Think you're getting all the tax breaks you can? There's still time to be sure you haven't overlooked any--especially those that expire at year-end.
If money is worth making, isn't it worth keeping--or at least spending as you choose? These simple tax-planning steps can help you retain more of your earnings for 2005:
Look before you accelerate. One thing that might surprise you is how many more taxpayers are subject to the Alternative Minimum Tax (AMT) each year. Under the new tax rules, about 40 million Americans are affected and, as a result, would find no benefit in prepaying certain taxes that, in the past, have been a staple for accelerating tax deductions. Accordingly, you should run projections first to see whether or not you're in the AMT position.
If you're not in AMT, then you could benefit by accelerating your estimated tax payments, such as quarterly estimates or real estate taxes. That means December is the time to pay your state and local income taxes; fourth quarter estimated taxes typically due on January 15; and any property taxes that will be due in early 2006. You should also make charitable contributions in 2005 that you were going to make in early 2006.
Businesses, particularly those operating on a cash basis, might also consider accelerating deductions by increasing expenses in the tax year for operating supplies and repairs, and making some fixed asset additions to take advantage of the aggressive tax depreciation rules.
Check out these income deferral dos and don'ts. Though deferring income by pushing off a significant year-end bonus into January falls into the tried-and-true category for some, if you're a business owner or someone with an interest in a flow-through entity, such as a partnership or S Corporation, don't do it. It offers no tax advantage.
You might want to think about designing a profit-sharing or pension plan that allows you to defer compensation in a plan with a long vesting schedule, so that the majority of satisfied funds accrue to those who stay the longest.
And if you're in the process of selling your business and it's getting close to the new year, you might want to seal the deal in January instead of December to push off income for another year.
Determine your eligibility for newer tax-savings opportunities. You can benefit from the reduced income tax rate of 5 percent by bringing your income from foreign subsidiaries back into the United States by year end, instead of the 20 percent incremental rate.
And be sure to take any Section 199 Qualified Production Activity (QPA) deductions to which your business is entitled. Companies are allowed to deduct 3 percent as a QPA deduction for their "qualified" manufacturing or construction income. It takes some effort to analyze your processes and operations to determine the optimal tax benefit, but it could be rewarding.
Take advantage of tax breaks expiring at midnight on December 31, 2005.
- Consider purchasing any off-the-shelf software you've been planning to buy for your business--you can expense it immediately. After the end of the year, you'll have to capitalize it and amortize it over a 3-to-5-year period, depending on the life of the software.
- Evaluate whether you should take the sales tax deduction, which applies only for 2004-2005, instead of the income tax deduction. This applies to individuals in states with no income tax, such as Texas and Florida, and could be advantageous if you're not in AMT and have a year with major expenditures, such as serving as your own contractor to build your own house.
- If you want to buy an SUV, or any auto weighing more than 6,000 pounds, to use for business, make your purchase before year-end to write off $25,000 for first-year depreciation, down from $100,000 in 2004. Could this be the year to benefit from reduced SUV prices and a tax break to make a marquee SUV part of your in-store display?
Do a good deed. Hire a worker displaced by Hurricane Katrina. The Hurricane Katrina emergency relief act signed on September 23 makes available a Work Opportunity Tax Credit of 40 percent of the first $6,000 paid in wages to businesses that hire workers displaced by the hurricane between August 28, 2005, and the end of the year. The maximum credit is $2,400 per employee. Businesses affected by the hurricane have an extension to February 28, 2006, for filing their tax returns and may fully deduct the expense of any losses that they pay out of pocket. Later tax returns must be amended to reflect any reimbursement by insurance.
You might also want to donate food to any 501(c) 3 organization, or textbooks to public schools between August 28 and the end of the year. There's no taxable income limit to the amount for which businesses can receive a deduction. The deduction is two times the cost of the gift as long as the fair market value is greater than that. But make sure you keep records to justify the deductions! Under the old rules, the deduction was up to 10 percent of total taxable income.
Finally, keep in mind these two general planning basics. Be sure your business is structured so you won't suffer double taxation upon exit when selling your assets. If you're the owner of a C corporation and not an S corporation, a partnership, an LLC or another "flow-through entity," which allows company profits to be reported on your personal tax return, it's important to ask "Why not!?"
And clean up your portfolio to offset realized gains with unrealized losses before the end of the year.
No matter what you end up doing, take time every year to plan ahead. It feels great to get a tax refund, especially when you've found ways to get back all the funds you're entitled to.
Paul Schlather, CPA, is a senior tax partner with PricewaterhouseCoopers' Private Company Services practice. He can be reached at firstname.lastname@example.org.