Normally I tell people they should stock up on deductions and make sure they take all eligible tax credits, in an effort to minimize their federal taxes. But 2010 presents perhaps an opportunity we have not seen in a really long time: to optimize taxes in the other direction -- by trying to book as much income as possible now before tax rates (presumably) go up in 2011. Here's three counter-intuitive year-end tax tips if you expect your tax rates to be higher in 2011 than they are in 2010:
1. Convert retirement plan assets to a Roth, and opt to pay the tax in 2010. Here's the idea behind the Roth tax strategy: by converting pre-tax retirement funds to a Roth, the taxpayer recognizes income. The trick here is to opt-out of reporting the income in 2011 and 2012 (when presumably rates might be higher) in order to lock-in a known tax rate in 2010.
2. Selling off winning investments to book capital gains now, even if you buy the same investments back. This runs counter to the typical advice to sell of losers to book the loss for tax purposes. Long term capital gains rates are scheduled to go up to 20% instead of the 15% rate we have today. Like the Roth conversion tactic, selling off winning investments locks in the profits at a knowable tax rate of 15%. And you can even buy back the stocks immediately at their higher cost base since the wash sale rule only applies to investments that were sold off at a loss.
3. Defer deductions until 2011. Some people are generous around the holidays and boost their charity deductions by donating to churches and nonprofits. You may want to consider deferring your generosity until January when your charity donations might yield bigger tax savings if tax rates go up.
More about: year-end tax planning tips for individuals, and year-end tax planning tips for investors.