As the end of 2010 approaches, now is a prime time to start thinking about year-end tax planning strategies to minimize your 2010 tax liability on April 15. This year, however, planning is made much more complicated with the uncertain state of many tax laws as well as the scheduled 2011 increase in individual tax rates, qualified dividends and capital gains tax rates, combined with the sunset of many important tax breaks. Thus, planning will necessarily require looking at what’s happened in 2010 as well as what will happen in 2011. This letter is intended to provide you with some general year-end planning considerations and techniques.
Take advantage of lower income tax rates. For 2010, the marginal federal income tax rate brackets are 10, 15, 25, 28, 33, and 35 percent. These brackets are scheduled to expire at the end of the year and be replaced with the following brackets for 2011: 15, 28, 31, 36, and 39.6 percent. The 10 percent bracket completely disappears. This gives increased significance to the traditional tax planning technique of accelerating income and deferring deductions. If you expect your income to be higher in 2011 than it is this year, you should consider ways to accelerate that income into 2010 in order to avoid having that income taxed at the higher rates. In addition to accelerating income into 2010, you may want to defer certain deductions until 2011 to help lower the amount of your taxable income subject to the higher rates.
However, for higher-income taxpayers there is no limit on the amount of itemized deductions they can take in 2010. The limit on itemized deductions reappears in 2011 though. The limitation threshold amount is $50,000 for married taxpayers filing separately and $100,000 for most other taxpayers. This means that if you’re a higher-income taxpayer who will be affected by the limit on itemized deductions, but you want to accelerate income into 2010 and defer deductions into 2011, you could lose part of the benefit of your deductions. You will need to carefully weigh these considerations. Please call our office and we can help you determine a best course of action.
Take advantage of lower capital gains rates. If you have investments that have appreciated in value and you have been contemplating selling soon, now may be better then later. For 2010, long-term capital gain is taxed at a maximum rate of 15 percent (for assets held longer then one year). If you’re in the 10 pr 15 percent marginal income tax brackets in 2010, a zero percent rate applies. That is, you will pay no tax when you dispose of the assets. However, these beneficial rates will disappear after 2010. For 2011, the maximum tax rate on long-term capital gain is scheduled to rise to 20 percent, with a 10 percent rate applying to taxpayers in the lowest brackets. Thus, selling off any of your capital gains assets in 2010 is significantly more beneficial tax-wise then delaying the sale and paying higher rates in 2011 or thereafter.
Homeownership. If you have made certain energy-efficient home improvements this year, you may be able to claim a credit for some or all of the repairs. Homeowners can claim the nonbusiness energy property credit for making energy efficiency improvements or installing alternative energy equipment in their home. The credit is a maximum of $1,500 split between 2009 and 2010 for qualifying improvements made in these two years. Examples of qualifying improvements include adding insulation, energy-efficient exterior windows, and energy-efficient heating and air conditioning systems. Manufacturers must certify that their products meet new standards and they must provide a written statement to the taxpayer such as with the packaging of the product or in a printable format on the manufacturers’ web site. Additionally, you must have purchased and installed the items before January 1, 2011.
Make retirement plan contributions. If you have not already done so, make a contribution to your retirement plan before the end of the year. You can contribute up to $5,000 to an individual retirement account (IRA) in 2010 if you’re age 50 or younger, or you can contribute up to $6,000 if you’re older than 50 years of age and otherwise qualify to make a “catch-up” contribution. The maximum amount you can contribute to a 401(k) plan in 2010 is $16,500 (and for individuals over the age of 50, a catch-up contribution of an additional $5,500 can be made). You can generally deduct your contribution, in whole or in part, to a traditional IRA, 401(k) or other employer-sponsored retirement plan. Additionally, the contribution will reduce your taxable income. However, contributions to Roth IRAs are made after-tax, but qualified distributions and earnings will be tax-free.
Roth IRA conversions. Also, if you have been interested in converting your traditional IRA into a Roth account. A special rule applicable to conversions in 2010 only will allow you to defer paying federal income tax on the conversion income until 2011 and 2012, ratably. Therefore, in lieu of including the entire taxable amount of conversion income in your taxable income in 2010, you can spread the amount out equally between two years if you so elect. However, be aware as discussed earlier that the individual income tax rates are scheduled to rise for 2011 and beyond. If you make the election to recognize the income ratably in 2011 and 2012, you will be taxed at the rates in effect for those years.
AMT planning. Congress has not as of yet enacted a “patch” to the alternative minimum tax (AMT) for 2010. Be aware, that unless Congress acts to enact an AMT patch for 2010, the exempt amounts will fall to $33,750 for individuals; $45,000 for married couples filing jointly; and $22,500 for married individuals filing separately. Your year-end planning should include accounting for a lack of an AMT patch in the case that Congress does not act.
Expired tax incentives. Some tax breaks that you may have claimed on last year’s return may have expired and not be applicable to your 2010 return. A number of individual tax incentives expired at the end of 2009 and unless Congress retroactively extends them for 2010, you will not get their benefit on your return. While Congress may act to retroactively extend some, or all, of these popular incentives, you should be aware that the following tax breaks have expired and are currently not available for 2010:
— The additional standard deduction for state and local property taxes for non-itemizers;
— The election to itemize state and local sales taxes instead of state and local income taxes;
— The higher education tuition deduction of up to $4,000;
— The teachers classroom expense deduction of up to $250; and
— The exclusion from gross income of up to $2,400 of unemployment benefits.
If you have benefited from one of these, or other expired incentives, you may want to consider a contingent plan that accounts for these incentives, as well as a strategy that does not.
Year-end tax planning can often be timely and complex for many taxpayers, and 2010 is no exception. Please contact our office and we can draft a year-end tax plan based on your own tax and financial circumstances.