2010-2011 Tax Planning Strategies

We will probably have to wait until 2011 for final action by Congress regarding the Bush tax cuts and the tax breaks that expired in 2009. Nevertheless, tax writers are confident that both the Bush tax rate cuts and the tax cuts on long-term capital gains and dividends will be extended for 2010 and 2011. Furthermore, it is likely that the expired tax breaks will be retroactively extended for 2010. These breaks include the property tax deduction for non-itemizers, earned income credit, student loan interest and tuition deductions, write-offs for teachers’ class supplies, tax-free IRA payouts to charity, and the higher exemption from AMT.

What will NOT be available for 2010: Excluding tax on any unemployment benefits; non-itemizers writing off sales tax paid on a new car; the extended NOL carry-back to 3,4, or 5 years.

What’s New for 2010 & 2011

The news that the self-employed have been long awaiting: The cost of medical insurance is now exempt from self-employment tax. There are reasons to consider purchasing assets before 12/31 because Congress extended the 50% first-year bonus depreciation through 2010. Also extended is the limit on first-year depreciation for new vehicles that qualify for bonus depreciation, which was increased from $3,060 to $11,060. For vehicles to qualify for bonus depreciation they must be used more than 50% for business. Also extended and increased from $250,000 to $500,000 is the amount businesses could expense (rather than depreciate) in 2010 and 2011.

More paperwork for landlords: Beginning in 2011, landlords will need to issue 1099s to ALL service providers paid $600 or more, including firms.

Conversions to Roth retirement plans: Tax on conversions done in 2010 may be deferred to the 2011and 2012 tax years. Also, the limits on income and filing status for Roth conversions are eliminated.

IRA and plan withdrawals: If you turned 70-1/2 in 2010, the distribution requirement is waived until April 2011. However, your second distribution must be taken by 12/31/2011, which means two tax hits in 2011.

Help for high-incomers: Phase-outs of itemized deductions and of personal exemptions due to Adjusted Gross Income are eliminated for 2010.

The business mileage rate for 2010 is 50 cents. The mileage rate for medical or moving expenses is 16.5 cents. The rate for charitable miles remains at 14 cents.

Reminders

If you are making energy saving improvements to your home in 2010 that qualify for the maximum $1,500 tax credit, be sure the improvements are installed (not simply purchased) by 12/31 to get the tax credit. Remember, too, that any energy credit you claimed in 2009 reduces the amount you can take for 2010. This does not apply to the unlimited credit that expires in 2016 for solar and other systems. Go to http://www.energystar.gov/ and click on “Tax Credits for Energy Efficiency”.

The American Opportunity Education Credit is still in effect for 2010. It covers up to 4 years of postsecondary education. The maximum credit is $2,500 and includes books, as well as tuition and fees. For tax-free distributions from 529 Plans, the definition of “qualified expenses” was further expanded to include computers, computer technology and Internet service.

Also available for 2010: The Making Work Pay Credit of up to $400 for singles ($800 marrieds) with phase-outs starting at Adjusted Gross Incomes of $75,000 (single) or $150,000 (married).

If you donate a vehicle to a charity and claim more than $500 deduction, you must attach to your return a statement from the charity that identifies you, the vehicle, date of donation, vehicle sale date, and sales proceeds. You need to get a receipt for each donation – not just those over $250. Instead of putting cash into the collection plate, you need to use a check or a card swipe so you and the organization have records. Check your withholding and estimated tax payments against your projected taxable income. Adjust as needed to avoid underpayment penalties.

Tax Planning Basics

As always, the key to smart end-of-year tax planning is to look at two tax years – 2010 and 2011 – as you study your options. For most taxpayers, the best strategy is also the simplest: Defer income to the following year and accelerate deductions into the current year. This strategy takes advantage of the fact that income levels for tax brackets increase each year for inflation. But there are some exceptions: Taxpayers expecting to be in a higher tax bracket next year, and those expecting to pay AMT in 2010, will maximize deductions next year, not this year.

Gaming the Standard Deduction: If you find that, try as you might, your itemized deductions fall a little short of the standard deduction amount, you may be able to accelerate taking some of them so that you may itemize in 2010, after all. This year, the standard deduction is marrieds: $11,400, plus $1,100 if age 65+, singles: $5,700, plus $1,400 if age 65+, and household heads: $8,400, plus $1,400 if age 65+. To maximize deductions in even years (like 2010) you could prepay (in December) your January mortgage payment, 2nd installment property taxes, 4th-quarter estimated state taxes, and some portion of the following year’s alimony. See doctors, dentists, accountants, etc. in the months of January and December of even years, and skip in odd years. Make two years’ worth of charitable gifts in even years, and skip these in odd years. Consider getting and paying for elective medical procedures in 2010 if you are near the 7-1/2%-of-AGI threshold. This does not include expenses for non-reconstructive cosmetic surgery. An even better option is available to taxpayers covered by high-deductible health insurance plans: the Health Savings Account, to which you may make tax-free contributions ($3,050 single; $6,150 family) for non-reimbursed medical expenses, and which are not subject to the “use it or lose it” rules at the year end or upon changing jobs.

If You Pay AMT: You may want to lower your income by investing the maximum in tax-deferred retirement plans - see “Saving for Retirement” at http://MesaTaxes.com/resources.html. Or consider the Health savings Account mentioned in the previous paragraph.

Determined at Tax Preparation Time: In certain instances, it may be necessary to run calculations to determine if spouses should file separately, though this is not usually beneficial in community property states like California. How to claim education credits and deductions also depends on the situation.

The federal estate tax goes back to $1 million in 2011, unless current law is extended. If these thresholds affect you, think about ways to gradually transfer your estate tax-free. Consider establishing a gift program or funding a 529 College Savings Plan for someone. For more info on college savings plans see “Saving for Education” at http://MesaTaxes.com/resources.html.

Consider charging contributions, medical expenses, business expenses, and some state tax payments, if you need the deductions this year, but don't have the ready cash. Deductions available to qualifying non-itemizers: IRAs, alimony, Keogh pay-ins, job-related moving expenses, health savings accounts.

Business Reminders: If you are self-employed, you have until 12/31/10 to set up a Self-Employed 401(K) plan for tax year 2010. If a SEP-IRA is better for your needs, you have until you file your 2010 tax return to set it up. Make sure that you qualify for the home office deduction by not using the designated office space for personal activities at any time. For more info see “Claiming Home Office and Vehicle Expenses” at http://MesaTaxes.com/resources.html.