Tuesday, December 22, 2009

Deferring Income, Accelerating Deductions


In most years, we typically tout the strategy of “deferring income and accelerating deductions” as a sure-fire way to plan for taxes. However, this strategy may not be the way to go for 2009, 2010 and 2011.

The reason it is usually a good one is that it is often better to pay less taxes today and use the money we saved on taxes to invest. But now we must factor in one more big unknown: what will the tax rates be in the very near future?

Most economists are predicting that long-term capital gains rates (now 15%) will increase to 20-25%, qualified dividends (now taxed at 15%) will be taxed as ordinary income, and that the top tax rate for individuals (now 35%) will increase to a minimum of 39.6%. Therefore, if you think these estimates are likely to be accurate, you may want to incur capital gains in 2009 to accelerate the taxes and pay the taxes at a lower overall rate.

If you decide to use this strategy, make sure you consider the time value of money and other investment decisions in lieu of the tax issues. In addition, you must try to determine what your likely tax bracket will be for 2010 as opposed to 2009.

It may make sense for you to accelerate income (or delay expense deductions) to 2009 from 2010 if:

(1) You expect to be in a higher tax bracket in 2010

(2) You are planning on getting married in 2010 (and may suffer from the “marriage penalty” tax hit)

(3) You will start to receive Social Security benefits in 2010 (and don’t want to have any more of these benefits taxed than is necessary)

(4) You plan on converting your traditional IRA to a Roth IRA and will thus have more income in 2010; and/or (5) you expect to be eligible for a tax credit in 2010 and there are income phase outs requiring you to keep your income as low as possible for 2010.

Finally, given the current state of the economy, many taxpayers have had debt-canceling acts in 2009. Please be sure to review any debt cancellation tax forms (1099) you may receive in early 2010 as there are likely to many mistakes in these. Given that much debt cancellation results in taxable income, this could be a costly mistake.

No comments:

Post a Comment