Year-End Tax Tips for 2017: Part II
The following information contains general 2017 year-end tax considerations, of which some or all may not apply to your specific personal or business tax situation. Due to pending tax reform legislation, some of the opportunities listed may not be available while others could arise. Therefore, the information provided here should in no way be considered legal or tax advice for any specific situation. Consult with your tax advisor to determine what is beneficial for you or your business.
Tax Savings Considerations for 2017:
1) Evaluating Health Flexible Spending Accounts
Evaluate the amount you set aside in your employer’s health flexible spending account (FSA) during 2017.
- What were your 2017 allowable medical expenses?
- Did you set aside too little in 2017, resulting in payment out of pocket for FSA eligible items or services?
- Do you anticipate added health spending for planned procedures or purchases (ie. Prescription glasses) in 2018?
2) Using Suspended Losses in 2017 by Disposing of Passive Activity
Passive income results from any business that a taxpayer does not materially participate in. It generally applies to all rental activities even when the taxpayer was a material participant.
Generally, losses or credits from passive activities may only be used to offset passive activity income or credits. These losses cannot be used to offset actively-earned income. Examples of actively earned income include:
- Ordinary income
- Professional fees or portfolio income (dividends or interest)
One way to use passive activity losses may be to sell the activity generating them. When a taxpayer disposes of the entire interest in a passive activity by selling it, that activity is no longer subject to the passive activity rules.
A qualifying disposition must be:
- if your entire interest (or substantially all);
- a fully taxable event (no tax-deferral such as an installment sale) where gain or loss is realized and recognized; and
- made to an unrelated party
3) Putting Equipment in Service for Depreciation Deduction
When a taxpayer places qualified property in service, that taxpayer may be eligible to take advantage of a bonus depreciation allowance. The bonus depreciation allowance permits the taxpayer to claim an increased first-year depreciation deduction for those qualifying assets.
Generally, to qualify for increased depreciation expense, the property must be:
- tangible depreciable property with a recovery period of 20 years or less;
- water utility property;
- computer software; or
- qualified improvement property
The depreciation allowance is equal to the following percentage of the unadjusted depreciable basis (cost generally):
- 50% if placed in service after Dec. 31, 2007, and before Jan. 1, 2018;
- 40%, if placed in service during 2018; and;
- 30%, if placed in service during 2019
4) Eliminating or Reducing Tax By Increasing Withholdings
Some individuals with income (in addition to salaries), may find that the amount of tax withheld from their salaries isn't enough to cover their required estimated tax payments (tax owed as a result of the additional income).
An individual subject to the estimated tax must pay 25% of the “required annual payment” for the current year on each of four installment dates which typically are April 15, June 15, and September 15 of the current year, and January 15 of the following year (for a calendar-year taxpayer). The required annual payment generally is the lesser of 100% of the tax shown on the taxpayer's return for the prior year or 90% of his tax for the current year.
An individual who has underpaid an estimated tax obligation can't avoid the penalty by increasing their estimated tax payment for a later period. However, payment in a later period will reduce the period for which the penalty applies.
A more effective technique is increasing withholding before the end of the year. Therefore, if an employee asks his employer to withhold additional amounts for the rest of the year, the penalty can be retroactively eliminated. This is because the heavy year-end withholding will be treated as paid equally over the four installment due dates.
5) Considering a “Debt Cancellation Event”
When money is borrowed and there is a legal obligation to pay the debt at a certain time, this is a debt. A debt can be a personal obligation of an individual or attached to property that is owned. If the debt is forgiven or discharged for less than the full amount owed, the debt is considered canceled in the amount that no longer must be paid. The cancellation or reduction of debt generally results in taxable income. An “identifiable event” determines when a debt has been reduced or cancelled.
Examples of identifiable debt cancellation events include:
- A creditor agrees to accept less than the full amount due on an obligation. The amount the creditor no longer requires the debtor to pay results in taxable income to the debtor.
- The owner of real estate subject to debt abandons the property or surrenders it to the lender.
- A shareholder forgives a debt owed to him by his own closely-held corporation, electing to treat it as a capital contribution. The closely-held corporation has taxable income to the extent the debt that the amount forgiven by the shareholder exceeds that shareholder’s basis for the debt.
In general, the canceled debt must be reported as taxable income. However, bankruptcy and gifts are examples of exceptions to canceled debt resulting in taxable income.
Evaluate your taxable income for 2017 with your tax advisor to determine if deferring a debt cancellation event to 2018 may provide a more favorable result.
6) Assessing Year-End Deadlines for Self-Employment Retirement Plan Creation (Full or Partial Self-Employed)
You do not need to work for yourself on a full-time basis to benefit from creating a self-employment retirement plan. There are important deadlines to understand.
- Keogh Plans. You must establish a Keogh plan before the end of 2017. As long as the plan is created before the end of 2017, if you extended your filing date for your 2017 tax return then you can make deductible contributions up until the extended filing date of your return. This means deductible contributions can be made in 2018 and be includible on your 2017 tax filing.
- Simplified Employee Pension (SEP) Plans. SEP plan rules differ from Keogh plans. The time limits to create a SEP and the time limit for contributions to the SEP differ from the Keogh time limits. If you extend your 2017 return filing due date, then you have until that extended filing date to both establish and make deductible contributions to the SEP.
- Self-Employed 401(k). This type of retirement plan must be created by December 31, 2017, for the taxpayer to realize tax benefits related to the 2017 tax year. This type of plan is only permitted for those without employees, although your spouse may contribute to it. The tax benefits can be substantial because you make pre-tax contributions as the “employee,” and as the “employer” you can make contributions based upon your compensation. This results in a maximization of the available tax saving contributions.
There may be additional tax benefits depending upon how you have set up your business. If your business is not incorporated, you may be able to deduct contribution from your personal income. If your business is incorporated in an entity, you may have the ability to treat the contributions as a business expense.
7) Increasing Tax Basis of Partnership Share or S Corporation Share for Loss Deduction in 2017
In Partnerships, a partner's share of partnership losses is deductible. It is deductible for the partner only to the extent of that partner’s partnership basis at the end of the partnership year when the loss occurs. If a partner anticipates a loss this year in excess of his partnership basis, he can choose to take the loss this year by increasing his basis by the end of the partnership tax year. If the partnership uses a calendar year then this must be completed by December 31, 2017.
The partner can increase the amount of this basis by:
- making a capital contribution;
- the partnership borrowing money, or;
- the partner taking on a larger share of the partnership's liabilities before the end of the partnership's tax year
Part of the determination regarding whether or not this will benefit the partner is if the partner has sufficient other income to make use of the partnership loss. If not, the partner can carry the loss forward.
In S Corporations, a shareholder can deduct his share of S corporation losses only to the extent of the total of his basis in (a) the S corporation stock, and (b) debt owed him by the S corporation. This determination is made as of the end of the S corporation tax year in which the loss occurs.
Any loss or deduction that can't be used as a result of this limitation can be carried forward indefinitely. If a shareholder wants to claim a 2017 S corporation loss on his own 2017 return, but the loss exceeds the basis for his S corporation stock and debt, the shareholder can still claim the loss in full by lending the S corporation more money or by making a capital contribution by the end of the S corporation's tax year (in the case of a calendar year corporation, by Dec. 31, 2017).
Efforts to reduce taxes are complicated and tax laws may change, so it is recommended that you consult your tax lawyer or tax advisor to decide the best options for you. While some options may help reduce your taxes, you will need to consider if the extra time it takes or the increasingly complex accounting is worth the tax savings.
If you have questions about any of these tax-saving measures, contact the tax attorneys at Murphy Desmond or your tax preparer.