Tax planning for many people has
devolved into one big guessing game this year as Washington battles over tax
policy. Everything from payroll taxes to capital gains tax rates is still up in
the air. But there are ways to play the odds, and some moves to make regardless
of what Washington does.
Here are five actions to consider in
the final weeks of 2012:
1. Shift your deductions
The general rule for year-end tax
planning is to move as many deductions as you can (from real estate taxes, for
example) into the current year, while postponing as much income as possible into
the next. Why pay taxes earlier than necessary, after all? For most taxpayers,
that's likely still good strategy. You can do this by paying your year-end tax
bill and mortgage payments a few days early, accelerating next semester's
tuition payments into this year and more.
But wealthy taxpayers need to weigh
both potentially higher rates next year - which argue for pushing deductions
out - and the possibility of limits on deductions, which could put a damper on
the value of those deductions going forward. If you're considering a big move
in the waning days of 2012, it's worth asking your accountant to run the
numbers.
2. Feed your retirement plan
The maximum you can contribute to an
Individual Retirement Account (IRA) is $5,000 (or $6,000 if you're 50 or
older). You can exempt contributions from your taxable income, unless you are
covered by a retirement plan at work, and are a high earner. That break phases
out for covered single workers earning between $58,000 and $68,000 (between
$92,000 and $112,000 for joint filers.)
If you're above those income limits,
you can still fund a non-deductible IRA. That gives you the ability to defer
taxes on the account's earnings until you withdraw them in retirement -- and
offers a back door way for high income earners to move money into a tax-favored
Roth IRA.
The growing numbers of self-employed
workers have a special retirement plan: the so-called SEP-IRA. The maximum you
can contribute to a SEP-IRA is 25 percent of your income, up to $50,000. To see
how much you can personally set aside in a SEP-IRA, use a calculator, such as
this one from Fidelity Investments (http://tinyurl.com/bj4x5j3). While there
may be investment advantages to making contributions before year-end, there's
no compelling tax reason to rush: You can make retirement contributions for
2012 until next April.
3. Convert your IRA into a
Roth
With a traditional IRA, you defer
the tax hit until you make withdrawals in retirement. In contrast, you make
after-tax contributions to a Roth IRA, but then don't owe any income tax later
when the money is withdrawn. This can convey great benefits for younger savers
in particular; the lack of income taxes on income that compounds for years can
be significant.
If you roll over a traditional IRA
to a Roth now, you'll owe those taxes with your 2012 tax return; make sure you
can pay those taxes without using your retirement funds. Not sure if a Roth is
the right plan for you? A Roth IRA calculator, such as this one from Charles
Schwab Corp. (http://tinyurl.com/6uwcnpz), can help you decide.
There are income limitations for
contributing to Roth IRAs, but high earners who make too much to qualify can
contribute to nondeductible traditional IRAs and then convert them to Roth
IRAs.
4. Be charitable
Regardless of what happens in
Washington, charitable donations are valuable this year as a tax deduction, and
-- for wealthier taxpayers and those worried about higher estate and gift taxes
next year -- as a way of getting money out of taxable estates. To claim the
deduction, you need to itemize your deductions when you file your return, and
you need to make sure you give to a qualified nonprofit organization. If the
fiscal cliff solution cuts the write-off for charitable donations next year,
your dollars will go further by giving now.
5. Sell winners, probably
The typical year-end strategy calls
for harvesting capital losses in order to offset capital gains. After all, you
can match capital losses against capital gains to reduce or eliminate the gains
tax you'll owe, and even take an additional $3,000 net capital loss against
ordinary income. But the current 15 percent tax rate on capital gains is likely
to rise to 20 percent next year, and high-income investors will also have a 3.8
percent Medicare tax to pay on top of that. So it may make more sense to take
gains now while rates are low.
IRS Circular 230 Disclosure
Pursuant to the requirements of the Internal Revenue Service Circular 230, we inform you that, to the extent any advice relating to a Federal tax issue is contained in this communication, including in any attachments, it was not written or intended to be used, and cannot be used, for the purpose of (a) avoiding any tax related penalties that may be imposed on you or any other person under the Internal Revenue Code, or (b) promoting, marketing or recommending to another person any transaction or matter addressed in this communication.
Pursuant to the requirements of the Internal Revenue Service Circular 230, we inform you that, to the extent any advice relating to a Federal tax issue is contained in this communication, including in any attachments, it was not written or intended to be used, and cannot be used, for the purpose of (a) avoiding any tax related penalties that may be imposed on you or any other person under the Internal Revenue Code, or (b) promoting, marketing or recommending to another person any transaction or matter addressed in this communication.
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