2012 Year End Tax Planning for Individuals
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As 2012 draws to a close, there is still time to reduce your 2012 tax bill and plan ahead for 2013. Review of just a few of the potential tax-saving opportunities for you to consider
As a general reminder, there are several ways in which you can file an income tax return: married filing jointly, head of household, single, and married filing separately. A husband and wife may elect to file one return reporting their combined income, computing the tax liability using the tax tables or rate schedules for “Married Persons Filing Jointly.” If a married couple files separate returns, under certain situations they can amend and file jointly, but they cannot amend a jointly filed return and file separately. A joint return may be filed even though one spouse has neither gross income nor deductions. If one spouse dies during the year, the surviving spouse may file a joint return for the year in which his or her spouse died. Certain married persons who do not elect to file a joint return may be entitled to use the lower head of household tax rates. Generally, in order to qualify as a head of household, you must not be a resident alien, you must satisfy certain marital status requirements, and you must maintain a household for a qualifying child or any other person who is your dependent, if you are entitled to a dependency deduction for the taxable year for such person.
Basic Numbers You Need To Know
Because many tax benefits are tied to or limited by adjusted gross income (AGI)—IRA deductions, for example—a key aspect of tax planning is to estimate both your 2012 and 2013 AGI. Also, when considering whether to accelerate or defer income or deductions, you should be aware of the impact this action may have on your AGI and your ability to maximize itemized deductions that are tied to AGI. Your 2011 tax return and your 2012 pay stubs and other income- and deduction-related materials are a good starting point for estimating your AGI.
Another important number is your “tax bracket,” i.e., the rate at which your last dollar of income is taxed. The tax rates for 2012 are 10%, 15%, 25%, 28%, 31%, and 35%. However, for 2013, the tax brackets are scheduled to be 15%, 28%, 31%, 36% and 39.6%. Although tax brackets are indexed for inflation, if your income increases faster than the inflation adjustment, you may be pushed into a higher bracket. If so, your potential benefit from any tax-saving opportunity is increased (as is the cost of overlooking that opportunity).
IRA, Retirement Savings Rules for 2012
Tax-saving opportunities continue for retirement planning due to the availability of Roth IRAs, changes that make regular IRAs more attractive, and other retirement savings incentives.
Deferring Income to 2013
If you expect your AGI to be higher in 2012 than in 2013, or if you anticipate being in the same or a higher tax bracket in 2012, you may benefit by deferring income into 2013. Deferring income will be advantageous so long as the deferral does not bump your income to the next bracket. Deferring income could be disadvantageous, however, if your deferred income is subject to §409A, thus making the income includible in gross income and subject to additional tax. Some ways to defer income include Delayed Billing and Interest and Dividends
Accelerating Income into 2012In limited circumstances, you may benefit by accelerating income into 2012. For example, you may anticipate being in a higher tax bracket in 2013, or perhaps you will need additional income in order to take advantage of an
offsetting deduction or credit that will not be available to you in future tax years. Note, however, that accelerating income into 2012 will be disadvantageous if you expect to be in the same or lower tax bracket for 2013. In any event, before you decide to implement this strategy, we should “crunch the numbers.”
If accelerating income will be beneficial, here are some ways to accomplish this: Accelerate Collection of Accounts Receivable, Year-End Bonuses, and Retirement Plan Distributions. You may also want to consider making a Roth IRA rollover distribution, as discussed above.
Deduction timing is also an important element of year-end tax planning. Deduction planning is complex, however, due to factors such as AGI levels, AMT, and filing status.
Education and Child Tax Benefits
Child Tax Credit: A tax credit of $1,000 per qualifying child under the age of 17 is available on this year’s return. In order to qualify for 2012, the taxpayer must be allowed a dependency deduction for the qualifying child. Another qualifying determination is that the qualifying child must be younger than you. The credit is phased out at a rate of $50 for each $1,000 (or fraction of $1,000) of modified AGI exceeding the following amounts: $110,000 for married filing jointly; $55,000 for married filing separately; and $75,000 for all other taxpayers. A portion of the credit may be refundable. For 2012, the threshold earned income level to determine refundability is set by statute at $3,000. In 2013, the per child credit amount is scheduled to be reduced to $500.
Credit for Adoption Expenses: For 2012, the adoption credit limitation is $12,650 of aggregate expenditures for each child, except that the credit for an adoption of a child with special needs is deemed to be $12,650 regardless of the amount of expenses.
Education Credits: Back in 2009, significant changes were put in place for the Hope credit, including a name change to the American Opportunity Tax Credit. These changes continue for 2012. The maximum credit for 2012 is $2,500 (100% on the first $2,000, plus 25% of the next $2,000) for qualified tuition and fees paid on behalf of a student (i.e., the taxpayer, the taxpayer’s spouse, or a dependent) who is enrolled on at least a half-time basis. The credit is available for the first four years of the student’s post-secondary education.
Coverdell Education Savings Account: This is an important year to maximize post-secondary savings in a Coverdell ESA. For 2012, the aggregate annual contribution limit to a Coverdell education savings account is $2,000 per designated beneficiary of the account. However, in 2013, the amount is scheduled to decrease to $500. The limit is phased out for individual contributors with modified AGI between $95,000 and $110,000 and joint filers with modified AGI between $190,000 and $220,000. For 2013, the AGI limits are scheduled to be reduced to $150,000 and $160,000 for joint filers, while the AGI amounts for others remains the same. The contributions to the account are nondeductible but the earnings grow tax-free. If you file a joint return and your income is approaching the phaseouts, 2012 is a better year to contribute than 2013.
Student Loan Interest: You may be eligible for an above-the-line deduction for student loan interest paid on any “qualified education loan.” The maximum deduction is $2,500. The deduction for 2012 is phased out at a modified AGI level between $125,000 and $155,000 for joint filers, and between $60,000 and $75,000 for individual taxpayers. However, in 2013, the AGI amounts are scheduled to go down to $40,000 and $55,000 for individual taxpayers, and $60,000 and $75,000 for joint filers with a slight increase for inflation. Another significant change scheduled for 2013 is the reinstatement of the 60-month rule for student loans. That rule provides that interest is only deductible on the first 60-months that interest payments are required. Any loans outstanding for more than 60-months will lose this deduction.
Kiddie Tax: For 2012, the kiddie tax applies to: (1) children under 18; (2) 18-year old children who have unearned income in excess of the threshold amount, do not file a joint return and who have earned income, if any, that does not exceed one-half of the amount of the child’s support; and (3) children between the ages of 19 and 23 and if, in addition to the above rules, they are full-time students. For 2012, the kiddie tax threshold amount is $1,900.
Residential Energy Efficient Property Credit: Until 2016, tax incentives are available to taxpayers who install certain energy efficient property, such as photovoltaic panels, solar water heating property, fuel cell property, small wind energy property and geothermal heat pumps. A credit is available for the expenditures incurred for such property up to a specific percentage, except that a cap applies for fuel cell property. The property purchased cannot be used to heat swimming pools or hot tubs. If you have made improvements to your home or plan to by the end of 2012, please contact me to discuss the amount of the credit you may qualify for.
The following rules apply for most capital assets in 2012:
• Capital gains on property held one year or less are taxed at an individual’s ordinary income tax rate.
• Capital gains on property held for more than one year are taxed at a maximum rate of 15% (0% if an individual is in the 10% or 15% marginal tax bracket).
Note that Congress has yet to extend the reduced capital gains rates beyond 2012. If not changed, the maximum capital gains rate in 2013 will be 20% (10% for taxpayers in the 15% bracket). In addition, beginning in 2013, a 3.8% tax is levied on certain unearned income. The tax is levied on the lesser of net investment income or the amount by which modified AGI exceeds certain dollar amounts ($250,000 for joint returns and $200,000 for individuals).
Selling Your (Underwater) Home: If you are currently underwater on your home and you are considering selling or getting a loan modification, you absolutely should get this done in 2012. In 2012, qualified mortgage debt relief from you lender is not considered income. However, if Congress fails to extend this tax benefit, any debt discharged on or after January 1, 2013, will be considered income and taxes will be owed on the amount forgiven.
Social Security: Depending on the recipient’s modified AGI and the amount of Social Security benefits, a percentage — up to 85% — of Social Security benefits may be taxed. To reduce that percentage, it may be beneficial to defer receipt of other retirement income. One way to do so is to elect to receive a lump sum distribution from a retirement plan and to rollover that distribution into an IRA. Alternatively, it may be beneficial to accelerate income so as to reduce the percentage of your Social Security taxed in 2013 and later years.
Other Tax Planning Opportunities: We also can discuss the potential benefits to you or your family members of other planning options available for 2012, including §529 qualified tuition programs.
Alternative Minimum Tax
For 2012, the alternative minimum tax exemption amounts are currently scheduled to be much lower that will most likely subject more taxpayers to the AMT effect. The exemption amounts in place for 2012 are: (1) $45,000 for married individuals filing jointly and for surviving spouses; (2) $33,750 for unmarried individuals other than surviving spouses; and (3) $22,500 for married individuals filing a separate return. Also, for 2012, unless Congress acts to extend the previous years’ rules, nonrefundable personal credits cannot offset an individual’s regular and alternative minimum tax, and capital gains will not be taxed at lower favorable rates for AMT.
Some of the standard year-end planning ideas will not reduce tax liability if you are subject to the alternative minimum tax (AMT) because different rules apply. Because of the complexity of the AMT, it would be wise for us to analyze your AMT exposure.