As we swing into the new year, it’s easy to forget about taxes and tax planning. April 18 seems a long way off and taxpayers typically get busy with family and work in the new year and don’t think about taxes. It’s understandable.
But there’s one thing you need to do in 2017 to ensure a smooth filing season, and it’s super easy: buy a new ledger; flip over a new page in your expenses notebook; or enter your financial transactions in your 2017 accounting software. Whatever system you use, finish off your 2016 entries now and start 2017 fresh. And do it now – and not at the end of the month. Or the end of next month.
Here’s why.
All of that planning that you’ve been reading about for weeks now? Timing your charitable deductions? Prepaying your mortgage? Paying your medical expenses by year end?
It all tends to be forgotten by tax time. And taxpayers who simply rely on financial and bank statements consistently get it wrong. That’s because financial and bank statements provided by third parties – like your bank or broker – will evidence your transactions when they are recorded or cleared, not when you made or initiated them. That means that the check that you wrote on December 30, 2016, may show up on your bank statement as a January 4, 2017, transaction – those few days make a huge difference when it comes to income and expenses for tax reasons. And if a small business or other company is closed for the holidays or holds onto your payment for a while, it could be weeks before the transaction is actually recorded.
That means when you pull out your December statements in April to figure out what might be deductible, you lose the benefit of any planning you did that doesn’t show up on that statement. But you’re still entitled to the deduction when made so if you get the dates wrong, that mistake will cost you. It could result in hundreds – or in some cases – thousands of dollars in missed deductions. Ouch, right?
Here are the rules on timing. In most cases, income is taxable when received or made available to you (you can’t just hide that check in a drawer and defer it to the following year). Expenses are typically deductible when paid, meaning when the check is in the mail or when you make the charge.
That’s why it’s important to get it right the first time. Keeping accurate, contemporaneous records is your best bet.
So no more guesswork or fudging come April. No more furiously digging up credit card receipts and old checkbooks. No more racking your brain to try and remember when you paid your hospital bill or made a donation to charity. Start the year off right and tax time will be a breeze.
* One quick caveat: I’m focusing on cash-based taxpayers since the majority of individual taxpayers are on a cash-based system. If you’re an accrual-based taxpayer, consult with your tax professional for more information on timing income and expenses.
