Deferring income and accelerating expenses:
Consider the potential benefits of deferring income receipts. For example, employees might choose to defer receipt of any 2016 year-end bonus to 2017 or those who are self-employed might be able to delay collection for payment for services and business debts until early 2017. The deferral of this income from 2016 to 2017 will postpone payment of any related tax liability from the current tax year to the next. In addition, if there is a chance that circumstances could change, such that 2017 taxable income is likely to be lower than that of 2016, then any income deferred to the 2017 year may be taxed at lower rate.
Conversely, consider opportunities to accelerate deductions or tax credits of the 2017 year into the 2016 year. For instance, for itemized deductions, making payment of mortgage interest, medical expenses, state and local taxes or other Schedule A deductible items before the end of 2016 (rather than during early 2017) will increase 2016 deductible expenses and, therefore, reduce taxable income for the year. Also, if claiming the standard deduction in one year and itemizing deductions in the other then deferring or accelerating Schedule A deductible items may enable the benefit of deductions that might otherwise be lost in a year in which the standard deduction is claimed.
Alternatively, if circumstances are such that that the 2017 tax rate will be higher than that of 2016 (i.e. as a result of increased salary or intended sale of an asset that will result in a large gain) then consider accelerating income into 2016 and deferring payment of Schedule A deductible items to 2017, when these deductions would offset income subject to tax at higher rates than in 2016.
Equipment Purchases for business use
If you need new equipment (e.g., computers, laptops, tablets, machinery, furniture) or merely want to replace what you currently have and you use these assets for your business, you’ll probably be able to write off the cost. This is so even if you finance the purchase in whole or in party.
Health Savings Account:
Consider a contribution to a Health Savings Account (HSA). A HSA is a trust account into which tax-deductible contributions can be made by qualified taxpayers who have high deductible medical insurance plans. The 2016 HSA deductible contribution limits are $3,350 (single, plus $1,000 if age 55) or $6,750 (family, plus $1,000 if age 55).
Max out 401(k) contribution:
Eligible employees can contribute upto $18,000 (or $24,000 if you’re over 50) out of their wages and save taxes. The contribution has to be done by end of 2016. Please check with your employer about their matching contributions and your tax consultant for any restrictions on the limits, if any.
Consider making charitable donations that also qualify for tax relief in the country of residence. Caution must be taken here as to qualify as a deduction for US tax purposes the donation must be made to charitable entities registered with the IRS as US (not foreign) qualified charitable organization. You must preserve receipt for cash contributions made for $250 or more.
2016 taxable income may be further reduced by making a contribution to a traditional IRA or a SEP IRA (SEP is available to self-employed taxpayers). For 2016 a contribution of up to a maximum of $5,500 ($6,500 if age 50 or older) to a traditional IRA plan or $53,000 to a SEP IRA. Depending on the circumstances, the traditional IRA contribution may be a deductible or non-deductible. A tax advisor can confirm availability of an IRA or SEP IRA contribution and the amount that can be contributed. It should be noted that there are potential penalties if the allowable contribution limits to an IRA plan are exceeded and the contribution is not withdrawn within prescribed time limit.
Contributions to IRS plans for 2016 can be made up to April 15, 2017.
For those reaching age 70½ during 2016 who have a qualified retirement account, IRS requires that you start taking withdrawals from such retirement plans. The Required Minimum Distributions (RMD) is the minimum amount that must be withdrawn from the account each year.
Record retention guide:
You must keep records for almost everything you report on your tax return including the expenses or deductions. Further, if you are a consultant (and not a full time employee) and travel to project locations to work on temporary assignments (actually or realistically lasting for less than 12 months), you may be able to claim certain project related expenses. Please note that your employer must confirm that these expenses are required to be incurred by you and related to your duties under the employment agreement and none of these expenses were reimbursed to you.
- Hold on to appreciated assets for 12 months or more prior to sale to take advantage of the lower long-term capital gains tax rate.
- Sell loss-producing assets to set against any capital gains arising during 2016. Be sure to avoid the “wash sale” rules.
- Avoid or limit penalties/interest by making estimated tax payments. Note: If 2016 tax return is not filed with the IRS within 60 days of due date of the return (including extensions for time to file) the penalty for failure to file a tax return is the lesser of $135 or 100% of the tax due.
A few challenges to Year-End Tax Planning
- Alternative Minimum Tax (AMT)
The consideration regarding acceleration or deferral of income and/or expenses outlined above should be made with caution if subjected to Alternative Minimum Tax (AMT). AMT is a tax levied in addition and separate to regular federal tax that may nullify the benefits of year-end planning strategies or in some cases result in negative tax consequences.
- Phase Out of Exemptions and Limitations on Deductions
The benefits of accelerating or deferring income and/or expenses may also be adversely affected by the level of adjusted gross income (AGI). Personal and dependency exemptions are phased out (gradually reduced) and itemized deductions limited once AGI reaches a certain threshold. So depending on the level of AGI the intended benefits of accelerating or deferring income and/or expenses may be reduced or nullified.
The year-end planning considerations outlined above are complex and the related benefits are dependent on personal circumstances. Therefore a consultation should be taken by your tax consultant to discuss the available options.