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Ideas for Year-end Tax Planning

As you manage your taxes at year-end, one important, constant goal should be to reduce your adjusted gross income (AGI), which equals your gross income (salary, investment earnings, etc.) less your allowable deductions and exemptions.

Maximize your 401(k). A 401(k) plan has a maximum contribution amount, which limits your annual contribution. However, if your contributions have fallen short for the year, some plans will allow you to “catch up” at year-end. Not only can this help you save on taxable income, but also if your employer matches a portion of your contributions, then you will benefit in two ways.

Individual Retirement Accounts (IRAs). You may invest in your IRA for tax year 2008 until April 15, 2009. Contributions are limited to $5,000 ($6,000 for those age 50 and older), and deductions phase out for single filers with AGIs greater than $53,000 and for joint filers with AGIs greater than $85,000.

Charitable donations. If you are considering giving a cash donation to a charity during the 2008 tax year, you must give it or mail it by December 31. You will be eligible for the deduction as long as the donation was made by the end of the year. Appreciated stocks that you have owned for over a year can also be donated to charity. If you do so, you will not owe taxes on the appreciation, and you will be entitled to deduct the expense of the stock from your taxes.

Devalued stock. If you own stock that has lost value, you may be able to claim a capital loss. However, the Internal Revenue Service (IRS) has specific rules for what may qualify as a loss. Deductible losses can equalize any realized gains and up to $3,000 of income.

Charge it. Any year-end deductible expenses, such as those for unremembered business-related expenses, can be charged to a credit card. According to the IRS, you are allowed to deduct expenses that occurred within the taxable year, which means that you can take advantage of the deduction this year and, if need be, pay off the card next year. Many charities also accept donations by credit card, which would further your ability to make a tax-deductible charitable donation.

Prepay. If the alternative minimum tax (AMT) does not apply to you, and you are sure that your tax bracket has remained the same, consider prepaying your state and local taxes. Prepaying these taxes before the end of the year will enable you to claim a credit on the amount when you file.

You have until December 31 to get a head start on year-end planning. If you plan to itemize your deductions, then fulfill your promise to yourself and take action. Following these year-end deduction tips may benefit a charity or your retirement savings, while making your taxes a little less taxing.

Roth IRAs:Answering Your Questions

These days, most people know that saving for retirement is a personal responsibility and a necessity. One versatile savings alternative that offers a variety of tax benefits is the Roth IRA. The Roth IRA differs from the traditional IRA in several important ways. Many individuals, however, are still a bit unsure as to how the Roth IRA might fit into their overall retirement strategy. With this in mind, here’s a quick review of this versatile retirement savings vehicle.

Who Is Eligible?

At first glance, the biggest advantage of a Roth IRA appears to be that contributions and earnings can be withdrawn free of income taxes. Unlike a traditional, deductible Individual Retirement Account (IRA), contributions to a Roth IRA are made on an after-tax basis. As a result, no income tax is due when distributions are taken from Roth IRAs.

You’re eligible to make a full contribution to a Roth IRA if your adjusted gross income (AGI) does not exceed $101,000 for single taxpayers or $159,000 for married taxpayers filing jointly (contributions to a Roth IRA are phased out for single filers with AGIs between $101,000 and $116,000 and for joint filers with AGIs between $159,000 and $169,000). You also can contribute to a Roth IRA even if you are a participant in a 401(k) or other employer-sponsored qualified retirement plan. However, please note that contributions to a Roth IRA may be limited if you are also contributing to a traditional IRA. Combined contributions for Roth IRAs and traditional IRAs may not exceed $5,000 in 2008 ($6,000 for those age 50 and older).

You can withdraw contributions and earnings from a Roth IRA free of income taxes after the account has existed for five years and you have reached age 591⁄2. If you take withdrawals prior to age 591⁄2, you may be subject to a 10% federal income tax penalty. However, certain situations qualify as exceptions, such as early withdrawals made to pay for first-time home purchases or qualified education expenses.

An Addition to Your Plan?

You’ll need to carefully analyze your unique situation to determine if there are any long-term benefits to using a Roth IRA as opposed to a traditional IRA. The Roth IRA appears to be of greatest benefit if you are a participant in a qualified plan (such as a 401(k)), you expect to be in a high income tax bracket in retirement, and your AGI exceeds the expanded deductible IRA income limits ($53,000 to $63,000 for single taxpayers and $85,000 to $105,000 for married taxpayers filing jointly for 2008); but, you cannot exceed the income limits for a Roth IRA.

Should You Convert to a Roth?

Traditional IRAs can be converted into Roth IRAs as long as your AGI does not exceed $100,000. Thanks to the Tax Increase Prevention and Reconciliation Act, which became law in 2006, the current $100,000 AGI ceiling on IRA conversions will be eliminated starting in 2010.

Rolling your traditional IRA into a Roth IRA does come with a price. Any deferred income taxes from your existing IRA (the one you will be converting) will be due in the tax year in which the conversion occurs. In addition, paying income taxes from the existing IRA proceeds at the time of the Roth conversion will be considered an early withdrawal if made prior to age 591⁄2 and may be subject to a 10% federal income tax penalty. Therefore, if you are younger than age 591⁄2, you will need to pay a potentially substantial income tax from out-of-pocket sources to avoid the 10% penalty tax. Taxes for a conversion must be paid from non-IRA funds for this strategy to work.

If you’re thinking about converting an existing IRA into a Roth, be sure you seriously consider the following:

  1. When you expect to need the IRA proceeds
  2. Your ability to pay the income tax due in the year of conversion from an alternative source
  3. Whether the additional income incurred at the time of conversion will place you in a higher tax bracket, which could result in a greater than expected income tax liability
  4. Whether or not converting will benefit your long-term bottom line

Other Positive Considerations

In addition to tax-free withdrawals, a Roth IRA has two more intriguing features: 1) there are no Internal Revenue Service (IRS) restrictions on when you must begin taking withdrawals (e.g., age 701⁄2 with traditional IRAs), and 2) you can continue to contribute to a Roth beyond age 701⁄2 if you have earned income. Over the long term, this can lead to the potential for significant additional savings, especially if you plan to work past age 701⁄2 or if you have other sources of retirement income and do not expect to rely heavily on your Roth IRA for income.

Roth IRA as an Estate Planning Tool

As an added benefit, your Roth IRA beneficiary may also continue to enjoy the benefits of tax-free withdrawals over his or her life expectancy, as long as withdrawals commence before December 31st of the year after your death. (Note: If your beneficiary does not begin taking withdrawals by December 31st of the year after your death, the entire Roth IRA proceeds must be withdrawn by December 31st of the fifth anniversary of your death.)

Making Good Choices

The Roth IRA provides you, the taxpayer, with yet another retirement savings mechanism. However, it is important to keep in mind that the Roth IRA may not be for everyone and does not serve as a replacement for a traditional IRA in many circumstances. On the flip side, it does offer savings and tax benefits for a number of individuals in the upper middle-income range. A thorough review of your overall retirement plan can help you determine how a Roth IRA might fit into your financial future.

Determine the Value of Your Estate

Although you may not own a castle, do you know which of your “treasures” will be included in your estate? Federal estate taxes can take a large chunk out of the assets you hope to leave your heirs—as much as 45% in some cases. Federal estate taxes will generally be due if the sum of your net taxable estate at your death exceeds your individual estate tax exemption ($2,000,000 in 2008).

Regulations regarding the taxation of property owned at death contain a catch-all definition stating that the “gross estate of a decedent who was a citizen or resident of the United States at the time of his death includes the value of all property—whether real or personal, tangible or intangible, and wherever situated—beneficially owned by the decedent at the time of his death.” What does this mean? The first step in understanding the potential implications of the federal estate tax is to understand some of the major items that may comprise your estate:

  • Personal assets. Most people who have looked into the matter are aware that their personal property, savings, real estate, and retirement plans, as well as the proceeds of any life insurance policies they own, are included in their estates.
  • Rights to future income. What may be less well known is that rights to future income, such as rights to payments under a deferred compensation agreement or partnership income continuation plan, may be includable in your estate. These rights are commonly referred to as “income in respect of a decedent (IRD)” and may be includable at their present commuted value.
  • Business interests. Likewise, interests in any business you own at death, whether as a proprietor, a partner, or a corporate shareholder, may be includable in your gross estate.
  • Social Security benefits. The value of Social Security survivor benefits received as either a lump sum or a monthly annuity is not includable in your gross estate.

Stay Current

Estate planning can help minimize estate taxes and maximize the amount you transfer to your heirs. It is important to accurately inventory your estate to project your potential liabilities and then to perform periodic reviews to ensure that your plan is up to date. By developing strategies early on, you can make the most of your tax-saving opportunities and help ensure that your beneficiaries receive your assets according to your wishes.

What Causes Inflation?

Inflation, defined as the increase in the average price level of all goods and services, is often caused by changes in supply and demand on a broad scale. For example, sup-pose business is booming, unemployment is low, and the average worker’s wages are increasing. As a result, consumers have more disposable income available and will, therefore, be able to purchase more goods and services. Average prices will tend to rise due to the increase in demand for all goods and services.

On the other hand, suppose the economy is suffering. As unemployment rises and wages remain stag-nan, consumers will be unable to purchase additional goods and services. In response, producers will slow down production and raise prices in order to cut losses. In this case, average prices will rise due to a decrease in the supply of all goods and services. This can be a vicious circle.

In addition to creating higher costs for goods and services, inflation creates depreciation in currency values. As prices increase, the purchasing power of your income—dollar for dollar—decreases; in other words, more dollars are needed to purchase the same amount of goods and services. As time goes on, one of your greatest financial challenges will be that your personal savings and investments will have to work harder to exceed inflation. Therefore, it’s always important to take inflation into consideration as you save and make purchasing decisions.

The information contained in this newsletter is not written or intended as tax, legal, or financial advice and may not be relied on for purposes of avoiding any Federal tax penalties. Entities or per-sons distributing this information are not authorized to give tax or legal advice. Individuals are encouraged to seek advice from their own tax or legal counsel.

The information contained in this newsletter is for general use and it is not intended to cover all aspects of a particular matter. While we believe all information to be reliable and accurate, it is important to remember individual situations may be entirely different. Therefore, information should be relied upon only when coordinated with professional tax and financial advice. The publisher is not engaged in rendering legal, accounting, or financial advice. Neither the information presented nor any opinion expressed constitutes a representation by us or a solicitation of the purchase or sale of any securities. This newsletter is written and published by Liberty Publishing, Inc., Beverly, MA, COPYRIGHT 2008.



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