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| The Basics | New ways to cut your 2004 tax bill now
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You might be able to deduct sales taxes. Charities always need help. Act by Dec. 31 to get the biggest breaks on your 2004 return.
By Jeff Schnepper
I know, your taxes arent due until April 15. But youre not starting early. Youre already late!
Your tax planning for your 2004 return should have started last December. Its more complicated this time because the tax laws changed twice this year -- with the Working Families Tax Relief Act of 2004 and the American Jobs Creation Act of 2004.
But you've got time left to cut that tax bill. So, heres what you need to know and what to watch out for.
Capital gains and losses
This year, the market went where no man fears to go. If you were lucky or smarter than the rest of us, you may have capital gains. If so, remember that any net capital losses over the $3,000 allowed on your 2003 tax return should be carried forward to offset those 2004 gains.
If you still have net losses, up to $3,000 may be used to offset ordinary income for 2004.
If you have net long-term capital gains, theyre subject to a maximum 15% rate. If youre in the 15% or lower tax bracket, your tax hit is softened to only 5%.
If youre single with taxable income of not more than $29,050, you get the 5% rate. With a standard deduction of $4,850 and a $3,100 personal exemption, you can have as much as $37,000 in gross income and still qualify.
Standard capital-gains planning still applies. If you have net capital gains, sell losers to offset those gains. If you have more losers, sell at least enough to get the $3,000 offset against ordinary income.
If you have shares of stock pregnant with gains and you dont expect them to appreciate further, sell those shares and shelter the gains with the losses on your losers. Worst case -- pay the maximum 15% tax. You cant go broke taking profits.
But dont let the tax tail wag the economic dog. In deciding what to keep and what to sell, consider taxes, but remember thats only one consideration. The final decision should be made on the basis of your growth expectations over your holding horizon.
The new sales-tax option
For 2004 and 2005, you now have the option of deducting either your state income tax or sales tax, whichever is greater. The IRS will provide sales-tax tables. You can add any tax paid on cars and boats to the table amounts. Alternatively, you can deduct the actual state and local sales tax paid -- if you can substantiate that amount. Start saving those receipts!
This is a great new deduction for those in the seven states with no income taxes -- Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming -- and states with low income-tax rates such as Tennessee.
Enjoy lower rates on dividends
Heres another reason to thank the tax gods. Not long ago, you paid a tax rate of as much as 38.6% on dividends. But now they're treated as capital gains, capped at 5% or 15%.
But theres a tax trap here. Take out your calendar. To qualify for this 15% rate, you had to have held the dividend-paying stock for AT LEAST 61 days. And, those 61 days must fall between 60 days before and 60 days after the ex-dividend date. (That's the date by which you must own a stock to get the dividend. Check with the company for its ex-dividend date. If you sell shares after the ex-dividend date, you still get the dividends.)
Old tricks that still pay
You still have a month left. Lets start with the easy ways to cut your tax bill:- Maximize your pension or IRA contributions. Unless the rates shoot up, you want to pay your tax tomorrow rather than today.
- Make those big gifts now. If you might be subject to the estate tax, make your $11,000 gift- and estate-tax-free gifts before the end of the year.
- Use up your flexible spending account (FSA) dollars. If you dont, you lose them. You can even pay for nonprescription drugs through an FSA. In addition, your employer can give you a debit card for your FSA spending. That eliminates a whole lot of paperwork!
- Make your Jan. 1, 2005, mortgage payment on Dec. 31. Remember to add the extra interest paid to what your bank reports on its Form 1098. Theyll get your payment in 2005 and wont report it for 2004. But you paid it then and it adds to your deduction this year.
- Pay real estate taxes early. If you pay your own real estate taxes, make any payments due in the beginning of 2005 by Dec. 31. My fourth-quarter real estate tax is due on Feb. 1, 2005. By paying on Dec. 31, I get the deduction a year earlier.
- Contribute to a retirement plan. If youre contributing to a retirement plan such as a 401(k) or a 403(b) plan, you can put in $13,000 this year. If youre 50 or older, you can put in another $3,000 as a catch-up contribution.
- Medical and miscellaneous expenses. Both medical expenses and miscellaneous itemized deductions have floors. For medical expenses, only those in excess of 7.5% of your adjusted gross income (AGI) count. For miscellaneous itemized expenses, they have to exceed 2% of your AGI. The planning strategy here is to bunch. If youre going to exceed the floor, accelerate your expenses. Prepay your orthodontist or your tax preparer. Mail your checks on Dec. 31 so theyre received by and are taxable to the payees in 2005. Alternatively, if youre not going to exceed those floors, defer the deductions to 2005. You may exceed your floors then.
A break for business owners
If you own a business, you can write off up to $102,000 in equipment expenses this year under section 179 of the tax code. Next year, you can write off $105,000.
This is the famous provision that allowed you to fully depreciate a vehicle that weighs more than 6,000 pounds that you buy strictly for business -- such as an SUV or even a Humvee -- in the year you bought it.
Sorry, ancient history! While you can still write off up to $102,000 in equipment expenses, your write-off for an SUV that doesnt weigh more than 14,000 pounds is limited to $25,000. You only get the $100,000 cap if you bought before Oct. 22, 2004, and the vehicle weighed more than 6,000 pounds. (Read more about this here.)
A new trick
Heres one you dont have. Its called the Schnepper-Malagoli Charitable Tax Grab. You can rent your home to anyone during the year -- up to 14 days total -- and pay zero tax. (Internal Revenue Code Section 280A (g), for those of you who feel compelled to look it up.)
So your church, synagogue or any recognized charity rents your home for a board meeting. They pay you $500. That money is completely tax-free.
Without any compulsion or prearrangement, you also contribute $600 to the charity. If youre only in the 25% bracket, you save $150 in tax. You also got $500 tax-free from the rental. Thats a total of $650 more in your pocket, less the $600 contribution. Youre up $50 and the charity is up $100. One meeting per month (12 is less than 15) and youve made $600 and the charity is up $1,200!
Was it intended when Congress drafted the tax code? Clearly, no. Is it completely within the clear wording of the code? Absolutely, yes! Just because its a loophole doesnt mean you cant legally do it. And, theres nothing wrong with doing well as you do good.
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