To cut next year's taxes, start now. If you knew you could deduct more of your expenses and keep more of your income, you would, right? For 2010, you can -- if you begin ASAP. And it's not too late to reduce your '09 taxes.
There are a few tax-saving moves you can make until April 15 that will affect your 2009 taxes. The rest of your moves must be made by Dec. 31, 2009, to benefit you for 2009.
This brings us to my most profound advice for 2009: An aggressive tax-planning strategy may be to accelerate income into the shelter of lower rates this year, especially if you can take refuge under the special zero rates on dividends and long-term capital gains if you’re in the 15% bracket or lower. Here's what to think about:
Use those larger retirement deferrals
Put more money aside for retirement. In 2009, extensive changes were made to the rules relating to individual retirement accounts and qualified pension plans.
You still have until April 15, 2010, to make IRA contributions that may qualify for a tax break on your 2009 taxes. For SEP-IRAs (Simplified Employee Pension plans) and Keogh accounts (either profit-sharing or money-purchase plans), you can contribute until Oct. 15 if you filed the appropriate extension application. But if you didn't establish a Keogh by Dec. 31, you won't be able to deduct any contributions until you file your 2010 return in 2011. Check with a tax pro to be sure.
| Changes in retirement-plan contribution limits | ||
|---|---|---|
Plan type | 2008 | 2009 |
Defined contribution plans | $46,000 | $49,000 |
Simple IRA plans | $10,500 | $11,500 |
401(k) contributions | $15,500 | $16,500 |
IRA contributions | $4,000 | $5,000 |
Special additional contributions are now available if you're 50 or older. Here's a rundown:
- IRA accounts. You can contribute an additional $1,000 (for a total of $6,000 for 2009) into an IRA.
- Section 401k, 403b annuities and Section 457 plans. These now allow for additional $5,500 in contributions in 2009.
- SIMPLE plans. If you contribute to a SIMPLE plan (Savings Incentive Match Plan for Employees of Small Employers), you get an additional $2,500 for 2009 once you hit the half-century mark.
You can now borrow from your qualified plans if you're self-employed or an employee shareholder of an S corporation, an entity that functions much like a partnership. For now, only loans from IRAs are prohibited.
But consider this: Distributions from such plans will always be taxed at your highest marginal ordinary rate. Depending on your assumptions, rate of growth and age, it may be better to invest for growth outside your retirement plans.
Students and their parents make out well in in 2009.
If you're single and made less than $65,000 ($130,000 on a joint return), you can get an above-the-line college-tuition deduction for 2009 of as much as $4,000 for yourself or a dependent child. This tax break will probably be extended in 2010, but that has not yet happened. (If you feel up to it, lobby your senators and congressman -- hard.)
If you meet the 2009 income qualifications, you can take the American Opportunity or Lifetime Learning tax credits, which may be even more valuable tax breaks. (A warning: You can't claim the tuition deduction along with either of these tax credits.) While the Hope credit still exists for 2009 and 2010, it will always be better to take the American Opportunity tax credit.
The latter credit phases out as your income surpasses $80,000 ($160,000 if you file jointly). If you file as single, the Lifetime Learning credit starts phasing out as your adjusted gross income exceeds $50,000 and disappears as you exceed $60,000. If you're married and file jointly, the credit is phased out for incomes from $100,000 to $120,000. The 2009 Hope credit is capped at $1,800. You can erase as much as $2,000 in tax with the Lifetime Learning Credit and as much as $2,500 with the American Opportunity credit.
If you've graduated from college, your employer can give you as much as $5,200 a year in tax-free graduate-school assistance.
The old IRA for education, now known as the Coverdell Education Account, allows tax-free withdrawals for tutoring, computer equipment, room and board, uniforms, tuition and extended-day programs for kindergarten through grade 12. The annual contribution limit is $2,000 per child.
Distributions from Section 529 accounts for college expenses are tax-free. In the past, they were taxed at the child's rate.
The Section 529 contribution limits are big; many state plans allow as much as $300,000 per beneficiary. Because the annual gift-tax exclusion is $13,000, you can now contribute as much as $65,000 per child in a single year. Two parents can contribute as much as $130,000.
Teachers keep a nice break
If you're a teacher, you get a special benefit: You can deduct as much as $250 of your classroom expenses without having to itemize on your 2009 taxes. This applies if you are a teacher, instructor, counselor, principal or aide and worked in kindergarten through grade 12.
This nice little tax break was supposed to die in 2004, 2006 and again in 2007, but Congress reinstated the provision to apply to both 2008 and 2009. I hope Congress makes this break permanent.
Nobody has started to tinker with tax rates yet this year. Our tax rates are the lowest I can remember, and I've been around for a while. Compare our 2009 rates with those eight years ago.
| Tax-rate changes between 2001 and 2009 | ||
|---|---|---|
2009 rates | 2001 rates | % change from 2001 to 2009 |
10% | 10% | 0.00% |
15% | 15% | 0.00% |
25% | 28% | -9.09% |
28% | 31% | -8.20% |
33% | 36% | -8.33% |
35% | 39% | -10.49% |
In addition, amounts in each bracket are automatically increased for inflation. The combination of larger brackets and lower marginal rates, especially for upper-income taxpayers, has put more dollars in your pocket in the past few years and will continue to do so.
The practical effect of the change is this: If you and your spouse file jointly and had taxable income of $80,000 in 2001 and expect the same in 2009, your federal income tax bill drops from $16,350 to $12,375, a savings of $3,975.
If your taxable income is $150,000, the tax bill falls from $36,822.50 to $30,263.50, a savings of $6,559.
And that's starting with taxable income. When you add in all the new deductions and expanded credits, there should be a lot more money in our pockets after taxes than a few years ago.
Enjoy it while you can. Does anyone believe the rates won't move higher? Congress and the White House seem to be intent on proving that the "big bang" theory really works. The cash to pay for increased defense, bailouts and other spending has to come from somewhere.
President Barack Obama has promised a tax increase for the "wealthy." The problem is that the definition of wealthy has ranged from $250,000 down to $150,000. And that excludes the discussion of whether we’re talking adjusted gross income or taxable income.
Tax-planning moves to make
- Defer income if you can. Let's say we don't expect tax rates to rise in 2010. The betting is they'll at least stay constant for a while or perhaps even decrease if you don’t qualify as "wealthy" and believe the politicians. If you don't have to take the income in calendar 2009, defer it into 2010. That way, the income is off your 2009 tax return. Postpone the pain. Personally, I see rates going up -- sorry.
- Use the tax laws to minimize any stock-market pain. As 2009 showed us, the market can be very volatile -- and sometimes just plain ugly. So you may have some investments that have generated deductible losses while others (hopefully) have major gains. You can use your losses to offset any gains. On a net basis, all capital losses, regardless of whether they're short- or long-term, offset capital gains on a dollar-for-dollar basis. You can use $3,000 of net capital losses in excess of capital gains to offset ordinary income. Any excess left over can be carried forward to 2010.
- But watch out for the wash-sale rules. The Internal Revenue Service disallows losses on securities sold if substantially identical securities are bought within 30 days before or after the loss sale. Best case: Buy 31 days later.
- Bunch your medical expenses if you can. Only those medical expenses in excess of 7.5% of your adjusted gross income are allowed as deductions. So if your adjusted gross income is $100,000, you get no deduction for the first $7,500 of your medical expenses. But there are some medical expenses you can defer or accelerate, depending on whether you expect to exceed this floor. Elective surgery, orthodontia or the payment of your medical insurance premiums can all be advanced or postponed to meet your minimum floor.
- Miscellaneous itemized deductions. These are allowed only to the extent they exceed 2% of your adjusted gross income. If you're going to exceed the 2% floor, then accelerate your deductions. Prepay your accountant in 2009 to do the tax return that you don't have to file until April 2010. Late in 2010, prepay your accountant for your 2010 return. Renew and pay for your investment publications before the end of the year. If you don't have the cash, charge these expenses. The charges are allowed in the year of the charge, not when you actually pay your credit card bill.
- Accelerate payments that can produce tax deductions. If you write and mail your January 2010 mortgage check (or send it in online) or the check for your fourth-quarter property taxes by Dec. 31, 2009, you can claim the interest deduction or real estate tax deduction in 2009. If you write and mail your January 2011 return before Dec. 31, 2010, you can claim the interest and taxes in 2010.
- Get the most out of noncash charitable contributions. Give your old clothes, furniture and equipment to your church, synagogue, Salvation Army or Goodwill before Jan. 1, 2010, and take a 2009 deduction for the fair market value. Likewise, in 2010, make sure you donate your goods before Dec. 31 to claim a deduction on your 2010 return. Make sure you get a receipt: No receipt means no deduction. In addition, with clothing and household items, the donation must be in good condition.
- Plan your tax payments. A few years ago, an MSN Money survey on taxes indicated more than 53% of the respondents expected a refund of more than $1,000. That's a whole lot of money left interest-free with the IRS.
You want a big refund? Send me your money. I'd be happy to send it back to you, interest-free, before April 15.
Otherwise, shoot for the safe harbors: 90% of the current year's total tax or 100% of your prior year's total tax (110% if you prior year's adjusted gross income was more than $150,000). Hit those targets, and, no matter how much you owe April 16, there won't be any interest or penalties if you pay the balance in a timely manner.
For 2009, a qualifying taxpayer with a small business can base his 2009 estimates on 90% of his 2008 tax total.
Adjust your withholdings to meet these targets. If you expect to pay next year, put the withholding difference in a money-market account. At least then you'll be picking up any interest.
Plan for the Alternative Minimum Tax
If you expect to be hit by the tax, reverse many of your typical planning strategies. Defer, rather than accelerate, those items that aren't allowed as deductions for the Alternative Minimum Tax. Such expenses include other taxes, employee business expenses, investment expenses and job-search costs.
The AMT is a flat 26%/28% tax. If you're normally in a higher bracket than that, accelerate your income. Such income will then be subject to the lower AMT rates. For more on this, see "Don't get bitten by this Awfully Mean Tax."
Meanwhile, the U.S. tax law is going to change. Plan your tax year under current rules. But keep on eye out and watch here for updates. The law will change. And, when it does, MSN Money will be here to guide you through the new rules. ( msn.com )
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