Michael A. DeCataldo is managing partner at Sansiveri, Kimball & Co. LLP, a certified public accountants and business advisory firm in Providence.
DeCataldo talks with Providence Business News about year-end tax planning, what to look for to lower your tax bill and how proposed federal tax legislation could impact taxpayers.
PBN: When should folks start thinking about year-end tax planning?
DECATALDO: It is never too early to start thinking about tax planning. The tax law is complicated, and the interaction of various tax provisions must be considered when making financial decisions throughout the year. There are also year-end options for minimizing taxes. A simple example is the prepayment of your fourth-quarter state income taxes. Normally, if you itemize your deductions, accelerating your state tax deduction is an effective way to reduce your federal tax liability. However, if you are subject to the alternative minimum tax, this tax planning strategy could backfire.
Many of our clients require quarterly income tax projections because of the complexity of their tax situations, but for most individuals an annual projection can help them quantify their projected 2017 federal and state income tax liability and identify tax saving opportunities. By starting the planning process now, you leave yourself sufficient time to implement various tax saving strategies before the end of the year.
PBN: What can individuals do to try and lower their tax bill?
DECATALDO: Simple tax planning strategies include prepaying deductible expenses in 2017 and deferring, when possible, income into 2018. Also, tax loss harvesting is an important planning technique if you have recognized capital gains in 2017. Tax loss harvesting is the identification of stocks in your portfolio that currently have an unrealized loss, i.e. your cost basis is currently higher than the stock’s fair market value. If you sell the stocks before year-end, you can use the losses to offset gains that have already been realized. Just remember that these loss stocks should not be repurchased for at least 30 days to avoid the “wash sale” rule that would disallow the loss and eliminate the potential tax savings.
Other effective ways to reduce taxes are to maximize your 401(k) contributions and to make eligible deductible individual retirement contributions. Also, you can receive a double benefit by using appreciated securities to make charitable contributions before year end. By using appreciated stock, you receive a charitable deduction for the stock’s fair market value and you do not have to pay tax on the built-in appreciation.
PBN: How about businesses?
DECATALDO: Businesses should consider purchasing new equipment before year end to take advantage of the $510,000 expensing election that allows a business to deduct what would normally be considered a capital expenditure. Also, taking advantage of the 50 percent bonus depreciation, which is another way to accelerate the deduction for the purchase of what would normally be considered a capital item, is an efficient way to reduce current-year taxes. Businesses that operate in multiple states should be aware that many states have different and more restrictive rules when it comes to bonus depreciation and the expensing election. Business owners should be alert to current tax reform initiatives, which could make substantial changes to how the purchases of capital assets are handled.
An often-overlooked business deduction is the Domestic Production Activity Deduction, which can generate a deduction of up to 9 percent of income received for qualified production activities. Businesses, like individuals, should also consider accelerating deductions into 2017 and deferring income into 2018. Under current tax reform proposals, both corporations and the owners of flow-through entities can expect lower tax rates in 2018. It is important to keep an eye on Washington, as no one can predict which proposed changes will make it into any final tax reform bill.
PBN: How does the discussion of tax reform at the federal level impact year-end tax planning?
DECATALDO: Currently in Washington, there is a major tax law overhaul being discussed as part of the recently released Tax Cuts and Jobs Act. There is bound to be significant revisions to this bill as it proceeds through the legislative process. As a result, tax planning for this year will be difficult but not impossible.
Although most Americans and their businesses should see some sort of tax reduction, the general rule of deferring income and accelerating deductions, which was discussed earlier, does not work if an individual’s tax rate will be higher in 2018. There may be some individuals that could see their taxes actually go up in 2018 because of the reduction in the number of tax rates from seven to four. Individuals that were in the 33 percent tax bracket in 2017 may find some of their income being taxed at 35 percent in 2018. The final enacted income tax brackets will determine the winners and losers. If an individual feels that he or she will be in a higher tax bracket next year, then the normal tax planning strategy should be reversed and deductions should be postponed and income accelerated.
However, if the elimination of the state tax deduction were to find its way into the final version of any tax reform, the prepayment of state income taxes makes sense for all individuals that itemize their deductions regardless of their anticipated tax rate in 2018. But remember that if you are subject to the AMT, you may receive little to no tax benefit when you prepay your state taxes.
I would recommend that everyone pay close attention to what comes out of Washington in the next few weeks, as the current bill could look very different from the law that actually gets enacted. By quantifying your estimated 2017 federal and state tax liabilities as early as possible, you will have a starting point to determine the impact of any enacted tax reform on this year’s tax planning techniques.
PBN: Why should individuals and businesses consider working with Sansiveri, Kimball & Co. L.L.P. to navigate year-end tax planning?
DECATALDO: We believe that we have the resources necessary to quantify an individual or business’s projected tax liability and are intimately aware of how various tax provisions interact and counteract each other. We are following the tax law developments closely in an attempt to determine what is most likely to be included, added or eliminated from any final tax reform bill. By beginning the planning process early, we will have the framework in place to readily adjust our planning strategies right up until Dec. 31. As Washington fine-tunes its tax legislation and as various tax proposals get closer to becoming actual law, we will be able to refine our tax planning suggestions and review the impact on each of our individual and business clients.