When engaging in income tax planning, you may be able to reduce your overall tax burden by employing specific strategies to generate tax-free income, shelter earned income from taxes, and defer taxes. However, other tax-advantaged strategies exist as well. You might wish to create passive income to take advantage of passive losses, and you might wish to engage in year-end tax planning. Additionally, it may be wise to consider the tax benefits of generating capital gains, investing in real estate, and receiving annuitized payments.
Why should you create passive income to take advantage of passive losses?
A passive activity involves the conduct of any trade or business in which you do not materially participate. For example, if you have an interest in a limited partnership and the partnership generates income, it is likely that your share of partnership income will be classified as passive. In addition, real estate rental activities are generally considered passive activities.
Caution: There are special rules if you actively participate in a passive real estate rental activity.
Generally, a loss from a passive activity cannot simply be deducted outright on your personal income tax return; rather, a passive loss can only be used to offset passive income. Accordingly, if you have passive activity losses, you can take advantage of the offset provisions by creating passive income. In effect, you will have created tax-free income, because your passive income will be offset by otherwise unusable passive losses. Generally, unused passive losses can be carried over to offset passive income in subsequent years, and unused passive activity loss carry forwards are allowed to be used in full when you dispose of your entire interest in the activity generating the passive losses in a fully taxable transaction.
Why should you engage in year-end tax planning?
Year-end tax planning may often result in substantial tax savings. Tax planning primarily concerns controlling the timing and the method by which your income is reported and your deductions and credits claimed. The basic strategy for year-end tax planning is to time your income so that it will be taxed at a lower rate and time your deductible expenses so that they may be claimed in years when you are in a higher tax bracket.
In a nutshell, you should try to:
- Recognize income when your tax bracket is low
- Pay deductible expenses when your tax bracket is high
- Postpone tax whenever possible
By using these methods, you can lower your overall tax liability.
For more information on Tax Advantaged Investing contact one of our Regent Financial Services representatives at 954-786-5863.*
* Regent Financial Services does not provide tax advice and suggests that you contact your tax advisor.
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