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Posted on 12/29/2001 7:11:30 PM PST by ex-Texan

The Basics 10 things you must do NOW to cut your tax bill

Move quickly -- pay your mortgage a week early, get some dental work done -- and you can still tilt the scales on your 2001 taxes.

By Jeff Schnepper

Here are 10 things you absolutely have to get done before Jan. 1, 2002. All of them will save you money now on your 2001 taxes.

Make your January mortgage payment in December

That way, you can deduct the additional month’s interest. Your January payment is for the use of the money in December, and the interest is allowable as a deduction if the check is mailed prior to Jan. 1. Beat the tax man and save for college at the same time.

The 1098 form that your bank will send you probably won’t have the additional interest on it because the bank won’t get your check until 2002. But run an amortization schedule and add the additional interest paid.

Let’s accelerate these deductions because tax rates go down again in 2002 (Right now, the drop is a half percentage point, but Congress may accelerate the rate cuts to boost the economy. Under that scenario, the 27.5% bracket, which is scheduled to drop to 27% this year, would drop to 25%.) Thus, the deduction is worth more this year than next…and you also get the time value of the tax dollars saved.

Defer income

Since tax rates are decreasing, deferring income can put big money in your pockets. Collect your bonus in 2002 rather than 2001. Buy a certificate of deposit that credits your interest next year. If you’re self-employed, hold off your December billing so that the checks don’t come until January.

I go on vacation the last two weeks of December. Since I’m away and my office is closed, I can’t receive any income during those two weeks. Since I really don’t have “access” to those dollars in December, they’re income for next year.

Accelerate expenses

This is the flip side of the defer income technique. Send your tax preparer a check on Dec. 31 for the return he prepares for you next year. Prepay your Keogh or IRA fee or any other investment expenses. If you deduct business expenses, buy your January supplies before the end of December.

Pay your fourth-quarter real estate tax before the end of the year

Many people pay their own real estate taxes rather than having them included in their mortgage and paid directly by the bank.

My fourth-quarter real estate taxes are due on Feb. 1. I pay them on Dec. 31 and get to deduct them one year earlier. With the reduction in the rates in 2002, I get to save more in taxes. Then, there’s that other plus: I get to enjoy the time value of the money.

Use up any remaining money in your Salary Reduction Plan These plans (sometimes called flexible spending accounts) require you to reduce your salary by a given amount that goes into a fund you can access for certain benefits, such as medical expenses and expenses for dependent care.

It’s a use-it-or-lose-it system. Any dollars in the fund not used by the end of the year are normally forfeited.

So, if you’ve got money left, spend it! Prepay for your kids’ orthodontia, pay for your elective surgery, or, if you qualify for dependent-care benefits, have your house cleaned until it shines. Yes, maid service does qualify as a dependent-care benefit! There may be other benefits from having your home cleaned by someone other than your spouse, but they’re not tax benefits…

Make your charitable contributions NOW!

Because tax rates fall in 2002, a contribution made in 2001 is worth more than one made in January 2002.

If you don’t have the cash, charge the contribution. Credit-card charges are allowable in the year of the charge, not when you actually pay the bill.

If you don’t have any credit, donate old clothes, furniture or equipment. You can deduct the wholesale fair market value of what you give. The Salvation Army will even send you a valuation guideline for your contributions.

But get a receipt. Picture dead presidents on those receipts. Remember, especially with non-cash charitable contributions, no receipt means no deduction if you’re audited.

Pay estimated state income taxes by Dec. 31

The payment is normally due around Jan. 15.

By accelerating the payment by 15 days, you get to deduct it a year earlier. And, again, you get the benefit of the higher 2001 rates compared to 2002.

Recognize any capital losses

Sell your loser stocks quick so that you close before Dec. 31. Any losses offset your capital gains first, and the next $3,000 of losses can offset ordinary income. Any excess losses are carried forward into your 2002 pot.

My general rule is that if I wouldn’t buy the stock at its current price, it’s time to sell it. If you have stock pregnant with a capital loss that you believe will appreciate in the future, sell the stock to grab the loss, and then repurchase the shares 31 days after the first sale.

The so called “Wash Sale” rules disallow a current deduction for any stock you sell that you buy either 30 days before or 30 days after your loss sale. So repurchase on the 31st day.

Or, you can immediately buy the same stock in your qualified pension plan or IRA. Since those are different entities from you, the Wash Sale restrictions shouldn’t apply.

Get married . . . or divorced

Don’t shoot the messenger! Your marital status is determined as of Dec. 31 of each year. Some married couples get a marriage bonus; others suffer a marriage penalty.

If both you and your spouse are working, you’ll probably be hit with the marriage penalty. That’s when your joint return produces a higher tax than would two single returns.

Married filing separately normally won’t help. So either postpone that Christmas wedding until New Year's Day or get divorced before year-end. In either case, the tax dollars saved could fund a honeymoon or vacation away.

If you divorce, make sure it's legal and carries the economic consequences or the IRS will disallow it as a sham. So, you can’t divorce every Dec. 31 and remarry every January. Besides, you’ll have enough trouble explaining to the kids that it’s “just for tax purposes.”

Alternatively, if your spouse doesn’t work, getting married before the end of the year will save you tax dollars. You can still have the big ceremony and party next year, but make sure you see the justice of the peace by Dec. 31.

By the way, if you’re pregnant -- push! You get a full exemption for a dependent even if born on Dec. 31 !!

If you’re self-employed, open up a Keogh account NOW! If you’re self employed, you can contribute as much as 20% of your net Schedule C income into this tax-deferred retirement plan….up to $35,000 in a defined contribution plan ($40,000 for 2002)…and you get to deduct your contribution.

Lots of people will tell you that the limit is 25%. But that’s your net after the contribution. So if you have a Schedule C net income of $100,000, I say you can contribute 20% or $20,000. That $20,000 over your net of $80,000 after the contribution, represents the 25%.

You can contribute into the plan and deduct that contribution until the due date of your return, with extensions. That means that you potentially have until Oct. 15, 2002, to find the funds….

BUT, unlike the rule with IRA contributions, you get no deduction unless the account is set up BEFORE Jan. 1.

Those are the top 10 ways I would minimize my potential federal income tax exposure during the last week in December.

But remember, all these strategies and techniques are predicated on the assumption that you’ll be in the same or lower tax bracket next year. They should be reversed if you’ll be in a higher bracket next year. But that means that you’re earning lots more money --and it’s not what you pay in tax that counts, it’s what you keep!

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