Taking on your 2009 tax return
FIDELITY VIEWPOINTS — 02/19/10
The arrival of W-2 and 1099 forms and other tax documents in your mailbox means it’s time to start tackling your 2009 tax return. You’ll want to pay close attention this year because of wide-ranging new tax provisions.
Here are changes that might affect your tax situation—as well as last-minute tax-saving moves to consider now.
Reduce your taxable income
You’ve heard it many times but it bears repeating: One of the best ways to lower your federal tax liability is to reduce your taxable income. Although it’s generally too late to make 2009 contributions to a 401(k) or similar employer-sponsored plan, you can still make a 2009 tax-year contribution to a traditional individual retirement account (IRA), a health savings account (HSA), or a Simplified Employer Pension (SEP) IRA right up until the April 15 tax-filing deadline.
All three of these vehicles should allow you to deduct your contributions from your current-year taxable income if you meet deductibility requirements. In the case of a SEP (used primarily by self-employed individuals) or an IRA, taxes on deductible contributions and earnings are deferred until the money is withdrawn, typically in retirement.
Contributions to an HSA, on the other hand, are never taxed if the money is used for qualified medical expenses.
For 2009, you can contribute up to $5,000 to an IRA or $6,000 if you’re age 50 or older (by 12/31/2009). If your adjusted gross income was too high to allow you to make a deductible contribution to a traditional IRA in past years, be sure to take another look, because the phase-out limits have changed. (When deciding whether to make a deductible IRA contribution, however, consider your long-term retirement plans. A non-deductible contribution to a Roth IRA may make more sense in the long run than a tax deduction in the current year.)
For couples filing jointly, phase-out begins at $166,000 of modified adjusted gross income if one of them does not participate in a workplace retirement plan, and $89,000 if both have a workplace plan. If neither participates in a workplace plan, there’s no income limit for making a deductible contribution.
For single filers, who don’t participate in a workplace plan, there’s no income limit for deductible contributions to an IRA. For those who participate in a workplace plan, the phase-out begins at $55,000 of income.
Taxpayers with HSAs, meanwhile, can make 2009 contributions of up to $5,950 for a family and $3,000 for an individual ($1,000 additional if the primary account holder is 55 or older). SEP owners can contribute up to the lesser of $49,000 or 25% of income for the 2009 tax year.
Review new provisions
The American Recovery and Reinvestment Act of 2009 (better known as the economic stimulus package) and other legislation included a host of provisions aimed at helping specific segments of the economy, as well as families and individuals hit hard by the recession.
Some of the provisions are similar to federal tax breaks that have been available in the past, but they contain changes that may make them significantly more attractive. You can find a complete list of changes on the Internal Revenue Service Web site but here are several items that you don’t want to overlook, including some that you can still take advantage of if you haven’t already:
First-time and repeat homebuyer credits. The previous version of this tax credit allowed qualified first-time homebuyers to deduct up to $7,500 from their current-year tax bill, but they had to pay it back over time. Now, for homes purchased in 2009 and before May 1, 2010, the maximum credit is $8,000, and if the home remains your primary residence for three years, it does not need to be paid back. Congress also expanded the law to create a “long-term resident” credit of up to $6,500 for those who aren’t qualified first-time homebuyers. A buyer must have owned and used the same home as a principal or primary residence for at least five consecutive years of the eight-year period ending on the date of purchase of a new home as a primary residence.
Modified adjusted gross income limits for these credits have increased for purchases after November 6, 2009. The phase-out range is now $125,000 to $145,000 for single filers and $225,000 to $245,000 for couples filing jointly. Homes costing more than $800,000 don’t qualify. For all qualifying purchases in 2010, taxpayers have the option of claiming the credit on either their 2009 or 2010 tax returns. Eligible taxpayers must buy or enter into a binding contract to buy a home by April 30, 2010, and settle on the purchase by June 30, 2010. Members of the Armed Forces and certain federal employees serving outside the United States have an extra year to buy a principal residence in the U.S. and still qualify for the credit.
Education expenses credit. There are three education-related credits: the Hope scholarship credit, the American Opportunity Tax Credit (a modification of the Hope), and the Lifetime Learning Credit. The American Opportunity Tax Credit increases the amount you can lop off your tax bill to a maximum of $2,500, from $1,800 last year. Plus, the credit now applies to four years of qualified college expenses (including course materials), and the income phase-out begins at $80,000 for single filers and $160,000 for couples filing jointly. The income limits for claiming the Lifetime Learning Credit also increased for 2009.
New vehicle deduction. If you bought a qualified new car or truck between 2/17/2009 and 12/31/2009, you might be able to deduct the state and local sales and excise taxes on up to $49,500 of the purchase price. You can take the deduction whether or not you itemize. The deduction begins to phase out at $125,000 of modified adjusted gross income for single taxpayers and $250,000 for couples filing jointly.
Energy credits. If you made certain energy-related upgrades to your property in 2009, you could be getting a bigger tax break than you expected. Congress bumped the credit for energy-efficiency improvements, such as better windows and insulation, to 30% of the cost (from the previous 10%). The cumulative credit you can take for 2009 and 2010 energy-efficiency improvements is capped at $1,500, but Congress removed the cap for newly installed energy-saving systems, including solar energy, geothermal heat pumps, and small wind turbine equipment.
Midwestern disaster relief. If you live in a Midwestern federally declared disaster area, be sure to find out if you qualify for any of the tax-relief provisions described in IRS Publication 4492-B.
Haiti earthquake contributions. Normally, charitable contributions are deductible only for the tax year in which they’re made. This year, however, you can deduct contributions you made after January 11 and before March 1, 2010, to a qualified charity for Haitian earthquake relief efforts. A note for high-income taxpayers: If your charitable contribution deduction for 2009 is restricted because of your income, you might want to wait to deduct your Haiti contribution until 2010, when the income restriction is dropped.
Unemployment provisions. If you received unemployment benefits in 2009, you can exclude the first $2,400 from your taxable income. Also, remember that you can deduct job-search expenses as a miscellaneous deduction, to the extent that all of your miscellaneous deductions exceed 2% of your adjusted gross income.
Itemize, or not?
The decision of whether to itemize your deductions or take the standard deduction deserves some extra attention this year. The standard deduction may be more attractive for several reasons, but rule changes could also increase your itemized deductions. Here’s an overview of the changes:
Standard deduction increase. If you choose not to itemize, the standard deduction is $11,400 (up $500 from 2008) for married taxpayers filing a joint return and $5,700 (up $250) for single filers. In addition, joint filers can tack on up to $1,000 of real estate tax paid; single filers, up to $500. Plus, as previously noted, the deduction for sales tax paid on a new vehicle can also be added to the standard deduction.
Increase in income threshold for itemized deduction phase-out. For 2009, the value of your itemized deductions is reduced when your adjusted gross income exceeds $166,800, regardless of filing status, compared with $159,950 in 2008.
Other expanded tax breaks. In addition to the more-favorable provisions already mentioned, tax-law changes have increased the phase-out thresholds for excluding Education Savings Bond interest and deducting student loan interest. Also, the amount of long-term care insurance premiums you can include as a deductible medical expense has increased.
Alternative minimum tax (AMT). The AMT has thrown a wrench into more than one carefully planned tax strategy by negating many potential deductions. For 2009, the AMT exemption amount increases to $46,700 for individuals and $70,950 for couples filing jointly. If you’re still affected by the tax, you’ll need to carefully consider its impact on your tax deduction strategies.
Remember any tax-loss carryforwards
Many investors sold investment assets in 2008 for less than their cost basis. If you have unused capital-loss carryforwards from 2008, or previous years, you generally should be able to use them to offset capital gains realized in 2009. If your losses exceeded your gains, you can generally use the excess to offset up to $3,000 of ordinary income ($1,500 married filing separately). Unused net capital losses can usually be carried forward in future tax years subject to applicable tax rules and limits.
Cut your tax-filing and preparation expenses
Don’t add to your tax-time pain by paying more than necessary to prepare and file your taxes. If you use a tax preparer, make sure you have gathered and organized the necessary documents, which will reduce the amount of time your preparer has to spend looking for missing and misfiled information.
Finally, don’t procrastinate. You are more likely to make a mistake if you are rushed.