Most folks can use all the assistance they can get in lowering their tax bill, so here are some things to consider doing before year-end that can help you achieve that goal.
Why plan now?Before the year is over, it's always a good idea to take a look at whether moving income or deductions into this year or into 2015 can lower the total tax you'll pay in both 2014 and 2015. Since more deductions and tax credits are subject to income phase-out limits, this can be more complicated than ever. But here's how to approach it.
Consider first that all taxpayers can claim the standard deduction, which in 2014 is $6,200 for single filers and $12,400 for married joint filers. These amounts go up in 2015 to $6,300 and $12,600, respectively.
So let's assume you're a joint filer and you generally incur about $12,000 of deductible expenses each year, for things like real estate taxes, mortgage interest, state income taxes and charitable donations. Given this situation, claiming the standard deduction each year would be a slightly higher deduction than you could claim versus claiming your itemized deductions.
Bunch deductible expenses. What if it's possible to pay some expenses before year-end that aren't due until early 2015? Let's say you'll owe a school tax payment of $1,500 normally due in February, and you'll also owe a mortgage payment in January 2015, which includes about $1,200 of interest.
If you paid these items now, instead of paying them in January and February, then your total deductible expenses in 2014 would be about $14,700. Because this is about $2,300 more than the standard deduction, these additional deductions could save $805 in federal income tax for 2014 (assuming a 35 percent marginal tax bracket). Paying these items in 2014 means your deductible expenses in 2015 would be lower, but that's not a problem because you didn't expect your itemized deductions in 2015 would exceed the standard deduction of $12,600 anyway.
Donate shares to charity. Another tax deduction to consider results from a charitable donation. With the stock market recently at record highs, now is a good time to think about donating shares of stock or mutual funds. If you donate mutual funds or stocks that have unrealized gains, then consider a charitable donation of shares instead of cash. Doing so allows you to deduct the donated shares' market value, and neither you nor the charity will have to report the gains. So, if you donate shares you bought for $2,500 that are now worth $4,000, you can claim a charitable donation for $4,000. One catch: You must have owned the donated shares for more than a year.
Reduce your adjusted gross income. Another category of tax deductions and tax credits are those affected by your adjusted gross income, or AGI. These include the AGI-based phase outs of personal exemptions and itemized deductions, Child Tax Credits, education loan interest, the American Opportunity Tax Credit and IRA deductions. In these instances, simply paying additional deductible expenses doesn't help because it does nothing to reduce your AGI. To do that, you need to consider a few other tax-planning moves.
Harvest investment losses. If you own stock or a mutual fund in a taxable brokerage account with a loss (particularly one that concentrates in the oil and energy industry), you could sell that position now and realize the capital loss. That would offset any capital gains and losses up to $3,000 exceeding gains would reduce your AGI.
Defer income. Also, if you were on the bubble of an AGI limit where some of the tax credits get phased out and you're self-employed, consider waiting until January to bill your accounts. When these invoices are paid, the income would be included in 2015, not in 2014.
Top off your 401(k). Some employers will allow you to catch up on contributions by increasing your deduction from your last paycheck of the year. If you're 50 or over, don't forget that you can contribute an additional $5,500 "catch-up" in addition to the regular 401(k) or 403(b) limit of $17,500 for 2014. Doing this also reduces your AGI.
So, now you have the basic ideas and concepts for smart year-end tax planning. What you need to do will depend on your specific situation. It all starts with reviewing last year's tax return and talking to your tax preparer or advisor now to discuss what you can do to save. But make that call now -- before it's too late.