Year-End Planning

     Year-end tax planning is increasingly important to a growing number of taxpayers. The days in which these strategies were reserved for the super-wealthy have long passed. Good reasons exist for most middle-class and higher-income taxpayers to investigate a variety of year-end tax options.

    This year, in addition to a growing list of "tried-and-true" year-end tax strategies, certain significant legislative changes - new for either 2001 - 2005 may make this year-end particularly critical in maximizing your tax savings. Here's an abbreviated list of what's new:

• For high-income taxpayers (generally those with income of more than $150,000), the estimated tax safe harbors have been increased, necessitating many taxpayers to make higher wage withholding and estimated tax payments before year end or January 15;
• The five-year averaging method of computing tax on a lump-sum retirement distribution is no longer available, making year-by-year planning especially critical;
• A new reduced rate on long-term capital gain for property held for more than five years starts in 2001, giving a new --and sometimes complicated-- twist to buy-sell decisions this year end;
• The maximum student loan interest deduction remains at $2,500 in 2002;
• The dollar limit for contributions to 401(k) plans increased to $11,000 in 2000, and $12,000 in 2003;
• The unified estate and gift tax exemption stays at $700,000 in 2002 and 2003, but rises to $850,000 in 2004, while the gift tax annual exclusion remains at $10,000 per recipient ($20,000 on joint returns);
• The IRS continues its massive reorganization, creating not only new rules for taxpayers who anticipate trouble with the IRS, but also new opportunities to "audit-proof" this year's tax returns through year-end and pre-filing strategies.
• In addition to the pressing year-end issues generated by recent legislation, many "tried-and-true" year-end tax strategies have particular relevance this year. Here is an overview of some of the more important considerations:

Time your income and deductions so that your taxable income is about even for 2001 and 2002 in order that your tax bracket remains the same. If you anticipate being in a higher tax bracket for 2002, accelerate income into 2001 and defer deductions into 2002. Income can be delayed through setting up deferred compensation arrangements, postponing year-end bonuses, maximizing deductible retirement contributions, and delaying year-end billings.

• Maximize the value of itemized deductions between 2001 and 2002. Some taxpayers achieve this balance by taking the standard deduction one year and paying all bills that generate itemized deductions in the other year (care must be taken, however, not to run afoul of pre-payment rules). Other taxpayers must carefully watch whether their itemized deductions for medical expenses will exceed the 7.5 percent adjusted gross income floor, or their miscellaneous itemized deductions exceed the designated 2 percent floor.
• Compute whether you are in danger of being subject to the alternative minimum tax for 2001 or 2002 (a growing number of "average" taxpayers are). If necessary, investigate whether certain deductions should be more evenly divided between 2001 and 2002 and whether certain deductions won't qualify --or won't be as valuable-- for AMT purposes;
• If you're in business, consider timing final quarter equipment purchases to capitalize on "half-year" and "mid-quarter" conventions; and space the purchase of depreciable assets to take full advantage of the $24,000 immediate write-off allowable in 2001.
• Time the recognition of capital gains and losses to minimize net capital gains tax (and maximize deductible capital losses). This involves an often complicated process of determining short term gains (taxed as ordinary income), long-term gains, short-term losses, long-term losses, "25%" depreciable gain, and "28%" gains and losses from collectibles, and then determining how you might vary the mix before year-end to maximize existing losses and minimize existing gains. Adding to the confusion for 2001, will be an 8% capital gains rate for 15% income tax bracket taxpayers realizing long-term capital gain from property held for more than five years, and an 18% rate available beginning in 2006 (but subject to a 2001 election) for other taxpayers.
• Income shifting between low-bracket family members and higher-bracket members usually starts with transferring income-rich assets before the start of another tax year, followed by careful timing of year-end sales to maximize use of the lower tax bracket.

Some "year-end" tax strategies can be implemented in a matter of days, but others may take a month or more to customize properly to fit particular needs. If you are interested in investigating what year-end tax planning will work best in your situation, please contact this office early enough to allow full consideration of the options available. If you have any questions in the meantime, please do not hesitate to call.

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