Tax-Saving Strategies
Are you ready to ring in the new tax year?
By former Army Capt. Phil Dyer, CFP, Deputy Director, Benefits Information

As 2004 comes to an end, you should review your tax situation for last-minute changes and prepare for tax year 2005.

Donate appreciated stock or mutual funds instead of cash. Let’s say you are interested in making a $10,000 charitable donation to a public charity. Assume you purchased 100 shares of xyz Co. in 1985 for $1,000. They now are worth $20,000.

Instead of writing a check or selling stock, you could donate 50 shares of xyz stock. If you liquidated 50 shares to make the donation, you would owe long-term capital gains taxes on $9,500 of proceeds. Assuming a 15-percent capital gains tax rate, you would owe $1,425 in taxes. But if you donate the shares, you receive an income tax deduction for the full fair market value of the xyz stock — $10,000 — and you avoid paying any capital gains tax.

Stock contribution deductions are limited to 30 percent of your adjusted gross income for public charities and 20 percent for other charities, but any excess can be carried to future tax years. And get a qualified appraisal and receipt for any non-cash charitable contribution of more than $5,000.

Beware of the alternative minimum tax (AMT). Instituted in the 1960s to make sure wealthy taxpayers with lots of tax shelters paid an equitable share of taxes, the amt is increasingly affecting the middle-class. Essentially, it’s a 26-percent flat tax imposed on alternative minimum taxable income (AMTI) up to $175,000 — $87,500 if married, filing separately — and a 28-percent tax rate on AMTI more than $175,000. Unfortunately, the amt system adds many common deductions available under the regular tax system to calculate AMTI. These include:

• personal exemption for you, your spouse, and dependents;
• state, local, and property taxes;
• certain medical and miscellaneous itemized deductions;
• home equity loan interest deduction; and
• income from the exercise of incentive stock options.

This means taxpayers with lots of exemptions, high state or property taxes, extensive medical deductions, or significant incentive stock option income are increasingly likely to get ambushed by the amt. Although it provides a flat exemption of $40,250 for single filers or $58,000 for married filers in tax year 2004, this exemption is scheduled to drop to $33,750 and $45,000, respectively, in 2005. As a result, the number of taxpayers affected by the amt is expected to balloon from 3 million to a staggering 11.6 million in 2005, according to the Urban-Brookings Tax Policy Center. If you think you could be an amt casualty, be sure to consult your tax advisor.

Bunching deductions. Many military retirees have paid off their mortgages and live in states that exempt some or all of their military retired pay from state income taxes. As a result, they don’t have enough deductions to itemize and instead take the standard deduction of $9,700. One way to qualify for itemization is to “bunch” deductions in alternating years, itemizing one year and taking the standard deduction the next year. For example, if your property tax bill is due in February of each year, consider paying it by Dec. 31 to increase your 2004 deduction. If you pay estimated taxes to the state, make your fourth quarterly payment in December instead of January. If you contribute $3,000 annually to charity, consider donating twice that amount every other year. Coordinating your deductions this way can offer significant tax savings biannually.