Although 2010 is in your rearview mirror, it’s not too late to make some moves that will save taxes on last year’s Form 1040–and maybe on your state income tax return as well. Here are four possibilities.
Make Deductible IRA Contributions for 2010
If you’ve not made a deductible traditional IRA contribution for the 2010 tax year, you can do so between now and April 18 and claim the resulting write-off on your 2010 return. You can potentially make a deductible contribution of up to ,000 or ,000 if you were age 50 or older as of Dec. 31. Your spouse can do the same. You must have enough earned income last year (from jobs, self-employment, or alimony received) to equal or exceed the amount you contribute to IRAs for the 2010 tax year. The only catch: deductible IRA contributions are phased out (reduced or eliminated) if last year’s income was too high. (Details on the phase-out rules are at the end of this column.) The good news is the phase-out ranges are much higher than just a few years ago.
Tax Savings Example : If you’re in the 25% federal bracket, a ,000 deductible IRA contribution saves ,250 in 2010 taxes (plus any state income tax savings). If you and your spouse are both over 50, two ,000 contributions could save you ,000 in taxes (plus any state income tax savings).
Establish SEP for Big 2010 Tax Break
If you’re self-employed and have not yet set up a tax-favored retirement plan for yourself, you can establish a simplified employee pension (SEP). Unlike other types of small business retirement plans, a SEP can be created this year and still generate a large deduction on your 2010 return. In fact, if you extend the filing date for your return to Oct. 17, you’ll have until then to take care of the paperwork and make a deductible contribution for last year. The deductible pay-in can be up to 20% of your 2010 self-employment income or up to 25% of your salary if you worked for your own corporation. In either case, the maximum contribution is ,000.
To establish a SEP, go to your bank or brokerage firm and fill out Form 5305-SEP. It takes five minutes. But don’t jump the gun. You may not want a SEP if you have employees, because you would probably have to cover them and make contributions to their accounts, which could get expensive. If you have employees, don’t start up a SEP without consulting your tax pro.
Tax Savings Example : If you’re in the 28% federal bracket, a ,000 SEP contribution could lower your 2010 tax bill by a cool ,400 (plus any state income tax savings). The tax savings could finance a big chunk of your contribution.
Defer Taxes on 2010 Roth Conversion
You have the option of including half the taxable income triggered by a 2010 Roth conversion on your 2011 return and the other half on your 2012 return. If you make this choice, you don’t have to pay any of the conversion tax hit with your 2010 return. But it’s not a no-brainer. See my earlier
column for the considerations you need to think about.
Reverse Ill-Fated 2010 Roth Conversion
If you converted a traditional IRA into a Roth account last year, you triggered an income tax hit because the conversion is treated as a taxable distribution from the traditional IRA followed by a contribution to the Roth account. The problem is the amount that went into the Roth may have been a lot more than the account is worth now. If so, you’ll be paying taxes on dollars that no longer exist. Not good! Fortunately, you can reverse an ill-fated 2010 conversion by “re-characterizing” the Roth account back into traditional IRA status. Then it’s like the conversion never happened, and your 2010 tax bill will be that much lower. You have until Oct. 17 to reverse a 2010 conversion, but you should do it by April 18 unless you intend to file for an extension. To accomplish a re-characterization, contact your IRA trustee or custodian for the necessary form, and keep records to show what you did. If big dollars are involved, you might want to hire a tax pro to make sure things get done right.
