What You Can Do About Your Taxes Now
Last-minute tax planning is dicey this year, thanks to contentious Congressional efforts to drastically revamp the nation’s budget and tax structure.
Regardless of how tax laws look after the budget impasse is resolved, accountants say there are a few logical moves taxpayers can take to reduce their 1995 tax bills.
However, many suggest that consumers procrastinate just a little longer--in the hope that some of the uncertainties will be cleared up before Congress adjourns for the holiday break.
“I would hold off until the last possible moment this year--the last point when you can practically do something,” says Ken Anderson, partner at the national accounting firm of Arthur Andersen & Co. “Over the next 30 days, taxpayers can watch what’s happening. But be prepared to act after the 15th of December.”
What can you do to reduce the federal income tax bite?
* Take losses and defer gains. Both Congress and the President favor some kind of capital gains cut, so there is a good chance that it will make sense to trigger any capital losses you’ve got in your portfolio and hang on to your capital gains. Since some of the bills would take effect when passed or signed, you might consider taking a loss now.
After the legislation goes into effect, you’ll only have to pay tax on half your gains. However, you’ll only get a deduction for half of your losses too.
But if you trigger those losses before the law passes, your loss is expected to be grandfathered under the old rules. In other words, $1,000 of losses would be worth $1,000 in tax deductions, rather than $500 under the proposed law. Meanwhile, if you trigger a gain before the effective date of the legislation, you’ll might get hit with today’s potentially higher tax rate too.
Also, with the use of put and call options on stocks, you can delay your tax decision and still, in effect, nail down a gain (or loss) now. A broker or accountant can explain how to use such techniques.
* Settle. One little-known provision in the proposed law would also change the tax rules for legal settlements, says Philip J. Holthouse, partner at Holthouse Carlin & Van Trigt in Los Angeles.
Currently, when you are awarded compensatory damages in a personal injury claim--regardless of whether the suit was about stress, emotional distress, discrimination or paralysis caused by a car accident--the money you receive is not subject to federal income taxes. The proposed law would make compensatory damages taxable when there was no physical injury to the plaintiff, Holthouse notes. Damages would remain non-taxable in cases where there was a physical injury, he adds.
The bottom line: If your injury was caused by stress or civil rights violations, you might want to settle before year-end, Holthouse says. If the law passes and you settle next year rather than this year, you could end up paying close to 40% of the award to Uncle Sam.
* Give appreciated property. If you were planning to give a charity some money this holiday season, consider giving it shares of appreciated stock instead. Why? If you give the charity stock, you get to deduct the full value of the shares on the date they were transferred, and you don’t have to claim a taxable capital gain on the appreciation. That gives you more bang for your charitable buck.
Consider two taxpayers--John and Sue--who both have substantial incomes and investments and who both want to give a qualified charity an annual gift of $2,000.
John cashes in $2,000 worth of shares that he purchased for $1,000 and gives the charity the proceeds. He can take a $2,000 deduction for the charitable contribution when he files his federal tax return, which saves him $560 in tax. But he also has to pay $280 in capital gains taxes on the $1,000 in stock price appreciation, at least under current law. The net tax effect of this transaction: He saves just $280 in federal tax.
Sue also has stock that has risen in value from $1,000 to $2,000. But instead of selling the shares and giving the cash to charity, she transfers the shares to charity outright. That nets her a $2,000 deduction--the value of the shares on the date of transfer--but she doesn’t trigger the capital gain. She gets the full $560 federal tax benefit from the $2,000 contribution.
* Give depreciated property. You don’t have $2,000 sitting in your brokerage account just waiting to be given away? You probably still have plenty of valuable assets that you could give away to trigger a deduction. Nice clothes that your kids have grown out of. An unused set of flatware. Books, puzzles or baby toys. Your old bowling ball.
Charities will pick up and sell these items to finance their worthy causes. You get a deduction equal to the current market value of the assets. For the most part, you get to determine that value on your own. But if you give an item or a group of related items that are worth more than $5,000, you’ll need a certified appraisal of the value.
* Save for retirement. Retirement accounts remain one of the best tax shelters for most Americans. It’s too late to change your 401(k) contribution at most companies for this year, but people who have tax-deductible IRAs or self-employed workers with Keoghs or SEP-IRAs still have options. You can fund and deduct Keogh or SEP-IRA money after the end of 1995 if you have the account set up before year-end.
If you don’t have access to a 401(k) or any other qualified retirement plan at work, you can contribute up to $2,000 per year to an IRA and deduct the contribution regardless of your income. If you or your spouse have access to a qualified retirement plan through work, you can only deduct IRA contributions if your income is below set amounts.
* Think ahead. The most valuable year-end tax planning advice may be to start thinking about 1996 taxes now, says Gregg Ritchie, partner in the personal financial planning group at KPMG Peat Marwick.
Now is when many companies allow their workers to sign up for 401(k) plans, tax-saving dependent care and medical expenses accounts, which can literally save you thousands of dollars in federal tax, Ritchie notes. For the most part, these opportunities don’t come up later in the year, so procrastinators simply won’t get these generous breaks.
Kathy M. Kristof welcomes your comments and suggestions for columns but regrets that she cannot respond individually to letters and phone calls. Write to Personal Finance, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053, or to kristof@news.latimes.com on the Internet.
