What is accelerating income/postponing deductions?
One goal of year-end tax planning is to use IRS allowances, such as deductions and exemptions, to minimize your overall tax liability. Another is to recognize income when it hurts you least. Generally, this means that you should postpone your income and accelerate your deductions. However, there are occasions when it is advisable to accelerate income and postpone deductions. When you accelerate income, you take steps to receive it during the current tax year. When you postpone deductions, you claim them in a later tax year.
When should you accelerate income and postpone deductions?
In several instances, it may be wise for you to accelerate your income and postpone your deductions. For example, you might wish to accelerate your income into this year and postpone your deductions until next year if you expect to be in a higher marginal tax bracket next tax year.
You also might wish to accelerate income and postpone deductions if you’re subject to the alternative minimum tax (AMT) this year (but potentially not subject to AMT next year). Itemized deductions that are disallowed in AMT years, such as state and local taxes, might be postponed until next year, when you may be able to take advantage of them.
In addition, you may wish to accelerate income and postpone deductions if you know you’ll be using a less favorable filing status next year. For example, you may be forced to file as an unmarried taxpayer next year, owing to a divorce. Or, perhaps you currently file as head of household, but will need to file as an unmarried taxpayer next year.
It may also be advisable to accelerate income and postpone deductions if any new tax legislation is enacted that increases future tax rates.
How do you accelerate income?
There are several ways to accelerate income. These include the following strategies.
If you’re self-employed, bear in mind that your income isn’t taxable until you receive it if you’re using the cash method of accounting. Therefore, you should collect accounts receivable in the current year.
If you’re employed and are eligible for a year-end bonus, make sure you receive it before the new year arrives.
If your employer compensates you with restricted stock, it usually isn’t taxable until there is no possibility that you’ll have to forfeit the stock. However, you may file a statement with the IRS within 30 days of receiving the stock, allowing you to treat the stock as vested so that you can include the value of the stock in your income now.
IRA or retirement plan distributions
You may be able to increase your income in the current year by taking any planned distributions from your traditional IRA or retirement plan this year instead of next year. (If you aren’t yet 59½, however, you may be assessed a 10 percent premature distribution tax unless you meet an exception.)
If you sold property and are receiving installment payments for it, you may cause the remaining installment payments to be included in income during the current year in one of three ways: (1) have the debtor pay off the note this year, (2) use the installment note as collateral for a loan, or (3) sell the note to a third party.
If possible, arrange to receive dividends before the year’s end.
Lawsuits, insurance claims, etc.
If you’re embroiled in a dispute that could result in the receipt of taxable income, you can accelerate the income by settling the dispute before next year.
If you have assets that would result in a capital gain if sold, consider selling them this year in order to accelerate income.
If you have U.S. government Series EE savings bonds (may also be called Patriot bonds) and you’ve elected to defer taxes until the bonds are redeemed, cash them in this year.
How do you postpone deductions?
There are several ways to postpone deductions. These strategies include the following.
Bunching deductions in the following year
Try to time your expenses to create deductions in the following year. For instance:
- Schedule nonemergency visits to your dentist and doctor for the following year
- Avoid prepaying property taxes and interest that is due the following year
- Postpone charitable gifts until next year
- Hold off on paying miscellaneous expenses (e.g., professional dues) until next year
Minimizing depreciation deductions
Minimize your depreciation deductions by electing a straight-line depreciation method and forgoing the Section 179 expense election.
Delaying deductions for bad debts
Delay deductions for partially worthless business debts until the year in which the debt is completely worthless. Call us to talk about a specific accelerate/postpone strategy and other tax planning options that may be suitable for you.