December is always a busy month with a flurry of holiday and year-end activities. In the rush of events, it’s easy to forget that the end of the year is also a very important time for tax planning. This year is no exception. Indeed, 2008 has been one of the busiest years for federal tax legislation. Congress not only created some new tax breaks, it also extended many others. Many of these tax incentives are temporary so if you want to take advantage of them, you need to set your plans in motion now.
You also need to keep in mind that a new Administration will take office in January and 2009 is likely to see more changes to the Tax Code. At this time, details are still sketchy but our office can give you some clues as to what direction tax policy may go in 2009.
Individuals have many year-end tax strategies to consider. The year-end techniques that may be used to accelerate or defer income and/or expenses are as varied as there are situations to be addressed. Some of the more frequently used strategies include smoothing out taxable income between 2008 and 2009 by accelerating and postponing transactions that either produce income or yield deductible expenses; matching long and short term capital gains with losses to lower overall capitals gains tax and possibly maximize the $3,000 amount of capital losses that can offset other income; and bunching deductible expenses into one or the other year depending upon whether the standard deduction may be taken in one of the years, or whether the adjusted gross income limits for medical (7.5 percent) or miscellaneous itemized deductions (2 percent) may be more easily met. Besides strategies, there are other techniques for particular taxpayers.
AMT. There’s good news for individuals who pay alternative minimum tax (AMT). Congress has passed an AMT “patch.” The patch is designed to insulate middle-income taxpayers from paying the AMT.
For 2008, the patch raises the AMT exemption amounts to $69,950 for married couples filing jointly and surviving spouses, $46,200 for single taxpayers and heads of household and $34,975 for married couples filing separately. If you are trying to determine whether to accelerate or defer income or expenses in order to reduce your taxable income for regular tax purposes keep in mind that this traditional tax strategy may not necessarily reduce your taxes since such a move (either way) may subject a taxpayer (individual or corporation) to AMT.
For 2008, you may also use nonrefundable personal credits to offset AMT (in addition to regular tax). Personal credits include the dependent care credit and education tax credits. Taxpayers continuously subject to the AMT year after year may want to consider spreading out preferences over two or more years, in order to take advantage of the AMT exemption amounts. Additionally, the 2008 patch also helps individuals who are holding worthless incentive stock options.
Traditional IRA contributions. If you have not yet made a contribution to your traditional IRA, consider doing so before the end of the year to take advantage of the deduction for the contribution. Making a contribution to a traditional IRA or employer sponsored retirement plans, such as 401(k) plans, can reduce your taxable income for 2008 since the funds are contributed before tax. For 2008, the contribution limit to a traditional IRA is $5,000 (or $6,000 for individuals age 50 or older who qualify for catch-up contributions).
Roth IRA reconversions. If you converted your traditional IRA into a Roth IRA when the market was doing well and values were higher, paid tax on the converted amount and then watched as your portfolio plummeted in value, you may want to consider “reconverting” your Roth back to the traditional IRA. If you meet certain requirements, including the timing of the recharacterization, you can eliminate the hefty tax bill you paid (or will pay). You generally have until October 15, 2009 to undo a Roth conversion if you file your tax return by the normal due date (typically April 15).
Non-itemizer property tax deduction. Earlier this year, Congress gave non-itemizers a limited property tax deduction. For 2008 (and again in 2009) non-itemizers can take an additional, limited standard deduction for real property taxes you paid in 2008, up to $500 ($1,000 for married couples).
State and local sales tax deduction. This deduction is one of the most popular. Unfortunately, it is only temporary. The good news is that it is available for 2008. In lieu of deducting state and local incomes taxes for 2008, the recently passed Emergency Economic Stabilization Act of 2008 (EESA) retroactively allows taxpayers to deduct state and local sales tax for 2008 and extends this benefit through 2009. Loading big-ticket sales tax purchases into 2008 may make sense for those taxpayers able to take advantage of the optional sales tax deduction. Those taxpayers could also defer any state income tax payments into 2008.
Child tax credit. For 2008, there is a new earned income formula for determining the child tax credit. Under EESA, the child tax credit is refundable to the extent of 15 percent of the taxpayer’s earned income in excess of $8,500. Before EESA, the credit was refundable to the extent of 15 percent of the taxpayer’s earned income in excess of $12,050 (reflecting inflation adjustments from the original floor of $10,000).
First-time homebuyer tax credit. To encourage home sales, Congress created a new first-time homebuyer tax credit. The first-time homebuyer credit, while valuable, operates more like a loan from the federal government than a tax break. It must be repaid, interest-free, after 15 years in equal installments. The credit is equal to the lesser of 10 percent of the purchase price or $7,500 ($3,750 for married individuals filing separately).
The first-time homebuyer credit is also temporary. It will expire after July 1, 2009. However, many members of Congress want to extend it and enhance it. When Congress reconvenes in January, it could raise the credit to as high as $15,000 and possibly make it retroactive.
Energy tax incentives. For many people, the colder weather means higher heating bills. There are a host of energy tax incentives available for energy efficient improvements made to existing homes. The energy incentive that impacts most individuals is the Code Sec. 25C credit for the purchase of residential energy property, which Congress reinstated for 2009, but not 2008. Previously, it had been available in 2006 and 2007. Although the credit is not available for property placed in service in 2008, it returns soon, for property placed in service in 2009. The credit is worth up to $500, and is available for nonbusiness energy property that meets the requirements for qualified energy efficiency improvements or qualified residential energy property expenses. For example, eligible improvements include insulation materials, exterior windows, such as skylights, and exterior doors. You can also get some valuable tax savings for installing solar and wind power in your home.
Businesses, like individuals, can also set in motion some year-end tax planning. Two of the biggest benefits this year are bonus depreciation and increased Code Sec. 179 expensing.
Bonus depreciation. Only a short window of time remains for businesses, regardless of their taxable income or loss, to take advantage of the 50 percent additional first-year bonus depreciation for 2008 as authorized by the Economic Stimulus Act of 2008. Generally most property, such as business equipment, machinery and most software, bought and placed in service in 2008 qualifies for bonus depreciation. The placed in service date is extended through December 31, 2009 for property with a recovery period of 10 years or longer, for transportation property and for certain aircraft.
Caution: Congress is returning in December for one last attempt at more tax legislation in 2008. One of the provisions on the table is an extension of bonus depreciation for all 2009 equipment purchases.
Code Sec. 179 expensing. The Economic Stimulus Act of 2008 also increased the amount of deductible Code Sec. 179 expensing for 2008 to $250,000 and raised the threshold for reducing the deduction to $800,000. The idea behind Code Sec. 179 is that in the first year, a business can write off a substantial portion of a property’s cost, regardless of what the depreciation rules require. The 2008 amounts are significantly more generous than in prior years.
Caution: Like bonus depreciation, Congress will consider an extension of Code Sec. 179 expensing in its December lame-duck session. Furthermore, the new Administration and Congress could very likely extend and enhance the current round of bonus depreciation and small business expensing retroactive to January 1, 2009 when it gets to work next year. If your business has not yet taken advantage of these incentives, there’s a good chance you will be able to in 2009 and maybe even beyond.
Research credit. Many businesses would like to see the research tax credit made permanent and the new Administration and Congress may do so in 2009. Nonetheless, EESA extended and enhanced the research tax credit to amounts paid or incurred in 2008 (and also in 2009). EESA also increased the alternative simplified credit and repealed the alternative incremental research credit (AIRC) for tax years beginning after December 31, 2008.
Filing extension shortened. Starting immediately with the 2009 filing season, the extension for partnerships, estates and trusts is reduced from six to five months. Shortening by one month, to September 15, the time allowed for calendar-year partnerships and estates and trusts to file their returns on extension will ease the problem that has affected individuals on six-month extensions waiting for their Schedule K-1 information from these entities.
Employment tax adjustments/refund claims. Employers should note that, effective January 1, 2009, the procedures for making interest-free adjustments for both underpayments and overpayments of employment taxes have been modified by the IRS. The IRS also modified the process for filing refund claims for overpayments of employment taxes.
Disregarded entities. Disregarded entities must pay their own employment taxes and file tax reports beginning with wages paid in 2009. These entities will need an employer identification number (EIN). Effectively, the disregarded entity (such as a single-member limited liability corporation disregarded as an entity separate from its owner) will be treated as a separate corporation for employment tax purposes, but will continue to be treated as a disregarded entity for all other tax purposes.
If you have any questions about year-end tax planning, please contact our office. There’s still time to save taxes now at yearend before you have to pay them at tax-filing time next year.
If and only to the extent that this publication contains contributions from tax professionals who are subject to the rules of professional conduct set forth in Circular 230, as promulgated by the United States Department of the Treasury, the publisher, on behalf of those contributors, hereby states that any U.S. federal tax advice that is contained in such contributions was not intended or written to be used by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer by the Internal Revenue Service, and it cannot be used by any taxpayer for such purpose.