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Top 10 Tax Planning Strategies for Professional Service Providers

Effective tax planning can go a long way toward helping you accomplish your financial goals. While the demands of running your practice may keep you on your toes, it’s important to sit down and review your tax strategy—especially as 2013 comes to a close. For starters, here’s our list of “Top 10 Tax Planning Strategies.” Which of these could work for you?

1. Minimize or eliminate the new 3.8% Medicare tax on personal investment income.
You can do this by reducing rent charged to the business for a personally-owned building and equipment, increasing retirement plan and IRA contributions, gifting investment assets to lower bracket family members or charity, investing in tax-free bonds, and reducing capital gains through tax-free exchanges and harvesting capital losses.

2. Know your options for maximizing retirement plan contributions.
Looking to maximize tax-deductible retirement plan contributions. Entrepreneurs over age 40 with a younger staff can now fund a combined “safe harbor” 40l(k) profit sharing plan (with a 6% match) and cash balance defined benefit pension plan to save thousands in federal and state income taxes with contribution limits of more than $113,000 annually. How about slightly smaller tax-deductible contributions? Entrepreneurs over age 40 with a younger staff should consider a 40l(k) cross-tested profit sharing plan.

3. Optimize the way your business is structured.
Contact us to determine the payroll tax savings available from electing Subchapter S corporation status. Often business owners will be able to significantly reduce payroll taxes by taking a lower salary, with the remaining profit distributed as a dividend (not subject to payroll taxes). S status can also reduce income and payroll taxes on the sale of your practice, and lower IRS audit risk and exposure. Look for future article explaining entity selection in more detail!

4. Consider a Section 1031 tax-free exchange.
By utilizing a Section 1031 tax-free exchange, you could avoid federal and state income taxes on the sale of your practice assets, office building, or other real estate held for business or investment purposes.

5. Properly classify your “on-the-road” expenses.
Be sure to separate fully deductible travel, lodging, and continuing education expenses from meal and entertainment expenses (which are 50% deductible) for tax reporting purposes. In addition, make sure all meal expenses for staff meetings, functions, and outings are classified as “office expenses” since they remain fully deductible under Section 274(n) of the Internal Revenue Code.

6. For your car—deduct the cost of operation instead of the mileage rate.
If you have a medium- or above-average-priced car, with an average amount of business miles, pay all operating expenses for your business automobile through your practice and deduct the actual cost of operation, rather than the $0.565 per mile rate. Auto expenses paid through the practice should include gas, oil, maintenance, repairs, taxes, tags, licenses, and insurance. Keep a log on a three-month basis, and show any personal usage as income on your W-2.

7. Hire your spouse.
Employ your spouse through the practice and pay him or her an annual salary of $3,000 (generally). By doing so, you can qualify your spouse for minimum Social Security benefits, the Child Care Credit, as well as fully deductible practice travel and fringe benefits, while minimizing payroll taxes. However, if your family has two or more children under the age of 13, and your annual childcare expenses exceed $3,000, increase your spouse’s annual salary to equal the annual childcare expenses (up to a maximum of $6,000 annually).

8. Make a contribution to the retirement savings of your employed children.
Establish a Roth IRA for each employed child and contribute $5,500 for each in 2013. While these contributions are non-deductible, principal can be withdrawn tax-free for college, and all future earnings will be tax-free when withdrawn after age 59 1/2.

9. Be generous to your kids.
Transfer appreciated property (e.g., stocks, bonds, or real estate) that you plan to sell to your children age 19 or older, or children who are full-time students ages 19-23. Thereafter, they can sell this appreciated property and have the capital gain taxed at rates as low as 0% if their earned income equals more than half of their support, and use the proceeds to fund educational costs. Plus, this strategy will allow you and your children to avoid the 3.8% Medicare tax.

10. Support charitable organizations with appreciated gifts.
Increase charitable contribution deductions by making gifts of property that has gone up in value, such as stocks, bonds, artwork, or real estate, in lieu of cash donations to qualified charitable organizations. The full fair market value of the property is tax-deductible as a charitable contribution. If held for at least 12 months, the gain is not subject to income tax.

As 2013 winds down, it’s a good time to think about these and other tax planning strategies. Be sure to talk to your tax professional to determine which are best for you.

Doug McDonald, CPA, is AEM’s Professional Services Industry Leader and a seasoned recreational pilot. When he’s not soaring through the skies, he’s helping his clients’ businesses soar to new heights. You can reach Doug at 952.939.3207 or at douglas.mcdonald@aemcpas.com.

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