Plan Income, Deductions & Tax – Personal
Just as a good business owner plans the business operations and taxes for the year ahead, you should plan your personal income taxes as well. By planning ahead, you will have the opportunity to better manage your tax situation, consider strategies to minimize your total tax bill in the long run, and be prepared for any balance that may be due.
With last year’s 1040 completed, you have a starting point for estimating current income, deductions, credits, and taxes. A starting point is the software that your tax preparer used to prepare your previous year income taxes; this software will base a current year projection on prior year figures.
Start by reviewing your prior 1040 and making notes of items that may be carrying over to the current year, such as:
1. Net operating loss carryovers from business activities
2. Internal Revenue Code §179 business asset direct expensing carryovers
3. Short and long-term capital loss carryovers
4. Passive loss carryovers (see Schedule E page 2 and supporting statements)
5. Suspended investment interest expense
6. Charitable contribution carryovers
7. Tax credit carryovers
8. Alternative minimum tax (AMT) carryovers
9. Gains from installment sales that will affect income
10. Amount of your prior year tax refund, if any, applied to 2the current year
Next, review the prior year income items and identify any significant expected changes. It is easier to identify a change to an item that was present last year than something that will be newly present in the current year – as an aid you may want to scrutinize the captions without balances.
If you have a business on Schedule C, a farm on Schedule F, or pass through entities on Schedule E, you will need to include the projected net profit or loss from the respective business plans.
Review your investments with your advisors and discuss whether gains or losses should be triggered. One important point to consider is that capital losses offset capital gains only (plus $3,000 of ordinary income) and carry forward. (You want to incur significant capital losses in the same year or earlier years than capital gains are realized.)
Next go through your itemized deductions on Schedule A. If you have high income, you will find deductions on Schedule A are reduced by 3% of your adjusted gross income. In some cases, even though you have significant itemized deductions, the phase out of the allowable amounts may result in the standard deduction being more advantageous. Changes in your AGI will have an impact on itemized deductions. First estimate your deductions, and then consider the limitation.
The goal is to estimate your taxes to enable you to manage what you can; do your best but don’t get too caught up in the minute details.
Significant changes in adjusted gross income may affect the personal exemption amount as well. Also, remember to consider changes in the number of your dependents (a new addition to the family or a graduating child going into the work force.)
Are estimated withholdings from wages or other sources of income, plus the prior year carryover and estimated tax payments adequate to cover the tax?
If not, plan to have adequate funds to pay tax due April 15th, or better, look to see if you can find ways to plan to lower your taxes.
If you generally have significant taxable income and expect to have little or no tax in a particular year, look for items of income to trigger or accelerate, e.g. convert all or a portion of a traditional IRA to a ROTH IRA. The strategy is to take advantage of the low marginal tax brackets every year; otherwise income that could have been accelerated and taxed at a low rate may be taxed at a high rate in a year more typical of your taxable income.
Refer to strategies discussed in recent issues for lowering your business and personal income tax. If you need assistance with tax planning or projecting your income tax, consult your tax adviser before too much of the year passes; planning early can result in more planning options.
Sue Price-Scott, CPA is a partner at Alegria & Company and specializes in business and personal income tax and is accredited in business valuation. She can be reached at email@example.com