Taxing advice: effective tax planning is year-round, not a year-end checklist.

• Author: Sanderson, Jeffrey A.

The art of tax planning has become very complex in the environment of ever-changing tax laws. In most cases, the year-end checklist approach to tax planning will not provide taxpayers with the tools necessary to effectively manage their tax liabilities. Frequently discussed total overhauls of the current federal tax system would suggest a "crystal ball" may become the most effective tax-planning aide.

Despite the uncertain future of tax legislation, taxpayers can still take certain steps to effectively manage their tax liabilities on a year-to-year basis. Generally, tax planning focuses on four primary areas:

* Deferring tax to subsequent years.

* Shifting income to other years or other taxpayers to achieve a lower effective tax rate.

* Taking advantage of all possible deductions, exclusions and tax credits.

* Planning for such special events or transactions as retirement, sale of property, divorce, etc.

WHERE TO START?

One of the first decisions a taxpayer will make that will impact all future tax planning is the method of accounting. The cash method of accounting will generally provide the greatest flexibility in managing tax liabilities. Taxpayers using the cash method of accounting recognize income upon the actual receipt of cash or other property and become entitled to deductions upon payment of expenses. Cash-basis taxpayers will be able to defer income on their accounts receivable and generally accelerate deductions through the prepayment of expenses.

Cash-basis accounting is a powerful planning tool, although its use is restricted to certain taxpayers. Generally, all individual taxpayers may use the cash method of accounting. Personal service corporations, S-corporations and C-corporations with gross receipts of less than $5 million also can use the cash method of accounting. But any entity that maintains inventors may not use the cash method of accounting.

There are other accounting-method decisions that may also assist in deferring taxable income. They include long-term contracting, inventory valuation, accrual of such recurring items as property taxes, and installment-sale reporting to name a few.

The specific use of an accounting method is elected or presumed based on the treatment of prior transactions and most times cannot be changed without the consent of the Commissioner of the Internal Revenue Service.

REAL ESTATE TRANSACTIONS

Real estate investments create several planning opportunities to defer or reduce taxable income.

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