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Taking these simple steps can save you plenty of money. Time to get cracking!
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Taking these simple steps can save you plenty of money. Time to get cracking!
Handing over a big chunk of your income to the IRS can feel like a fist in the gut. But with careful planning, you can reduce the pain of this year's levy.
"In April, you still have plenty of time to take steps to reduce your taxes for the year," says Eugene Price, a CPA in Bardonia, NY. "It's better to start now than race in a panic in December and miss out."
Here are some of the moves most worth considering:
Maximize retirement plan contributions. The sum you should be contributing annually could be substantialparticularly for a defined-benefit planso start budgeting now, if necessary.
"Some doctors let retirement funding slack off when business or personal expenses rise," says Price. "Yet, if you're in the 39.6 percent tax bracket, putting $30,000 of pre-tax money into a Keogh plan will save you about $12,000 in taxes, and the retirement funds will get tax-deferred compounding.
"You've still got eight months to curb spending and earmark money for your retirement plan," Price adds. "If you don't have a retirement plan, and your practice is an S or C corporation, start a corporate plan as soon as possible.
"If you're self-employed, start a Keogh plan," Price advises. "You can fund it with a minimum amount now and delay the balance of the contribution until your return is dueApril 16, 2001, or later, if you get a filing extension. You can still deduct the entire amount for 2000." Of course, the sooner you contribute, the longer your money will have to grow.
Hire your spouse or children. Have them type, clean, or do other office work. "If you're self-employed, this can shift income to someone in a lower tax bracket," says David B. Roberts Jr., a CPA with Aiken, Carroll & Co. in Fairfax, VA. "It can also provide an excellent summer job for your teenager."
A dependent under age 18 can earn up to $4,400 a year without paying taxes, if he has no unearned income, such as investment dividends or interest.
"Besides shifting income, employing your spouse or child could provide fringe-benefit tax savings worth several thousand dollars," says Roberts. "You can write off the cost of the family member's medical insurance and medical reimbursement plan, plus some educational expenses. You could also make qualified retirement plan contributions for that person, which would boost your savings.
"As a paid employee, your spouse can accompany you on business trips, and you can then write off his or her expenses," says Roberts. "You simply need to be able to show that your spouse provided a business service while on the trip."
But don't do implausible things to increase deductions. Paying your 16-year-old top dollar or listing her job as phlebotomist won't fly with the IRS.
Spend more time playing landlord. If you use your vacation unit for an average of seven days or less per rental period, and you "materially participate" in rental activities, you can write off rental losses against ordinary income.
"This requires effort, so don't buy a vacation home thinking it's a sure tax deduction," warns E.W. "Woody" Young, a financial adviser with Quest Capital Management in Dallas. "This tax strategy works best if you've bought a vacation home to determine whether you'd like to live in that area, and your spouse has time to perform the necessary activitiesand enjoys doing so."
To have the IRS deem you a material participant for the year, you must pass one of seven tests. The three easiest:
"Make sure you document the time spent on rental activities," says Young. If you plan to pursue this strategy, check with your financial adviser to make sure you have all your bases covered.
Do office paperwork at home. "The home office deduction rules eased as of Jan. 1, 1999," says Martin Kaplan, a CPA in New York and author of What the IRS Doesn't Want You to Know (Random House, 1999). If you haven't taken deductions for your home office because of the IRS' tough stance against doing so, it's time to reconsider. If you do your billing or paperwork at home, the new regulation could work in your favor.
The change came thanks to Virginia anesthesiologist Nader Soliman, who performed services at hospitals in Maryland and Virginia but did billing, paperwork, and medical journal reading at home. "At first, the IRS denied his deductions, since the office was not his principal place of business," says Kaplan. "The case went all the way to the Supreme Court."
Now, if you regularly use part of your home as the place for conducting the administrative or management activities of your business, you can deduct the mortgage interest, real estate taxes, electricity, and expenses for that portion of the house. But you must use that part of the home exclusively for business purposes and do virtually none of those administrative or management activities at any location other than your home office.
Don't try to claim that you use three-quarters of the house just for business, either, Kaplan cautions. Overdoing it could trigger an audit.
If your home office doesn't qualify for a deduction, you can still depreciate a new desk, computer, or other home office furniture, as long as it's used for income-producing activity. If you research or trade investments online or do your taxes on the computer, you can depreciate the percentage of the equipment used for those endeavors.
Document business-related activities. Maintain a log that indicates date, place, people present, and business topic discussed, so you can deduct the cost of meals, seminars, and other business-related events without fear that they'll be disallowed. If you attend a medical convention, keep a program as evidence. "It's best to be proactive about recording business expenses, rather than try to reconstruct events if they get challenged," says Eugene Price.
Sell loser stocks before year-end. You can use the losses to offset gains from other investments. If you have no such gains this year, you can use $3,000 of investment losses to offset your regular income. Moreover, you can carry forward unused losses indefinitely, until you can use them against gains or ordinary income in a future year.
Kaplan tells of a New York internist who sold 1,000 shares of AOL for a $200,000 profit. Five years earlier, he had sold $150,000 of stock at a loss, and he was carrying the loss forward, using $3,000 a year against ordinary income. Last year, he used the remaining portion of his loss to partially offset the AOL windfall.
Donate appreciated assets. "When you donate stocks or mutual funds that you've held for more than one year, you can deduct their full market value, even if that's more than you paid for them," says Woody Young. "If you're giving to a church building fund, for example, don't liquidate stocks or mutual funds to get the money. You'll be liable for capital gains tax, or, if you've held the stocks for less than a year, ordinary income tax. Give the stocks or funds, instead."
Say stock you bought for $5,000 two years ago is now worth $10,000, and you want to give $10,000 to charity. Donate the stock, and you'll get a deduction for its full current valuejust as if you'd donated the amount in cash. But if you sell the stock to raise the cash, you'll trigger a $1,000 capital gains tax and have only $9,000 left to donate.
Granted, if the stock has good growth potential, you're probably better off holding it for continued appreciation. Still, review your assets for stocks, funds, art, or real estate that have topped out and might be donation candidates.
Buy tax-exempt or tax-deferred investments. If you have money in mutual funds that have high turnover or that produce current taxable dividends or interest, consider shifting some into holdings that won't hurt you at tax time.
"Keep the conservative portion of your portfolio in municipal bonds and tax-deferred investments, such as growth securities that don't pay taxable income currently," suggests David Roberts. "Also, look at tax-managed growth mutual funds, which control dividends and turnover to reduce your tax bite."
Just remember that the bottom line is after-tax return, not tax efficiency. Don't give up a tax-inefficient fund with 10 percent annual after-tax returns for a tax-efficient fund that produces 5 percent after tax.
Make deductible payments before Dec. 31. One easy way to do that: "Before year-end, pay your January bills for estimated state and local income taxes," says Price. You may need to budget or put money aside now, so you don't fall short at year-end.
You can also deduct prepayments for renewing professional journal and business magazine subscriptions for next year.
Make a nondeductible IRA contribution. You can put $2,000 into a traditional IRA for yourself and, if you're married, do the same for your spouse. Or, if your income falls below the appropriate threshold ($150,000 for married couples filing jointly, $95,000 for single filers), you can go the Roth IRA route, instead. "If you've got at least 10 years until retirement, this makes sense even if you contribute to a qualified plan, because you get the benefit of tax-deferred compounding," says Young.
"If you already have deductible IRA contributions in a traditional IRA," he adds, "keep records so you can differentiate between the deductible and nondeductible contributions when you're ready to take distributions. The paperwork can be a headache, but it's worth the effort."
Leslie Kane. Cut your 2000 tax bill--starting right now. Medical Economics 2000;8:null.