This week, I called on my husband, Robert Bloom, CPA, to provide some tax saving tips before year end. Two tips on saving taxes are outlined focusing on deductions for long term care and medical deductions; and delaying or pre-paying expenses.
An often missed tax deduction is the medical deduction for nursing home expenses. Essentially, any expenses incurred over and above any insurance reimbursement could be a large tax deduction. If you, a spouse or a dependent incur expenses because of a chronic illness, then the entire cost of the assistance is deductible. A chronic illness is defined as a person needing help with 2 of 6 the activities of daily living (eating, bathing, toileting, dressing, transferring, and continence). This deduction includes the lodging and food portion of the monthly bill.
Also, if expenses are incurred due to a cognitive impairment (dementia and Alzheimer’s) then again all of the expenses of the caring facility are tax deductible.
These deductible expenses are often huge and will sometimes eliminate any tax that may be owed on the tax return. If these deductions were missed in past three years, an amended return could be filed to recover any overpayment of tax,
Careful planning can often reduce a significant tax bill for years to come. As an example, if a person is paying significant amounts for their nursing care, a decision needs to be made from what assets are those expenses paid from. There is only limited tax benefit if the deductions are allowed to exceed the income reported on the tax return. However, the tax benefit can be increased with a good planning strategy designed to match income with expenses. In essence, the planning opportunity increases the income of the taxpayer but since this income can be offset by the medical expenses, the tax burden is reduced or eliminated on what otherwise might be taxable income either in their future or by the heirs of the assets after death.
Let’s say a person has $80,000 in out-of-pocket medical expenses and has $50,000 of taxed income. Therefore, the additional funds needed for the expenses come out of savings. Where that money comes from is the key. It may be wise to increase a retirement distribution from an IRA, sell stocks for a gain, or even take a distribution from an annuity with a built in gain. This strategy reduces or eliminates tax on what would be taxable income.to the recipient or their eventual heir. By merely taking the money from a savings account, otherwise known as an after tax account, may not provide the best tax outcome.
The end of the year, right now, is the best time to review expenses and income to get a feel of what the person’s tax return will look like for 2013. A person should seek competent tax advice and that advisor should team up with the client’s financial planner to determine if this strategy works for them. If so, the advisors will determine how much, if any to increase taxable income and from which assets would result in the best tax outcome. If additional income is needed it must be received by December 31st.
Tax Tip #2 for another tax planning opportunity is the availability of delaying or prepaying expenses:
Since an individual is considered a cash method taxpayer, you can deduct expenses when you pay them or charge them to your credit card. Payment by credit card is considered paid in the year the charge is incurred.
Expenses that are commonly prepaid in connection with year-end tax planning include:
Charitable contributions – A tax deduction is available for cash contributions to qualified charities of up to 50 percent of adjusted gross income (AGI) and up to 30 percent (20 percent for gifts to private operating foundations) of your AGI for charitable gifts of appreciated property.
Consider contributing appreciated securities that you have held for more than one year. Usually, you will receive a charitable deduction for the full value of the securities, while avoiding the capital gains tax that would be incurred upon sale of the securities.
For those charitably inclined taxpayers planning the sale of a significant asset, consider implementing a charitable remainder trust. You may be able to avoid capital gains tax on the sale and retain the income from investing the sales proceeds, while securing a charitable deduction for at least part of the value of the property.
State and local income taxes: Consider prepaying any state and local income taxes normally due on Jan. 15, 2014, or with the filing of the return if you do not expect to be subject to the Alternative Minimum Tax (AMT). AMT can sometimes be a higher tax because deductions are limited based on the level of income that the person might have (this is more relevant to higher income individuals).
If you expect to owe state and/or local income tax when you file your return for 2013, consider paying that amount before Dec. 31, 2013. Although you relinquish your cash in advance, the benefit from accelerating the tax deduction and lowering your current federal income tax could be significant. It is particularly powerful if the deduction could be lost through the AMT in 2014. Just be careful that your prepayment does not make you subject to AMT in 2013.
Real estate taxes – Like state and local income taxes, real estate tax levies due early in 2014 can often be prepaid in 2013.For real estate taxes on your residence or other personal real estate, just be mindful of the AMT in both years. Real estate tax on rental property is deductible whether or not you are subject to AMT, and it can be safely prepaid.
Mortgage interest – There are limits on your ability to deduct prepaid interest. However, to the extent your January mortgage payment reflects interest accrued as of Dec. 31, 2013,a payment prior to year-end will secure the interest deduction in 2013.
Margin interest – For securities bought on margin, any interest accrued as of Dec. 31, 2013, will be deductible this year only if you actually pay the interest by Dec. 31.
Miscellaneous itemized deductions (employee business expenses, investment expenses, tax preparation fees, even safety deposit boxes) like many deductions, are deductible only if you itemize your deductions and are not subject to AMT. These expenses are deductible as itemized deductions only to the extent they exceed a specified percentage of your AGI.
Where miscellaneous itemized deductions differ is with the requirement that the total deductions exceed 2 percent of your AGI to be deductible. Grouping these deductions in alternating years is often an effective tax-planning strategy.
Grouping deductions-Many expenses are deductible only to the extent deductions are itemized.
Taxpayers generally elect to itemize deductions only if total deductions exceed the standard deduction for the period. If itemized deductions hover near the standard deduction amount, grouping the deductions in alternating years may maximize the benefit of the standard deduction.
After a three-year hiatus, 2013 marks the return of the phase out of certain itemized deductions for higher-income taxpayers. For affected taxpayers, itemized deductions are reduced by 3 percent of the amount by which AGI
2013 Standard Deduction amounts:
Single filers and Married Filing Separately $6,100
Married, filing jointly and surviving spouses $12,200
Heads of household $8,950
Again, discussing these ideas with a competent tax advisor who can perform projections can save
tax dollars.
Contact Jane Bloom, The Other Daughter, www.theotherdaughter.org at 425 299 6020 or email her at [email protected] with questions or comments.