Three Year-end Tax Reduction Tips


Even though April 15 now seems a distant deadline for filing your 2015 tax returns, in order to take advantage of some of the biggest tax reduction strategies, you have to act before the end of this year. Without further ado, here are three “go-to” maneuvers that you may want to execute by December 31.

1. Maximize Contributions to Tax-Advantaged Accounts

Contributing to your employer’s retirement plan is one of the smartest tax moves you can make. For 2015 (and 2016) you can save up to $18,000, or $24,000 if you are age 50 or older. Because contributions are typically made on a pretax basis, qualified plans such as 401(k)s and 403(b)s help to lower your current taxable income. Plus, the money in the account is allowed to grow tax deferred until you begin taking withdrawals, usually in retirement.1

If you are interested in supplementing your contributions to your employer’s plan, you may be eligible to fund a traditional IRA with a deductible or non-deductible contribution. You can contribute up to $5,500 in 2015 and 2016, adding $1,000 to that total if you are 50 or older and catching up on your retirement savings. Like 401(k)s, IRAs offer a “one-two punch” in tax savings: tax deferral on your investment until you start withdrawing money, along with a potential tax deduction on all or part of your annual contribution if you meet the IRS’s eligibility rules.

You could also direct your savings to a Roth IRA or a Roth 401(k), if offered by your employer. Although contributions to Roth retirement vehicles are made with after-tax dollars, withdrawals are tax free provided certain conditions are met. Keep in mind that the annual contributions limits for 2015 — $18,000 per individual or $24,000 for those age 50 or older — apply cumulatively to all employer-sponsored plans, Roth or traditional.

Even though you have until tax day — April 15, 2016 — to fund an IRA for 2015, why wait? Funding it by year-end potentially gives it all the more time to grow in a tax-deferred shelter.

If you’re self-employed or own a small business, you may have just enough time to set up a small business retirement plan before year-end. In some cases, you can wait until next year to fund it, but the plan must be established in 2015 to get the deduction this year.

2. Consider Tax-Loss Harvesting

Simply stated, tax-loss harvesting is the process of balancing portfolio losses against gains to help minimize your exposure to capital gains tax. In a year like 2015, in which the stock market experienced a significant late-summer swoon, such a strategy may be particularly attractive.

Generally, the IRS allows you to offset capital gains with capital losses to the extent of your total gains — and above that, you may be allowed to deduct up to $3,000 against ordinary income each year, thus potentially lowering your tax liability. Losses in excess of that limit can be carried over to the next year.

Yet as simple as this strategy may sound, it is fraught with caveats. For starters, before selling, consider the length of time you have held a security. Securities sold within a year of their purchase can generate short-term capital gains, which are taxed at the investor’s ordinary income tax rate — up to a maximum rate of 39.6% for the highest earning individuals.

Gains from the sale of securities held for more than one year are considered long-term gains and are taxed at a maximum rate of 15% for most Americans, but that rises to 20% for those with taxable incomes of over $400,000 ($450,000 for joint filers). In addition, the Medicare surtax on net investment income, which includes capital gains, results in an overall top long-term capital gains tax rate of 23.8% for high-income taxpayers.

Also keep in mind that the IRS prohibits you from claiming a loss on the sale of a security in a “wash sale.” The rule defines a wash sale as one in which an individual sells or trades securities at a loss and then goes on to buy additional shares in the same or substantially identical security within the 30 days before or after the date of sale.

The bottom line on tax-loss harvesting? If you are considering employing this strategy, evaluate carefully the investments you may select for sale, then discuss your plan with a trusted financial advisor. You certainly don’t want to wag the investment “dog” with the tax “tail”.

3. Timing Is Everything

Another popular year-end tax management strategy — particularly if you expect your taxable income to be higher than normal for the 2015 tax year — is to accelerate tax deductions and, where possible, to defer income. For instance, you could increase your charitable deductions or make advance payments for state and local taxes, insurance premiums, interest payments, medical procedures, or other deductible expenses for which you may be able to control the timing. Similarly, you may be able to delay some forms of discretionary income or hold on to stocks that have performed exceptionally well at least until early 2016, being mindful of what you expect your tax/income situation to be next year. Before prepaying any state income or local property taxes, be sure that the alternative minimum tax does not apply to you.

These are just some of the many steps you can take to help keep your taxes in check. Work with your financial and tax advisor(s) to make tax planning an integral part of your overall financial plan.

This communication is not intended to be tax advice and should not be treated as such. Each individual’s tax situation is different. If you would like to review your current tax situation or discuss any other financial planning matters, please don’t hesitate to contact us or visit our website at http://www.ydfs.com. We are a fee-only fiduciary financial planning firm that always puts your interests first.  If you are not a client yet, an initial consultation is complimentary and there is never any pressure or hidden sales pitch.

Disclaimer:

1Withdrawals from traditional IRAs are taxed at then-current income tax rates. Withdrawals prior to age 59½ may be subject to an additional federal tax.

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