There are decorations in homes and stores, shoppers are shopping, bakers are baking, partiers are partying and everyone is full of good cheer. This can only mean one thing: it's time to start working on your income taxes. No, that's not a misprint, folks. You only have a few weeks to make any last minute adjustments to affect your tax bill for 2009. Follow me below the fold for some tips and hints you may want to consider acting on right now. Keep in mind that some of these special deductions are even available to those who don't itemize their returns.
Before we get to the good stuff, I have an administrative note: I recently revamped the mailing list for announcing these diaries. If you want to get an email announcement each week when a new diary is posted, send me email: frugalfridays (at) gmail.com and I'll add you to the list. If you didn't get an email this week, you are not on the current list.
The best way to figure out what effect your end of the year actions will have on your tax situation and to determine your optimal tax strategy would be to get a rough estimate of your tax obligations before the year ends. Keep in mind that although I think this is the wisest course of action, I never seem to find time to do it myself. (Whose bright idea was it to set the biggest holiday of the year right before the New Year??? If I ever find that guy, I have a few choice words for him. Speaking for procrastinators everywhere, there is just not enough time to do all the required holiday shopping and decorating much less figuring out financial planning all at the last minute.)
If you did your 2008 taxes using a software program, that is going to be the best way to estimate your 2009 taxes. Open up a copy of last year's return and just change your entries to reflect what you expect to have for 2009 and you will have a very good estimate of what you will owe (or what your refund will be) in the new year. Based on this estimate you can decide whether any of the following actions will actually help you.
One thing to keep in mind is that many of these tips have both good and bad effects. If you move a tax obligation from 2009 to 2010, you may or may not realize a net benefit. You will want to simultaneously make ballpark estimates of both your 2009 and 2010 taxes and evaluate which actions will help you in the long run. That's why it is best to run several different scenarios through your software to pick the one that is best for your individual situation.
Charitable Giving
Giving a donation of cash (or appreciated assets) to a charity before the end of the year can reduce your tax bill if you itemize your deductions. Highly appreciated securities (such as stocks) are even more advantageous to donate than cash. For example, say you own, shares in XYZ Corporation that you bought for $100 and are now worth $150. If you were to sell the stock and donate the cash to the charity of your choice, you would get a $150 deduction, but you would also owe tax on the $50 gain. If, instead, you donate the stock directly, you still get to take the $150 deduction, but you owe no tax.
Buy a Car
If you are in the market for a new car, you may want to complete the purchase before the end of the year in order to take advantage of the tax deduction for state and local taxes you pay on the purchase. This deduction expires after December 31.
Prepay Taxes
If you are looking for more deductions, you may want to prepay state or local taxes in advance of the new year. For example, you may want to pay your January property tax bill in December to move that deduction from the 2010 tax year into 2009. You can also make supplemental payments to your state income tax board as well.
Pre-Pay Mortgage Interest
Another deduction that you can move from 2010 to 2009 is mortgage interest. If you send the January payment before December 31, you can include that interest payment on your 2009 deduction. You should send the payment in early enough so that your bank records it before December 31, just to be certain, but do make sure certain that your bank records this as your January payment and not as an extra payment on the principal.
Pre-Pay Medical Bills
Medical expenses must exceed 7.5% of your AGI in order to be deductible. It therefore makes sense to try to lump as many expenses you can into a single year in order to exceed this limit. If you have ongoing expenses that you can prepay, that may be advantageous.
Selling Securities
If you have securities that have lost value, and if you don't expect them to recoup that anytime soon, you may want to sell them before the end of the year to take the loss now. You can use that loss to offset any capital gains you may already have and in addition you can offset up to $1500 ($3000 for married, filing jointly) of ordinary income. Be careful that you do not rebuy that same security withing 30 days of your sale. If you do, the IRS treats this as a "wash sale" and your loss is disallowed. Remember short term losses first negate short term gains, which are taxed at your ordinary income rate while long term losses first negate long term gains.
If you have already realized many more losses than gains, you may want to sell some appreciated securities for the gain now rather than carrying those losses forward to 2010.
Inter-Family Transfers
If you are planning on giving a large gift of money or other asset to your children, or to any friends for family members for that matter, you will want to be aware of possible tax implications and it may make sense to split the gift into two portions: one given before the end of the year and one after the new year. In general, each person can give $13,000 tax free to a single recipient. So you and your spouse could give a joint gift of $52,000 to your child and his or her spouse ($13,000 from each of you to each of them) tax-free. If you give more than that, it is the donor, not the recipient who is responsible for paying the gift tax.
Further Resources:
If you are looking for more end of the year tax tips try these articles: