Plan to maximize your 'after-tax' dollars

February 1, 2005

If you plan to make charitable contributions this year, consider donating long-term appreciated securities instead of cash.

After-tax dollars are real dollars. When you go to spend them, each and every one is worth 100 cents. However, before-tax dollars are something quite different. While they may look the same on paper, a before-tax dollar is something of an illusion. It's worth less than 100 cents. How much less depends on your tax bracket-and how well you do your homework.

So, how do you go about maximizing after-tax dollars? By taking advantage of every legitimate way to slash your income taxes, and one of the best ways to do that is to avoid last-minute attempts to make up for your failure to plan early.

Here's how:

Maximize your tax-deferred retirement account early. Don't wait until tax-filing time to fund your retirement account. If you have the cash available, making the maximum allowable deposits into your 401(k) or IRA account as early in the year as possible not only reduces your tax load, it also adds months to the tax-deferred compounding of your investment.

Take advantage of the Jobs and Growth Tax Relief Reconciliation Act of 2003. Among the changes that affect you is a reduction in qualified dividend income and long-term capital gains from 20% to 15%. With tax rates on this type of income at a much lower rate than ordinary income tax rates, now is a good time to examine your investment portfolio to see if you should take some capital gains at the lower tax rate.

If you plan to rebalance your investment portfolio this year, it may be best to invest in quality dividend-paying stocks to take advantage of the 15% tax rate on dividends.

Take advantage of Section 179. This provision of the tax law allows you to deduct the full cost of capital assets in the year of purchase up to a maximum of $100,000. Capital equipment purchased any time during the year qualifies for this huge tax break.

Look for deductions that you may have missed in 2004. "Small business owners often miss out on important tax deductions by waiting until the last minute," said CPA Paul Rich. "Among easy-to-overlook tax benefits are credits on both federal and state tax returns. For example, a federal tax credit can now be claimed by eligible small businesses for pension plan startup costs.

"Designed to encourage businesses with fewer than 100 employees to establish retirement savings accounts for their employees, the credit equals 50% of the startup costs incurred to create or maintain a new retirement plan," Rich explained.

The pension plan tax credit is limited to $500 in any tax year. You may claim it for qualified costs incurred in each of the 3 years beginning with the tax year in which your plan becomes effective. The procedure is rather complex, so you should consult with your tax adviser before proceeding.

Deductions for travel, meals, and entertainment are also among the often-missed tax relief possibilities.

"Most business people do not keep adequate documentation for these expenses," Rich said. "As a result, they lose out on deductions that could provide significant tax relief."

Put the kids to work. Do you have children? Are you giving them an allowance? By putting your children to work in your business, you convert their personal allowance into deductible compensation.