Load up for retirement. The only cure for a retirement account that’s been hammered by the bear market is to save more. This year there are higher limits for IRAs ($3,000 for traditional and Roth IRAs, $3,500 for anyone 50 or older) and 401(k)s ($11,000, or $12,000 for those 50 and older). And there are new 401(k)s for the self-employed. You have until April 15 to make the IRA contribution count in 2002. Set up the new 401(k) or bump up your withholding for next year before Dec. 31.
Sell those losers. If you still own Enron, WorldCom or other near-worthless shares, sell them before the end of the year, says Martin Nissenbaum, national director of personal-income-tax planning for Ernst & Young. That’s because the IRS doesn’t let you count those losses unless you actually sell the shares. Even if you have stocks that haven’t fallen quite as much as Enron, it’s a good time to take out the trash. Investment losses can be used to offset any capital gains you might have eked out this year. If you lost more than you earned on investments, you can also deduct $3,000 of losses from your ordinary taxable income. You’re not allowed to repurchase the same security within 30 days of taking the tax loss, and you can’t count losses in tax-deferred retirement accounts.
Get rid of the Roth. Here’s a little-known fact: you can deduct losses in a Roth IRA if you close the account. Say you’ve put $8,000 in a Roth IRA over the years, but invested it all in a bad mix of tech stocks, and it’s now worth $1,000. You can close the account and take the lost $7,000 as a miscellaneous deduction. Keep in mind that you give up forever the benefits of re-investing that $1,000. But you can start fresh with a new Roth established this year (but one that’s invested more broadly, of course).
Be kind to the kids. If you’ve got any spare cash, consider using it to set up a Roth IRA for your teenage kids if they work. You can match their earnings up to $3,000. There’s no real benefit this year, but tax-free compounding really is magic if you start when you’re 16. And the Roth encourages saving: they have to wait five years and have a good excuse, like a house down payment, to withdraw earnings. And who knows? By then, maybe Washington will have come up with some new tax breaks to let them put all that money to good use.
Medical-expense triage. These costs can’t be deducted until they reach 7.5 percent of adjusted gross income. So Jim Seidel, with RIA, a New York tax-research firm, tells clients to schedule any elective procedures, eyeglasses purchases and expensive dental work every other year. It’s a different story with medical spending accounts at work. That money will get wiped out on Dec. 31 if it isn’t spent, so see your doctor now.
Addition by deduction. Before the end of the year, squeeze in some extra tax-deductible payments, even if you have to put them on a credit card and pay them in January. That could include an extra mortgage payment, January’s estimated taxes, property taxes, charitable gifts and payments on student loans. Some caveats: high-earning taxpayers with lots of deductions can get hit with the alternative minimum tax, rendering the deductions worthless. To find out whether you’re AMT bait, run an estimate of this year’s numbers through last year’s software, buy next year’s programs when they come out next month or ask your tax preparer. If you are an AMT candidate, defer the deductions until next year. And remember that miscellaneous deductions don’t count unless they reach 2 percent of adjusted gross income. Now save this advice for next year, and you’ll have a permanent tax cut.
