In the middle of the holiday season, it’s easy to forget that there are only two more weeks left in the tax year, and although April 15th is still four months away, you can reduce the amount you owe (or increase the amount you get back from) the IRS if you take the following steps before the ball drops on New Year’s Eve.
Harvest tax losses to offset gains
If you sold any capital assets (e.g. stocks, mutual funds, real estate) this year for a profit, you can offset those gains by selling other capital assets for a loss. This may be a good way to get rid of investments that you no longer wish to hold, while reducing the amount you pay in capital gain taxes.
For example, let’s say you hopped on the gold bandwagon a few years ago and have seen your gold position nearly double in value, but now you’re starting to think the value of gold has run its course and so you decide to reduce some of your position, making a nice $8,000 profit. That profit will cost you $1,200 in capital gain tax. But let’s also say you’re still holding on to a REIT you bought when you got on the real estate bandwagon, and you have been looking for an opportunity to get off. Suppose you sell some of your REIT position before the end of the year realizing a $6,000 loss. You can use that loss to offset your gain, reducing your tax bite to only $300.
If your losses exceed your gains, you might even be able to lower your taxable income (by up to $3,000 a year). Losses that exceed $3,000 may be carried forward to offset future gains, or to reduce future income.
Please note: Assets held for one year or less are considered short term, while assets held longer than one year are considered long term for capital gain tax purposes.
Max out contributions to tax-advantaged accounts
If you are scheduled to receive a paycheck or a bonus between now and the end of the year, consider making an extra contribution to your pre-tax savings account, such as your 401(k). The IRS allows you to contribute up to $16,500 for 2011 ($22,000 if age 50+) to a 401(k), and every dollar you contribute to a pre-tax account reduces your taxable income. Saving an extra $1,000 could save you $250 in income tax if you are in the 25% marginal tax bracket, plus low income households may also qualify for an additional tax credit.
Some states also give state income tax deductions for contributions made to qualified tuition programs, such as 529 plans. For example, Pennsylvania state residents may deduct from state taxable income contributions made to a 529 plan, up to $13,000 in 2011.
Increase itemized deductions
If you plan to claim the medical and dental expense deduction, increase your deduction by purchasing prescriptions and medical aid devices, such as contact lenses, before the end of the year. You can increase your deduction for real estate and property taxes by paying your 2012 installment in 2011 (but then you won’t be able to claim it for 2012). You should also max out charitable contributions, but be familiar with reporting requirements for gifts of $250 or more in value.
For a list of deductible expenses, see Schedule A.
Somewhere between the wrapping paper and the champagne, make sure you set aside time for tax planning. While it may not be at the top of the list, it’s still a good idea to check it twice.