Financial Abundance

Ready for a riddle?  What federal government program requires 72,000 pages of written text to explain, has an annual compliance cost of over $350 billion and is a key contributor to our current economic morass?  The answer is the US tax code.  The current tax code is so broken that no amount of tweaking will fix it.

Let’s explore why the code has become so complex and why both political parties are unwilling to fix it.

First, let’s examine the individual income tax.  In 2010, the US treasury collected $899 Billion in individual income taxes.  Estimates from the GAO and other sources estimate that the cost of compliance (tax preparation) in 2010 for individuals was approximately $150 Billion.  This cost includes the “fair value” of each individual’s time in compiling tax data, the time required to fill out the complex tax forms for those who do their own taxes and the revenue collected by CPAs and tax lawyers to file individual tax returns.

The vast majority of these compliance costs could be saved if individuals merely paid a percentage of their total income with no deductions or credits of any kind.  To protect the poor, there could be a minimum level of income below which no taxes are levied.  With this approach, the compliance costs could be turned into tax revenues with no net cost increase to the American taxpayer.

If such a simple change could increase tax receipts with no effect on the individual tax payer, why aren’t politicians clamoring for this reform.  The answer lies in the 72,000 pages of our tax code.  Every segment of our tax code has special interest “gifts” that are important to special interest groups who give money to the politicians that protect them.  As an example, the mortgage interest deduction benefits home builders, realtors, mortgage brokers, lawyers, banks and investment speculators.  These groups provide millions of dollars to politicians in both parties.

The corporate income tax is even more insidious.  In 2010, the US Treasury collected $191 Billion from corporations.  It is estimated that in 2010, corporations spent almost $190 Billion in tax compliance.  Large corporations are the obvious benefactors of the current tax code distortions, with corporations such a GE paying no income tax in 2010.  How many millions do you suppose GE spent on lawyers and accountants to assure this tax outcome?

The current US corporate tax code is 35% of net earnings, the highest corporate tax rate of any industrialized country.  If all of the corporate welfare ( and with it the tax code compliance cost) were eliminated, corporations could pay a lower percentage of their total earnings and the federal government could collect almost twice the revenue, with no negative impact on the corporation’s total expenses.

With this approach, the US corporate tax rate could likely be cut dramatically and still provide twice the current tax revenue.  An added benefit is that lower federal corporate tax rates would attract foreign companies to the US and provide less incentive for US companies to move operations abroad.  This combination could dramatically increase our GDP while significantly decreasing our rate of unemployment.

By eliminating all deductions and credits in the current tax code so individuals and corporations pay taxes equal to their current taxes plus their current tax preparation/ tax compliance cost, the federal deficit could be reduced by over $3 Trillion dollars (over a 10 year time frame), with the a net increased cost to both individuals and corporations of $0.

So once again the question, if this approach is so simple, why are some billionaires calling for higher tax rates instead of tax code reform.  Once again, the answer can be found in the 72,000 pages of the tax code.  The current tax code protects the super rich from paying the same income tax rates as the rest of us.

Regardless of your thoughts on  federal government spending or higher tax rates on the rich, we have an annual $350 Billion in deficit reduction staring us in the face. Perhaps it is time to tell both parties that they must begin supporting their constituents instead of the special interest groups protected by our broken tax code.

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I have never met anyone who wished to pay more income taxes than they legitimately owe.  The super rich have accountants and lawyers scrutinizing every aspect of their income and expenses to assure they take advantage of every tax loophole and pay the absolute minimum in taxes.

Since most of the rest of us cannot afford personal tax lawyers, here are seven simple ways that you may be able to lower your tax bill for 2011.

1) Spousal IRAs: If only one spouse has a company retirement plan, the other spouse may contribute up to $5,000 ($6,000 if age 50 or over) to his own IRA, even if he has no earned income in 2011.  The spousal IRA contribution is fully tax deductible and must be made before April 15, 2012.  Your combined incomes must be less than $169,000 to receive the full spousal IRA deduction.

2) Investment Tax harvesting:  Taxable investments with short or long term losses can be sold by year end to provide a tax deduction of up to $3,000 in 2011.  Be careful not to repurchase the same security in less than 30 days as this creates a “wash sale,” eliminating the loss deduction.  However, buying a similar fund is allowed.  Let’s assume that you have the iShares MSCI Emerging Markets ETF (EEM).  You may sell the EEM ETF and immediately buy the similar Vanguard MSCI Emerging Markets ETF (VWO) without creating a wash sale.

3)  Mutual Fund sales:  If you are considering selling a mutual fund, but are waiting until 2012 to avoid paying capital gains taxes in 2011, you may end up paying capital gains taxes in both years.  Most mutual funds have year-end distributions of short term and long term capital gains in December.  By selling now, these year-end distributions can be avoided.

4) Charitable contributions:  If year-end charitable contributions are planned and you have stocks with long term capital gains, consider donating shares of appreciated stocks.  No capital gains taxes are ever paid on the donated appreciated stock and the full charitable deduction is provided for the value of the stock.  The simplest method of accomplishing this is by setting up a donor advised fund through your custodian (brokerage firm).

5) State Sales Tax Deduction: If you itemize deductions and are retired or received limited income in 2011, utilizing the state sales tax deduction instead of state income taxes might prove beneficial.  The benefits of using state sales taxes will only apply if sales receipts for higher priced purchases (each of which was taxed at over 8% in Colorado) have been saved.  If you did not save your receipts in 2011, consider saving receipts in 2012.

6) Colorado 529 Plan: If you are a Colorado resident with a child or grandchild in college, consider putting next year’s funds for tuition, room and board and other required expenses into College Invest, the Colorado 529 plan.  Any contributions made to College Invest in 2011 are dollar for dollar deductible against 2011 Colorado income taxes.  Assume that college expenses for 2012 will be $30,000.  By depositing that amount into College Invest during 2011, the 2011 Colorado income tax bill will be almost $1,400 less.  With this short term approach, keep 529 funds in the money market investment option until they are used to pay for a child’s or grandchild’s college expenses.

7) Roth IRA contributions:  Even if you are covered by a company retirement plan, contributions of up to $5,000 ($6,000 if age 50 or over) to a Roth IRA are allowed, as long as adjusted gross income is below $169K for joint filers or $107K for single filers.  While a Roth IRA contribution does not lower 2011 income taxes, Roth income grows tax free throughout your lifetime and potentially the lifetime of your beneficiary.  If funds are ever required from the Roth IRA, the funds contributed can be withdrawn with no taxes or penalties.

Hopefully, one or more of these tax savings ideas will be helpful in reducing 2011 taxes.  If these tips provide some unexpected savings, I hope that you will save and invest these funds to help you prepare for a financially abundant future.

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There has been a lot of recent press and political punditry about Bank of America charging $5/ month for the “privilege” of using their debit cards.  Arguments can be made over whether this fee is justified, after the Dodd-Frank bill lowered the allowed maximum debit card transactions fees, or whether Bank of America customers should find a new bank.  However, assuming that one is able to get a credit card, the correct question should be:  “Why would you ever want a debit card?”

Let’s explore some of the reasons for which debit cards are used and see if any of these are required.

1) Debit cards are a replacement for writing checks.  While debit cards were initially designed as a replacement for checks, modern technology has made checks almost obsolete.   Monthly bills can be paid by credit card or by direct payments from a bank account. No physical checks are required.  Any product that can be purchase with a debit card can also be purchased with a credit card.  If checks are required, the vendor requiring a check will typically accept neither debit or credit cards.  Thus, debit cards no longer serve exclusively as a replacement for checks.

2) Debit cards prohibit their users from spending more cash than they have. Debit cards (theoretically) do not allow for spending more than is in a bank account.  While debit cards usually limit spending to a bank account’s cash balance, there are other methods of achieving this same goal.  With a laptop or smart phone, bank balances can be accessed 24 hours a day.

If it is critical to your budgeting process that expenditures never exceed the cash on hand, consider the following approach.   Always have a small amount of cash for incidental purchases.  For all other purchases, keep track of credit card purchases so that you know to stop using the credit card when bank account limits are reached.  When the next pay check arrives, pay off the credit card balance and repeat this process.  This approach provides the same cash management function as a debit card, while eliminating any possibility of debit card overdraft fees.

3) Debit cards are a budgeting tool, helping assure that one does not spend more than they earn.  With the proliferation of free, online budgeting tools, such as mint.com, debit cards are one of the least effective budgeting tools available.  As with 2) above, using cash for small purchases and keeping track of the larger purchases that are made with a credit card provides considerably more budgetary control than a debit card.  The only “downside” of this approach is that it requires discipline to keep track of purchases and to stop spending when you cash is depleted.

To successfully eliminate debit cards and their associated fees, it is important that the credit card balance be paid in full every month.  Without discipline, credit cards can easily become an easy method of “budget busting.”   While quick and easy to use technology makes it possible to keep track of all credit card purchases as well as the remaining cash available in a bank account, implementing this technique requires both desire and determination for it to succeed.

The small amount of work required to enter each credit card purchase as it is made, coupled with the determination and desire to maintain a budget can break the debit card habit forever.

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A question that is commonly asked in times of market volatility is “should I invest or keep my savings in safe Certificates of Deposit?”  Even if the questioner is stuffing their cash in a mattress, they are “investing.”   Thus, the question that should be asked is “how will I invest my funds?”

For many investors, the stock and bond markets are just too risky.  These investors are often choosing such investments as one year CDs.  One year CDs yield approximately 0.6%.  At the end of August, the US inflation rate for the past 12 months was 3.8%.  When we consider the real rate of return (total return less inflation rate) for one year CDs, they currently provide a -3.2% real rate of return.

On the opposite extreme is an investor that is 100% invested in the US stock market.  From the beginning of 2007 through the end of Q2 2011, the annualized investment rate of return for the S&P 500 (with dividends reinvested), was 0.4%.  With the recent volatility the S&P 500 annualized return declined to -2.6% by the end of Q3.

Is a guaranteed -3.2% real rate of return better or worse than a volatile rate of return created by investing in the markets?  Investment studies have shown that the most critical requirement for investment success is to develop an investment plan and stick with it through both good and bad markets.

Studies show that investors consistently underperform stock market benchmarks.  This performance is not related to an investor picking the wrong stocks or mutual funds.  Most of the long term investment underperformance occurs because investors often buy when markets are high and sell when markets are low. Whether the investment approach is conservative or aggressive, these studies show that long term investment results are consistently higher when the investment approach is maintained throughout a full market cycle.

A conservative investor will typically significantly outperform an aggressive investor in down markets.  Unfortunately, in frothy up markets, conservative investors are often tempted by the significant gains that their more aggressive investor friends are receiving.  At the worst possible time (when stocks are overpriced) these conservative investors often decide to become more aggressive investors.  By changing their investment approach, their funds are often decimated by the next market downturn.

Aggressive investors will typically significantly underperform their conservative counterparts during a down market.  In desperation, aggressive investors often sell much of their stock market investments at the worst possible time (when stocks are underpriced).  By changing their investment approach, aggressive investors will not be fully  invested in the stock market when the markets stages its next recovery.

Financial Abundance, LLC, uses a diversified investment approach that includes US and international stocks and stock funds, US and global bonds and bond funds as well as some exposure to “alternatives” such as REITs, gold, commodities and currency funds.  We seek out value oriented investments that typically provide better than average dividend payouts.  This approach helps decrease a portfolio’s volatility and increase the total return.  From the beginning of 2007 through Q3 of 2011, our consistent investment approach has provided for average client return that exceeds the S&P 500 (with dividends reinvested) by over 6% annually.

Whether your investment approach is conservative, aggressive or somewhere in between, the key to long term investment success is maintaining a consistent approach through up and down markets.  Fear and greed are two of our most common investment nemeses.  If you are susceptible to one or both of these, find a fee only investment advisor to help manage your investments.  At Financial Abundance, LLC  our primary added value is our ability to remain consistent with our investment approach, through up and down markets.

After reading many investment studies, a consistent conclusion is that investors can be successful as aggressive investors, conservative investors or anywhere in between.  Regardless of investment approach, the two primary components of successful investing are portfolio diversification and consistency.

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One of the greatest blessings of my life was to be the father of two children.  When we become parents, it is understood that we are taking on a large, new financial responsibility.  Most young parents believe that their financial responsibility will end when their children graduate from college.  Many parents of grown children have found that these expenses can continue well past college graduation.

Many people who are approaching retirement, provide financial support for their grown children, even when doing so places their retirement at risk.  Regardless of your child’s age, you can decrease and eventually break your children’s financial co-dependence.  Here are a few approaches to consider:

1. Agree that you will only pay for in state college tuition.  When our children were young, my wife and I determined that Colorado had excellent state colleges.  When our children began to consider their college options, they were allowed to consider all colleges.  Our children knew that we would pay for any state supported college in Colorado. If they wanted to attend a more expensive school, they would be responsible for the increased costs.  This approach allowed our children to share the financial responsibility for their college choice.
2. While our children both chose state supported colleges, had they chosen more costly schools, they would likely have required student loans.  If your child requires a student loan, keep the loan only in the student’s name.  Even if you choose to help your child pay this loan after college, by keeping the loan in your child’s name, you avoid personal responsibility for a loan that would always be with you, even if you or your child declared bankruptcy.
3. Never co-sign any financial obligation with your child.  If you agree to co-sign a lease, a car loan, a mortgage or any other financial instrument, you are effectively taking 100% ownership of the obligation.  If the financial obligation is something that you wish to support, such as a mortgage, take the mortgage out in your own name and have a separate agreement with your child.  This gives you complete control over the property should things not work out as planned.
4. If your child requires on-going financial support that you are willing to provide, pay their bills directly to the party to which they are owed.  This will assure that your financial support is going to where it is intended.
5. Be sure that your grown child has medical insurance.  Many young people do not see the need for medical insurance.  If your grown child can no longer be on your medical insurance policy and you are financially able to help them, use the first dollars of your support to assure that they have adequate medical insurance.
6. If you are supporting your grown child, develop a mutually agreed upon plan to terminate this support.  While the plan may require months to complete, you are demonstrating to your child your faith in their ability to succeed financially.  Your faith in your child’s ability to succeed financially will be one of the best gifts that you can ever give.
7. If required, allow your grown child to fail financially.  It is human nature to learn more from failure than success.  While it is extremely difficult to see grown children struggle, by letting go and allowing them to determine how to get out of a financial jam, we allow them to grow as adults and we show our faith in their ability to solve their financial dilemma.

Parents wish for their children to be financially secure.  As counterintuitive as it may seem, one of the best ways to assure this is to let our grown children have the responsibility of taking care of their own financial well being.  While some critical financial support is often required, showing our faith in our children’s ability to be responsible for their own financial health is a gift to both your children and your retirement.

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The economy, government spending and debt, unemployment, housing foreclosures and our banking system all contribute to a fear of the financial future.  These fears are all outside of our control.  However, we can control many decisions related to our own financial future.

Financial Abundance Guide (available free at www.finabguide.com) identifies many areas of personal finance that can be controlled.  I also developed the Seven Steps to Financial Abundance to help people reach their financial goals.  With so much fear of the financial future, following the seven steps can help increase our power to control our financial future.

“Spend less than you earn,” is the required first step.  Over a 40 year career (age 25 to age 65), assume that your average income is $80,000 (in 2011 dollars) and the annualized investment real rate of return is 5%.  Saving 10% of income ($8K) each year will produce savings of over $1 million (in 2011) dollars at age 65.

By “maximizing your financial resources” (step 2) , savings can be increased with no negative impact on spending.  If a company offers a 4% of salary match with their 401(k) plan, by contributing at least 4% of salary, this amount is matched by the company. Using the previous example, annual savings are increased from $8,000 to $11,200, increasing the savings available at age 65 to almost $1.5 million.

“Minimizing your taxes” (step 3), also provides additional savings with no impact on spending.   Financial Abundance Guide provides many tax savings techniques available to people of all income levels.  One example is a spousal IRA, allowing a non working spouse to contribute $5,000 per year to an IRA.  For a couple paying 25% in federal taxes and a 5% state income tax, a $5,000 IRA contribution would yield $1,500 in annual tax savings.  Continuing with our example, the additional $1,500 in annual tax savings would  provide almost $1.7 million in 2001 dollars by age 65.

“Managing your investments” (step 4), can significantly increase investment returns.  This may require the help of an investment professional.  If so, carefully choose an investment advisor and be wary of anyone providing “free” advice.  A “free” advisor must be compensated through commissions on the investment products they sell.  Fee only advisors are compensated by the fees they charge to manage investments.  Continuing the above example, if the real rate of investment return is increase by only 0.5%, the couple would have almost $1.9 million at age 65.

Using the simplistic assumption that a couple, at age 65, can withdraw at least 4% of their investments each year and never run out of money, $76K (in 2011 dollars) can be withdrawn each year throughout retirement.  Since their previous annual expenses were $72K, with $8K per year in savings, even with no Social Security or other retirement benefits, our couple can more than maintain their lifestyle throughout retirement.

Fear of the unknown often produces a sense of financial scarcity.  “Protecting your financial resources” (step 5), through appropriate, lower cost insurance products can help keep this fear at bay.   An insurance product that is often overlooked is a $1 – $2 million umbrella liability policy.   In our litigious society, one may be sued because someone was hurt on their property or by a car driven by a family member.  For very little money, peace of mind can be secured by adding an umbrella liability policy to your auto or home insurance policy.

Financial planning helps “control your personal finances” (step 6). There are many available resources to help you produce you own financial plan.  If you have neither the time nor interest in financial planning, engage a fee only Certified Financial Planner (CFP^®)  who will listen to your concerns and provide a comprehensive plan that enumerates the options available to meet your financial goals.  A financial plan helps increase control over personal finances.  Planning will reduce the fear of scarcity, providing more financial security on the path toward financial abundance.

“Have faith in continued abundance” is the seventh step. Implementing the first six steps addresses what you can control in your personal finances.   Faith that financial abundance will continue helps eliminate the doubts and fears of the unknown often caused by events over which you have no control.

Financial abundance is a lifetime pursuit.  There will always be ups and downs in the economy and markets.  By applying the seven steps and seeking appropriate outside support as required, you will be on the pathway toward financial abundance.

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Years ago, most of us had such wonderful health insurance coverage that we never considered keeping track of medical expenses for tax deductions, as medical expenses were never above 7.5% of Adjusted Gross Income (AGI).  However, for many of us, those days are only fond memories.

For at least the next two tax years, the AGI medical deductible hurdle of 7.5% will remain in place.  Even if you make over $100K per year, you may find that keeping track of your medical expenses will help lower you’re the amount you pay in taxes.  Let’s look at some deductible medical expenses of which you might not even be aware:

1. Medically related travel: Whenever you must travel to a doctor’s appointment by car, for 2011, the IRS allows a mileage deduction of $.19 from January through June and $.235 for July through December.  If you must fly to an out-of-town clinic, the full cost of your flight plus a per diem allowance of $50 per person per day is deductible.

2. Medical Insurance Payments, including long term Care Insurance: If you pay for your own medical insurance, the premiums paid are fully deductible.  If you pay for long term care insurance, the premiums are deductible up to a maximum amount based on your age at the end of the tax year.  The maximum deductible amounts for long term insurance premiums are: Age 40 or less $340; Age 41 through age 50 $640; Age 51 through age 60 $1,270; Age 61 through age 70 $3,390; Age 71 or older $4,240.

3.  Uninsured medical treatments: This includes what you spend for an extra pair of eyeglasses or on contact lenses, false teeth, hearing aids or artificial limbs.

4. Rehab treatment for drug, alcohol, or any other recognized addictive disorder: This includes amounts you pay for an inpatient’s treatment at a therapeutic center for alcohol or other addictions, including meals and lodging provided by the center during treatment. You can even include amounts you pay for transportation to and from 12 Step meeting, if the attendance is pursuant to medical advice that membership is necessary for the treatment of a disease.

5. Weight-loss, smoking cessation and other health related issues: If a doctor prescribes it, you can deduct it.

6. Laser vision correction surgery: These surgeries are allowable expenses to deduct on your taxes

7. Doctor-recommended equipment and related expenses: If your doctor tells you that you need a humidifier installed on your heating and air conditioning system to aid your breathing problems, you may be able to deduct the full amount of this home improvement.

8. Home improvements or equipment: If you do a home improvement or bring in special equipment that’s considered medically necessary, for you, your spouse or your dependents, you may deduct the cost of this equipment and it’s installation. This may include special entrance/exit ramps, widening doorways, modifying kitchens or bathrooms, or adding a chairlift   If the improvement increases the value of your home, only the amount of the expense that exceeds the increase in the property value of your home is deductible.

9. Medical education costs: If you, your spouse or a dependent have a chronic medical condition and you attend a conference related to this condition, your conference admission and transportation expenses are deductible.  However, meals and lodging are not deductible.

10. Out-of-town treatment for a dependent: When accompanying a minor dependent to out-of-town medical treatment, your hotel bills will likely be at least partially deductible.

11. Nursing services: Out-of-pocket payments for a home-based nurse are fully deductible,

12. Lead paint removal: If your house has any lead paint, the full cost of lead paint removal is deductible.

13. Medical Insurance payments by the self-employed: If you are self employed, the full cost of your family’s medical insurance premiums are deducted, as an adjustment to gross income.  This payment is not subject to the 7.5% deduction hurdle, but is a direct deduction from gross income.

From this non-exhaustive list, it is obvious why it is not too difficult for medical expenses to exceed 7.5% of AGI.  Unfortunately The AGI hurdle is set to increase to 10% in 2013 under the Patient Protection and Affordable Care Act (PPACA) passed in 2010.

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In March of 2010, the Patient Protection and Affordable Care Act (PPACA) was passed by Congress and signed by the President.  In spite of its lofty title, this act includes several “features” that will raise the amount of taxes we pay on medical related services, regardless of your income bracket.

It has always seemed inequitable to me that we may deduct 100% of our mortgage interest payments from federal income taxes, but are only allowed to deduct medical expenses that exceed 7.5% of our Adjusted Gross Income (AGI).  From this inequity, we must  assume that our government places a higher priority on buying a house than it does on medical expenses.

When PPACA was first introduced, I assumed that it would address this inequity by  eliminating the 7.5% AGI deduction hurdle on medical expenses.  This would definitely provide “more affordable (medical) care,” much like the home mortgage deduction makes home ownership more affordable. However, I was shocked to see that PPACA not only does not remove the 7.5% tax hurdle, it makes medical treatment more expensive by raising the AGI threshold hurdle to 10%.

This medical tax increase hurts the middle class much more than the wealthy, as very few tax payers, whose AGI exceeds $200K, can claim a medical deduction.

Consider a couple with $70K AGI that has $7,000 in medical bills.  Under current tax law, this couple could deduct $1,750 in medical expenses from their federal income taxes.  However, staring in 2013, PPACA will reduce their in medical deductions to $0, while they will still be able to deduct 100% of their home mortgage interest payments.

Another area where PPACA increases the middle class’ medical costs is through its reduction of Flexible Spending Account (FSA) medical contributions.  Under current law, you may contribute up to $5,000 each year to an FSA, to pay for medical expenses that are not covered by insurance.  The $5,000 FSA contribution is directly deducted from your income, meaning that it is fully tax free, including FICA taxes.

A single person in the 25% federal tax bracket (AGI exceeds $34,000), with state income taxes of 5%, has combined federal, state and FICA taxes of 37.65%.  This represents $1,882 in total taxes on $5,000 of income.  By putting $5,000 into an FSA, they save $1,882, as long as they have at least $5,000 in uncovered medical expenses during the year.

Starting in 2013, PPACA lowers the maximum amount that can be contributed to an FSA to $2,500, cutting the tax saving for a medical FSA in half.  The relatively low income person shown above will pay an additional $941 in taxes, thanks to PPACA.

For higher income taxpayers, PPACA has additional Medicare taxes.  Starting in 2013, single taxpayers earning over $200K and couples earning over $250K per year will be pay an additional 0.9% in Medicare taxes on income that exceeds these limits.

Another Medicare tax is the new 3.8% “unearned” income tax on single taxpayers with an AGI exceeding $200K and couples with an AGI exceeding $250K.  Virtually any income that does not come from employment will be subject to this tax.

As an example, consider a couple with an AGI of $300K, of which $200K comes from their joint earned income and $100K comes from royalties, rents, annuity distributions, capital gains and dividends.  $50K of their income would be subject to the 3.8% Medicare tax, increasing their tax bill by $1,900.

It can always be debated whether the “wealthy” are paying their fair share of taxes.  Thus, the PPACA provisions that require higher income individuals to pay more in taxes are open to political debate.

However, it seems unconscionable for an act that is supposed to make health care more affordable, to increase the price of health care on the middle class.  The PPACA has already been modified to remove the $600, 1099 reporting requirement.  Perhaps it is now time to help our government understand that 1) medical expenses should have at least the same deductibility as home mortgage interest payments and 2) FSAs are good for people of all income brackets, so leave them alone.

Medical costs continue to sky rocket.  The last thing that we need is to increase the taxes that everyone must pay on these expenses.

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Even though 2010 taxes were only finalized in April, now is the time to begin planning for reducing your 2011 taxes.  Regardless of what the government decides about future tax rates, it will always be incumbent upon the US taxpayer to pay the minimum taxes owed.

The wealthy have lawyers and accountants that look for legal ways to avoid paying higher taxes.  The rest of us must use all of the resources available to only pay our fair share.  Here are three ways to reduce your tax bill on April 15, 2012.

Colorado 529 Plan Contribution = Immediate tax deduction – If you are a Colorado resident, every dollar contributed to a Colorado 529 plan is Colorado tax deductible.  Thus, if you contribute $40,000 to a Colorado 529 Plan in 2011, you can deduct $40,000 from your Colorado taxable income, whether you are a parent, a grandparent or even an uncle.  Let’ assume that you are paying for your daughter (or paying for your granddaughter) to go to Harvard, costing approximately $48K per year.  You can put the $48K into a Colorado 529 plan money market fund and withdraw it this year, as the yearly payments to Harvard come due.  There is no risk of loss from the investment and the $48K is fully deductible on your Colorado income taxes.  I wish I had been aware of this approach when my two kids went to college.

Save Those receipts – If you itemize tax deductions for federal income tax purpose, you may choose between deducting the state and local income taxes paid or deducting the amount of sales taxes paid in 2011.  Almost everyone in Colorado, regardless of their income, deducts their state and local income taxes.  However, if you are retired, having a low income year or buying an expensive new car, it may be more advantageous to deduct state and local sales taxes instead of state income taxes.

Assume that you buy $80,000 in fully taxable items in Colorado during 2011.  With Colorado’s 8.5% sales tax you pay $6,800 in Colorado sales taxes.  If your federal taxable income is $100,000, at Colorado’s 4.64% income tax rate, your Colorado income tax deduction is $4,640.  By saving your sales tax receipts, you can deduct an additional $2,160 from your federal income taxes.

The IRS sales tax tables significantly understate actual sales tax payments. For the sales tax alternative to succeed, you must save your sales tax receipts.  However, a little effort may save hundreds of dollars in federal income taxes.

Roth Conversions NOW – Anyone, regardless of income, may now convert IRA funds to a Roth IRA.  While immediate taxes are due on the amount converted, the ability of these funds to grow tax free for both the rest of your life and the rest of your beneficiary’s life makes these funds a valuable asset.

You may be hesitant to convert funds before the year-end deadline, since, if the market crashes after the funds are converted, you would pay taxes on the higher (conversion) value and have significantly less funds in the tax free Roth account.  Thanks to “recharicterization” rules, this is not be a concern.

When you convert IRA funds to a Roth IRA at anytime during 2011, you have until October 15, 2012 to “recharacterize” these funds.  This allows you to move the funds back into the original IRA and remove the tax consequences associated with the 2011 Roth conversion.  You are still able to do a Roth conversion in 2012, paying lower taxes on the same net amount converted.

These are only three of the tax saving opportunities provided by our convoluted tax code.  If there are any questions about how to safely and successfully execute these tax saving strategies, do not hesitate to give a call.

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