Year-End Tax Planning

We believe taxes are a year-round concern. Any major life changing event or financial decision can have tax consequences that should be addressed. Even something as simple as getting a raise can change your tax situation enough to warrant a call to us, your CPA.

That said, we also live in the real world and understand most won’t take this advice (as much as we wish that weren’t true!). For the majority, taxes are a focus for a brief period between the months of January and April.

Fortunately for you, you’ve stumbled upon this blog post while there is still some time to do some planning!

So, what are some possible tax saving moves you can make before the year is over? Let’s dive in.

 

1. Take Advantage of Charitable Donations

This has been a tough year for many. If you’re fortunate enough to be in a position to donate, the CARES Act, passed earlier this Spring, expanded the charitable contribution deductions. Up until recently, the limit on charitable donations was limited to 60% of adjusted gross income (AGI) for those who take the itemized deduction. For this year only, it has been expanded to 100% of AGI (not that 60% was a real limit for people).

In the past, those who take the standard deduction (you always choose the greater of the standard deduction or itemized deduction. For many, the standard deduction is the best option) received no tax benefit for charitable donations. This year only, again because of the CARES Act, those taking the standard deduction can receive up to a $300 deduction (dollar for dollar) for CASH (donated goods excluded) donations to approved 501(c)3 charities.  So, if you’re charitable this holiday season, be sure to get a receipt!

For those who take required minimum distributions (RMDs) from their IRAs, if you are donating to charities, it is often advisable to donate directly to the charitable foundation from your IRA. This avoids tax on the RMD all together. Please note RMDs are not required this year. If you don’t need the cash flow, you may want to leave your money invested.

 

2. Consider a ROTH IRA Conversion

If your income has been reduced this year, you may be in a lower tax bracket. This may make it advantageous to convert your traditional IRA to a ROTH IRA. Doing so will tax the money in your IRA now but result in tax free future growth as well as tax free distributions in retirement. Further, ROTH IRAs do not mandate required minimum distributions, allowing your nest egg to grow if desired (this can make it a great vehicle for inheritance/transfer of wealth). A ROTH conversion can also be advisable during times of a market crash (not that we want one, but something to keep in mind).

 

3. Review Your Tax Withholdings

Coronavirus has created cash-flow issues for many. If you picked up extra work or collected unemployment, review what you have had withheld this year in taxes. Under withholding could result in penalties.

If you’re a business owner, run a tax projection (we can help) based on 2020 earnings. You’ve probably been paying in quarterly estimates, but will that be enough? It’s always best to get an idea of what you may owe now to prevent surprises and cash flow issues when you file.

As a business owner, depending on your year-end projections and where you are falling in the tax brackets, it may make sense to defer income into next year. A year end purchase may also be advisable to reduce income.

 

4. Plan for Joe Biden’s Tax Proposals

Nothing Joe Biden has proposed is guaranteed. However, it shouldn’t be entirely ignored. Joe Biden has suggested raising the capital gains rate from a maximum of 20% to a maximum of 39.6%. If this passes, it may be advisable for investors to sell in 2020 rather than 2021 to keep the more preferential rate.

President-elect Biden is also suggesting a reduction in the estate tax exemption. If you are a high net worth individual, giving strategies may favor gifts in 2020 over 2021.

 

5. Tax Loss Harvesting

If you have a taxable investment account, you can reduce gains by selling “loser” investments. The losses will offset the gains and reduce tax liability. This strategy is called tax loss harvesting. Just remember, it’s never wise to let the tax tail wag the investment dog. In other words, putting good money after bad is never a sound strategy. Overall portfolio performance and objective should be a priority.

 

6. Contribute More to a Retirement Account

Contributions to traditional retirement accounts are made with pre-tax dollars. This acts as a way to both reduce taxes now, and save more for when you’re no longer working. Many plans, like 401ks, require contributions to be made by the end of the year. Others, like traditional IRA’s, can be made as late as April 15^th of the following year. Talk with us and your HR department to see if these options are available to you.

 

7. Contribute to a Health Savings Account

If you’re covered by a high-deductible health insurance plan, you may be eligible for an HSA. Contributions to HSAs reduce taxable income now, and provide a tax free vehicle to save for future health expenses. Considering the fact that health expenses typically increase as we age, this can be a powerful vehicle for retirement savings. The limit for HSAs in 2020 is $3,550 for a self-only plan or $7,100 for a family plan.

To a lesser extent, Flexible Spending Plans can also be a vehicle to shelter money from Uncle Sam. These plans allow you to put pre-tax dollars in an account for qualified medical expenses. For 2020, the limit is $2,750. Some employers will allow you to carry over up to $500 in the account. So, if you have year end medical expenses, this could be a way to save.