Sitting down with a calculator or a software program to figure out what you owe Uncle Sam is nobody's idea of a good time, but here's some news that might brighten your outlook. You have a wide range of tactics at your disposal to make sure your tax bill is no more than it has to be.
Figuring out which tactics make the most sense means analyzing your current finances, estimating your tax situations for previous years, and identifying financial transactions that might take place either this year or next year.
Analyzing Your Current Finances
First, tally up your income and your expenses for the year to date and anticipate what they'll be for the remainder of the year. Of course, if you're preparing your 2017 tax return after the first of the year, you should already have all the data you need for that year.
Now estimate what you anticipate your income, expenses, and savings will be in 2018.
What Are You Looking For?
You can use this information in a variety of ways. It will identify your marginal tax bracket for 2017, and it will tell you what your tax bracket is likely to be in 2018.
If you anticipate being in a lower tax bracket next year, consider shifting the receipt of year-end income to after the first of the year if possible. Move it forward to the next tax year.
If you have a choice between using a certain deduction in one year but not both, consider moving the deduction to the year when you're in the higher tax bracket so it will do you the most good.
Next, you'll want to identify your adjusted gross income or AGI for 2017 and again for 2018. Many deductions and credits have phase-out thresholds—if you earn more than this amount, you either can't claim them or you can only claim a reduced credit. Is your AGI in either year approaching the phase-out limit for any deductions or credits you might be eligible for?
If so, consider ways to shift income or boost adjustments to income to keep your AGI at your desired target.
Look for Tax Breaks and Watch the Calendar
Now it's time to do a little homework. Are there any tax breaks you can take in 2017 that won't be around in 2018? This is an incredibly important consideration if the Tax Cuts and Jobs Act is passed and goes into effect by February 2018 as is expected. It's anticipated that the new legislation will affect a good many tax deductions and credits. If a deduction is slated to disappear when the new tax law goes into effect, you'll want to grab it now if you can.
Here are a few other things you might want to keep an eye on:
The threshold of the medical expense deduction that's available to taxpayers who itemize will decrease from 10 percent of your AGI to 7.5 percent under the new law. What this means is that as of the 2017 tax year, you can only deduct the portion of your qualified medical expenses that exceed 10 percent of your adjusted gross income. There's a chance that this provision will be retroactive to cover the 2017 tax year, but if that doesn't happen, you would be better off waiting until after the first of the year and paying outstanding medical bills in 2018 if possible. Then they would only have to exceed 7.5 percent of your AGI.
The new tax law is expected to do away with the itemized deduction for mortgage interest for equity debt, although the deduction remains for acquisition debt associated with first and second homes up to $750,000. If you're thinking of refinancing and taking out cash, you might want to do it in December if possible.
If you're subject to the Alternative Minimum Tax, 2018 should be a better year for you if the Tax Cuts and Jobs Act passes. The legislation increases exemption amounts by about 25 percent. It's something to keep in mind when you estimate next year's tax scenario.
This are just a few of the more common tax breaks that might be affected by the new law, and it's possible—although not considered likely—that the bill won't pass. Still, they're factors that you might want to keep in mind.
Other Flexible Financial Transactions
You can make some financial transactions either before year's end or after the start of 2018. These include:
Selling stocks, bonds and other investments
Taking 401k and IRA distributions
Paying state estimated taxes or property taxes
Adjusting contributions to a 401(k) or similar retirement plan
Specific Year-End Tax Moves to Consider
Here are a few things to consider when you're handling income at year's end:
Type of income
Lowering Your Income
Increasing Your Income
Boost pretax contributions to your 401(k) or similar retirement plan to reduce your income.
Ask if a year-end work bonus can be paid out next year instead of this year.
Hold off on exercising incentive stock options.
Work overtime, ask for a raise, reduce pretax retirement contributions, shift retirement contributions to an after-tax Roth 401(k) or Roth 403(b).
Exercise incentive stock options.
Spend on tax-deductible expenses such as equipment and supplies.
Make payroll tax deposits this year instead of waiting until the Jan. 15 deadline so you can deduct Q4 payroll tax this year.
Hold off on sending out invoices and collecting on accounts receivable until next year.
Identify business losses that can offset other income.
Review retirement plans and consider setting up a solo 401(k) before the end of the year.
Send out invoices and try to collect on outstanding accounts receivable by the end of the year.
Wait to spend money on business expenses until January.
Capital Gains and Losses
Use installment sales or like-kind exchanges to defer gains to a future year.
The 39.6 percent tax bracket begins at $418,400 for single filers and $470,700 for married couples filing jointly in 2017, although the top tax rate under the new law is expected to cap out at 37 percent. Long-term gains that fall within this tax bracket are taxed at 20 percent instead of 15 percent, and they may be subject to the 3.8 percent net investment income surtax as well.
Consider "loss harvesting." Sell off positions with unrealized losses to reduce taxable gains.
Be careful about repurchasing investments sold at a loss within 30 days. This can create a wash sale.
Hold off on selling profitable positions until next year.
Ensure that carryover losses apply to short-term gains whenever possible.
Consider "gain harvesting." Sell any long-term gains to fill up taxable income to the top of the 15 percent bracket. Such gains will be taxed at zero percent.
Sell any long-term gains to fill taxable income to the top of the 35 percent bracket. Such gains will be taxed at 15 percent.
If you need to withdraw a substantial amount from a retirement plan, figure out if it's better to take the money this year versus next year, or spread out the tax impact by withdrawing some this year and some next year.
If you turned 70½ years old in 2017, your first RMD should be taken by April 1, 2017, but you can delay it until the year after you turn 70½. Figure out if it's more advantageous to take the RMD this year or to take two RMDs next year.
Figure out if you can or should itemize this year and/or next year by comparing the total of your itemized deductions to the standard deduction for your filing status. Keep in mind that the Tax Cuts and Jobs Act is expected to double the standard deduction to about $12,000 for single filers and $24,000 for those who are married and file jointly.
If it makes more sense to itemize next year instead of this year, identify expenses that can be moved to 2018.
Only medical, dental and health care expenses in excess of 10 percent of your AGI are tax deductible in 2017, although the new tax law reduces this to 7.5 percent in 2018 and may be retroactive to cover 2017.
If you're close but under the 10-percent-of-AGI threshold, consider paying additional medical expenses before the end of the year to get your deduction over the threshold. This way, you'll at least get a bit of a deduction rather than none.
If you're over the threshold, additional medical spending will be deductible.
If you had significant medical expenses in 2017, look into whether you can pay your medical bills next year instead, particularly if the new tax law goes through and it's not made retroactive. By "bunching" your medical expenses into one year, you might also be able to get over the 7.5 percent or 10 percent threshold.
State estimated taxes
Pay your state estimated taxes by the end of the year to deduct them this year. This only works if you are or will be able to itemize and you're not subject to the alternative minimum tax. And the new legislation is expected to affect this tax break as well.
Hold off on paying your Q4 state estimates until January if it will be more advantageous to deduct them on your 2018 return, or just to be on the safe side to see where the new law goes with this.