Year-end tax planning and legislative updates


california assembly

Business Journal columnist

Another tax year is about to come to an end.  Are you ready?  Are your financial affairs in order?  Have you done your year end tax planning or given it any thought?

Proper year-end tax planning could be very important this year depending on your particular facts and circumstances.

Tax planning is a process of reviewing various options for conducting business and personal transactions for the purpose of reducing one’s income taxes. It involves making decisions on the timing and method of completing transactions and the reporting of income, deductions and credits.

Tax planning must take into account economic conditions and trends, tax law changes and personal needs and plans. There is no tax advantage in deferring income if it will be taxed at a higher rate due to a tax law change. Consequently, the advice of an attorney, an accountant or other financial planning professional can be valuable in assessing the suitability of a tax planning suggestion for a particular taxpayer.

While tax planning is a year-round process, year-end tax planning presents important tax saving opportunities.

Year-end planning is an inexact process. Yet, a systematic analysis of planning options can produce benefits for the individual or business taxpayer by postponing or accelerating items of income and deduction. The tax planner may use the following strategies to assist both individual and business clients.

If your tax planning shows that you will be in the same or a lower tax bracket next year, you probably want to delay the receipt of year-end income until early next year, provided the delay does not jeopardize your prospect of collecting the income.

Here are a few techniques you may be able to use to achieve that goal: delay collections; defer compensation; take year-end bonus in the next tax year; transfer funds to annuities instead of interest bearing accounts; maximize retirement plan contributions; or close capital transactions in the next tax year to gain the deferral of time to report the gain.

A rule of thumb says you should defer income, if at all possible.  But in the following situations, it may be advantageous to accelerate income: change in income level or tax bracket; liability for AMT; or itemized deductions exceed taxable income.

The following are strategies for accelerating your income: collect receivables; take your year-end bonus in current tax year; treat restricted stock as vested; dispose of your incentive stock options; take IRA or retirement plan distributions if you are over the age of 59 and a half; dispose of installment notes; take dividends; sell capital assets; and cash in EE bonds.

If you need to accelerate deductions, the following techniques may be employed to accomplish that goal: doubling up on charitable contributions, paying next year’s with this year’s; realizing losses on investments; taking bad debt deductions; accelerating purchases of business equipment;  prepaying state and local income taxes, which will be allowable if the relevant authority accepts such as payment and not simply as a deposit; and prepaying property taxes.

One of the greatest areas of year-end flexibility comes from your ability to time your investment transactions for maximum tax benefit.

Often, the change of a few days in the timing of sales or acquisitions of stocks or bonds can make a significant difference in the way a transaction is taxed.

With the approach of year’s end, it is wise to add up all the gains and losses you have realized to date and compare them with the unrealized gains and losses in your portfolio.

As with most planning decisions, economic factors in the market should take precedence over tax considerations.  That is, you should not hold on to an asset just because you do not want to pay tax on the gain. Conversely, you should not sell an asset just to take a loss if you think that asset will rise in value. However, with the way the market has been this year, not many people will have gains and will mostly have losses.

Capital losses can only be recognized to the extent of gains plus an additional $3,000.

To the extent capital losses exceed gains plus $3,000, the unused portion can be carried forward until used up. If you are considering selling, losing positions to recognize the losses and plan on purchasing the same stocks, be careful of the “wash sale” rules. A “wash sale” is a sale or other disposition of stock or securities in which the seller, within a 61-day period (that begins 30 days before and ends 30 days after the date of such sale or disposition), replaces the stock or securities by acquiring or entering into a contract or option to acquire substantially the same stock or securities.

The “wash sale” rules provide that any loss realized on the stock or securities sold may not be recognized for income tax purposes, and, therefore, may not be used to offset capital gains or otherwise deducted.

As indicated above, year-end tax planning is not an exact science. To some extent, we do not know what the future holds.

For example, the Obama Administration has stated that for tax year 2011 they want to increase tax rates and capital gain rates on high- income earners.

Tax planning generally provides that you should defer income into the next tax year if possible. However, is it wise to defer income into 2010 if you might later need to accelerate income into 2010 to avoid higher taxes in 2011?

Deferring income into 2010 now, when you may need to later accelerate income into 2010, may present a problem with overloaded income in 2010 and thus higher taxes.

In addition, Congress has given us some additional things to consider with recent legislation.  Your year-end tax planning should take the following legislative changes into account.

First, from the American Recovery and Reinvestment Act of 2009, the 50 percent bonus depreciation deduction for purchased business property was extended to property put into service before Jan. 1, 2010.  Accordingly, this bonus depreciation deduction is soon to expire unless Congress provides another patch or extension. Thus, if you are considering purchasing new business equipment, you should make the purchase in 2009.

Second, Congress recently enacted the “Worker, Homeownership, and Business Assistance Act of 2009.” The WHBA provided a couple of important tax changes for individuals and businesses. Probably the most important provision in the WHBA was the extension of the “Net Operating Loss” carry-back provision to all businesses rather than just certain small businesses as provided in the American Recovery and Reinvestment Act of 2009.

Pursuant to the change under WHBA, Congress extended modified net operating loss  relief to all businesses, and to either 2008 or 2009, at the election of the taxpayer.

Though there is a reduction in benefit, if the net operating loss is carried back to the fifth year carry-back (only 50 percent of income may be offset), the latest law provides many small businesses the ability to get a second bite at the apple: to claim refunds from 2008 net operating losses under the earlier relief provision and to claim another round of refunds from 2009 net operating losses under the new law that has just passed.

The other important change from the WHBA has to do with the credits provided to first time home buyers.

The first-time home buyer credit was set to expire at the end of November.

However, the WHBA extended it to qualified taxpayers who purchased principal residences before April 30, 2010. Under the WHBA, if a taxpayer enters into a binding contract to purchase a principal residence before May 1, 2010, and close on the purchase of the principal residence before July 1, 2010, the new law will treat the credit as not expiring until July 1, 2010.

The WHBA also expanded the home buyer credit to “long time homeowners” who desire to purchase a replacement principal residence, but at a reduced amount of the credit.

Individuals who have owned and used the same residence as their principal residence for any five consecutive year period — during the eight-year period ending on the date of the purchase of a subsequent principal residence — may be eligible for a reduced credit of $6,500 ($3,250 for married couples filing separately). This does not apply to investment property, but principal residences.

The WHBA made the home buyer credits available to more individuals by increasing the modified adjusted gross income phase outs for the credit. For purchases made after Nov. 6, 2009, the credit begins to phase out for individuals with modified adjusted grow incomes between $125,000 and $145,000, and for married couples filing joint returns  between $225,000 and $245,000.

Tax planning and financial planning is best employed through the use of qualified individuals such as certified public accounts or tax attorneys.

In accordance with IRS Circular 230, any tax advice in this column was not intended or written to be used, and it cannot be used by any taxpayer, for the purpose of avoiding any penalties that may be imposed on a taxpayer by any governmental taxing authority or agency.

Jason W. Harrel is a partner of the Calone Law Group, LLP. He is a certified specialist in taxation law by the California State Bar Board of Legal Specialization.  He can be reached at 952-4545.

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Jason W. Harrel is a Partner at Calone & Harrel Law Group, LLP who concentrates his practice in all manners of Taxation, Real Estate Transactions, Corporate, Partnership and Limited Liability Company law matters. He is a certified specialist in Taxation.


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