI is helpful because you can save tax on phase-outs and netinvestment income surcharges," said Willey. "Look at things that canaffect those; for example, the opportunity to max out retirement contributions,and anything that's tax-deferred. Also, you have to be concerned about takingdistributions from retirement plans because they can increase AGI."
Another tool to useis an installment sales agreement, Willey observed. "It spreads out gainsover future years, and lowers AGI in a particular year. And if there is any state estate taxdue, it might be better to pay it before the end of the year so you get thededuction for it in the current year."
WALK THE LINE
"This year's taxplanning is going to be heavily focused on reducing above-the-lineamounts," said Monic Ramirez, senior tax manager at Sensiba San FilippoLLP. "There are several thresholds for adjusted gross income thattaxpayers should manage in order to avoid the Medicare tax hike of 3.8 percenton investment income, the Medicare high-earner tax of .9 percent, and the Peaselimitation on itemized deductions. And in California, managing taxable income will have an added benefit ofavoiding the higher tax brackets enacted by Proposition 30."
Ramirez suggestsmaximizing contributions to tax savings and retirement vehicles such as 401(k),403(b), 457 and 529 plans, as well as HSA, SEP and Keogh plans. "Ifself-employed, set up a self-employed retirement plan, and revisit decisions tocontribute to a traditional versus a Roth retirement plan. Since distributionsfrom Roth IRAs and 401(k)s are not subject to regular tax or the Medicareinvestment tax, they are a more attractive retirement savings vehicle forhigh-net-worth individuals."
"On thecontrary, if a taxpayer is hovering around the threshold for the new Medicaretax, the taxpayer should consider moving Roth contributions to a traditionalretirement plan," she said. "Maximizing contributions to atraditional plan could reduce taxable income below the threshold and,therefore, avoid an additional 3.8 percent tax on investment income."
"Long-termcapital gains still maintain their preferential rates," Ramirez observed."However, long-term capital gains received a 5 percent increase and aresubject to the additional 3.8 percent Medicare investment tax. Even worse,short-term capital gains are subject to ordinary income rates and the 3.8percent Medicare investment tax. Therefore, tax-deferral mechanisms forsignificant tax gains should be considered, such as a Section 1031 exchange forreal property sales or structuring the sale as an installment sale."
"An installmentsale spreads the gain over several tax periods in order to minimize or entirelyavoid the Medicare tax on investment income," she said. "Taxpayersshould also consider realizing losses on existing stock holdings whilemaintaining the investment position by selling at a loss and repurchasing atleast 31 days later, or swapping it out for a similar, but not identical,investment."
Taxpayers might alsoconsider reducing income by taking advantage of other tax-exempt investmentvehicles, such as municipal bonds, which are still tax-free, she noted."And in most states, home-state bonds are also state tax-exempt."
If a loss in aflow-through has been incurred, make sure that it's deductible, suggestedRamirez. "Taxpayers can increase their basis in a partnership or Scorporation if doing so will enable them to deduct a loss from it thisyear."
If a taxpayer hasself-employment income, they should consider any capital expenditures that willbe needed in the coming year, Ramirez suggested. "Favorable Section 179deductions and bonus depreciation have been extended through the end of 2013.Purchasing qualified property and placing it in service before the year endwill accelerate the depreciation deduction allowed on the assets into 2013 andreduce the earnings potentially subject to the .9 percent Medicaresurtax."
WATCH THE RATES
The big differencebetween last year and this year is that the rates are "quite a bithigher" now for upper-income taxpayers, noted Robin Christian, a seniortax analyst at Thomson Reuters.
"For mostindividuals, the ordinary federal income tax rates for 2013 will be the same aslast year: 10 percent, 15 percent, 25 percent, 28 percent and 35 percent,"she said. "However, the fiscal cliff legislation passed in Januaryincreased the maximum rate for higher-income individuals to 39.6 percent - upfrom 35 percent. This change only affects taxpayers with taxable income above$400,000 for singles, $450,000 for married joint-filing couples, $425,000 forheads of households, and $225,000 for married individuals who file separatereturns."
Where taxpayers arenear the standard deduction amount, Christian recommends bunching togetherexpenditures for itemized deduction items every other year, while claiming thestandard deduction in the intervening years. "For example, say thetaxpayer is a joint filer whose only itemized deductions are about $44,000 ofannual property taxes and about $8,000 of home mortgage interest. If thetaxpayer prepays their 2013 property taxes by December 31 of this year, theycould claim $16,000 of itemized deductions on their 2013 return. Next year,they would only have the $8,000 of interest, but they could claim the standarddeduction, which will probably be around $12,500 for 2014. Following thisstrategy will cut taxable income by a meaningful amount over the two-yearperiod. The drill can be repeated all over again in future years."
Taxpayers should takeadvantage of the Section 179 deduction this year, since the maximum deductionis scheduled to drop from $500,000 to $25,000 for tax years beginning in 2014.Likewise, she urges, take advantage of the 50 percent first-year bonusdepreciation, since it will expire at year's end unless it is extended byCongress. She also advises updating estate plans to reflect the current estateand gift tax rules, with the exemption pegged at a "historicallygenerous" $5.25 million, and the rate at a "historicallyreasonable" 40 percent for 2013.
John Vento, a NewYork-based CPA and CFP, advises clients to check with their HR department tofully understand the extent of benefits available to them. "For employees,the bulk of write-offs they can get is through their employer," heobserved. "If they can get tax-free benefits they should try to maximizethem. They should take advantage of their tuition reimbursement plan, and fullyfund their 401(k) plan. If they're 50 or older, they should take advantage ofthe catch-up provisions, which allows them to contribute an additional $1,000to their IRA. They should also check out the provisions where benefits are paidout in pre-tax dollars, such as tax-free reimbursement of child care, and eventransit passes."
The energy efficiencycredit, which was slated to expire at the end of last year, has been extendedfor one more year, Vento indicated. "While it may be renewed, there is noguarantee, so clients should be advised to make any necessary improvements thatqualify for the credit this year."
Vento noted that ifyou find a job for your dependent children to help fund some of their livingexpenses, each child can earn up to $6,100 in 2013 without having to pay any federalincome tax. "Consider establishing a Roth IRA in the child's name,"suggested Vento. "The child can withdraw money from it to pay for college,and the withdrawal will be taxed at the child's tax rate, which could be as lowas zero if structured properly."
Copy write with permissionfrom Accounting Today Publication, Sept, 1, 2013
Ideasfor tax planning as 2013 begins to wind up
09/01/2013
By Roger Russell
Despite all therecent tax law changes, most of you taxpayers aren't aware of the steps theyshould take between now and the end of the year to improve their position.
By taking appropriatemeasures, it is possible to minimize the effects of new taxes and higher rates.The problem isn't the same as last year at this time when no one knew what thetax landscape would be after the first of the year. The problem now is thatmuch is new, and more complex.
"The end of lastyear was a disaster for tax planning," said Grafton "Cap"Willey, managing director of Top 100 Firm CBIZ."There was a lot of year-end planning last year, but it was done withoutany certainty as to what would happen. Some of the planning was needed, whilesome was not. For example, we did a lot of accelerating of capital gains. Withthe increase in capital gains rates from 15 percent to 20 percent for peoplemaking more than $250,000, plus the new Medicare tax of 3.8 percent, this yearwe're taking a hard look at net investment income. With the potential increasefrom 15 percent to 23.8 percent, it's an effective increase of 57percent."
"It's become a complicated calculation," he said. "Ifsomeone is in the threshold area, we try to keep their net investment incomedown to get below the threshold. If not, we try to minimize the impact of theincreased rates. We might use municipal bonds, or take a look at tax-deferredannuities, which could take income out of the current year. For example, ifsomeone is near retirement but still has a high income, they might put some oftheir income in tax-deferred annuities until their income rates decrease whenthey stop earning wages."
There are a number ofnew thresholds coming into play, Willey indicated. The new Medicare 3.8 percenttax applies to net investment income of taxpayers with AGI above$200,000 for single taxpayers or $250,000 for joint return filers. The 3percent phase-out of itemized deductions and the 2 percent phase-out ofexemptions have been re-instated. "In the area between $200,000 and$400,000, managing AGI is helpful because you can save tax on phase-outs and netinvestment income surcharges," said Willey. "Look at things that canaffect those; for example, the opportunity to max out retirement contributions,and anything that's tax-deferred. Also, you have to be concerned about takingdistributions from retirement plans because they can increase AGI."
Another tool to useis an installment sales agreement, Willey observed. "It spreads out gainsover future years, and lowers AGI in a particular year. And if there is any state estate taxdue, it might be better to pay it before the end of the year so you get thededuction for it in the current year."
WALK THE LINE
"This year's taxplanning is going to be heavily focused on reducing above-the-lineamounts," said Monic Ramirez, senior tax manager at Sensiba San FilippoLLP. "There are several thresholds for adjusted gross income thattaxpayers should manage in order to avoid the Medicare tax hike of 3.8 percenton investment income, the Medicare high-earner tax of .9 percent, and the Peaselimitation on itemized deductions. And in California, managing taxable income will have an added benefit ofavoiding the higher tax brackets enacted by Proposition 30."
Ramirez suggestsmaximizing contributions to tax savings and retirement vehicles such as 401(k),403(b), 457 and 529 plans, as well as HSA, SEP and Keogh plans. "Ifself-employed, set up a self-employed retirement plan, and revisit decisions tocontribute to a traditional versus a Roth retirement plan. Since distributionsfrom Roth IRAs and 401(k)s are not subject to regular tax or the Medicareinvestment tax, they are a more attractive retirement savings vehicle forhigh-net-worth individuals."
"On thecontrary, if a taxpayer is hovering around the threshold for the new Medicaretax, the taxpayer should consider moving Roth contributions to a traditionalretirement plan," she said. "Maximizing contributions to atraditional plan could reduce taxable income below the threshold and,therefore, avoid an additional 3.8 percent tax on investment income."
"Long-termcapital gains still maintain their preferential rates," Ramirez observed."However, long-term capital gains received a 5 percent increase and aresubject to the additional 3.8 percent Medicare investment tax. Even worse,short-term capital gains are subject to ordinary income rates and the 3.8percent Medicare investment tax. Therefore, tax-deferral mechanisms forsignificant tax gains should be considered, such as a Section 1031 exchange forreal property sales or structuring the sale as an installment sale."
"An installmentsale spreads the gain over several tax periods in order to minimize or entirelyavoid the Medicare tax on investment income," she said. "Taxpayersshould also consider realizing losses on existing stock holdings whilemaintaining the investment position by selling at a loss and repurchasing atleast 31 days later, or swapping it out for a similar, but not identical,investment."
Taxpayers might alsoconsider reducing income by taking advantage of other tax-exempt investmentvehicles, such as municipal bonds, which are still tax-free, she noted."And in most states, home-state bonds are also state tax-exempt."
If a loss in aflow-through has been incurred, make sure that it's deductible, suggestedRamirez. "Taxpayers can increase their basis in a partnership or Scorporation if doing so will enable them to deduct a loss from it thisyear."
If a taxpayer hasself-employment income, they should consider any capital expenditures that willbe needed in the coming year, Ramirez suggested. "Favorable Section 179deductions and bonus depreciation have been extended through the end of 2013.Purchasing qualified property and placing it in service before the year endwill accelerate the depreciation deduction allowed on the assets into 2013 andreduce the earnings potentially subject to the .9 percent Medicaresurtax."
WATCH THE RATES
The big differencebetween last year and this year is that the rates are "quite a bithigher" now for upper-income taxpayers, noted Robin Christian, a seniortax analyst at Thomson Reuters.
"For mostindividuals, the ordinary federal income tax rates for 2013 will be the same aslast year: 10 percent, 15 percent, 25 percent, 28 percent and 35 percent,"she said. "However, the fiscal cliff legislation passed in Januaryincreased the maximum rate for higher-income individuals to 39.6 percent - upfrom 35 percent. This change only affects taxpayers with taxable income above$400,000 for singles, $450,000 for married joint-filing couples, $425,000 forheads of households, and $225,000 for married individuals who file separatereturns."
Where taxpayers arenear the standard deduction amount, Christian recommends bunching togetherexpenditures for itemized deduction items every other year, while claiming thestandard deduction in the intervening years. "For example, say thetaxpayer is a joint filer whose only itemized deductions are about $44,000 ofannual property taxes and about $8,000 of home mortgage interest. If thetaxpayer prepays their 2013 property taxes by December 31 of this year, theycould claim $16,000 of itemized deductions on their 2013 return. Next year,they would only have the $8,000 of interest, but they could claim the standarddeduction, which will probably be around $12,500 for 2014. Following thisstrategy will cut taxable income by a meaningful amount over the two-yearperiod. The drill can be repeated all over again in future years."
Taxpayers should takeadvantage of the Section 179 deduction this year, since the maximum deductionis scheduled to drop from $500,000 to $25,000 for tax years beginning in 2014.Likewise, she urges, take advantage of the 50 percent first-year bonusdepreciation, since it will expire at year's end unless it is extended byCongress. She also advises updating estate plans to reflect the current estateand gift tax rules, with the exemption pegged at a "historicallygenerous" $5.25 million, and the rate at a "historicallyreasonable" 40 percent for 2013.
John Vento, a NewYork-based CPA and CFP, advises clients to check with their HR department tofully understand the extent of benefits available to them. "For employees,the bulk of write-offs they can get is through their employer," heobserved. "If they can get tax-free benefits they should try to maximizethem. They should take advantage of their tuition reimbursement plan, and fullyfund their 401(k) plan. If they're 50 or older, they should take advantage ofthe catch-up provisions, which allows them to contribute an additional $1,000to their IRA. They should also check out the provisions where benefits are paidout in pre-tax dollars, such as tax-free reimbursement of child care, and eventransit passes."
The energy efficiencycredit, which was slated to expire at the end of last year, has been extendedfor one more year, Vento indicated. "While it may be renewed, there is noguarantee, so clients should be advised to make any necessary improvements thatqualify for the credit this year."
Vento noted that ifyou find a job for your dependent children to help fund some of their livingexpenses, each child can earn up to $6,100 in 2013 without having to pay any federalincome tax. "Consider establishing a Roth IRA in the child's name,"suggested Vento. "The child can withdraw money from it to pay for college,and the withdrawal will be taxed at the child's tax rate, which could be as lowas zero if structured properly."
Copy write with permissionfrom Accounting Today Publication, Sept, 1, 2013