Cut Your Tax Bill
With the Federal deficit and national debt so high, the US government is looking for as many ways to gather money as possible and that will continue into the foreseeable future. Unfortunately, the tax burden doesn’t fall equally on all adult citizens. According to Washington Post article Who Doesn’t Pay Taxes, in 2011 46.7% of US Households did not pay income taxes.
Because we work, because we work harder and because we save and invest and earn passive income, the wealthy get to pay the bigger part of the tax bill.
Yes, we owe taxes and yes we benefit from many things (such as national defense, disaster relief, and our highway system), but that doesn’t mean we should volunteer to give Uncle Sam more even than he is forcing us to pay. Why not bolster your family economy by putting legitimately saved tax money to work for current and future generations of family members?
Here are considerations for you to talk over with your tax accountant and/or attorney – to see if if they make sense for you. Note that I am not a tax professional so do talk to your own!
Bunch medical costs.
If you know you will need healthcare or home renovations to assist with health at home, and if you can, incur them in one year instead of spreading them across multiple years. That way, you stand a better chance of meeting the eligibility for being able to deduct them.
Bunch charitable donations.
Likewise, if you want to donate to your favorite charities, make a plan to give the donations in one year instead of spreading them across multiples – especially if your itemized deductions are just under the line for being more than the standard deduction.
Don’t forget deductions for “income in respect of the decedent”.
If you were lucky enough to inherit someone’s retirement account when they died, you may be eligible for a deduction for years to come. For instance, if your Mom was a teacher and funded an annuity with retirement funds, that annuity would have paid out over many years to her. When she died, the value of that annuity may have been included in the estate’s assets and may have been subject to estate taxes. When you start receiving the payouts your Mom would have gotten, you will be taxed on the taxable portion as normal income. If the estate also paid taxes on the amount of the annuity at your Mom’s death, that money is being double taxed. Uncle Sam lets you deduct a certain portion of that for a certain number of years to offset the double taxation.
This only helps you out, though, if you itemize deductions!
Reduce or avoid estate taxes.
Although the estate tax is now charged only on estates over 5 million dollars, if your estate goes over that it will be taxed at egregious rates. Your heirs will pay the price if you fail to plan tax efficient estate transfer strategies. Some of these might include:
Make Annual gifts to heirs at or under that years limit per person ($14,000 per person to any number of recipients in 2013).
Transfer unappreciated assets.
If you want to make sure you keep your estate under the $5 mil mark, one gifting strategy would be to transfer assets that are likely to appreciate in value (thus potentially putting the estate in jeopardy of paying estate taxes). That way, your heir gets the asset and the potential appreciation. This strategy might be combined with an irrevocable trust with a trustee to manage the asset until the heir is of age (if the heir is a minor when the gift is made). These come with their own sets of challenges. Consult an estate lawyer for up to the date information.
Go into business with your heir.
Sam Walton formed a partnership with his wife and children years before Walmart became a money making machine. Each family member owned shares in the company with Sam and Helen being the general partners and the children being limited partners. When Sam died, the shares in the family partnership continued and no taxes were due on Helen and the children’s shares.
Open a business – hire your kids.
NASDAQ article “71 Ways to Cut Your Tax Bill advises us to:
“Hire your children. If you have an unincorporated business, hiring your children can have real tax advantages. You can deduct what you pay them, thus shifting income from your tax bracket to theirs. Since wages are earned income, the “kiddie tax” does not apply. And, if the child is under age 18, he or she does not have to pay Social Security tax on the earnings. One more advantage: the earnings can serve as a basis for an IRA contribution.”
To pay for college room expenses, I know of a couple who set up a company, bought a house and had their son line up roommates. They took a deduction on the mortgage and had income from the roommates. They hired their son to do maintenance and other tasks needed around them home and paid him. They deducted this as an expense and the son plunked the money earned into an IRA – getting a head start on retirement funding.
Pay for things for your heirs.
Moving money out of your estate (if you think you will eventually hit the $5 million mark) can be done a number of small ways. For instance, Grandparents can directly pay for the college costs of grandchildren (without that being considered a gift under tax laws).
You can sponsor family trips and pay for joint dinners out, family entertainment and etc as a way of transferring assets as well – assuming you would be doing those things together anyway.
Save on capital gains.
Just don’t pay.
On personal residences, you can exclude up to $250,000 per person ($500,000 per couple) from capital gains taxes – as many times as you care to sell and buy a new home – as long as you live in it as a primary residence for 2 of 5 years preceding the sale.
Defer with an installment sale.
Investopedia says that you can defer and stretch out paying the capital gains tax by doing and installment sale via IRS publication 537. You have to be willing to let your buyer pay installments and you will need to report every year as to what part of the payment is principal interest or capital gain.
Do an exchange.
If you have investment property that isn’t to your liking, you can do what is called a 1031 exchange for ‘like kind’ property and defer paying any capital gain.
You don’t actually have to ‘trade’, you sell and buy within certain guidelines. These involve special rules and timeframes that must be met or you will still be stuck with reporting the entire gain.
Do a structured sale.
If you really want out of real estate, according to Real Estate.com article How to Avoid Capital Gains Tax While Renting Out Your House, you can set up a special trust.
“The buyer funds an annuity held within the trust. The trust sends the income stream to you, according to a schedule that suits your income needs. This allows you to defer capital gains tax by taking your sales proceeds in the form of installment payments, in what the IRS deems a “structured sale” under IRC Section 453”
Sell in low income years.
If you want to sell something with a huge gain, a gain that you have to pay taxes on, the plan ahead to sell in low income years. One strategy might be to avoid starting to take Social Security for a few years while you divest of capital assets. Another might be to find ways to defer income into years when you aren’t selling.