Important tax legislation that becomes retroactive to the beginning of the year is often not finalized until late in the year. Obviously, this leaves very little wiggle room for tax planning. To get ahead in your preparations, there are things you can think about or do now, to avoid a rush come December.
Harvest investment losses to offset capital gains. Using capital losses to offset capital gains can lower or even eliminate capital gains taxes. Wash-sale rules apply only to losses: You can repurchase a winning security shortly before or after you sell it. Now is the time to confer with your financial advisor to determine which stocks should go and which should stay.
Make deferred compensation elections. You have until Dec. 31 to elect to defer compensation (if your employer allows) and declare how and when you will receive this compensation. Meanwhile, the money can grow on a tax-deferred basis. All contributions you make to the retirement plan before year-end are sheltered from income tax.
Establish qualified plans. If you are self-employed or a business owner, creating a qualified retirement plan can provide you (and your employees) with tax deferral opportunities and retirement benefits. You have until Dec. 31 to create most types of plans; you cannot wait until next April 15 to create the plan and make it retroactive to 2015.
Pay 2016 estimated state income taxes this year. Paying estimated state income taxes in December instead of January 2016 creates a deduction that can offset this year’s income. Prepayment may also reduce the chance of being subject to an Alternative Minimum Tax in 2016. However, this strategy is not beneficial if you are paying the AMT for 2015, as it does not allow deductions for state income taxes. Check with your tax pro.
Review stock options. If you will not be subject to AMT, consider exercising vested in-the-money incentive stock options, as this likely will have little or no incremental tax consequence.
Donate to charity. Charitable contributions are deductible from income tax, although limited to a percentage of your adjusted gross income. Deductions over that amount can be carried forward for five years. One tax extender that we have seen in prior years is the ability for taxpayers over 70.5 years old to make tax deductible charitable donations from their IRA’s required minimum distribution. Take advantage of that tax benefit if you can.
Make full use of the annual gift-tax exclusion. In 2015 you can make tax-free gifts of up to $14,000 ($28,000 for married couples) without triggering gifts or generation-skipping transfer taxes. If you don’t use your annual exclusion in a particular year, you lose it. Gifts above these amounts may be taxable to the giver or be applied against the gift exemption. Contrary to popular belief, only gifts to charity are income tax-deductible. Check with your tax pro.
Maximize the lifetime gift-tax exemption. Federal law permits individuals to make tax-free gifts of up to $5.43 million during their lifetimes.
Make gifts beyond the exemption limit. It costs less to make a lifetime gift than it does to make a bequest at death.
Consider installment sales. Structure the disposal of a business or major asset as an installment sale. You won’t have to pay income or capital gains taxes until you actually receive the sale proceeds. Spreading out the taxable profit over several years may keep you in a lower tax bracket. This might therefore help keep your modified adjusted gross income below the threshold amount — and avoid triggering the 3.8 percent Medicare surtax.
There is so much to think about financially at the end of the year, but thoughtful planning can ease the burden.
Lauren Anderson is a wealth advisor with J.P. Morgan Private Bank. JPMorgan &Co., its affiliates and employees do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only. You should consult your own tax, legal and accounting advisors before engaging in any financial transactions.