CSQ ADVISOR
Andrew Smith, CPA
Tadd Wooton, CPA
Partners
Smith & Wooton LLP
Westlake Village, CA
Andrew Smith and Tadd Wooton are licensed Certified Public Accountants and partners at Smith & Wooton LLP, a full-service accounting firm in Westlake Village. Andrew and Tadd began their accounting careers together over a decade ago at Deloitte & Touche in Los Angeles and have since gone on to work with large publicly-traded corporations as well as small privately-held companies. Their firm has worked closely with the local Chamber of Commerce and other organizations to develop a series of educational workshops for local business owners and have received high praise for their ability to demystify the tax code and better prepare individuals for the financial consequences of starting and running a business.
Andrew graduated from Cal Poly, San Luis Obispo and lives in Newbury Park with his wife and daughter. Tadd received his degree from Pepperdine University and currently resides in Simi Valley with his wife and two children.
805/585.3800
Tax Planning For An
Uncertain Future
Tax planning is always a tricky proposition because no one, not even the most prescient CPA, can predict what tax rates will do over the next five to 10 years. This year, there is an added level of difficulty as we head towards December without even knowing the status of tax rates for next year. So what DO we know, and what should we do before the end of the year to best prepare for the uncertainty?
TAXES ARE GOING UP
It has been well publicized that the Bush era tax cuts are scheduled to expire at the end of 2010. Most experts agree that the existing tax rates will be extended another one or two years (by the time you read this, Congress may have already acted to extend some of the tax cuts into 2011), but you would be hard- pressed to find any expert that thinks tax rates will go down in the near future. With the impending tax increases, many advisors are starting to rethink the old adage of “defer, defer, defer.” In fact, some taxpayers could benefit from reporting higher income in 2010 and delaying certain deductions into future years when their income will be taxed at higher rates.
Increasing income is often easier said than done, but here are some tips for taxpayers who need to increase their 2010 taxable income:
Delay Deductions – For individuals, this may mean waiting until 2011 to pay the second installment of property taxes or a 4th quarter estimated state tax payment. Businesses may want to hold off on buying a piece of equipment or incurring other non-essential expenses.
Fore Go Accelerated Depreciation – New legislation has extended higher limits for section 179 expense deductions and “bonus” depreciation through 2010, but that doesn’t mean that taxpayers are forced to use these accelerated methods. Taxpayers looking at higher future tax rates may find it more beneficial to use conventional depreciation methods that spread the deduction into future years.
Roth IRA Conversions – Taxpayers with large IRA accounts have the most at risk when it comes to future rate increases. Recent tax law changes have made it possible for more taxpayers to convert some or all of their traditional IRAs into Roth IRAs and pay taxes at their current tax rates.
CAPITAL GAINS AND DIVIDENDS WILL BE TAXED AT A HIGHER RATE
On top of the increases to the ordinary income tax brackets, taxpayers can count on an increase in the capital gains tax rate as well. The maximum rate on capital gains is scheduled to go from 15% to 20%, and although Congress may delay that increase until 2012 or 2013, taxpayers can make some adjustments now to avoid having to pay at the higher rates. Additionally, qualified dividends that are currently taxed at the capital gains rate of 15% will be taxed at the taxpayer’s ordinary rate, which could be as high as 39.6%.
Here are some tips for taxpayers who want to limit their exposure to potential increases in the capital gains and dividends tax rates:
Sell Now to Realize Gains – Taxpayers who took advantage of the downturn in the stock market by buying equities may be sitting on portfolios with large unrealized capital gains. These taxpayers can sell the appreciated funds before the end of the year and lock in the gains at the current 15% maximum rate. While there is a “wash rule” that prohibits taking losses on securities that are repurchased within 30 days of a sale, no such rule exists for stocks sold for a gain. Therefore, taxpayers can immediately repurchase any investment and maintain their previous position while benefiting from a higher cost basis.
Gift Appreciated Stock – Currently, anyone who is in the 15% federal tax bracket has their capital gains taxed at 0%. This 0% rate is scheduled to expire at the end of 2010 unless Congress extends the Bush cuts. Taxpayers with family members or other loved ones who fall into this lower tax bracket can gift appreciated stock to the loved one prior to selling the investment and potentially avoid paying federal taxes on the gain. If the recipient of the gift is the child of the taxpayer, any potential “kiddie tax” ramifications should be examined.
Reallocate Dividend-Paying Investments – Taxpayers should consult with an investment advisor to determine if their portfolio’s growth/income allocation is tax-efficient in light of the changing dividend rate. It may be beneficial for some taxpayers to move dividend-paying equities into tax-deferred or tax-free accounts, such as IRAs or Roth IRAs.
Unfortunately, tax increases don’t stop there. Starting in 2013, a Medicare surtax of 3.8% will be charged on investment income of single taxpayers making over $200,000 or married couples making over $250,000. This surtax is just another sign that points to rising tax rates for the foreseeable future. All of this is forcing taxpayers to reexamine the traditional model of accelerating deductions and deferring income. Before the end of the year, taxpayers should meet with a trusted advisor to determine the best course of action to protect themselves against these increasing rates.
