Top ten "easy" tax shelters

by Tony Novak, MBA, MT, OnlineAdviser at Freedom Benefits revised 11/28/2011

There are many legal strategies available to reduce income tax liability built into our federal tax laws. Adopting one or more tax strategies now will result in lower taxes next spring. This listing below is meant to highlight the planning possibilities but is not intended to be a complete discussion of all of the details.

1. For empty nesters...it pays to downsize the home. Married couples can exclude up to $500,000 ($250,000 for single people) gain can be excluded on the sale of a home. That means possibly a half million dollars completely free of income tax! No other provision in the tax law is as generous. Considering the recent run-up in housing prices in many areas, now may be the time to consider cashing in and trading for a less expensive dwelling. There is no need to reinvest the gain in another house, so this is a perfect for empty-nesters who may be ready to downsize.
2. For self-employed individuals...Stretch pension deductions. Self-employed individuals can deduct up to 100% of income or up to $205,000 for contributions to a private pension plan. This is an extraordinary opportunity for high income people close to retirement age who are self-employed or work in a small business.
3. For small businesses...Write-off of up to $100,000* of purchases used for business. This break has been nicknamed the Range Rover write-off. Even if you bought it with a 100% loan and have not yet made the first payment, the entire purchase price is immediately tax-deductible. This tax break was meant to provide extra spark to the economy, and it seems to be working.
4. For employees...Receive tax-free reimbursement for out-of-pocket health care expenses. Use a Medical Savings Account (MSA) if you are self-employed or a Health Reimbursement Arrangement (HRA) if you are an employee. Even better tax-saving opportunities are expected soon using Health Savings Accounts (HSA). This should be an easy way to save $1000 per year in taxes.
5. For low income wage earners...tax credit for low income individuals who make retirement plan contributions. The federal government effectively matches 50% of your deposit with a tax credit. Of course, the problem is that low income people do not have money to make retirement plan contributions. But parents could make a gift of IRA deposits to their children, for example, to effectively earn an immediate 50% return on their investment.
6. For investors...eliminate taxable dividends and short term capital gains. Mutual funds are not tax-efficient for most investors. Exchange-traded funds, on the other hand eliminate all of the unwanted taxable distributions and put tax control in the hands of the investor
7. Use a deferred compensation plan. Despite recent tightening of rules for stock options and deferred compensation plans using corporate-owned life insurance, it is still easy to defer income using an employee benefit plan.
8. Tap into cash value life Insurance. All investment gains and death benefits are tax free to your named beneficiary. Living benefits taken in the form of policy loans are also tax-free in a properly constructed policy. Few other financial vehicles offer this liberal tax treatment.
9. Take advantage of bon-cash tax deduction for real estate depreciation. While you watching your rental properties rise in value, you may write off part of the purchase price and fix-up costs up to $25,000 per year even if most of the purchase price was borrowed.
10. Use asset-based mortgages. for affluent individuals make it easy to finance 100% of the value of a primary home or vacation house. The interest is deductible and at today' s low interest rates, many are using a "cash out" refinancing to free funds for investments and other ventures.

Before committing to any tax strategy, complete a pro forma tax return to test the strategies for your unique situation. Pay special attention to income based phase-outs and the alternate minimum tax.

* This is the amont for 2006. The amount changes each year based on adjustments in tax law.