The end of the year is a time for celebration and reflection—but it’s also prime time for tax planning.
By accelerating or deferring income and expenses, and by taking advantage of expiring tax provisions, you can have a significant impact on your wealth accumulation.
Accelerating income means recognizing income this year rather than next year, while accelerating expenses means incurring those expenses this year rather than next. Deferring income or expenses means pushing them off into next year. Accelerating or deferring income or expenses can help you to minimize the taxes you owe over a two-year period.
If your income this year puts you in a lower tax bracket than you’ll be in next year, you may be well served to increase your taxable income for the current year. Doing so allows you to take more of your income at a lower tax rate. Deferring tax deductions, meanwhile, may yield larger tax savings in the next year, when you really need them to offset higher rates.
On the other hand, if your income puts you in a higher tax bracket this year than next, deferring income, and perhaps accelerating deductions, may decrease your taxable income for this year. By pushing income into the following year, and taking deductions now, you will pay a lower rate and reduce your tax.
Accelerating deductions can make sense even if you expect your tax rate to stay the same this year and next. Doing so allows you to achieve tax savings in the current year; by saving now and putting those savings to work, you can compound your wealth more quickly.
How do you put these strategies into effect? Let’s start with income deferral, where your options include:
- Delaying the sale of investments with taxable gains until the coming year.
- Asking your employer to pay any bonuses in January rather than December.
- Delaying distributions from retirement accounts until January.
To accelerate income, options include:
- Ask for any bonuses this year instead of next.
- Accelerate your retirement plan distributions into this year.
- Sell investments with taxable gains before yearend.
You can accelerate deductions by:
- Donating to charity, paying medical bills and paying property tax this year instead of next.
- Paying college tuition.
- Selling losing investments to claim the losses this year.
- Increasing contributions to tax-advantaged retirement plans.
On the other hand, a few ways to defer deductions are:
- Hold off on paying medical bills, making charitable contributions and paying property tax until next year.
- Fund a Roth IRA rather than a traditional, tax-deductible IRA.
Of course, each taxpayer’s situation is different. I encourage you to contact us at your earliest convenience if you’d like to discuss how tax planning can make a difference for you.
