Cushion Your Holiday Spending With Year-End Tax Reduction Strategies

The holiday season always has us spending way more on gifts than we anticipated. Although it is the season of giving, many of us are left wishing for a little extra income to cushion the holiday splurge. With the New Year quickly approaching, now is as good a time as any to consider year-end tax reduction strategies to reduce the hit come April 15^th (or Tuesday, April 17^th in 2012).

Tax planning is a great way to make up for losses in the past year and offset the impending tax liabilities. Below are three tax reduction strategies you may want to consider before the end of December:

1. Roth conversions.

With many IRA portfolios down, Roth conversions can be especially attractive for aspiring retirees right now as the amount on which investors would be taxed is down as well. The future of taxes in 2012 and beyond is unknown and unpredictable, but most don’t anticipate taxes decreasing. Converting your IRA to a Roth IRA before year-end may be a good solution to protecting your retirement savings.

Additionally, for some further out from retirement, making the conversion before your peak earning years while you are in a lower tax bracket makes sense too.

2. Strategic rollout to life insurance.

Almost every state levies some sort of estate and/or inheritance tax, which ends up being costly to benefactors and beneficiaries. To reduce taxes when passing along assets, you should consider purchasing a permanent life insurance policy.

Although the idea of insuring a parent seems morbid, life insurance can prove to be a great tax reduction strategy. For example, if you fund a life insurance policy with a tax free death benefit, by the time you pass away (30 or so years from when you purchased the life insurance) you will be giving your children a significant amount of tax-free money that they can use to pay off inheritance and/or estate taxes.

3. Marry a few financial tools to offset the taxes of Required Minimum Distributions.

Those looking to pass on their hard earned wealth by way of an IRA often fail to account for the potential tax ramifications of required minimum distributions. However, by marrying a few financial vehicles, retirement portfolios can ease the tax hit of these distributions.

The process can start with taking a home equity loan. Although this seems rather unconventional for many retirees, by combining this with a guaranteed investment vehicle like a fixed index annuity, investors can significantly reduce the taxes due on required minimum distributions and provide their families with guaranteed money.

For example, in taking on such a loan with interest only payments, the interest is 100 percent tax deductible which can offset the distribution liability. The second step to the process is purchasing a fixed index annuity with an income rider with the check that the bank gave you. With income riders, you will receive guaranteed payouts each year for the rest of your life that can be used to fund a life insurance policy with a guaranteed, tax free death benefit for your heirs that can be used to pay off the original loan that was used to offset the original taxes that you were facing.

If these strategies seem complicated, seek the advice of a trusted financial advisor. There is still time to put these tax reduction strategies to work in 2011. You’ve surely already purchased enough gifts this year. Why not leave Uncle Sam off the list?

John Papa is the president of Diversified Planning Strategies, with over 25 years of experience in financial services. He specializes in helping current and aspiring retirees generate and protect their assets. His expertise has been featured on various news outlets, including CNBC, DailyFinance, Reuters and FOX News.com LIVE.