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MONTHLY TAX NEWSLETTER

December 2007

TAX SAVING OPPORTUNITIES FOR SELF-EMPLOYED INDIVIDUALS

by Andrew D. Schwartz, CPA

Are you self-employed or a partner in a small professional practice?  If so, you're probably very familiar with all the different challenges of running a business.  Ultimately, you're responsible for attracting and retaining patients, clients, or customers, providing them with quality services or products, getting paid for your work, and then paying your employees and vendors - all before ever drawing a dime for yourself. 

Then, from the remaining profits, the government wants their "fair share" of your success.  Fortunately, with some planning, you can take steps to minimize the taxes you end up paying.   Here are five ways that self-employed individuals and owners of professional practices can cut their tax bill.

1.  Employ your child

While you get to deduct the wages you pay to your son or daughter as a business expense, your child doesn't pay any federal income taxes on the first $5,350 of wages earned (in 2007).  Plus, if your practice is a sole proprietor or a two-person partnership consisting of the child's parents, wages paid to your child under the age of 18 are exempt from social security and Medicare taxes as well.

Using the wages paid to your child to fund a Roth IRA is another perk of employing your child .  The maximum IRA contribution is $4,000 in 2007, increasing to $5,000 in 2008.  Imagine 60 years or more of tax-free growth within your child's Roth IRA.

We addressed the topic of employing a child in our May 2007 Newsletter in an article called, "Arbitrage In The Tax Code Equates To Free Money For Your Family" .

For example:

Let's say you're in the top tax bracket, and you pay your child who is under the age of 18 wages of $5,000 in 2007. 

Cost No cost if you're a sole proprietor.  Otherwise, the cost is $765 for social security and Medicare taxes
Benefit A tax savings of $1,895, plus the opportunity to contribute to your child's Roth IRA

2. Employ Your Spouse of Other Family Member

If your practice has a 401(k) plan or SIMPLE IRA in place, consider paying your spouse or other family member over the age of 21 enough in wages to max out their allowable salary deferrals, provided he or she isn't already doing so through another employer.  For 2007 and 2008, a person can contribute up to $15,500 ($20,500 if 50 or older) into a 401(k) plan, and up to $10,500 ($13,000 if 50 or older) into a SIMPLE IRA.  Remember, money contributed into these plans grows tax deferred and is usually protected from your creditors too.

Please be aware that there are some costs to you.  Expect to pay social security and Medicare taxes at a rate of 15.3 cents for every $1.00 of wages paid to your spouse or family member.  You'll generally owe unemployment taxes and workers' compensation insurance on their wages as well.

For example: 

Let's say you're in the top tax bracket, pay your spouse $17,000 in wages, from which your spouse contributes $15,500 into a 401(k) plan through salary deferrals.

Cost $2,601 in social security and Medicare taxes
Benefit A tax savings of $5,918, plus $15,500 growing in a tax-advantage, creditor-protector 401(k) account

3.  Take A Look At HSA's

With the rising cost of health insurance, high-deductible plans are becoming more attractive to healthy professionals.  The rules now allow you to combine a high-deductible plan with a tax-advantaged Health Savings Account (HSA).

Here are the basics about HSA's:

  • Your practice can make pre-tax contributions into an HSA on behalf of you and your family members.
  • Money can be withdrawn tax-free from your HSA at any time to pay qualifying medical expenses.
  • Any money remaining in your HSA upon your reaching the age of 65 can be withdrawn penalty-free to help fund your retirement.

For 2008, people with family coverage can contribute up to $5,800 into their HSA, while people with individual coverage are capped at $2,900.  The government really wants HSAs to succeed, so you should be able to find an adequate high-deductible health insurance option within your state.

For example: 

Let's say you switch to a high-deductible health insurance plan and contribute $5,800 into a Health Savings Account.

Cost Higher out of pocket costs associated with the high deductible health insurance plan
Benefit Tax savings of $2,030, plus $5,800 growing tax-deferred within your HSA to fund your family's medical expenses now and/or your retirement later

4.  Incorporate Your Practice

Once the profits in your practice exceed $230,000 (in 2008) per owner, you could save some taxes by incorporating. That's because you avoid paying the 2.9% Medicare tax on money withdrawn from your practice as S-Corp dividends instead of as salary.

Why is $230,000 the magic number?  That's the maximum amount of salary that you can use to calculate your retirement plan contributions in 2008.

Beware of the costs of incorporating, however, including having an accountant prepare your corporate tax return, additional payroll taxes and worker's compensation insurance now that you'll be on the company's payroll, and a variety of minimum taxes and filing fees assessed by many states.

For example: 

Let's say you change your business structure from a sole-proprietor to an S-Corporation, earn $330,000 in profit, from which you take a salary of $230,000 and S-Corp distributions of $100,000.

Cost $1,000 or more in additional fees and taxes
Benefit Save $2,900 in Medicare taxes on your S-Corp distributions

5. Set Up A More Sophisticated Retirement Plan

From what I've seen, most practices have relatively basic retirement plans in place, such as a SIMPLE IRA or a Safe-harbor 401(k) plan.  While these plans are generally more than adequate, you should be aware that there are more sophisticated plans that you can establish that allow for increased annual contributions for you and your partners, without requiring you to contribute more money into the plan on behalf of your staff.  You'll want to find a retirement plan specialist to help you design the best type of plan to fit the specific needs of you and your practice.

Cost Potentially higher retirement plan contributions on behalf of your staff
Benefit The ability to contribute more money into your retirement account each year.

Five Ways To Save

As the year winds down, see if it makes sense to institute any of these five tax-saving strategies prior to December 31st, or early in 2008.  By investing some time now, you could earn substantial dividends in the form of reduced taxes down the road.


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"TAX BREAK" WEEKLY RADIO SHOW DECEMBER SCHEDULE

Andrew D Schwartz CPA has agreed to host a weekly, one-hour radio show on taxes through WorldTalkRadio.com. The show can be heard live each Wednesday at 7 pm ET (4 pm PT) at www.worldtalkradio.com starting on December 5th. Each week, Andrew will interview various guests who can add information and insight to that week's topics, as well as take questions directly from the listeners.

Please join Andrew and his guests to discuss the following topics during December:

  • December 5th - Benefits of Being Your Own Boss
  • December 12th - Year end Tax Savings Ideas
  • December 19th - Save Taxes By Being Green
  • December 26th -  Last Minute Tax Planning & Saving For Retirement

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CHECKLIST TO CUT YOUR 2007 TAXES

by Andrew D. Schwartz, CPA

It's not too late to cut your 2007 tax bill. Prior to December 31st:

  • Finalize the purchase of energy efficient improvements on your principal residence, since the $500 tax credit expires at the end of 2007.  The credit is equal to 10% of the money spent on the installation of certain energy efficient improvements to your home, including insulation and exterior windows, doors, and skylights.  You can also take a tax credit for "qualified energy property" including up to $50 spent per circulating fan, $150 on furnaces or hot water boilers, and $300 on heat pumps, water heaters, and central air conditioning.

  • Avoid the new 2008 "Kiddie Tax" rules by reviewing your child's investment accounts and selling enough of your child's investments to take advantage of the reduced tax rates available this year only to children who are 18 or older by December 31st.  For 2007, the tax rate on the first $31,850 of long-term capital gains is just 5%, provided your child has no other income.  (See our July 2007 newsletter.) 

  • Increase your 401(k) and 403(b) contributions if you haven't been contributing at the maximum rate all year.  This year you can put up to $15,500 into your 401(k) or 403(b) plan.  Anyone 50 or older by December 31st can put away an additional $5,000.  If you’re self-employed, consider setting up a Solo 401(k) by 12/31.  Contributing to a 401(k) or 403(b) plan at work is one of the best tax shelters available to you during your working years.

  • Take a look at your withholding and instruct your employer to withhold additional taxes if you haven’t had enough taxes withheld during the year to avoid getting hit with an underpayment penalty.

  • Consider selling your investments held in non-retirement accounts that have decreased in value since your capital losses can offset other capital gains realized during the year (including from your mutual funds).  Excess losses can then be used to offset up to $3,000 of wages and other income.  Make sure to wait at least 31 days before buying back a security sold at a loss, or the IRS will disallow the loss under the "wash sale" rules.

  • Send in your January, 2008 mortgage payment early enough so it will be processed prior to 12/31/07.  By sending in your payment a few weeks early, you can deduct the interest portion of that payment a full year earlier.

  • Clean out your closets and donate your clothing and household items to a charitable organization, since "non-cash" contributions are deductible if you itemize.  Don’t forget to get a receipt.  And you should make a list of each item donated, along with its condition.  Starting last year, only donations of clothing and household items in "good condition or better" qualify for a deduction.  (We addressed this rule in our September 2006 newsletter.)
     

  • For gifts of money, making your donation by credit card before December 31st allows you to deduct the donation on this year's return, even if you don't pay your credit card bill until 2008.  And you always have the option of donating appreciated investments to charities. You get to claim your donation based on the value of the assets donated, without paying any capital gains taxes on the appreciation.

  • Pre-pay your projected state tax shortfall if you'll be itemizing your deductions and not subject to the alternative minimum tax.

  • Pre-pay and pay off your medical bills if your total medical expenses exceed 7.5% of your income and you itemize.

  • Evaluate whether you'll save any taxes by postponing 2007 income or deductions into 2008 or by accelerating 2008 income or deductions into 2007.

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TAX AND FINANCIAL PLANNING CALENDAR FOR DECEMBER, 2007

Month

Income Taxes

Saving and Investing

 

 

December

  • 4th quarter state estimates should be paid by 12/31 for people who itemize their deductions and won't be hit by the AMT.
  • Purchase your energy efficient home improvements before the credit expires on 12/31/07
  • Take steps to minimize the impact of the new Kiddie Tax rules affecting children 18 or older starting in 2008
  • Keogh plans and Solo 401(k)'s must be established by 12/31
  • 529 Plans must be funded by 12/31 to take full advantage of this year's gift limit of $12,000.
  • Last chance to maximize annual contributions to your 401(k) or 403(b) plan of up to $15,500, ($20,500 if 50 or older).

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2007 & 2008 TAX FACTS

  • For 2007, the standard deduction for a single individual is $5,350 and for a married couple is $10,700. A person will benefit by itemizing once allowable deductions exceed the applicable standard deduction. Itemized deductions include state and local income taxes (or sales taxes), real estate taxes, mortgage interest, charitable contributions, and unreimbursed employee business expenses.
  • For 2007, the personal exemption is $3,400. Individuals will claim a personal deduction for themselves, their spouse, and their dependents. 
  • The maximum earnings subject to social security taxes is $97,500 for 2007, increasing to $102,000 in 2008.
  • The standard mileage rate is $.485 per business mile for 2007, increasing to $.505 per mile in 2008.
  • The maximum annual contribution into a 401(k) plan or a 403(b) plan is $15,500 in 2007 and 2008.  And if you'll be 50 or older by December 31st, you can contribute an extra $5,000 into your 401(k) or 403(b) account that year.
  • The maximum annual contribution to your IRA is $4,000 for 2007.  And if you turn 50 by December 31st, you can contribute an extra $1,000 that year.  You have until April 15, 2008 to make your 2007 IRA contributions. 

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You're Invited to Attend Our Complimentary Presentation

on

Tax and Basic Financial Planning Issues Applicable to Young Healthcare Professionals

Here is a list of cities where the presentation will be held:

Boston - 1/29/08
 

For more information, click on the name of the city.
 

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This Month's Topics

Tax Saving Opportunities For Self-Employed Individuals

"Tax Break"  Weekly Radio Show December Schedule

Checklist To Cut Your 2007 Taxes

The FICA Refund for Medical Residents 

2007 & 2008 Tax Facts

Tax and Financial Planning Calendar for December 2007

 

NEWSLETTER ARCHIVES
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WHAT'S NEW WITH THE FICA REFUND?

Most recent information issued by the IRS

Check out the memorandum issued by the U.S. District Court in Minneapolis and you'll see that the court found that medical residents and fellows might not be subject to FICA taxes in many instances.

For more information, go to our February 2001 Newsletter or read through the IRS' Chief Counsel Advice Memorandum on this issue.

Copyright 2007 The MDTAXES Network by CPANiche, LLC    Email us at  info@cpaniche.com