You can reduce the amount you owe, if you know where to look. Here's help.

Things look brighter for physicians this tax season. If you've grown accustomed to being squeezed by the IRS, you'll appreciate some new tax breaks that went into effect last May. These come in addition to other, often-overlooked ways to reduce your tax bill.

FORM 1040

Open an IRA for a nonworking spouse

"Many doctors assume they can't get a deduction for IRA contributions, but that's not always the case," says CPA Mary McGrath, of Cozad Asset Management in Champaign, IL. As long as your adjusted gross income for 2003 is $150,000 or less, you can deduct contributions to an IRA set up for an unemployed spouse. You must choose a traditional IRA, though, not a Roth IRA. Because Roth IRAs are funded with after-tax dollars, contributions to them aren't deductible. (However, withdrawals from a Roth are tax-free if you're older than 59 1/2 and have had the account for more than five years.) Your spouse can put up to $3,000 into the IRA if he or she is younger than 50—$3,500 if 50 or older. Enter the amount on Line 24 of your Form 1040.

Establish and fund a retirement plan

Even if you're young and saddled with debt, a self-employed doctor should fund a retirement plan; it earns you a deduction on Line 30 of your Form 1040. The earlier you start, the better, because the more time you have in the stock market, the more time your money has to grow.

If you haven't contributed to a retirement plan for 2003, you generally have until April 15 to do so. If you're self-employed or in a partnership, you can open a SEP IRA with any major bank, brokerage house, or mutual fund company and contribute 20 percent of your net income (minus half your self-employment tax), to a maximum of $40,000. Slightly different rules for contributions and deductions may apply to different types of retirement plans, so consult with a tax professional as soon as possible.

Take another look at the standard deduction

Relief has finally arrived for married couples who file jointly. The basic standard deduction is now $9,500—double the amount for single taxpayers—compared with $7,850 last year. Previously, marrieds who filed jointly paid more tax as a couple than they would have if they were single and had filed individual returns.

"The new rule will save couples in the 25-35 percent tax brackets about $1,000," says CPA Guy McPhail, of Zdenek Financial Planning in Flemington, NJ. If you're taking the standard deduction instead of itemizing, it goes on Line 37 of Form 1040. Alas, this year's bounty will probably be short-lived: Beginning in 2005, couples who file jointly will once again receive less than twice the amount as a single person.

SCHEDULE A

Count your boat as a second home

Have you been daydreaming about lounging on your boat instead of worrying about tax deadlines? Maybe this'll get your attention: Interest on a loan used to purchase a boat, mobile home, or house trailer may be deductible on Line 11 of Schedule A. That's where you'd enter the amount if this interest wasn't reported to you on Form 1098, in which case it would go on Line 10. To qualify, any of these vehicles must have sleeping, cooking, and toilet facilities. The specific amenities needed aren't clearly defined, however, and the IRS is apt to question the deduction if your return is audited. Check with your tax adviser.

Write off losses in a savings plan

If you terminated a qualified tuition program (also known as a Section 529 plan) that lost money, you can deduct the loss as a miscellaneous itemized deduction on Schedule A, Line 27. Identify it as a "loss from termination of a college savings plan."

"Some physicians may have closed out accounts with a troubled firm such as Putnam or Strong in 2003 but don't realize that they can get a tax benefit from this," McGrath says. "Or maybe they've hesitated to close such accounts because they think they can't open new ones elsewhere. That needn't hold them back."

SCHEDULE C

Grab a tax break for hiring your kids

If any of your children worked in your practice in 2003 and earned $4,750 or less, you can take a deduction on Schedule C, Line 11, for the full amount you paid them. If they're under 18 and have no other income, they won't pay taxes, including those for Social Security and Medicare. (Note: This tax-saving strategy doesn't apply to incorporated practices.)

In case of an audit, you should be able to provide a written job description that covers the work your child did and a record of the hours he or she logged. Also, "You have to show that you paid a reasonable, going rate." McPhail says.

Claim credit for late-night meals

Here's another tax break for self-employed physicians or those in partnerships: In certain cases, the full costs of meals and entertainment are fully deductible, rather than subject to the usual 50 percent limitation. For instance, if you keep the office open late a couple of nights a week and bring in dinner for your employees, you can add the full cost of these meals to the total on Line 24b of Schedule C.

The same full-deduction rule applies to social events held primarily for the benefit of rank-and-file employees: summer picnics, holiday parties, ball games, and the like, whether they take place at a local VFW hall or at a resort. The cost of food, beverages, entertainment, and the facility rental all qualify. "Plus, the value of the trip is not counted as compensation for the employees," says Guy McPhail.

SCHEDULE D

Don't cheat yourself on investment sales

Many taxpayers fail to use the most advantageous tax basis when calculating the gains on stocks and mutual funds, which are reported on Schedule D, Lines 1 and 8. They pay more tax than they should, because they don't include in their basis reinvested distributions (capital gains and dividends) and sales charges.

Moreover, they don't realize that the best way to minimize taxes is to unload the most expensive shares first. Why? Because those have the highest basis, which lowers the amount of gain that will be taxed. (Even if you're selling to harvest a loss, it again makes sense to sell the most expensive shares first, as this will maximize the losses you can report.) Make sure to get written confirmation of your sales, in case you're audited and asked to show documentation.

Take advantage of lower capital gains rates

As a corollary to the previous tip, if you realized long-term capital gains after May 5, 2003, you'll be taxed at the new low rate of 15 percent. (See Line 8, Schedule D.) "Long term" means you must have held the investment for longer than 12 months. If you didn't, the gains are taxed at your regular income rate, which can be as high as 35 percent. Capital gains that came on or before May 5, 2003, are taxed at the old capital gains rates: 20 percent for long-term gains and as much as 35 percent for short-term gains.

"Many taxpayers are going to have some long-term gains subject to the old rate and some long-term gains subject to the new one," says Sidney A. Blum, a CPA with Leonetti & Associates in Buffalo Grove, IL. "While the new, lower rate will help reduce tax bills, it's important not to assume that it applies to everything."

Dividend earners, take this big break

Instead of paying your normal income tax rate on dividends, you'll pay just 15 percent this year, a difference of up to 20 percentage points. The rate is effective for dividends received after 2002 and before 2009, and must be reported on Line 23 of Schedule D.

Note that what you think may qualify as "dividends"—payments from savings banks and credit unions, for example—don't qualify for the lower rate. The 15 percent rate applies to dividends from stocks and stock mutual funds. Generally, dividends from REITs are excluded. There are also rules regarding how long you had to have held the security. Another wrinkle affects investors who hold dividend-paying stocks in margin accounts. If this describes you, consult your tax adviser.

FORM 4562

Juicier write-offs for practice upgrades

If you made expensive improvements to your office space after May 5, 2003, you're in luck. On Line 14 of Form 4562, you can deduct half the cost of the improvements.

"This first-year bonus depreciation is available only for new office equipment and improvements made through the end of 2004," notes CPA Sherman Doll, of Thomas, Doll & Company in Walnut Creek, CA. So if you're contemplating any renovations that you haven't yet made, this is the year to make them. The IRS stipulates, however, that the improvements must be made to the interior of the structure, and to leased, nonresidential property, not to property you own.

The new tax law also lets you write off up to $100,000 of the cost of new and used medical equipment as well as computer hardware and software—up from $25,000. The new increased expensing limit, combined with the first-year bonus depreciation, can be a real boon to some physicians. For instance, say you financed the purchase of new equipment costing $175,000 in August of 2003. You can expense $100,000, plus deduct half of the remaining $75,000 as bonus depreciation.

"Since both provisions of the new tax law may not apply to the same assets, it may make more sense to expense certain assets first and then apply the 50 percent bonus depreciation to others," McPhail says.

Get a break on that gas-guzzler

If you bought a new or used sports utility vehicle last year, you may elect to deduct the entire cost as a first-year expense. See Line 25 of Form 4562. But keep in mind these catches: First, the vehicle must have been used exclusively for business. Second, its gross weight must exceed 6,000 pounds. Examples of SUVs that tip the scales are the Cadillac Escalade, Ford Excursion, and GMC Yukon.

Be forewarned: If you take the full deduction and the IRS audits your return, it will probably scrutinize your business use of the vehicle. At the very least, you'll have to present a meticulous log of your business miles. "Doctors who used the vehicle to go to more than one office will have an easier time justifying the business use," says CPA Jan Neri, a partner at Filomeno & Company in West Hartford, CT. Commuting to your main office, she adds, isn't considered a business-related trip and therefore doesn't count toward business miles.

*For tips that pertain to other tax schedules not covered here, see the accompanying articles in this issue on the Alternative Minimum Tax ("Watch out for the AMT," ) and interest deductions ("Don't miss these hidden deductions" ).