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Another year has come and gone and what’s really changed? Are you sitting in roughly the same place you were last year at this time with respect to your taxes–wondering what you could have done differently in your business to positively affect your year- end tax bill?
Other expenses to keep in mind may include the cost of audio tapes (videotapes) related to training or business skills; bank charges; business association dues (chamber of commerce); business related periodicals or books; coffee or beverage services; office supplies; postage; seminars; and trade shows, to name a few.
2005 Tax Planning Items As noted above, the real planning for 2005 should have begun with the beginning of the tax year. Nonetheless, although we are already into 2006, there is still time to take advantage of a few tax rules that could have a significant effect on your current 2005 tax bill, and on future tax bills.
IRA Contributions You have until April 17, 2006, to make contributions to your Individual Retirement Account (IRA) for 2005. In fact, you can contribute up to ,000 and take a deduction from your 2005 income for all of it, provided you did not participate in a company-sponsored retirement plan and provided your income falls below certain statutory levels (,000 for single filers and ,000 for married couples). If you were over the age of 50 by the end of 2005, the limit increases to ,500. Even when you did participate in a company-sponsored retirement plan, your spouse can generally contribute (and fully deduct) ,000 to an IRA as long as your combined adjusted income is 0,000 or lower, and your spouse is not a participant in a company sponsored plan. In other words, assuming a 25 percent tax bracket, a married couple could contribute ,000 each to their own IRAs and reduce their current tax bill by ,000.
Education Savings There are two primary tax-advantaged ways to save for education. One is a 529 Plan and the other is an Education Savings Account. Although contributions to a 529 Plan had to be made before the year-end, contributions to an Education Savings Account can be made any time until April 17, 2006. An Education Savings Account allows you to invest up to ,000 per year in a savings account, mutual fund or brokerage account (through which you can invest in individual stocks and bonds). Although this contribution is not tax-deductible for 2005, the money invested will grow tax-free and all withdrawals from the account will be tax-free as well provided the funds are used for qualified education expenses (e.g., tuition, books, etc.). Much like many of the tax benefits available to taxpayers, there is an income limitation that must be met in order to invest tax-free in an Education Savings Account. For joint return filers, this opportunity begins to phase out when their modified adjusted gross income exceeds 0,000. For single filers the phase-out begins at ,000 of modified adjusted gross income.
What’s new for 2006 With a new year comes new tax laws. Being an educated taxpayer and staying abreast of these changes will help you plan for 2006 and allow you to take advantage of these opportunities. The following items are new to the tax code within the last year.
The Katrina Emergency Relief Act of 2005 and The 2005 Gulf Zone Opportunity Act; The 2005 Katrina Relief Act was signed into law on September 23, 2005, and provides a package of income tax relief provisions to help victims of Hurricane Katrina. The Gulf Zone Opportunity Act of 2005 essentially extended the relief provisions of the Katrina Relief Act to victims of Hurricanes Rita and Wilma as well.
Just a few of the opportunities available under these acts include:
• Penalty free withdrawals from qualified plans of up to 0,000 provided the individual making the withdrawal suffered an economic loss because of one of the three hurricanes (Katrina, Rita or Wilma).
• Individuals that were eligible for tax relief for hurricane-related distributions may pay the income tax on such distributions ratably over a three year period.
• Loan limitations from qualified plans were also increased for hurricane victims by doubling the thresholds to the lesser of 0,000 or 100 percent of the individual’s account balance. Additionally, loans due from hurricane victims to qualified plans can be deferred for an additional 12 months on top of the maximum repayment period.
• Non-business casualty losses are generally deductible by taxpayers who itemize their deductions and then only to the extent the casualty loss exceeds 10 percent of adjusted gross income and a 0 floor. These rules were eased by the Act by eliminating the 10 percent rule and the 0 floor for hurricane victims.
• Corporate charitable contributions were eased allowing corporations to claim a charitable deduction for cash contributions related to these hurricanes without regard to the 10 percent of taxable income cap.
• Additionally, these Acts contain a number of tax incentives to encourage rebuilding of the areas ravaged by these three hurricanes.
If you have been affected by one of the hurricanes noted above, live in one of the hurricane zones or have contributed to relief efforts, you should consult with a professional tax advisor to discuss the full extent of these new provisions.
Other changes for 2006 include:
• Adjustment of the standard mileage rate to 44.5 cents per mile.
• Increase in the 401(k) contribution limit to ,000 per year (up from ,000), as well as an increase in the catchup contribution permitted for taxpayers that are 50 or older to an additional ,000 (up from ,000).
• The Social Security wage limit has increased from ,000 in 2005 to ,200 for 2006. Remember, this wage limitation applies only to the 6.2 percent OASDI component (old age survivors and disability insurance) of social security. The 1.45 percent Medicare component of payroll taxes applies to all wages.
• In the estate tax arena, the lifetime estate tax exclusion amount has increased from .5 million to million for 2006 through 2008 and the annual gifting limit has increased from ,000 annually to ,000 annually. Under current law, the lifetime estate tax exclusion amount is slated for increase again in 2009 to .5 million before the repeal of the estate tax for one year in 2010. In 2011, the estate tax system returns with the exemption amount returning to million. This is an important planning consideration; however, most experts in this field believe that more estate tax changes are on the way. As a result, it is likely these rules will all be modified again before the next set of changes come into effect in 2009 and beyond.
• The top estate tax rate has also dropped from 47 percent to 46 percent for 2006. This rate is again scheduled to drop one percent to 45 percent in 2007 and that rate will stay in effect until the 2010 repeal. As noted above, however, it is likely the estate tax laws will change by that time.
• The gift tax credit remains at million. If you plan on making significant gifts during your lifetime, the difference between the estate tax exclusion and the gift tax exclusion must be noted to ensure that you don’t get a surprise from the IRS.
Tax Planning - Let’s look ahead As previously discussed, the process of tax planning is often confused with tax compliance. Individuals and closely-held business owners that are armed with a good understanding of the tax code can have a tremendous effect on their ultimate year- end tax liability with some good, forward-thinking tax planning. Unfortunately, however, by the time most people usually consider tax planning, they are past the point that they can positively effect a transaction.
Before you enter into any significant business transaction, it would be wise to consult with a competent tax professional to determine whether the transaction is structured properly from a tax perspective. There are often very tax efficient ways to accomplish your business goals; however, without proper planning, the tax opportunities that may otherwise be available in a transaction could vanish forever.
For example, if you are considering selling investment real estate or business property and replacing that real estate with another piece of property, you should be considering handling the transaction as a "like-kind exchange." The "like-kind exchange" rules under Section 1031 of the Internal Revenue Code allow any gain realized on the sale of the property to be deferred until the subsequent sale of the replacement property. Like-kind exchanges are also appropriate with property other than real estate, provided of course the property is of "like-kind," the determination of which requires an understanding of the tax rules and the various tax classifications for personal and real property.
Like-kind exchanges are also a perfect example of a planning opportunity that will be unavailable if not properly addressed in advance of the transaction. There are very strict rules regarding the timing of the transaction, when property is identified and purchased, and even very strict rules about how the proceeds from the sale need to be handled in order to preserve the "like-kind" treatment. If these rules are not met, you can not have a "like-kind exchange."
The "like-kind exchange" example was simply meant to illustrate how important it is to address the tax ramifications in advance of an impending transaction. Always keep your professional advisors in the loop when considering any significant business transaction or your opportunity may be lost, which can have significant costs that perhaps could have been avoided. Remember, good tax planning is not about making sure your tax returns are properly prepared and that you have availed yourself of all the appropriate tax deductions and credits available to you and your business. It is really about structuring your business and your transactions in a way that not only meet your business needs, but do so in the most tax advantaged manner.
About the Author: Craig Koop is the Director of Implementation for