First-time retirement plan tax credits

Nov. 1, 2005
I am a new dentist with a small staff. I’m planning to set up a retirement plan this year for the first time.

I am a new dentist with a small staff. I’m planning to set up a retirement plan this year for the first time. Are there any tax credits I can take advantage of?

Section 45(A) of the tax law allows a tax credit equal to 50 percent of the start-up costs paid to establish or maintain a new qualified retirement plan, with a maximum credit of $500 for the first year and each of the next two years thereafter. You will qualify as an eligible employer and can claim the credit if you did not sponsor a qualified retirement plan during the previous three years. The credit applies to costs incurred either to establish or administer the retirement plan, or for retirement-related employee education.

I am interested in purchasing a hybrid car for future business purposes. Is there any special tax deduction I will be able to take?

If you purchase a hybrid business car (combining an electric motor with an internal combustion engine) for business purposes, you can qualify for a $2,000 income tax deduction in 2005. Beginning next year, hybrid car purchasers will be eligible for a tax credit (dollar for dollar reduction in tax liability), ranging from $1,700 to $3,000 under the recently passed energy bill. The amount of the credit will be tied to two components: hybrids that save the most fuel compared with 2002 models, and the vehicle’s estimated lifetime fuel savings. For example, Toyota Prius buyers would get a tax credit of around $2,750 in 2006. However, if you are really interested in purchasing this type of vehicle, you shouldn’t delay, since the credit phases out once the manufacturer sells 60,000 hybrids.

Recently, I read that I might be able to do a Roth contribution through my 401(k) plan. Is this correct?

Beginning Jan. 1, 2006, 401(k) profit-sharing plans may be amended to offer an opportunity to contribute funds to a Roth IRA-like account. Salary reduction contributions to the Roth account are not deductible. Accordingly, they will not reduce the doctor’s taxable income, as do regular salary deferrals into the 401(k) plan.

Contributions to the Roth IRA are not limited by the regular IRA contribution limit. As a result, doctors may make salary deduction contributions into the Roth account up to the maximum $15,000 regular salary deferral limit or $20,000 annually for doctors aged 50 or older, regardless of their income levels.

The advantage of the Roth contributions is that they grow tax-deferred and can be withdrawn tax-free in retirement, as a general rule. However, salary reduction contributions to the Roth IRA are not tax-deductible. Accordingly, doctors should consult their tax advisors to determine if they are better off continuing tax-deductible 401(k) salary deferrals or if they should take advantage of the Roth IRA contribution opportunities beginning Jan. 1, 2006.

For more information on the new Roth 401(k) opportunities, send a self-addressed stamped envelope to John K. McGill & Company, 2810 Coliseum Centre Drive, Suite 360, Charlotte, NC 28217, and request, “Should You Add a Roth 401(k) Option to Your Retirement Plan?” August 2005.

I own some highly appreciated real estate that I plan to gift to a family limited partnership, primarily for the benefit of my three children, ages 14, 16, and 18, to fund college expenses. How much can I gift tax-free in 2006?

The annual gift tax exclusion has been indexed for inflation and rises from $11,000 per donee per year to $12,000 per donee per year, effective Jan. 1, 2006. Through utilizing the split gift election, you can consider the gift as being made as one-half by each spouse, thereby doubling the annual exclusion to $24,000 per child. Gifts in excess of this amount are still tax-free, but reduce the doctor’s $1,000,000 lifetime gifting exemption.

Last year, I incorporated as a Subchapter S corporation. Several years ago, I heard a speaker recommend that doctors pay disability insurance premiums personally and, following the close of the policy year, have their corporation reimburse them if they do not become disabled. Is this still a good tax strategy for a Subchapter S corporation?

No. The payment of disability insurance premiums is a nondeductible expense for Subchapter S doctors, along with those who operate on an unincorporated basis (sole proprietors, LLC, LLP, partnerships, etc.). However, the disability insurance proceeds received by these doctors will be tax-free.

John K. McGill is a tax attorney, CPA, and MBA, and is the editor of The McGill Advisory, a monthly newsletter helping dentists to maximize profitability, slash taxes, and protect assets. The newsletter ($199 a year) and consulting information are available from John K. McGill and Company, 2810 Coliseum Centre Drive, Suite 360, Charlotte, NC 28217. Call (704) 424-9780 or visit the Web site at www.bmhgroup.com.

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