Taxes are probably the last thing you want to think about during the holiday season. But if you do, you may be able to save yourself some money and a lot of heartache in 2010.
That's particularly true this year because a combination of economic factors and temporary tax breaks have created a small tsunami of challenges and opportunities. What you should be thinking about before year's end:
Have you withheld enough?
Last year's Emergency Economic Stabilization Act demanded that employers take a little less out of every worker's paycheck to adjust for the "making work pay" credit that will be provided to single workers earning less than $75,000 and married couples earning $150,000 or less.
But if you earn more, are one of two working spouses, or have a side job or pension income, this lower withholding could mean that you have underpaid your taxes and are headed for a nasty surprise come April.
To check, run a quick projection by estimating this year's income and pulling out your latest pay stubs to determine how much tax is being withheld from your checks.
If you've paid less taxes than last year but don't have less income, bigger deductions or some reason to think you'll get the new credit, start setting money aside to pay the taxes you'll owe next year. (You could also do this by withholding more money from your paycheck. See your employee benefits department for help.)
Looking for work?
Millions of people lost their jobs last year and had to spend money going to interviews, printing resumes and taking contacts to lunch. You need to keep track of those costs because your job-search expenses are tax deductible, said Mark Luscombe, principal tax analyst with CCH Inc., a Riverwoods, Ill., publisher of tax information. The catch is that job-search expenses are classified as "miscellaneous itemized deductions" and can be written off only if they exceed 2% of your adjusted gross income.
Can you bunch deductions?
Exceeding that 2% figure can be a challenge. With that in mind, it may be a good idea to try to push into this year all your possible deductible expenses, such as those for business subscriptions, dues payments and maintenance on a car that's used primarily for work. "Bunching" these miscellaneous deductions into one year helps you clear the threshold and get more tax deductions for your money.
On the bright side, when your income is down perhaps because of a job loss or a cut in pay, it's easier to clear that 2% threshold, said Philip J. Holthouse, partner with the Santa Monica tax accounting firm of Holthouse Carlin & Van Trigt.
Did you become an accidental entrepreneur?
The deductions you can claim when you call yourself an out-of-work employee pale in comparison with the deductions you can take if you call yourself "self-employed.";col1
Those who have secured some contract or freelance work -- or even those who simply aim to -- can take dozens of deductions and credits for home office expenses, business equipment, mileage and even their health insurance premiums. And there are no income thresholds to clear to take these write-offs.
You don't have to form a corporation or pay for business licenses to claim self-employment deductions. All you need to do is keep good records and file a Schedule C. This form helps determine your profit or loss from a business, allowing you to write off advertising costs, the cost of equipment and goods sold, business travel and the like. (Health insurance costs are claimed on the 1040, not the Schedule C, but they're also fully deductible for self-employed people.)
The one catch: If you fail to turn a profit on your sole-proprietorship after three years, the IRS will call your business a "hobby" and disallow the deductions.
Need a car?
There's a quickly expiring tax deduction that allows you to write off the sales and excise taxes paid on a new car, light truck, motor home or motorcycle purchased between Feb. 17 and Dec. 31, which can make this a good time to replace your vehicle.
This short-lived break can be claimed regardless of whether you itemize or take a standard deduction, but is available only for taxes paid on up to $49,500 of a vehicle's purchase price. It also phases out for those making more than set amounts. If you are single and earn more than $125,000 or married and earn $250,000, you begin to lose the deduction. It is phased out completely once income hits $135,000 for singles or $260,000 for married couples.
Additionally, if your income is close to those thresholds, you need to worry about the alternative minimum tax, which can wipe out the value of the break, Holthouse said.
Those earning less than $100,000 are rarely affected by the AMT. Not sure whether you're affected? Ask your tax accountant.