Start Your 2014 Tax Planning Now
March 19, 2014As you fill out your 2013 tax return this year, you may notice a few extra lines on the 1040. That’s because the Affordable Care Act created new tax provisions for higher income households. If you were not expecting them then you may have been blindsided, and while it may be a little too late to do anything about them now, you should start thinking about reducing their impact for 2014. So if your household income is $150,000 or more, pay attention.
The first new tax provision is the potential limit on itemized deductions. Line 29 of Schedule A asks the question: Is Form 1040, line 38, over $150,000? That’s because married taxpayers that file separately and have an adjusted gross income (AGI) over $150,000 may not be able to claim 100% of their itemized deductions. The same is true for taxpayers that are married filing joint (MFJ) with AGI over $300,000, those filing head of household (HOH) with AGI over $275,000, and single filers with AGI over $250,000. Fortunately there is an itemized deductions worksheet found on page A-13 of the Instructions for Schedule A that can help you determine if your itemized deduction will be reduced.
The next tax provision affecting higher-income households is the phaseout of personal exemptions. For the same taxpayers listed above, there may be a limit on how much you may claim in personal exemptions. Again, the IRS has provided Worksheet 3-2 on page 36 of IRS Publication 17 to help you calculate your personal exemption for your 2013 tax return.
To help offset the cost of healthcare reform, the Affordable Care Act introduced a new 0.9% Medicare surtax and 3.8% tax on net investment income. The Medicare surtax applies to wages that exceed certain thresholds: $250,000 for MFJ, $200,000 for single and HOH, and $125,000 for married filing separately. Taxpayers with modified adjusted gross income (MAGI) in excess of these thresholds may also be liable for the additional tax on net investment income. The instructions to Form 8959 and Form 8960 have more information on how this tax provision is applied.
If you find that you have to pay more income taxes this year because of these new tax provisions, here are some strategies to consider for 2014:
Contribute to a pre-tax 401(k)
For 2014, you may contribute up to $17,500 (or $23,000 if you are age 50 or older) to a 401(k). It can reduce the impact of these provisions by reducing your AGI and MAGI.
Contribute to a health savings account
If you participate in a high-deductible health plan, you may contribute pre-tax dollars to a health savings account (HSA) up to the annual contribution limit. That limit includes anything your employer puts in so be sure not to over-contribute. Like the 401(k), it can reduce AGI and MAGI. As a bonus, if you participated in a high-deductible health plan last year, you have up until April 15th of 2014 to make contributions for the 2013 tax year.
Contribute to a flexible spending account
If you have unreimbursed dependent care expenses or unreimbursed medical expenses, you can use tax-free money from a flexible spending account (FSA) to pay for those expenses. Like the two previous items, this one can reduce AGI and MAGI, and since FSA contributions are not subject to Medicare taxes, it can also help to reduce the amount of income subject to the Medicare surtax.
Offset capital gains with capital losses
Offsetting capital gains with capital losses can help keep down your net investment income, and if your capital losses exceed capital gains you may deduct up to $3,000 a year off of your taxable income. Losses that exceed $3,000 may be carried forward into future tax years.
Invest taxable assets in municipal bonds
Another way to reduce your net investment income is by investing in securities that produce tax-free interest like municipal bonds. Just remember municipal bond interest may be taxed if you are subject to AMT.
Additional tax-saving strategies may be found at the end of this 2013 taxpayer’s guide.
For higher-income households, the 2013 tax return may yield a bit of a tax surprise. As the adage goes: fool me once…
…don’t be fooled again.