Tax planning might not pop up on your radar until March or April when you start getting everything together in preparation to file your tax return. But waiting until the spring to start tax planning could be a big mistake.
Why? Because there are certain strategic moves that must be made before December 31 in order to have an impact on your 2016 taxes. This makes the next two months critical from a tax planning perspective.
Here are 5 year-end tax strategies that could help reduce your tax bill next spring if they are implemented before the end of this year.
1. Defer earned income into 2017 and accelerate deductible expenses into 2016. This will effectively delay the payment of income tax for one year by reducing your taxable income this year. Keep in mind, though, that it could increase your taxable income and thus your income tax next year.
If you will receive a year-end bonus, you could ask your employer to pay it in early January instead of late December. Or if you’re self-employed, you could delay sending out invoices until early January, thus pushing receipt of this income into 2017. Meanwhile, you could pay 2017 property taxes before December 31 and make additional year-end, tax-deductible retirement plan and charitable contributions in order to accelerate deductible expenses into this year.
2. Harvest some tax losses. This strategy involves selling underperforming investments at a loss before the end of the year. By doing so, you can offset taxable gains on other investments as well as a portion of ordinary taxable income.
You can use investment losses to offset capital gains on a dollar-for-dollar basis and carry losses forward indefinitely to offset gains and income in future years. Tax loss harvesting may be part of your portfolio rebalancing efforts in which you sell some securities (perhaps at a loss) and buy others in order to bring your asset allocation back in line with your original objectives.
3. Adjust your AGI. If you plan to itemize your deductions instead of taking the standard deduction, the amount of your deductions will be phased out if your adjusted gross income (AGI) exceeds a certain level. For tax year 2016, the phase-out begins with AGI greater than $258,250 (for single filers) or AGI greater than $309,900 (for married couples filing jointly). Your itemized deductions will generally be reduced by 3 percent of the amount by which your AGI exceeds the threshold, up to a maximum reduction of 80 percent.
One year-end strategy is to defer some deductions into next year if your AGI will exceed these thresholds and you plan to itemize deductions. To do so, you could delay charitable contributions or pay deductible property taxes until January.
4. Plan for the Alternative Minimum Tax (AMT). The AMT is a separate tax calculation that makes adjustments to taxable income for certain items. If your AMT is higher than your regular tax, you must pay the AMT. The AMT exemption this year is $53,900 for single filers and $83,800 for married couples filing jointly.
If you can determine before the end of the year if you will be subject to the AMT in 2016, you may be able to find out which deductions, exemptions or exclusions are triggering your AMT exposure and make adjustments to them. But this must be done before December 31 — after this date, it will be too late to do any AMT planning.
5. Buy business equipment before year-end. If you own a business, purchase new equipment you were planning to buy early next year and place it in service before the end of the year if your cash flow allows. This is especially important if you haven’t bought at least $25,000 worth of tangible business property yet this year. Under Section 179, you can deduct (instead of expense) up to $25,000 in annual equipment purchases, including computers, software, machinery, office furniture and other tangible goods.
Bonus business tip: If you refinanced business debt this year, determine if you can deduct the fees and expenses associated with the refi. Also, if you had any bad debts this year, you can probably deduct them if your business uses accrual accounting.
You should consult with a tax advisor to discuss these and other year-end tax-planning strategies in more detail.