Start Planning Now for Next Year’s Tax Filing

Now that millions of Americans have filed their tax returns, they’ll probably forget about tax planning until year-end or this same time next year.

Don’t make that mistake yourself.

When your tax situation is still fresh in your mind is the best time to plan strategies to fully utilize deductions and minimize your tax bill when next April 15 rolls around.

Here are some tips to make your 1988 taxes less taxing:

- Estimate your income for this year and next to determine what tax brackets you’ll be in. If you expect a lower tax rate next year--if, for example, you are retiring--then consider deferring income by postponing bonuses or delaying taking capital gains. If your tax rate will rise, then consider pushing income from future years into this year. (The top tax rate shrinks to 33% this year from 38.5%.)

Many tax experts believe that Congress, to cut the bulging budget deficit, will hike taxes for 1989, making this year’s tax rates possibly “the lowest we will see in a long time,” says Stephen P. Kunkel, tax partner at the accounting firm of Pannell Kerr Forster. If it indeed appears that Congress will boost taxes, consider accelerating income and deferring deductions this year, Kunkel suggests.

But before deciding to push income into this year, be aware of what you might forgo in earnings from money needed to pay additional taxes this year. That could easily outweigh any tax savings from a lower rate.

- Check with your accountant as to whether you will be subject to the alternative minimum tax for 1988. If you might, avoid such strategies as exercising incentive stock options and giving appreciated property to charity. These are so-called preference items that could force you to pay the AMT, which is far more restrictive on deductions than regular tax rules.

However, if you fall under the AMT, consider pushing income into this year, because it will be taxed at the low 21% AMT rate, advises Sidney Kess, partner at the accounting firm of Peat Marwick Main & Co.

- If you got a big refund for 1987 taxes, revise your W-4 form to reduce taxes withheld. A big refund is like giving a tax-free loan to Uncle Sam, and represents money that you could have had yourself to invest.

On the other hand, if you had a big additional tax payment, increase the amount withheld. The IRS waived the penalty for underwithholding for 1987 taxes, but it’s still there for 1988. If less than 90% of your actual 1988 taxes or less than 100% of your 1987 taxes is withheld, you could be subject to a penalty, now set at 11%.

- Review your estimated tax payments. Falling tax rates and the phasing out of many deductions could throw your calculations out of whack, says Dick Poladian, tax partner at the accounting firm of Arthur Andersen & Co. If you prepay less than 90% of your actual 1988 taxes or less than 100% of your 1987 taxes, you also could be subject to a penalty, now set at 11%.

- Make sure your record keeping is adequate. The new tax laws require better records for such things as interest expenses, individual retirement accounts, meal and entertainment expenses, travel expenses and business use of your car. Poor records could mean lost deductions.

- “Bunch” miscellaneous expenses. Union dues, magazine subscriptions, tax-preparation fees and other miscellaneous expenses are deductible only to the extent they exceed 2% of adjusted gross income. So consider bunching those expenses into this year or next to improve your chances of exceeding the 2% threshold.

Likewise, medical expenses are only deductible to the extent they exceed 7.5% of adjusted gross income. So consider getting that plastic surgery or new sets of eyeglasses now if it will help you overcome the threshold.

- Review employee expenses. Get your employer to reimburse you for expenses that you incur yourself. If you pay those expenses, they not only cost you money but may not be deductible because they are subject to the 2% threshold for miscellaneous expenses.

- Review your company retirement plans. To reduce taxable income and build a nest egg, consider boosting deductible contributions to your company 401(k) savings plan to the maximum allowed.

- Review your consumer loans. Interest on debt from credit cards, auto loans and other non-mortgage loans will be only 40% deductible for 1988 taxes, down from 65%. Accordingly, consider paying off that debt, possibly with funds from a home refinancing, home-equity loan or second mortgage in which the interest is generally fully deductible.

But be careful. Home loans are riskier than credit card loans because you could lose your house if you default. And home loans tend to be longer term, so while you may save on taxes, you may end up paying more interest, Pannell Kerr Forster’s Kunkel says. “I wouldn’t refinance just for a small amount,” he says.

- If you are planning to buy a home anyway, buy soon. That way you will maximize tax deductions from mortgage interest.

- Evaluate your limited partnerships, rental properties and other passive investments. Losses from passive investments will only be 40% deductible against wage or portfolio income for 1988 taxes, down from 65% for 1987 returns.

See if you can make your rental activity active instead of passive. For example, if you have vacation-oriented condos in which the average rental period is seven days or less, they may be treated as a hotel or motel, with profits and losses possibly considered active if you put in more than 500 hours a year into running them or do substantially all the work that needs to be done.

- If you have a lot of taxable interest income, consider buying tax-free municipal bonds.

- If you are still eligible for a deductible IRA, make your 1988 contribution as early as possible this year to maximize the accumulation of tax-deferred income.

- Review your childrens’ investments. If your kids under 14 had non-wage income above $1,000 in 1987 and thus had to pay taxes at your rate, consider putting them into investments that won’t generate high taxes for now. One popular choice: Series EE savings bonds, which are not taxable until maturity. Other alternatives: tax-free municipal bonds, or low-dividend stocks or mutual funds.

- Review your strategy for charitable contributions. If you have assets such as stocks or art with big capital gains, you are generally far better off giving them instead of cash because you won’t pay capital gains tax on the assets. But be careful because if you are under the alternative minimum tax, you are better off giving cash.

- Review your capital gains strategy. You may want to sell stocks or other assets in which you have a loss. That is because this year’s top capital gains rate of 33% may be the highest it will ever get. By taking capital losses, you can offset at least some of your capital gains and thus not subject those gains to the high tax rate.

Another possible move: Transfer assets with big gains to your kids. If they hold them until the age of 14, the gains will be taxed at their rate.

- Reassess your alimony payments. Lower tax rates reduce the value of alimony deductions, so it may be more advantageous to substitute a property settlement, Peat Marwick Main’s Kess suggests.

- Consider delaying your wedding. If you are engaged, there might be some advantages to waiting until next year before tying the knot. For example, you and your fiancee may each be eligible to write off $25,000 in rental property losses against wage or portfolio income. But as a married couple, you together will only get no more than $25,000 in such writeoffs, Kess suggests.

Similarly, one of you may be eligible for a deductible IRA. But if your fiancee isn’t because he or she participates in a company retirement plan, getting married may make you both ineligible.