April 15 may seem a long way off, but there are important steps you can take now to reduce the taxes you will owe for 2003.
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Before the end of the year, estimate your taxable income and any investment gains or losses. That clear picture will help you decide whether to give more to charity, prepay state and local taxes, sell losing investments or make other choices that save money in the long run, tax experts said.
Above all, make sure your records are in good shape so you’re not scrambling at the last minute.
“If you get your pins in a row now, you might save enough to pay for your holiday bills,” said Alexandra Armstrong, chairman of Armstrong, MacIntyre & Severns, a Washington, D.C.-based financial planning firm.
Start with a projection of your 2003 income and the taxes you will owe. You can work with an accountant or software tools, many of which are available free on the Internet.
The first thing to check is whether you are subject to the alternative minimum tax, more commonly seen in families with many children; high state and local taxes; incentive stock options; or capital gains.
The AMT is a parallel tax system designed to prevent high-income taxpayers from avoiding taxes by claiming “too many” deductions. But because the limits aren’t indexed for inflation, each year more middle-income households have to pay. The tax cuts President Bush signed into law exacerbate the situation by lowering tax brackets across the board.
To estimate whether you’ll pay the AMT, do a dry run of your taxes using the traditional IRS Form 1040, and then using the AMT Form 6251. You must follow the method that results in a larger tax bill.
If you must pay, the traditional tax-planning advice is useless and you can stop reading this story here. But for everyone who avoids the AMT, traditional tax planning advice holds: Try to defer taxable income to next year, and accelerate deductions into 2003.
For example, you can ask your employer to delay paying a year-end bonus until January. If you’re self-employed, you can wait to bill customers until next year, said Martin Nissenbaum, national director of personal income tax planning at Ernst & Young in New York.
To accumulate more deductions this year, make charitable contributions, pay the maximum into all tax-deferred retirement plans available to you and contribute to a college savings plan if you have young children. You can also prepay state and local taxes as well as property taxes, and even pay your January mortgage before the end of the year.
People who plan to donate securities to charity should do so soon, since the transaction can take awhile. Cash donations made by check just have to be mailed by year’s end, said Barbara Weltman, a Millwood, N.Y.-based attorney and author of “J.K. Lasser’s 1001 Deductions and Tax Breaks.”
If your employer offers a flexible spending account for medical expenses, sign up before the end of the year, and for a large enough amount to cover your likely costs for 2004.
“I withheld $1,800 in my medical reimbursement plan and I should’ve withheld $3,000,” said Norm Mindel, a financial planner with GE Independent Accountants Network, based in Schaumburg. “I have four kids.”
Those carrying a lot of credit card debt should transfer balances to a home equity line of credit, the interest on which is likely lower and tax deductible within certain limits.
Medical expenses are deductible once they exceed 7.5 percent of your adjusted gross income. For miscellaneous expenses, like lawyer fees, the minimum is 2.5 percent. If you know you’ll have a big medical bill or professional fee, it makes sense to bunch the expenses into one year, Nissenbaum said.
For instance, if you had a lot of medical expenses this year and you know you want to have laser eye surgery to correct your vision, schedule the eye procedure for 2003 if it will push you over 7.5 percent.
Finally, review all your investments, whether taxable mutual funds or brokerage accounts.
Many people will have capital losses left over from the stock market slump in 2001 and 2002, which they can use to offset capital gains. If you don’t have any capital gains, you can still use losses to reduce your taxable income by up to $3,000, said Rande Spiegelman, vice president of financial planning at the Schwab Center for Investment Research, based in San Francisco.
If you don’t have actual capital losses, you might want to sell losing investments to realize a loss that can either balance out gains or reduce your taxable income.
If you have turned 70 1/2, you must take a distribution from any retirement plans, otherwise you’ll pay a 50 percent penalty, Spiegelman said.
Following these steps now will save you money come April 15. Moreover, given the Bush tax cuts, you’ll probably get a refund once you file your return.
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“It’s in everyone’s best interests to get organized and get in there. There are a lot of goodies in the tax law,” Mindel said.
Here are some online resources for estimating taxes: www.quicken.com/taxes/taxslashing/estimator/; www.schwab.com/–click on “market insight” to see tax planning advice; www.turbotax.com; www.hrblock.com/taxes/tools; and http://moneycentral.msn.com/articles/tax /reduce/tltaxest.asp.