By now you are most likely deep in the throes of holiday planning, shopping and celebrating. So, your 2015 tax return may be the furthest thing from your mind right now. But you would be wise to be proactive about your tax planning before the year comes to a close in order to minimize your tax liability. Here are seven year-end tax tips, while not all-inclusive, can get you started:
1 – Determine whether to pay your property taxes before the end of the year
Property taxes are potentially deductible as an itemized deduction on your federal income taxes in the year you pay them. Nevertheless, if your bank escrows for your property taxes, you may not have control over the timing of the disbursement. But it doesn’t hurt to ask your bank to pay them in December if you have sufficient escrow. Beware of the alternative minimum tax; however, as taxes are not deductible for AMT purposes (also see #5).
2 – Use unrealized losses in your investment portfolio to soak up realized gains
By selling off some stocks or bonds that you are currently holding at a loss, you can offset the capital gains that you recognized during the year. In fact, if your losses exceed your gains, you can deduct up to $3,000 of net losses against ordinary (i.e. wages, interest and dividends etc.) income and carry forward the remainder to the following year. It is rare that all of your investments will be winners, so if there is little chance of some of your losers rebounding, it may make sense to take advantage of Uncle Sam effectively subsidizing some of your losses.
3 – Don’t fall into the mutual fund trap of investing right before their annual distribution of dividends and capital gains
While it might seem to make sense to invest in a mutual fund just before those payouts are made, the value of the shares drops by exactly the payout amount which essentially nullifies the gain. To add insult to injury, you are taxed on that payout as a capital gain even though you did not hold the shares during the time they appreciated. A better approach is to determine when a mutual fund will make a significant distribution to shareholders and to buy into the fund after that. Distributions often occur in December, and most major funds will publish the date of the distribution on their website.
4 – Face your IRS refund addiction
Close to 80% of Americans get money back from the IRS at an average amount of $2,800, effectively paving the way for many taxpayers to force themselves to save. But by allowing the federal government to hang onto your money for extended periods of time, you are essentially making loans to Uncle Sam interest free. What you should do instead is to make a rough estimate of your tax liability and to adjust your withholding or estimated payments accordingly to approximate break even. You may even owe a little without incurring interest and penalties. As a reminder to those who are self-employed, make sure to include self-employment taxes in your calculations.
5 – Try to avoid the pitfalls of AMT
In recent years, more and more taxpayers have found themselves subject to AMT, particularly dual-income homeowners who have children and live in high-tax states. If you’re one of these taxpayers, try to defer payment of state and local taxes, including real estate taxes. Also, aim to accelerate income to the point where you’re no longer subject to the AMT. If you find yourself in the clutches of AMT, multi-year planning is essential and usually requires the services of a tax professional.
6 – Maximize your retirement plan contributions
It was been documented that Americans are some of the worst savers on the planet. But one of the best tax-reducing tools at the disposal of many is their employer-sponsored 401(k) or similar retirement plan. Plan participants can make pre-tax contributions up to $18,000 of their salary ($24,000 if age 50 or older) in 2015, meaning their taxable compensation would be reduced by the total amount of their annual contributions. For example, a taxpayer in the 25% tax bracket can see a reduction in their federal income taxes by $4,500 this year by making the $18,000 maximum contribution. Moreover, if you are age 50 or older your $24,000 maximum contribution is worth $6,000 in tax savings in the same tax bracket. Many plans allow for year-end catch up adjustments and percentage changes during the year.
7 – Follow the news on Tax Extenders
Those 50 or so tax extenders that went into effect days before the end of 2014 only to expire once again at the beginning of 2015 are currently a hot topic. Up until now, the sticking point with Congress has been how to pay for this stocking full of tax benefits. While it is difficult to plan for these items, keep an eye on whether lawmakers manage to extend some popular tax provisions before the end of 2015 such as:
- Taxpayers aged 70½ and over to make tax-free charitable contributions from IRA’s
- Businesses to deduct up to half of eligible equipment placed in service this year
- Teachers to receive an above-the-line deduction for $250 in classroom expenses
- Students and parents to receive an above-the-line deduction for tuition expenses
- Companies to receive a credit for qualified research expenses
- Taxpayers in states without an income tax like Texas and Florida to deduct state sales taxes