News & Events

2009 Year-End Tax Planning Guide

Updated With Important Recent Legislative Changes

November 12, 2009

Year-end tax planning could be especially productive this year because timely action can nail down a host of tax breaks that won’t be around next year unless Congress acts to extend them. These include, for individuals: the option to deduct state and local sales and use taxes instead of state income taxes; the standard or itemized deduction for state sales tax and excise tax on the purchase of motor vehicles; the above-the-line deduction for qualified higher education expenses; and tax-free distributions by those age 70 1/2 or older from IRAs for charitable purposes.

And without Congressional “extender” legislation (which has come at the eleventh hour for several years), alternative minimum tax (AMT) exemption amounts for individuals are scheduled to drop drastically next year, and most nonrefundable personal credits won’t be available to offset the AMT.

High-income-earners have other factors to keep in mind when mapping out year-end plans. Many observers expect top tax rates on ordinary income to increase after 2010, making long-term deferral of income less appealing. Long-term capital gains rates could go up as well, so it may pay for some to take large profits this year instead of a few years down the road.

On the other hand, the solid good news high-income-earners have to look forward to next year is that there no longer will be an income-based reduction of most itemized deductions, nor will there be a phase out of personal exemptions. Additionally, traditional IRA to Roth IRA conversions will be allowed regardless of a taxpayer’s income.

For businesses, tax breaks that are available through the end of this year but won’t be around next year unless Congress acts include: 50% bonus first year depreciation for most new machinery, equipment and software; an extraordinarily high $250,000 expensing limitation; the research tax credit; the five-year write off for most farm equipment; and the 15-year write off for qualified leasehold improve¬ments, qualified restaurant buildings and improvements and qualified retail improvements.

We have compiled a checklist of actions and considerations based on current tax rules that may help you save tax dollars if you act before year end. Not all actions will apply in your particular situation, but you (or a family member) will likely benefit from many of them.

Specific actions that may be appropriate for you can be discussed when you meet with your tax advisor to tailor a plan that best addresses your situation. In the meantime, please review the following list and contact your tax advisor at your earliest convenience so that he or she can advise you on which tax-saving moves to make.

• Increase the amount you set aside for next year in your employer’s health flexible spending account (FSA) if you set aside too little for this year. Don’t forget that you can set aside amounts to get tax-free reimbursements for over-the-counter drugs, such as aspirin and antacids.

• If you become eligible to make health savings account (HSA) contributions in December of this year, you can make a full year’s worth of deduct¬ible HSA contributions for 2009.

• Realize losses on stock while substantially preserving your investment position. There are several ways this can be done. For example, you can sell the original holding, then buy back the same securities at least 31 days later.

• Time is running out to take advantage of relaxed rollover rules for individuals who took 2009 required minimum distributions (RMDs) even though they didn't have to. In many cases, the situation can be remedied by making a rollover by Nov. 30, even though that is later than the expiration of the usual 60-day rollover.

In general, retirement plan or IRA withdrawals that were made despite the 2009 RMD waiver won't face tax if rolled over to a retirement plan within 60 days. IRS guidance issued last September includes an extension of the 60-day rollover period to Nov. 30, 2009, for certain distributions. However, no more than one distribution from an IRA may be rolled over. The rollover relief provides older taxpayers an unusual opportunity to correct an inadvertent mistake that otherwise would unnecessarily increase their taxable income for 2009. It also gives some individuals a “retroactive” chance to reduce their tax bill if their financial circumstances have improved during the course of 2009.

• Postpone income until 2010 and accelerate de¬ductions into 2009 to lower your 2009 tax bill. This strategy may enable you to claim larger deductions, credits, and other tax breaks for 2009 that are phased out over varying levels of adjusted gross income (AGI). These include IRA and Roth IRA contributions, conversions of regular IRAs to Roth IRAs, child credits, higher education tax credits, the above-the-line deduction for higher-education expenses, and deductions for student loan interest. Postponing income also is desirable for those taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances. Note, however, that in some cases, it may pay to actually acceler¬ate income into 2009. For example, this may be the case where a person’s marginal tax rate is much lower this year than it will be next year.

• If you believe a Roth IRA is better than a traditional IRA, and want to remain in the market for the long term, consider converting traditional IRA money invested in beaten-down stocks (or mutual funds) into a Roth IRA if eligible to do so. Keep in mind, however, that such a conversion will increase your adjusted gross income for 2009.

• It may be advantageous to try to arrange with your employer to defer a bonus that may be coming your way until 2010

• If you own an interest in a partnership or S corporation you may need to increase your basis in the entity so you can deduct a loss from it for this year.

• If you expect to owe state and local income taxes when you file your 2009 return next year, consider asking your employer to increase withholding of state and local taxes (or pay estimated tax payments of state and local taxes) before year end to pull the deduction of those taxes into 2009, if doing so won’t create an AMT problem (see below).

• Estimate the effect of any year-end planning moves on the alternative minimum tax (AMT) for 2009, keeping in mind that many tax breaks allowed for purposes of calculating regular taxes are disallowed for AMT purposes. These include the deduction for state property taxes on your residence, state income taxes (or state sales tax if you elect this deduction option), miscellaneous itemized deductions, and personal exemption deductions. Other deductions, such as for medical expenses, are calculated in a more restrictive way for AMT purposes than for regular tax purposes. As a result, in some cases, deductions should be deferred rather than accelerated to keep them from being lost because of the AMT.

• Those facing a penalty for underpayment of federal estimated tax may be able to eliminate or reduce it by increasing their 2009 tax withholding.

• You may be able to save taxes this year and next by applying a bunching strategy to “miscellaneous” itemized deductions, medical expenses and other itemized deductions.

• If you are a homeowner, make energy saving improvements to the residence, such as putting in extra insulation or installing energy saving windows, and qualify for a tax credit. Additional substantial tax credits are available for installing energy generating equipment (such as solar electric panels or solar hot water heaters) to your home.

• You may want to pay contested state income taxes to be able to deduct them this year while continuing to contest them next year.

• If you are self-employed and haven’t done so yet, set up a self-employed retirement plan.

• You can save gift and estate taxes by making gifts sheltered by the annual gift tax exclusion before the end of the year. You can give $13,000 in 2009 to an unlimited number of individuals but you can’t carry over unused exclusions from one year to the next. Because of currently lower real estate and stock market values, 2009 presents unique opportunities. In certain situations, it may make sense to gift in excess of the annual exclusion. Check with your tax advisor to see if this is advan¬tageous for you.

• If you are age 70 1/2 or older, own IRAs (or Roth IRAs), and are thinking of making a charitable gift, consider arranging for the gift to be made directly by the IRA trustee. Such a transfer, if made before year end, can achieve important tax savings.

• If you are receiving Social Security benefits, there are a number of steps you can take to reduce or eliminate tax on your benefits.

• Consider extending your subscriptions to professional journals, paying union or professional dues, enrolling in (and paying tuition for) job-related courses, etc., to bunch into 2009 mis-cellaneous itemized deductions subject to the 2%-of-AGI floor.

• Depending on your particular situation, you may also want to consider deferring a debt-cancellation event until 2010, electing to deduct investment interest against capital gains, and disposing of a passive activity to allow you to deduct suspended losses.

• Accelerate big ticket purchases into 2009 in order to assure a deduction for sales taxes on the purchases if you will elect to claim a state and local general sales tax deduction instead of a state and local income tax deduction.

•Consider using a credit card to prepay expenses that can generate deductions for this year.

•Generally, when business deductions exceed gross income, the difference is an NOL for tax purposes and may be carried back two years to offset income. This generates a tax refund, providing a cash infusion in times of loss. Any loss that's not absorbed is carried forward up to 20 years.

The American Recovery and Reinvestment Act of 2009 allowed taxpayers to elect to carry back 2008 NOLs from qualifying small businesses (businesses with average gross receipts of $15 million or less for the three years ending with the loss year) for three, four or five years instead of two. The “Worker, Homeownership and Business Assistance Act of 2009” (WHBAA) expands the longer carryback option to businesses that don't qualify as "small" and extends it to 2009 NOLs.

Under WHBAA, generally taxpayers can apply the longer carryback to only one tax year's NOL and to offset only 50% of income in the fifth year back, 100% in the other four. For qualifying small businesses, taxpayers can apply the longer carryback to both 2008 and 2009 NOLs, and the 50% limit applies only to 2009 NOLs. Taxpayers also have the option to use the normal two-year carryback or to waive the carryback period entirely and carry the loss forward.

For tax years ending after 2002, the Act suspends the 90% limitation on the use of any alternative tax NOL deduction attributable to the carryback of an applicable NOL for which the extended carryback period is elected.

• C corporations, like individuals, must also decide when and how to shift income and deductions between 2009 and 2010. C corporations will, as a general rule, benefit from the deferral of income and the acceleration of deductions in the same way as individuals.

However, acceleration of income may be advisable in some cases. Take, for example, a cor-poration subject to the 39% “bubble.” Corporate taxable income between $100,000 and $335,000 is taxed at the rate of 39% to phase out the benefits of the 15% and 25% brackets that cover a corporation’s first $75,000 of taxable income.

Taxable income between $75,000 and $100,000, and between $335,000 and $10 million, is taxed at 34%. Taxable income over $10 million is taxed at 35% except that there is also a 38% “bubble” that applies to corporate taxable income between $15 million and $18,333,333 to eliminate the benefit of the 34% rate.

Assume a C corporation expects taxable income of about $90,000 for 2009 but expects its income to go well over $100,000 in 2010. Accelerating $10,000 in income from 2010 to 2009 will save about $500 in taxes, since the $10,000 will be taxed at only 34% instead of 39% ($10,000 times 5% equals $500). This represents a return of 14.7% on the $3,400 used to make the early tax payment ($500 divided by $3,400).

• Qualifying for small corporation AMT exception. The tentative minimum tax of a corporation is zero for any tax year if the corporation’s average annual gross receipts for all three-tax-year periods ending before that tax year do not exceed $7,500,000. The gross receipts test is applied by substituting $5,000,000 for $7,500,000 for the first three-tax-year period of the corporation that is taken into account under the test. In other words, the $7,500,000 amount is reduced to $5,000,000 for the corporation’s first three-tax-year period.

• Accelerating or deferring income can save estimated tax break. Corporations (other than certain “large” corporations) can avoid being penalized for underpaying estimated taxes if they pay installments based on 100% of the tax shown on the return for the preceding year. Otherwise, they must pay estimated taxes based on 100% of the current year’s tax. However, the 100%-of-last-year’s-tax safe harbor isn’t available unless the corporation filed a return for the preceding year that showed a liability for tax. A return showing a zero tax liability doesn’t satisfy this requirement. Only a return that shows a positive tax liability for the preceding year makes the safe harbor available.

These are just some of the year-end steps that can be taken to save taxes. Contact your tax advisor to develop a plan that will work best for you.

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