As calendar year 2015 winds down, it is a good time for individuals and businesses to consider what steps they can take to reduce their tax bills for 2015. Tax law developments in 2015 can affect, for example, the deduction of costs and expenses, the treatment of contributions to tax-favored accounts, and the inclusion of certain benefits in income. Traditional year-end planning techniques for investments are also important. This article reviews some of the 2015 developments in Congress and the IRS for taxpayers to consider.
While many taxpayers wait for Congress to act on the now-expired tax extenders, legislation already passed or likely to be approved before year-end opens some additional year-end tax planning opportunities. The extenders are among the most widely used incentives, but taxpayers should not ignore possible tax planning strategies in other bills and new laws. As January 1, 2016 draws closer, taxpayers will have a better indication which pending tax bills will be enacted into law. In the meantime, taxpayers should consider how new tax laws and pending proposals may affect their year-end tax planning.
Tax extenders. While lawmakers debate comprehensive tax reform, the clock is ticking on the fate of the tax extenders. The Tax Increase Prevention Act of 2014 (TIPA) only extended the popular tax breaks for 2014. The expired extenders include the state and local sales tax deduction, higher education tuition deduction, transit benefits parity, research tax credit, the work opportunity tax credit, and many others.
The extenders are likely to be renewed for 2015 if not longer. They may be renewed in a package, as in past years, but some, such as the research credit, could be renewed as stand-alone legislation, in an effort to make them permanent.
Stand-alone bills. The American Research and Competitiveness Bill of 2015 (HR 880), which passed the House earlier this year, would simplify and make permanent the research tax credit. The House bill provides no revenue offsets, however, and President Obama has promised to veto the measure. In April, the House passed the State and Local Sales Tax Deduction Fairness Bill (HR 622), which would permanently extend the deduction for state and local sales taxes. The White House also said it would veto HR 622, stating that the cost of the measure is not offset and would add to long-term deficits. The lack of support from the President and the cost of these stand-alone bills make a short-term renewal of the extenders in a package much more attractive.
Education. Early in 2015, momentum was building to make Code Sec. 529 college saving plans more taxpayer-friendly, and the House approved HR 529. The bill would allow the purchase of a computer to be considered a qualified expense. Another provision provides tax and penalty relief where a student may have to withdraw from school for illness or other reasons. Under current law, any refunds from the college are subject to immediate taxation and a 10 percent tax penalty. The bill eliminates this tax and penalty if the refund is redeposited in a Sec. 529 account. The Senate has yet to take up the House bill, but reforming 529 plans has enjoyed bipartisan support in the past.
Public safety officers. Two new laws impact tax planning for public safety officers. The Don’t Tax Our Fallen Public Safety Heroes Act clarifies that both federal and state benefits for public safety officers fallen or injured in the line of duty are treated the same in the tax code and are not taxable. The Defending Public Safety Employees’ Retirement Act affects retirement planning. Generally, taxpayers who receive an early distribution from a qualified retirement plan are subject to a 10 percent penalty, unless an exemption exists. The Defending Public Safety Employees’ Retirement Act expands the exemption to include certain federal law enforcement officers, federal firefighters, customs and border protection officers, and air traffic controllers.
Comprehensive tax reform. In January 2015, the Senate Finance Committee (chaired by Sen. Orrin Hatch, R-Utah, with Sen. Ron Wyden, D-Oregon, as ranking member) took the lead on federal tax reform with the formation of working groups to study comprehensive tax reform. The SFC created five working groups: (1) Individual income tax; (2) Business income tax; (3) Savings and investment; (4) International tax; and (5) Community Development and Infrastructure. Six months later, the working groups released their reports. The working groups did not, however, make any proposals for tax reform. Instead, the working groups described various approaches to tax reform, many which had been put forward in past years.
Strategy. After release of the SFC report, enthusiasm for tax reform appeared to wane. Comprehensive tax reform before year-end 2015 is a non-starter and the outlook in 2016, a presidential election year, is murky at best. As a result, traditional year-end planning that balances income, deductions and credits between this year and next is relatively straightforward. However, taxpayers should be alert to several possible wild cards. Although an extenders package is expected to be passed eventually by Congress, it may only cover 2015, with 2016 relief delayed for possible consideration with tax reform.
The wild swings in the stock markets lately have added not only a degree of volatility to investments but also to related tax strategies. Taking inventory of gains and losses at this time to map out a year-end buy, sell or hold strategy later makes particular sense. Investors should note that immediate losses in the stock markets do not necessarily translate into tax losses. The fact that assets purchased several years ago may still yield taxable gains because of low basis, and the existence of the wash-sale rule if a stock is purchased within 30 days before or after a sale, should be considered in assessing current tax positions.
Taxpayers overall should also remember the new, higher tax rate environment that is now in its third year. Not only is the top rate now 39.6 percent for ordinary income (and short-term capital gains) but the rate for long-term capital gains and qualified dividends increased from 15 to 20 percent. Furthermore, a 3.8 percent net investment tax applies to taxpayers with income above a non-inflation-adjusted threshold ($250,000 for married taxpayers filing jointly; $125,000 for married taxpayers filing separately; and $200,000 for all other taxpayers).
Retirement planning should be a year-round concern, but focus is usually intensified at year end. Although most IRA contributions for a particular year may be made until the filing date for that year, other deadlines are at year end, such as contributions to 401(k) plans and Roth conversions and re-conversions. Required minimum distributions for retirees and those over age 70 1/2 also generally carry a year-end distribution date beyond which a penalty applies. One exception allows an individual turning age 70 1/2 to delay starting distributions until April 1 of the year following the year in which the individual turns 70 1/2.
One strategy for consolidating IRAs ended this year. Following Bobrow, TC Memo. 2014-21, the IRS ended a 2014 grace period and announced in Announcement 2014-32, that, effective for rollover distributions received on or after January 1, 2015, a taxpayer is now limited to one 60-day rollover per year for all IRA accounts under the tax code rather than one 60-day rollover per year for each IRA account. Unlimited trustee-to-trustee transfers, however, are still allowed.
Small business in particular has relied on the generous Section 179 deductions—now up for renewal within extenders legislation—to gain an immediate write-off for equipment, rather than follow depreciation schedules. The extenders package application for 2014 set the Code Sec. 179 dollar limit at $500,000 for 2014 with a $2 million overall investment limit. Absent Congressional action, however, the dollar limit reverts to a lower $25,000/$200,000 level in 2015.
One alternative now available to many businesses is the de minimis safe harbor threshold amount under the final “repair regs” for taxpayers. Currently, a de minimis safe harbor under the repair regs allows taxpayers to deduct certain items cost $5,000 or less (per item or invoice) and that are deductible in accordance with the company’s accounting policy reflected on their applicable financial statement (AFS). IRS regulations also provide a $500 de minimis safe harbor threshold for taxpayers without an applicable financial statement. The American Institute of Certified Public Accountants (AICPA) asked the IRS in early 2015 to raise the threshold amount from $500 to as much as $2,500, but the IRS has not yet acted on that request.
Routine service contracts
Accrual basis taxpayers also have a new tool to use in year-end planning. Rev. Proc. 2015-39 provides a safe harbor under which accrual-basis taxpayers may treat economic performance as occurring on a ratable basis for ratable service contracts. The IRS also indicated that additional safe harbors may be developed. This new safe harbor may be particularly useful in connection with regular services that extend into 2016. Taxpayers meeting the safe harbor for ratable service contracts may take a full deduction in the current 2015 tax year for certain 2015 payments, even though services may not be performed until 2016.
Families of individuals facing significant disabilities should consider contributions before year-end to A Better Life Experience (ABLE) account. States are now enacting enabling legislations, which along with federal law, will allow ABLE accounts to be set up for qualified individuals with disabilities (who became disabled before age 26) for tax years beginning after December 31, 2014. Contributions in a total amount up to the annual gift tax exclusion amount, currently $14,000, can be made to an ABLE account on an annual basis, and distributions are tax-free if used to pay qualified disability expenses.
Year-end tax planning is important for taxpayers to consider and act on. Changes in the tax law can provide opportunities for both individuals and businesses to reduce their potential tax bill for 2015, by taking appropriate actions by the end of the calendar year. This Practitioners’ Corner has pointed out some of the developments that taxpayers should keep in mind as the end of 2015 approaches.
If you would like to schedule a year end tax planning meeting that is individually customized to your specific situation, please do not hesitate to contact us.