Tax planning never stops: Start the year with a fiscal exam

Leonard Kogan, MD, schedules two or three checkups for himself each year. He doesn't see a fellow doctor, and the appointments aren't for any particular disease or disorder. Rather, he makes them so he can keep his finances in order.

Dr. Kogan is a firm believer in frequent fiscal checkups with advisers and accountants. The examinations help him make sure his finances are structured in the most tax-advantaged way. He figures that makes him different from most doctors.

"Most physicians will probably go to their doctor but won't go to their financial helper," said Dr. Kogan, a retired ophthalmologist in the Washington, D.C., area. "They spend so much time on their practice, but not enough on their financial security and their family's financial security."

He knows firsthand the value of paying regular visits to advisers. Over the years, they have helped him with investments, exposed savings and revealed hidden tax deductions.

In fact, experts say the beginning of the year is the best time for taxpayers to put their finances in order. Indeed with tax implications for the whole year ahead, they say it's the right time to make changes to retirement plans, alter the structure of a business entity or make charitable gifts. And with financial records amassed in advance of the April 15 tax deadline, it also can be a ripe time for getting organized, creating a budget and forecasting quarterly tax payments or other expenses.

"It's the time to do it. The ballgame has begun, it's the new year, and it's time to go to bat," said Paul H. Naden, an accountant and lawyer in Baltimore.

Beginning-of-the-year tax planning isn't all forward thought. If income adjustments are needed for the previous year, a few options are available in January.

Payments can be made in 2004 to fund some retirement plans for the prior year. Naden said contributions to simplified employee pension plans or some individual retirement accounts can be made until April 15 and count toward the previous year's tax filing.

Cheryl Pimlott, a New Jersey tax manager, said people whose income varies from year to year can benefit from the flexibility of this type of tax deduction. "If you anticipate your tax liability in 2003 to be higher than in 2004, it's better to take the deduction for the prior year."

Pimlott said that even if the contribution is made for the current year, putting in the money in January can be advantageous because the investment has a longer life that year. "It's better to do it earlier in the year because any investment income that is earned is earned tax-deferred," she said.

The same holds true for a gift of stock, whether it's made to a family member or a charitable organization. "In effect you will have given a larger amount because all the appreciation is earned in the donee's name," Pimlott said.

How's that retirement plan?

The new year also can be a good time to re-evaluate how well an existing retirement plan is working and make changes to it, said Joel Maller, who owns an accounting firm in Rockville, Md.

He said it might be a good idea to fund retirement plans early this year because the market is relatively low and may increase throughout the year. "There's every reason to believe the market could have a good year in 2004," Maller said, "so why wouldn't I want to buy stocks cheaper?"

"Any kind of planning is always better done early rather than late," Maller continued. "And it's the time you're naturally putting your information together because you're getting ready to do your taxes. Why not take advantage of the opportunity to think forward instead of backwards?"

John Gordon, MD, tries to do just that at his solo practice. He meets with an accountant four times a year, in part to plan for contributions to the retirement fund, which serves him and six or seven employees.

Dr. Gordon, an orthopedic surgeon in the Baltimore area, plans early and sets up a schedule for monthly payments to the fund. He said it's easier to pay smaller amounts in more frequent increments than getting stuck with all the funding at the year's end.

"We try to plan it out. That allows it to survive. You decide how much you're able to do, and you try to max it out, if you can," he said. "It's easier to come up with a couple thousand a month than several thousand quarterly."

Some experts say it also can be advantageous to set up other types of employee plans early in the year, such as medical reimbursement plans and plans for various child-related expenses. Pimlott said such plans develop with time. "The earlier you start, the more you can save."

The plans can help employees save taxes on medical insurance, dependency care and out-of-pocket expenses, she said, as well as saving the employer some payroll taxes.

There are a few changes in tax law that take effect this year and that could have a significant effect on how some taxpayers organize their finances.

Carol I. Katz, an accountant in Baltimore, said perhaps the most significant change is in estate taxes. In 2003, a person could die with an estate of up to $1 million in assets before heirs had to pay taxes on it. The figure jumped to $1.5 million this year, and Katz said it is expected to keep changing over the next several years.

The tax cuts that took effect last year are generally still in place, including lower income tax rates, a cap on the tax rate for dividend income, deductions in the capital gains tax and bigger deductions for equipment purchases. But Katz said some states had taken steps to offset the loss of revenue from the changes, so taxpayers should check with a local accountant to see what their state law requires.

Maller said many investors hadn't taken advantage of last year's tax cuts. He said they might want to consider changing their investment mix now because of the new law, though he cautioned that the rates and changes won't be in place forever.

"Generally it comes down to: Should the driver be the investment decision or the tax decision? I'm not that confident of any tax law remaining in effect for that long," he said.

Same-old, same-old this year

Maller doesn't expect major tax changes in 2004. "The chances of significant tax legislation in an election year are pretty slim," he said.

In addition to getting investment portfolios in shape, many experts say the beginning of the year is the best time to do some housekeeping on the bookkeeping. That could mean setting up a new system for organizing financial records in accordion files or even putting those records into a software program so they can be stored and managed electronically.

"It's a great time to get organized," Maller said. "It's kind of similar to a New Year's resolution: 'We were slobs last year but let's this year keep everything straight and keep tabs on things.' "

Naden said January is the best time to consider implementing an electronic system to manage expenses. A taxpayer could start a system in July, he said, but he or she would still have to look back over the calendar year for tax purposes. "It's better to start in the beginning than in midyear."

When he meets with clients for a new year's financial physical, Naden starts by putting together a master list of personal and business tax deductible items. Then he and his client identify hybrid expenses, those that might be partly business and partly personal.

The master list can help a person figure out how to take advantage of those deductions throughout the year, whether that is by planning travel differently or using the car for both business and personal purposes or trying something else.

Naden said professionals in partnerships should plan a similar meeting with their partners to develop the best business strategy for the year. "It's very advisable for these partners to have a beginning-of-the-year planning meeting. They have to talk about personnel in their offices, their facility, their pension plan, they have to talk about a lot of things," he said.

Maller said the new year meetings provide a good setting for developing a budget, either personally or professionally. He said committing to putting money into education plans, IRAs, college savings plans and more is easier when it starts with the new year. "Get it going right from the beginning of the year, and you will get yourself used to living on what is left," he said.

Get ready for estimated payments

Once the books are in order and a budget has been developed, a clearer picture of income might come into focus. That should help self-employed professionals, many of whom must make estimated quarterly tax payments to the government.

The first quarterly payment is due April 15, so Katz said early-year planning is necessary to ensure that the money will be available then. Because the payments are typically based on prior year earnings, and earnings can vary greatly for physicians, she said it is especially important for them to meet with an adviser to plan for the payments.

Having a good grasp of expected income also may help with planning for any office equipment purchases. Maller said professionals should consider making such purchases this year or next because the $100,000 equipment expensing tax deduction signed into law in May 2003 is expected to expire at the end of 2005.

"The combination now of the expensing deduction and low interest rates to be able to finance this stuff makes this an interesting time to re-evaluate your fixed-asset needs," he said.

Last year's tax law also had an impact on decisions about which business structures are best suited to a particular practice. Pimlott said some businesses might want to elect to become S corporations this year because of advantages they now have under the new tax laws. She said those changes, and other business elections, typically need to be made before March 15.

Once all of the planning is complete, Naden said, the hard part is over. He still recommends checking in with an accountant adviser a few more times through the year, but he said there shouldn't be any more surprises.

"Good tax planning is based on informed decisions -- not crisis management," he said.