Unlike last year, tax planning for 2013 is not hampered by uncertainties over a looming fiscal cliff. Unfortunately, there are a few expiring provisions that warrant special attention by taxpayers.
Unlike last year, tax planning for 2013 is not hampered by uncertainties over a looming fiscal cliff. Unfortunately, there is always some uncertainty and a few expiring provisions to warrant special attention by taxpayers.
Managing income taxes at year end involves techniques designed to address three issues:
• Accelerating or deferring income
If a taxpayer expects to be in the same or a lower tax bracket next year, it's best to defer as much income as possible until after the year end.
• Accelerating or deferring deductions
If a taxpayer's overall tax rate is the same in both years, accelerating deductions achieves tax savings this year rather than waiting for those tax savings to materialize next year.
• Take advantage of tax provisions scheduled to expire at the end of 2013
There are several temporary tax provisions which can only be used this year.
Tax planning begins by projecting income and deductions for the year so you can determine your tax bracket and income thresholds that trigger higher and/or additional taxes or limit the effectiveness of deductions.
One of the impacts of the American Taxpayer Relief Act of 2012 (ATRA12) is the reintroduction of the Pease limitation, which can greatly limit itemized deductions. Once a taxpayer knows what his or her income taxes will look like, it’s time to evaluate which techniques will help the most.
Strategies to accelerate or defer income:
• Adjust your elective deferral plans at work
Taxpayers who participate in 401(k), 403(b), most 457 plans, or in the Thrift Savings Plan can defer up to $17,500 this year. Taxpayers age 50 and older can defer up to $23,000.
• Harvest capital gains or losses
Long-term capital gains are taxed at 0% for taxpayers in the 15% bracket. Capital losses can be used to offset capital gains and reduce other income up to $3,000.
• Use the IRA
Taxpayers aged 59-and-a-half and older can accelerate IRA distributions in 2013. Contributions may be deductible depending on your income level and whether you’re covered by a retirement plan through work. Taxpayers under age 59-and-a-half can convert traditional IRAs to Roth IRAs to accelerate income.
• Health care assistance
People with health savings accounts — available with some high-deductible health insurance policies — can save up to $3,250 tax-deferred for an individual and $6,450 for a family. Those who are 55 and older can save an additional $1,000. Flex spending contribution limits are capped at $2,500 this year.
See strategies to accelerate or defer deductions on the next page.
Strategies to accelerate or defer deductions:
• Medical expenses
The Affordable Care Act raises the income threshold this year to 10% of adjusted gross income for taxpayers under age 65. The threshold remains at 7.5% for those 65 and older. Taxpayers may need to prepare or defer medical bills to lump expenses in a single year to get the deduction.
• Gifts to charities
Use a donor advised fund (DAF) to maximize the tax savings from charitable giving. A DAF makes gifting appreciated securities easier. The DAF can be funded in tax years when the deduction will have the most impact. Distribution to charities can be made at any time without tax consideration.
• Qualified Charitable Distribution
This year only, taxpayers age 70-and-a-half or older can choose to direct up to $100,000 of their IRA-required minimum distribution to charity. By doing so, the distribution does not show up as taxable income, which can lower taxation of Social Security benefits and help reduce other threshold levels to further minimize taxes.
Also, ATRA12 extended — but did not make permanent — several tax incentives for individuals. Taxpayers should consider whether they can benefit from these incentives this year and plan accordingly. The following provisions are set to expire on Dec. 31 unless they are extended again:
• State and local sales taxes deduction
Taxpayer can choose between deducting state and local income taxes or the sales taxes they’ve paid through the year.
• Deduction for teacher expenses
Eligible educators can deduct up to $250 of any unreimbursed expenses.
• Deduction of mortgage insurance premiums
Payments of Private Mortgage Insurance premiums can be treated as deductible home mortgage interest in 2013.
• Discharge of principal residence indebtedness
This can be excluded from gross income this year.
• Qualified Charitable Distribution
Taxpayers can make tax-free charitable donations from their required IRA distributions.
2013 is certainly an exciting year for tax planning. Start now in order to minimize your tax bill in April.
Rick Rodgers, CFP, is president of Rodgers & Associates, “The Retirement Specialists,” in Lancaster, Pa., and author of The New Three-Legged Stool: A Tax Efficient Approach to Retirement Planning. He’s a Certified Retirement Counselor and member of the National Association of Personal Financial Advisers. Rodgers has been featured on national radio and TV shows, including FOX Business News and The 700 Club, and is available to speak at conferences and corporate events (www.RodgersSpeaks.com).