The beginning of a new year is a great time to take advantage of opportunities that you might be missing on your tax return. Some opportunities you can take advantage of for the previous year and some in anticipation of the next year’s taxes:
1. Fund a 529 plan for your child’s education
A 529 plan is a college savings plan that you can establish on behalf of your children. The 529 plan is established by a state and, in many states, deductible on your state tax return. Any earnings on the funds in a 529 plan are tax free as long as the proceeds are used for qualified education expenses.
In Oregon, a couple filing jointly can get a $4,620 deduction for 2016 for any funds that they put into an Oregon 529 plan. Contributions can be made up until April 15th. If you established a 529 plan in another state, you can roll your out-of-state plan into an Oregon 529 plan and receive a deduction in Oregon for the previous contributions and carry forward the excess contribution for up to four years. The deduction in Oregon is only available if the original contribution was not a subtraction in the other state.
2. Take Advantage of the Domestic Production Activities Deduction for CEREC machines
The Domestic Production Activity Deduction is a special deduction available to businesses that manufacture a product in the United States. The deduction, in general, is limited to 9% of direct wages paid or net income from the qualified activity.
For dentists, milling your own crowns with a CEREC or similar machine qualifies for this deduction. To take advantage of this benefit, you will need to develop a reasonable method to determine how much revenue you derived from your CEREC and the wages you paid to have your team run the CEREC.
3. Maximize your contributions to your Health Savings Account (HSA)
If you already have an HSA, but you didn’t maximize your contributions for the year, you have until April 15th to make contributions to your HSA. The combined employee and employer contribution limit for 2016 is $3,350 for an individual and $6,750 for a family covered by the high deductible plan. A $1,000 Catch-up contributions is also available if you are over the age of 50.
Your contributions to your HSA are pre-tax, the earnings are tax free, and distributions from the HSA are tax free as long as they are used for qualified medical expenses. Unlike many other deductions, there is no income limitation for HSA contributions, so everyone can take advantage of this great opportunity.
If you don’t have an HSA, you may want to consider it as an option for 2017. An HSA is good for a relatively healthy individual or family. If your expected, out-of-pocket costs are less than the limits listed above, you would probably come out ahead switching to a high deductible plan with an HSA.
4. Start a Retirement Plan in January/February
It’s too late to start a 401(k) or SIMPLE plan for 2016, but you can get a plan in place for January or February of 2017. Starting earlier in the year makes it easier to maximize your deferrals and retirement plans can be a great employee benefit which helps with key employee retention.
A properly structured 401(k) can allow a doctor to contribute up to $54,000 of deferrals and employer contributions in 2017. If you also employ your spouse in the practice (see that topic later), they could also maximize their deferrals ($18,000) for a grand total of $72,000. A $6,000 catch-up contribution is also available if you or your spouse or both is over the age of 50.
A properly structured SIMPLE retirement plan, in addition to being very easy to set up, allows a doctor to contribute up to $20,600 in deferrals and employer matching. If you employ your spouse they could also maximize their deferrals ($12,500) for a grand total of $33,100. A $3,000 catch-up contribution is also available if you or your spouse or both is over the age of 50.
Any money contributed to a retirement plan is a direct reduction of taxable income from the practice. For most dentists this means a marginal tax savings of 40% of what you contribute.
5. Employ your Family in the Practice
Employing your spouse and children in the practice is a fantastic way to reduce your taxes.
The first step to employing your family in the practice is to find them bona-fide positions in the practice. Spouses tend to help on the administrative side, keeping the books, helping with staffing and scheduling, and other similar tasks. Children can be paid for posing in photographs, cleaning up inside the practice or landscaping, and even help with some of the administrative tasks. Once you’ve determined their position, you need to determine what that labor is worth per year.
Dependent children can earn up to $6,300 in taxable wages (assuming no other income) without having to file a federal income tax return. Please note, state income filing requirements differ from the Federal amount and you should consult your tax advisor. These wages can be used to fund a 529 plan or a Roth IRA, which both have tax free earnings and distributions (if qualified distributions).
6. Capture all of your deductions for the use of your personal assets
If you use your personal assets, such as your car or house, for business activities, you can be reimbursed by the practice and the practice can deduct that reimbursement as an expense.
If you drive your car for business purposes, such as taking the deposit to the bank, picking up supplies from the store, or driving to CPE, you can reimburse yourself 53.5¢ per mile driven. You must keep a mileage log showing the date, distance, and purpose for the drive. Many doctors drive 6,000 miles per year or more.
You may also rent out your house to the practice for team retreats or holiday parties for a reasonable rate. As long as you rent your home fewer than 14 days in the year, none of the rental income is taxable, and the practice is able to deduct the rent.
Other opportunities include paying for cell phones and tablets data plans as a working condition fringe benefit. The only substantiation needed is the purpose for providing the cell phone or tablet.
7. Changing Entity Type to S-Corporation
Changing your entity type to S-Corporation can have a lot of benefits for many dentists. The big advantage with an S-Corporation is that there is not double taxation on the net business income.
If you are a sole proprietor with $400,000 in income you are paying Medicare taxes of 2.9% on the entire amount and potentially an additional 0.9% higher Medicare tax. However, if you convert to an S-Corporation, only your W-2 compensation is subject to the 2.9% Medicare (and additional 0.9%).
That said, S-Corporations do have drawbacks. Preparing an S-Corporation tax return will increase your tax preparation fees (although the fees for your personal return should go down). There may also be loss limitations to doctors who are still building their net income and making large purchases.
8. Becoming your own landlord
Purchasing your own dental building is a fantastic move for an established dentist. Not only do you have the opportunity to fully control your work environment, patient experience, and you can create another form of cash flow in retirement.
In addition, purchasing your own building allows you to take advantage of the depreciation and offset the rental income. Typically a dental building will be depreciated over 39 years, so, if your building cost $390,000 (excluding land value) you would receive a depreciation deduction of $10,000 per year. However, having a cost segregation study (breaks down the building into separate units of property), will allow you to shorten that depreciation period from 39 years to 5, 7, or 15 years resulting in much, much larger deductions in the first 15 years you own the building.
You should consult your own tax advisor regarding your tax needs and the opportunities available to you.
Dental CPAs Jennifer Howard, CPA, Theron Sikora and Elliott Tracy, CPA help dentists and practice administrators manage their practice more profitably and make the most of their opportunity. They specialize in practice management, advisory services, and tax & accounting services for dental practices across Oregon & Southwest Washington.