Bundling deductions is a simple way to make the most of your deductible expenses in 2017. By pre-paying known future expenses today, you can pull forward the deductibility of those costs into the current tax year. If your income is expected to be lower in 2018, bringing your deductions forward avoids taxes at your highest marginal rate and saving a higher percentage than if those same expenses were spread over two or more tax years. Bundling may also lower your itemized deductions enough in the next year to gain additional savings from the standard deduction.
Consider the information in the chart above. Let’s assume the Miller family paid $10,000 in mortgage interest, gave $2,500 to charity, and paid $9,000 in property taxes in 2017. The Millers will choose to itemize their deductions in 2017, because the sum of their qualifying itemized deductions at $21,500 is more than the standard deduction of $12,700. The same would also be true in 2018 assuming their expenses are similar year-over-year and the standard deduction does not increase. The total deduction value over two years would equal $43,000.
Alternatively, the Miller family could bundle their deductions and pull forward known future expenses into the current tax year. Making one additional mortgage payment would increase their total mortgage interest expense to $10,833 and pre-paying charitable donations and property taxes would double the deductible cost to $5,000 and $18,000 respectively. After bundling, the Miller’s 2017 itemized deductions will have leaped to $33,833. As a result, there are few expenses remaining to itemize for the 2018 tax year allowing the Millers to instead take the standard deduction. The total deduction value over two years would increase to $46,533.
However, the ability to bundle deductions may change in the years ahead if Congress raises the standard deduction or alters the current rules for mortgage interest and property taxes. Doubling the standard deduction would further improve the Miller’s net savings from bundling 2017 deductions. The total deduction value over two years would increase to $57,833.
In light of this information, what actions can one take in the last month of this year to maximize tax savings ahead of proposed tax changes? Outlined below are a few of the most common tax deductions and examples of how tax payers can bundle these expenses in a manner that maximizes long-term savings.
Like clockwork, we make our mortgage payment twelve times a year on the first of every month. But, what if you paid your January 1st, 2018 mortgage a few days early? If you decided to pay your mortgage in late December, a 13th payment cycle would be included in your 2017 tax-year and allow you deduct an additional months’ worth of mortgage interest on your 2017 tax return.
Taxpayers can deduct medical expenses that exceed 10% of their Adjusted Gross Income (AGI). However, this 10% threshold can be difficult to reach if you have yet to incur a large amount of medical expenses. If a taxpayer’s 2017 AGI is $100,000, they may only deduct medical expenses that exceed $10,000. Consider bundling medical costs by prepaying dental and orthodontic services, insurance premiums, lab tests and supplies ahead of time.
Charitable giving is an easy way to decrease your taxable income, especially if you already have a favorite cause. Let’s consider a couple who gives $250 per month to their local church. Instead of spreading that donation over time, it would be advantageous to make a larger donation in December and skip the first few months of giving in 2018. We also recommend asking if a Donor Advised Fund (DAF) may be right for you. Similar to donating appreciated stock to charity to avoid capital gains tax, a DAF account can receive donations of appreciated securities creating an immediate tax deduction while also allowing you to spread the distribution of funds across multiple years in the future.
It’s all but certain your property taxes will be the same or higher in the years ahead, but recent developments on Capitol Hill have called into question whether property taxes will continue to be deductible. Instead of waiting until next year to find out, why not prepay your tax bill (or some of it) before year-end? For those living in the Harris County, your 2017 property tax is not typically due until January 31, 2018. However, we recommend searching for your property tax bill online via the Harris County Tax Assessor-Collector’s website and making your payment this year to pull the deduction forward.
These are just a few ideas we have helped clients execute in the past and might be useful in maximizing your 2017 tax deductions. As tax reform inches closer to becoming law, keep in mind that the benefits of itemized deductions may change in the years ahead. It’s important to review your unique tax situation before deciding if bundling deductions is right for you.