The Tax Attic with Jerry Coon — December 30, 2010

Consider 10 items before 2011

Leave it to the Internal Revenue Service to assume the role of the “Grinch who stole Christmas” one more time. They announced last Thursday that due to late changes made by Congress, the IRS will require some extra time to revise their processing software. The extra time means that approximately 16 million taxpayers will see their refunds delayed by up to one full month.

Jerry Coon

Said IRS Commissioner Douglas Shulman, “The majority of taxpayers will be able to fill out their tax returns and file them as they normally do.”

However, the 16 million taxpayers who want to claim one of the deductions that Congress added with the passing of the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 are not included in this “majority.” For those taxpayers, it may mean they will have to wait until mid- to late-February to have their return processed. If the taxpayer has a balance due, this is no big thing. It is only those taxpayers expecting a refund in late-January that the one-month wait will seem to be interminable.

The taxpayers affected include those who claim the $250 teacher’s classroom supplies deduction, the $4,000 tuition deduction, the mortgage insurance premium deduction, and those claiming state sales tax and certain charitable deductions. I’m surprised there are only 16 million affected taxpayers.

Spending a refund before it actually is in the bank this year is not a good idea. There are many good ideas available, however. Some will make a refund larger or a balance due smaller, and some will take advantage of an expiring tax provision.

The most common strategy available is to accelerate deductions into the current year. By accelerating deductions into December 2010 and then filing the tax return in 2011, the tax benefit is realized quickly. By waiting to make the deduction in 2011 and filing the return in 2012, a whole year elapses before the tax benefit is realized. If you believe in the time value of money, making the deduction in December makes perfect sense. Here are 10 items to consider before the stroke of midnight on December 31:

1. Make a charitable contribution in December that you were going to make in January. Remember that Michigan also gives special credit for contributions to three classes of qualifying organizations: homeless shelters/food banks such as North Kent Community Services, qualifying community foundations, and public tv/colleges/libraries. Michigan gives a credit of up to $100 on a single return and $200 for joint filers for each of the three categories. In addition, 100% can still be deducted on the federal return. As a payback of money spent, this may be the best deal going.

2. If you own property, consider paying the real estate property tax bill by December 31. Remember that each city or township treasurer may have different rules for crediting the tax paid. Don’t mail the check on December 31 and expect it to be automatically credited to 2010.

3. Sell stocks or mutual funds to offset potential profits or losses. The capital gains and losses rules are very complicated today, so check with your broker and tax professional before acting.

4. For taxpayers who are attending college or with dependent students in college, consider purchasing technical equipment that may help the student or taxpayer. The American Opportunity Tax Credit allows required course materials and supplies to be included in the calculation when determining the allowable credit.

5. Make a contribution to a traditional IRA. Even though the deadline for contributions is not until April 15, the sooner the contribution is made, the sooner it starts to grow. There are options available, such as making a contribution to a Roth IRA, so discuss this one with your financial advisor and tax professional before making that contribution. The traditional IRA contribution may reduce a taxpayer’s AGI and that may lower a tax bill.

6. Convert a traditional IRA to a Roth IRA. Volumes have been written about whether this is a good or bad idea. Depending upon many factors, such as the eventual use of the money, current tax situation, and retirement tax situation, it might pay to convert. Each situation is different, so consult the professionals before converting. For the 2010 tax year only, taxpayers will have the choice of paying tax on the conversion this year or spreading the tax over the next two years. Now that we know what the tax rates will be for the next two years, this decision will be easier to analyze.

7. For those in business, buying equipment is particularly helpful. One hundred percent of the cost for select purchases can be immediately written off.

8. For elementary and secondary schoolteachers, review classroom supplies purchased out-of-pocket. This deduction was not going to be available for 2010 until Congress added it just last week. Perhaps teachers were not keeping track of these expenses since it wasn’t deducible. Now the expenses are deductible.

9. Spend money that is still in Flexible Spending Accounts (FSA). As of January 1, 2011, FSA monies cannot be used to buy over-the-counter medication except for insulin. Buying those drugs in 2010 is still within the rules.

10. Consider making a charitable contribution by transferring

the money directly from an IRA to the charity. Originally

this provision expired on December 31, 2009, but the new

law brought it back. Transfers made in January 2011 can

even be designated to apply to the 2010 tax year. This strat

egy, in effect, makes the charitable contribution pre-tax.

Each of these 10 items has consequences. In the complicated tax system that we have, the consequences could be minimal or could be maximal. If there are questions, consult with a financial planner and a tax professional before making that final decision. This is Jerry Coon signing off for the 2010 year. Happy New Year and my best wish is that 2011 be a great year for each of you. 

Jerry Coon is an Enrolled Agent.
He owns Action Tax Service in Rockford.
Contact Jerry at www.actiontaxservice.com.

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