Between holiday parties, cookie-baking sessions and movie marathons, you should set aside some time in the next two weeks for tax planning. It may sound like something only a Scrooge would do, but financial experts say it’s a smart money move.
“As of December 31, almost everything for tax year 2015 is set in stone,” says Don Chamberlin, president and CEO of The Chamberlin Group, a tax and wealth advisory firm in St. Louis.
If you want to minimize the money you owe on April 15, here are seven strategies to put into action right now.
1. Make last-minute charitable donations.
Arguably the best-known last-minute strategy is to make charitable donations.
“If you have that old car you never use, this is a good time to donate it,” says Cory Schmelzer, owner of San Diego Wealth Management.
You can also hunt through closets and the garage to find other items to donate. Plus, the charities filling your mailbox with solicitations are undoubtedly hoping you’ll write a check or two.
Andrew Poulos, principal of Poulos Accounting & Consulting in Atlanta, Georgia, advises clients to keep receipts for all donations. “The IRS is actually increasing enforcement action on charitable donations,” he says, based on his experience as a tax professional.
Note that donating to charity is only helpful for tax purposes if you itemize your deductions. If you take the standard deduction, a charitable donation only gets you a warm feeling in your heart.
2. Maximize 401(k), HSA and 529 plan contributions.
While tax-deductible contributions to traditional IRAs can be made all the way until April 18 of the following year, Dec. 31 marks the final day to make deductible deposits to a traditional 401(k).
“If you’re having a high-income year, max out your 401(k) contributions,” says John Piershale, a certified financial planner and tax specialist with Piershale Financial Group in Crystal Lake, Illinois. “That could lower your taxable income.”
Dec. 31 is also the last chance to contribute to Health Savings Accounts and 529 college savings plans for that money to be eligible for 2015 federal and state tax deductions.
3. Shift income and bunch expenses to either this year or the next.
Bunching expenses and shifting income are common tactics to maximize deductions or avoid moving into a higher tax bracket at the end of the year.
To minimize taxes in a high-income year, people may want to defer — or shift — some of their compensation until after January. “If you get an end-of-the-year bonus or commission check, ask the company to postpone that payment until next year,” Chamberlin says. Self-employed people can also wait to bill clients until January to defer that income to 2016.
On the other hand, bunching expenses can work to maximize deductions. For example, you can only deduct medical expenses that exceed 10 percent of your adjusted gross income. If you had major medical expenses in 2015, but don’t expect the same in 2016, you could try prepaying future expenses to maximize the 2015 deduction, Schmelzer suggests.
Poulos recommends making a January mortgage payment in December to deduct that interest on 2015 taxes. Real estate taxes may also be prepaid. “That would be another opportunity to increase itemized deductions,” Poulos says.
The key to shifting income and bunching expenses, finance experts say, is to determine whether it’s more advantageous to apply income and deductions this year or the next.
4. Check on the status of your FSA.
Flexible Spending Accounts allow people to pay for medical expenses with tax-exempt dollars. However, these accounts operate under a “use it or lose it” system, in which money not spent by the end of the year reverts to the employer who sponsors the plan.
Some employers allow workers to carry over $500 to the next year. Others have a 2.5 months grace period that extends into the next year to allow people more time to spend the money in their account. However, not every workplace offers these options, so employees should check with their plan’s administrator, Piershale says.
Those who do have money to burn before the end of the year can prepay expenses for next year, or stock up on over-the-counter goods such as bandages, hearing aid batteries and blood pressure monitors. Buying a new set of contacts or prescription glasses can also be a good way to use up remaining funds from an FSA.
5. Convert money from a traditional IRA to a Roth IRA.
By December, workers typically know where their annual income is going to land for the year. Schmelzer says that information can help people determine whether the time is right to convert money from a traditional IRA to a Roth IRA.
Money converted from a traditional IRA to a Roth IRA is taxable, but the converted money then grows tax-free and can be withdrawn tax-free in retirement. Meanwhile, money in a traditional IRA is tax deductible when deposited but taxed when withdrawn. “[A conversion] will cost you more this year, but it’ll have long-term tax savings,” Schmelzer says.
6. Confirm you’ve taken your RMD.
Speaking of traditional IRAs, anyone age 70 ½ or older needs to take a required minimum distribution, or RMD, each year. Failing to do so results in a tax penalty that’s equal to 50 percent of the RMD amount. “It might be the harshest penalty in the tax code,” Piershale says.
The RMD is calculated using a formula that considers the size of the IRA as well as the owner’s life expectancy. Those who turned 70 ½ in 2015 have until April 1, 2016 to take out the RMD.
Since the RMD can be a sizeable amount, it has the potential to push some retirees into a higher tax bracket. If the money isn’t needed, Schmelzer says donating it to charity is a way to avoid having it impact your income. “If you’re forced to do an RMD, have the money sent directly to a charity,” he says. “If you don’t touch it, you don’t get a 1099 on it.” As a result, Schmelzer says the money doesn’t have to be included on tax forms as income.
7. Look into loss harvesting and gain harvesting.
If you own stocks, the end of the year is the best time to harvest losses and gains.
“If you have any losing stocks, you can sell these and get a loss you can write off,” Chamberlin says. Up to $3,000 in losses can be written off each year.
A lesser-known tactic may be gain harvesting. “[Congress] started a 0 percent capital gains tax for those in the 15 percent or lower tax bracket,” Piershale explains. The tax break implemented in 2008 provides an opportunity for people in that tax bracket to sell stocks for a gain and not pay any taxes.
Only gains earned up to the 15 percent tax bracket income limit get the benefit of the 0 percent tax rate. “If you go over the 15 percent, it doesn’t jeopardize the whole transaction,” Piershale says. “Only the part above [the bracket limit] will be taxed.”
This strategy can be a good idea even if someone doesn’t want to give up a stock. Unlike loss harvesting, which is subject to wash-sale rules prohibiting a tax write-off if someone purchases the same stock within 30 days of selling it, gain harvesting has no such restriction. People can sell stock one day, realize the gain and then purchase it back the next day. The benefit of this strategy is that it resets the buying price for the stock, thereby lowering any future capital gains taxes.
For those who want to take advantage of loss harvesting or gain harvesting, Piershale has a word of advice: “Don’t walk into your advisor’s office on New Year’s Eve and expect to do this.” Stock sales can take time. Plus, your advisor has his or her own holiday parties to attend and cookies to bake.
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‘Tis the Season for These 7 Tax-Saving Strategies originally appeared on usnews.com
