Year-End Tax Planning Ideas for U.S. Individual Taxpayers, Tax Planners, and Tax Preparers

"Year-end tax planning will be more challenging than normal this year," said Robin Christian, a senior tax analyst for Thomson Reuters. "Unless Congress acts, starting in 2013 individuals will see higher tax rates across the board and a number of popular deductions and credits will be gone."

Additionally, estate and gift tax rates will be higher and a number of popular deductions that expired at the end of 2011 will not be available for 2012.

However, these tax increases are not a certainty, Christian said. Congress could extend the Bush-era tax cuts for some or all taxpayers, revive favorable tax rules that have expired, and extend those that are slated to expire at the end of this year.

"The 2012 federal income tax environment is still quite favorable," she said, "but we may not be able to say that for long. Therefore, tax planning actions taken between now and year-end may be more important than ever.

Christian offers six tax-saving moves for the end of 2012:

1.     Make Charitable Gifts of Appreciated Stock. If a taxpayer has appreciated stock or mutual fund shares that have been held more than a year and the individual plans to make significant charitable contributions before year-end, he or she should consider keeping the cash and donating the stock (or mutual fund shares) instead. The individual will avoid paying tax on the appreciation, but will still be able to deduct the donated property's full value. If a taxpayer wants to maintain a position in the donated securities, he or she can immediately buy back a like number of shares. (This idea works especially well with no load mutual funds because there are no transaction fees involved.)

However, if the stock is now worth less than when it was acquired, the taxpayer may sell the stock, take the loss, and give the cash to a charity. If giving the stock to a charity, the charitable deduction will equal the stock's current depressed value and no capital loss will be available. "However, if you sell the stock at a loss, you have to wait 31 days to buy it back," said Christian. "Otherwise, you will trigger the wash sale rules, which means your loss won't be deductible, but instead will be added to the basis in the new shares."

2.     Don't Lose a Charitable Deduction for Lack of Paperwork. Charitable contributions are only deductible if the taxpayer has proper documentation. For cash contributions of less than $250, this means the individual must obtain either a bank record that supports the donation (such as a cancelled check or credit card receipt) or a written statement from the charity that meets tax-law requirements. For cash donations of $250 or more, a bank record is not enough. The taxpayer must obtain, by the time the tax return is filed, a charity-provided statement that shows the amount of the deduction and lists any significant goods or services received in return for the donation (other than intangible religious benefits) or specifically states that the individual received no goods or services from the charity.

3.     Leverage Standard Deduction by Bunching Deductible Expenditures. If 2012 itemized deductions are likely to be just under, or just over, the standard deduction amount, the taxpayer might want to consider the strategy of bunching together expenditures for itemized deduction items every other year, while claiming the standard deduction in the intervening years. The 2012 standard deduction is $11,900 for married joint filers, $5,950 for single and married filing separate filers, and $8,700 for heads of households.

For instance, the individual might want to consider moving charitable donations that would normally be made in early 2013 to the end of 2012. If temporarily short on cash, a taxpayer can charge the contribution to a credit card-it is deductible in the year charged, not when payment is made on the card. He or she can also accelerate payments of real estate taxes or state income taxes otherwise due in early 2013. But, watch out for the Alternative Minimum Tax (AMT), as these taxes are not deductible for AMT purposes, advised Christian.

Note: If a taxpayer expects to pay a higher tax rate next year, he or she may want to claim the standard deduction this year and bunch itemized deductions into 2013 when they can offset the higher taxed income. This will boost overall tax savings for the two years combined.

4.     Take Another Look at the Medical Expense Deduction. This year, unreimbursed medical expenses are deductible (if deductions are itemized) to the extent they exceed 7.5 percent of adjusted gross income (AGI); however, in 2013, for individuals under age 65, these expenses will be deductible only to the extent they exceed 10 percent of AGI. If there is a chance of exceeding the 7.5 percent floor this year, the individual may want to accelerate into this year discretionary medical expenses, such as prescription glasses and sunglasses, and elective medical or dental procedures not covered by insurance.

5.     Lock in the 0 Percent / 15 Percent Long-term Capital Gains Rate Before It's Gone. The maximum federal income tax rate on long-term capital gains from 2012 sales is 15 percent. Better yet, it is 0 percent to the extent the taxpayer's taxable income (including the gain) falls within the 10 percent or 15 percent regular federal income tax rate brackets. In 2013, the tax rate on long-term gains is scheduled to increase to a minimum of 10 percent (instead of the current 0%) and a maximum of 20 percent (instead of the current 15%). Also, a 3.8 percent Medicare contribution tax on net investment income (including long-term capital gains) may come into play for some high-income taxpayers in 2013. Therefore, the maximum long-term capital gains rate for 2013 could be as high as 23.8 percent. Given this potential increase, taxpayers might want to consider the following moves in 2012, assuming they otherwise make financial sense:

·         If a taxpayer may sell assets that he or she has owned for more than a year and that are likely to yield large gains, such as stock or a vacation home in a desirable resort area, the individual should consider completing the sale before year-end. Ditto for the sale of a main home if the taxpayer expects the gain to substantially exceed the $250,000 home-sale exclusion amount ($500,000 for joint filers).

·         If a taxpayer owns appreciated stock outright (not through a tax-deferred retirement account) that the individual has owned for more than a year and wants to lock in the 0 percent / 15 percent tax rate on the gain, but thinks the stock still has plenty of room to grow, he or she should consider selling the stock and then repurchasing it. The individual may pay a maximum tax of 15 percent on long-term gain from the sale, but will also wind up with a higher cost basis in the repurchased stock.

If capital gain rates go up and a taxpayer sells the repurchased stock down the road at a profit, the total tax on the 2012 sale and the future sale could be lower than if the individual had not sold in 2012 and had only made a single sale in the future. However, given the time-value of money, it might not make sense to pay the tax now (assuming the taxpayer is not eligible for the 0% tax rate) if he or she does not expect to sell the stock in the next several years or plan to hold onto the stock to pass on to heirs. At a 0 percent tax rate, it is hard not to see the benefit of this move, but the transaction costs still need to be considered.

6.     Adjust Federal Income Tax Withholding. If a taxpayer expects to owe income taxes for 2012, the individual may want to consider bumping up the federal income taxes withheld from paychecks now through the end of the year. When filing the return, it will still be necessary to pay any taxes due less the amount paid in. However, as long as the total tax payments (estimated payments plus withholdings) equal at least 90 percent of the 2012 liability or, if smaller, 100 percent of the 2011 liability (110% if 2011 adjusted gross income exceeded $150,000, $75,000 for married individuals who filed separate returns), penalties will be minimized, if not eliminated.

Christian advises caution with year-end tax planning moves, though-Congress could change the ball game before the end of the year. Taxpayers should consult a personal tax advisor before applying these or other tax strategies.

EXACT CPA COMMENT: This article by Robin Christian provides some excellent strategies for tax payers preparing for the year-end.  They seem to, however, be geared more toward an ordinary year-end rather than the current situation of the fiscal looming large.  I would argue that with the exception of #5 related to recognition of capital gain, these are better suited for a more ordinary year-end.  Tax planning for 2012 has proved to be quite challenging with the upcoming fiscal cliff consequences looming large.  Careful planning will be necessary to avoid the pitfalls of whatever outcome Congress presents prior to year-end.