One of the most important tax strategies for the 4th quarter is to review deductions you might have missed in the past — like the home office deduction. For 2013, there’s a new flat-rate deduction.
These tax strategies can save money for almost any taxpayer, but they can be especially valuable to individual taxpayers – including married couples who file joint returns – who have a higher adjusted gross income (AGI). Take a close look at the 10 tax strategies listed here, and talk to your tax advisor if you are uncertain if they can help you save money on April 16.
1. Contribute to Retirement Accounts
In 2013, you can contribute up to $17,500 to your 401(k). If you’re 50 or older, you can add an extra $5,500, allowing a worker who is closer to retirement to contribute as much as $23,000 in a 401(k). If you are under the maximum contribution, you may want to consider changing your contribution rate for the remainder of the year.
Making a deductible contribution will help you lower your tax bill this year. Plus, your contributions will compound tax-deferred. It’s hard to find a better deal. If you put away $5,000 a year for 20 years in an investment with an average annual 8 percent return, your $100,000 in contributions will grow to $247,000. The same investment in a taxable account would grow to only about $194,000 if you’re in the 25 percent federal tax bracket (and even less if you live in a state with a state income tax to bite into your return).
If you are not eligible to participate in a company retirement plan, you may qualify for the full annual IRA deduction in 2013. To be eligible, you must have adjusted gross income of $59,000 or less for singles, or $95,000 or less for married couples filing jointly. If you are not eligible for a company plan but your spouse is, your traditional IRA contribution is fully-deductible as long as your combined gross income does not exceed $178,000.
For 2013, the maximum IRA contribution you can make is $5,000 ($6,000 if you are age 50 or older by the end of the year).
Although choosing to contribute to a Roth IRA instead of a traditional IRA will not cut your 2013 tax bill—Roth contributions are not deductible—it could be the better choice because all withdrawals from a Roth can be tax-free in retirement. Withdrawals from a traditional IRA are fully taxable in retirement. To contribute the full $5,000 ($6,000 if you are age 50 or older by the end of 2013) to a Roth IRA, you must earn $112,000 or less a year if you are single or $178,000 if you’re married and file a joint return.
The rules on deductions for cell phones have changed. Can they help you?
It’s easier to take the standard deduction, but you may save a bundle if you itemize, especially if you are self-employed, own a home or live in a high-tax area. It’s worth the bother when your qualified expenses add up to more than the 2013 standard deduction of $6,100 for singles and $12,200 for married couples filing jointly. Many deductions are well known, such as those for mortgage interest and charitable donations. However, taxpayers sometimes overlook miscellaneous expenses, which are deductible if the combined amount adds up to more than two percent of your adjusted gross income. These deductions include tax-preparation fees, job-hunting expenses, business car expenses and professional dues.
3. Monitor Your Medical Expenses
A major shortcoming of the itemized medical expenses deduction is that you must rack up enough qualified costs to be able to claim the amount on Schedule A. In 2013, as part of the Affordable Care Act, you’ll need even more. For the 2012 tax year, you could deduct only the amount of medical and dental expenses that exceed 7.5 percent of your adjusted gross income, or AGI. In 2013, you must have qualified medical expenses that are more than 10 percent of your AGI. Taxpayers age 65 or older, however, can still use the 7.5 percent threshold through 2016.
If you plan to get around the higher deduction threshold by using a flexible spending account, or FSA, to pay for unreimbursed medical costs, that’s still a good 2013 tax strategy. But as you learned when you signed up for your medical FSA during your workplace benefits enrollment period, you can only put up to $2,500 into the account. So, plan accordingly for expenditures of this reduced amount.
4. Accelerate Itemized Deductions
The standard deduction is $6,1000 for a single filer and $12,200 for a married filer. If the total of your itemized deductions are a little below those amounts, you make want to make a year-end payment of real estate taxes for the next year or a charitable contribution in December, so you can itemize in the current year and use the standard deduction in the later year, rather than using the standard deduction in both years.
5. Watch Out for the 3.8 Percent Medicare Investment Tax
Several new taxes created as part of the Patient Protection and Affordable Care Act, popularly known as Obamacare, take effect in 2013. The major new tax is a surtax of 3.8 percentage points on investment income earned by wealthier taxpayers. Single taxpayers making at least $200,000 and households making $250,000 or more would see this tax added to their investment earnings. Unearned income that will be subject to the new tax includes interest, dividends, capital gains, annuities, royalties and rents. Distributions from individual retirement accounts are exempt from the surtax, but since they are taxable (at your ordinary income tax rate), the retirement account money could increase your adjusted gross income and possibly push you into the Medicare surtax area.
6. Take Note of the 0.9 Percent Medicare Payroll Tax Increase
In addition to the Medicare surtax on investment income, individuals who make more than $200,000 ($250,000 for joint filers) in 2013 will see a new 0.9 percent Medicare payroll tax taken out of their paychecks on the amounts earned over their filing status thresholds. Self-employed workers will have to figure the added payroll tax on their earnings, too.
7. Review Your W-4
Personal changes like a marriage or adoption change the number of dependents you can claim. The information on your W-4 also affects the amount of money your employer withholds from your paycheck. If you received income during 2013 where no taxes or not enough in taxes were not withheld, such as sales of assets, retirement plan distributions, or social security or unemployment benefits, you may want to adjust your withholdings for the final months of the year to avoid IRS penalties for underpayment of taxes.
Especially, if you received a retirement plan distribution prior to age 59 ½, remember that the distribution is subject to both the regular income tax and the 10% penalty tax, unless there is an exception.
8. Give Gifts to Shift Income Taxes
Consider gifting shares of appreciated stock to children: particularly to children who are not subject to the “kiddie tax” and who are in the 10 percent and 15 percent tax brackets and are thus not subject to the capital gains tax. There will no tax on capital gains if the taxpayer beneficiary is not in a higher tax bracket than 10% or 15%. However, if the long-term capital gains on the stock cause the taxpayer’s taxable income to exceed the upper threshold of the 15 percent tax bracket, the capital gains will be taxed at 20%in 2013.
Up to $14,000 can be given to an individual or $28,000 if the spouse elects to “gift splitting”, and there are no reporting or income or gift tax consequences. Additional gifts can still be made with no income tax consequences, but the excess will reduce your lifetime gift and estate tax exemption discussed later.
9. Look into the Section 529 Qualified Tuition Programs
Earnings accumulate tax-free and withdrawals are tax free if used to fund qualified higher education expenses. Withdrawals from Section 529 plans remain tax-free if made on the death or disability of the beneficiary. Your state may also permit a state tax deduction for contributions.
10. Review your Wills and Estate Plans
Each individual now has an estate tax exemption worth $5,250,000 in 2013, which is indexed to inflation. With a married couple, at the death of the first spouse, any part, or all, of the individual’s estate tax exemption that was unused at his or her death, can be transferred to the survivor for use in his/her estate, effectively shielding up to $10,500,000 currently. Although there may be no estate tax at the first spouse’s death, an estate tax return must be filed in order to take advantage of the “portability” exemption. Since this provision is relatively new, any Will should be reviewed to ensure that the use of this provision is maximized.
About half of the states have their own estate or inheritance tax exemption. As a result, while an estate may not pay a federal estate tax, there may be significant state taxes. Special planning would be required in these circumstances.
1-800Accountant has published a new white paper that summarizes some of the key changes in the tax code and asks critical questions that can help you keep more of the money you earn. The white paper 4th Quarter Tax Strategies is available now for free download on the resource page of the 1-800Accountant website. Click here to download it now.Photo Credits: Both photos in this blog post are published under a Creative Commons license from Flickr. The photo of the Chicago ice cream vendor using his cell phone is by by Senor Codo. The photo of the Brooklyn home office is by Joey Parsons.