A common tax savings strategy is to defer taxable income into next year. The idea is that you pay taxes on the taxable income next year, rather than this year. There are two basic ways to do this:
- Defer taxable income into 2018
- Accelerate deductions into 2017
This is the crux of all tax planning in the media. Unfortunately, this can be a short sighted tax savings strategy and could actually end up costing you money. What this strategy does not consider is the tax bracket you are expected to be in during 2017, and the tax bracket for the next year, 2018.
For example, if you happen to be in a 15% marginal tax bracket in 2017, and due to a change of income in 2018 you are in a higher (25% or more) tax bracket next year, there could be a scenario where you end up paying more in tax in 2018 on that deferred income than what you saved in 2017.
So, how do you know what the right strategy is? Allow us to handle a tax projection covering both years. We can determine the best strategy to use and maybe come up with other tax savings strategies to add. In the meantime, here are strategies to move income and deductions between years to accomplish that goal.
You Expect Your Tax Bracket in 2017 to be Higher than 2018:
Deferring Income into 2018
If it looks like you may have a significant decrease in income next year, it may make sense to defer taxable income into 2018 or later years. Some options for deferring income include: (1) if you are due a year-end bonus, having your employer pay the bonus in January 2018; (2) if you are considering selling assets that will generate a gain, postponing the sale until 2018; (3) delaying the exercise of any stock options; (4) if you are planning on selling appreciated property, consider an installment sale with larger payments being received in 2018; and (5) consider parking investments in deferred annuities.
Accelerating Deductions into 2017
If you expect a decrease in income next year, accelerating deductions into the current year can offset the higher income this year. This has the same effect as deciding to defer taxable income into 2018. Some options include: (1) prepaying property taxes in December; (2) making January mortgage payment in December; (3) if you owe state income taxes, making up any shortfall in December rather than waiting until the return is due; (4) since medical expenses are deductible only to the extent they exceed 10 percent (7.5 percent for individuals age 65 before the end of the year) of adjusted gross income, bunching large medical bills not covered by insurance into one year to help overcome this threshold; (5) making any large charitable contributions in 2017, rather than 2018; (6) selling some or all loss stocks; and (7) if you qualify for a health savings account, setting one up and making the maximum contribution allowable.
You Expect Your Tax Bracket in 2018 to be Higher than 2017:
Accelerating Income into 2017
Depending on your projected income for 2018, it may make sense to accelerate income into 2017 if you expect 2018 income to be significantly higher. Options for accelerating income include: (1) harvesting gains from your investment portfolio, keeping in mind the 3.8 percent NIIT; (2) converting a retirement account into a Roth IRA and recognizing the conversion income this year; (3) taking IRA distributions this year rather than next year; (4) if you are self-employed and have clients with receivables on hand, try to get them to pay before year end; and (5) settle any outstanding lawsuits or insurance claims that will generate income this year.
Deferring Deductions into 2018
If you anticipate a substantial increase in taxable income, it may be advantageous to push deductions into 2018 by (1) postponing year-end charitable contributions, property tax payments, and medical and dental expense payments, to the extent deductions are available for such payments, until next year; and (2) postponing the sale of any loss-generating property.
If you have questions about these and other strategies, contact us to discuss how we can help reduce your tax bill this year.
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