Masonry Magazine December 1992 Page. 20
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Of course, as with most tax reduction techniques, there is a potential cost of doing this. Any profits left in the corporation in one year and paid out to owners in later years may be treated as a dividend rather than salary. Although there had been talk about changing the treatment of dividend payments, current tax law does not allow a corporate deduction for dividend distributions. Therefore, the taxable income of the corporation is not reduced by the distribution. Unfortunately, the individual stock holder will still be subject to personal income taxes on the dividend income. However, if this distribution is made during a down year, or maybe in the year you retire, you may be in a low personal tax bracket and still end up ahead of the game. The bottom line is if the company will eventually have a need for the money, keep it there and accept corporate taxes as a cost of doing business. In the long run, this will reduce your overall tax expenditures, and therefore increase your personal wealth.
A game of percentages
While the remainder of this article will focus on individual tax reduction techniques, many of the same concepts can be applied to your business as well. For businesses as well as individuals, year-end tax planning is a game of percentages that has three basic rules: (1) realize income when your tax rate is low; (2) pay deductible expenses when your tax rate is high; and (3) try to delay paying your taxes, because taxes paid today cost you more than taxes paid next year.
In order to realize the benefits of these tax reduction techniques, proper timing and care to qualify for deductions and other tax benefits is all that is required. Look into your financial crystal ball to see whether shifting income or expenses between this year and next might give you a lower combined tax, a postponement of tax, or both. Save a few percents here, a few percents there and before long it adds up to real money. A lot can be done if you start early.
The basic rules assume that your tax bracket remains the same, and there is not a lot that can be done directly to lower your bracket. However, by being aware of factors that can change your bracket, all sorts of planning opportunities may surface when it does change. The most common of these factors include a change in marital status or income level, "preference" deductions relating to the alternative minimum tax and finally, the seemingly inevitable law changes.
Shifting income from one year to the next is one of the most effective techniques you can use to reduce your tax bill. If you are like most people, you figure your taxes using the cash method of accounting. Under this method, income is taken into account when received, not earned.
If your financial plan shows that you will be in the same or lower tax bracket next year, you will probably want to delay the receipt of year-end income until the first of next year. To achieve this goal, you can: (1) delay collections and/or year-end bonuses (which don't have to be paid before the end of the year); (2) invest in Treasury Bills and short term CDs to defer interest income to next year; and and (3) transfer funds from currently taxable investments to annuities. A portion of the payments you receive over the life of the annuity is nontaxable.
Making sure you qualify for your deductions is a critical phase of your year-end work. When you sit down next year to do your taxes, don't let yourself be surprised to find that you didn't quite qualify for the deductions you thought you had. Avoid that problem by reviewing your situation now, before it's too late. The important points to remember as a cash-method taxpayer are: (1) deduct in the year you pay: (2) date and mail your check prior to January 1; (3) use a credit card for year-end deductible items; and (4) if necessary, obtain a bank loan to pay your short-term deductible expenses.
Special rules apply to charitable contributions, rental and vacation properties, part-time businesses and employee expenses. If you are involved in or are considering any of these activities, additional strategies may be appropriate, but are beyond the scope of this article.
You can still lose out
Did you know that you may meet the technical requirements for a deduction and still lose out? Every year you are forced either to pass up legitimate itemized deductions or to lose the standard deduction. It's built into the system: you get one or the other, but not both, and the loss can be considerable. For example, in 1991, the standard deduction for those filing a married, joint return was $5,700, and an individual who is blind or age 65 or over was entitled to an additional $650.
20 MASONRY-NOVEMBER/DECEMBER, 1992