CCH provided advice on year-end tax strategies that, if implemented before a taxpayer’s liability is finalized, could make a significant difference in what they owe as tax year 2011 draws to a close.
“It’s wise to incorporate traditional year-end strategies as well as specific ones that react to situations unique to this year,” said CCH principal federal tax analyst Mark Luscombe in a statement. “Some things to take note of include the impact of certain tax benefits scheduled to end with 2011; a look ahead at possible sea-changes in the tax laws starting in 2013; and attention to new opportunities and pitfalls created during the past year through court cases and IRS rulings.”
Income and Deduction Shifting
The traditional year-end strategy of income shifting applies to year-end 2011 but with an extra twist. Under traditional strategy, you time your income and deductions so that your taxable income is about even for 2011 and 2012 so your tax bracket does not spike in either 2011 or 2012. If you anticipate a higher tax bracket for 2012, you may want to accelerate income into 2011 and defer deductions into 2012.
If you anticipate a leaner 2012, income might be delayed through deferred compensation arrangements, postponing year-end bonuses, maximizing deductible retirement contributions and delaying year-end billings.
The twist for year-end 2011 is the uncertain future for tax rates after 2012. Many political observers forecast that higher-income taxpayers will be asked to pay more, either through higher tax rates or more limited deductions. That may suggest a strategy in which income is not deferred but is recognized now at lower tax rates still available in 2011 and 2012.
Alternative Minimum Tax
Because the alternative minimum tax was not indexed for inflation, and for other reasons, the AMT today encroaches on many moderate-income taxpayers, especially two-income married couples. With most income and deductions for 2011 more predictable as year-end approaches, now is a good time to compute whether you will be subject to the AMT for 2011 or 2012.
Tax professionals can help their clients explore whether certain deductions should be more evenly divided between 2011 and 2012 and which deductions will qualify, or will not be as valuable, for AMT purposes.
Roth Conversions
If you have converted an individual retirement account to a Roth IRA in 2010, you were given an option: recognize all the income in 2010 or defer that income, half into 2011 and half into 2012. If they elected to defer that income into 2011 and 2012, do not forget to figure that income into your year-end planning for 2011.
“If you initiated a Roth conversion earlier in 2011 and that Roth account has declined in value since then, you should consider a Roth reconversion,” Luscombe added. “Reconverting your Roth IRA back to a regular IRA before year-end will allow you to avoid paying income tax on an account balance at its higher value. The deadline for reconversions of a 2011 Roth IRA conversion is October 15, 2012.”
Finally, for those who have not yet made a Roth conversion, doing so at year-end 2011 might be an opportunity worth serious consideration. Variables include your present income tax bracket, how close you are to retirement, and your access to other funds both to pay the conversion tax and to delay distributions from your Roth account later.
Gift and Estate Taxes
The current estate tax through 2012 is set at a maximum 35-percent rate and a $5 million exemption amount. Many experts predict that after 2012 Congress will lower the exclusion to $3.5 million and raise the top rate to 45 percent.
In light of this possibility, lifetime gift-giving, ideally on an annual basis, should continue to form part of a master estate plan. The annual gift tax exclusion per donee on which no gift tax is due is $13,000 for 2011 (and, again, for 2012), with $26,000 allowed to each donee by married couples. Making a gift at year-end 2011 to take advantage of this annual, per-donee exclusion should be considered by anyone with even modest wealth.
Gains and Losses
Timing the recognition of capital gains and losses at year-end may help minimize your net capital gains tax and maximize deductible capital losses. Many investors have excess capital losses from stock market declines in prior years that they may now “carry over” to offset capital gains that would otherwise be taxable in 2011.
Also of concern is whether the maximum tax rate for capital gains will rise from 15 percent to 20 percent or higher after year-end 2012 because of the scheduled expiration of the Bush-era tax cuts. Since long-term capital gains are only available on stocks and other capital assets held for more than one year, a capital asset must be bought on or before December 30, 2011 in order to be held for more than one year and sold before the end of 2012 to guarantee qualifying under the lower capital gains rates.
Finally, the 2010 Tax Relief Act allows the exclusion of 100 percent of the gain from the sale or exchange of qualified small business stock (Section 1202) acquired by an individual after Sept. 27, 2010, and before Jan. 1, 2012, and held for more than five years. The window of opportunity to invest in stock that will yield 100 percent tax-free gain closes on Dec. 31, 2011.
Energy Tax Incentives
If you are considering replacing your roof, heating, ventilation and air conditioning system, or windows and doors, doing so using energy-efficient materials before Jan. 1, 2012 may generate tax savings.
Through the end of 2011, a number of residential energy-efficiency improvements qualify for a tax credit.
These include qualified windows and doors, insulation products, HVAC systems and roofing. The “lifetime” credit amount for 2011, however, is $500 and no more than $200 of the credit amount can be attributed to exterior windows and skylights.
Tax Extenders
A number of tax extenders are scheduled to expire after Dec. 31, 2011. They include state and local sales tax deduction, higher education tuition deduction, and teacher’s classroom expense deduction.
Seniors age 70 1/2 and older should also consider making a charitable contribution directly from their IRAs up to $100,000 in order to avoid taking the distribution into taxable income and pay no tax on the distribution. This tax break, especially advantageous to those who do not itemize deductions, is scheduled to end for distributions made in tax years beginning after Dec. 31, 2011.
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