As the end of the calendar year approaches and tax legislation changes looming, planning early is essential. Be proactive instead of reactive. Here are some year-end tax planning tips to help you be ahead of the game.
□ Ensure that you had enough taxes withheld from your total pay for the year. To help with this process, there is a tax withholding calculator available for free on the IRS site.
Reminders:
▪Unemployment benefits is part of taxable, the $10,200 exclusion was applicable to 2020 and has not been renewed to date for 2021.
▪ Required minimum distributions are back in affect for 2021 and must be withdrawn by December 31st to avoid being penalized.
▪ If you are self-employed, check to make sure you have paid enough quarterly taxes throughout the year. The 4th quarter Federal and State tax payments are due Jan 15th after the close of the year.
□ Gather all documentation related to any stimulus and/or advanced child tax credit payments received during the year. Confirm this information with the IRS records by reviewing your tax account online.
□ Tax loss harvesting among your non-retirement accounts. You can realize up to $3,000 in short-term losses to offset up to $3,000 of regular income each year. Unused short-term losses can carry forward for future use.
▪ It should be noted that the market performance in 2021 may have left you with many realized capital gains and no (or very few) offsetting losses. Accordingly, you may wish to adjust your income tax withholding or quarterly estimated income tax payment to take additional capital gains into consideration.
□ Be generous with charitable donations, as the increased donations may assist with pushing you above the standard deduction threshold, so you will benefit from itemizing your deductions.
▪ You may want to look at using a donor-advised fund. You can make the contribution and get the tax deduction now but distribute funds to charities later. In the meantime, the money can be invested and potentially grow tax-free.
□ Health Saving Account (HSA) contribution deadline for 2021 is April 15, 2022 (max contribution is $3,600 for self-coverage and $7200 for family coverage; Catch-up contribution (Age 55+) $1,000).
□ Repayment of coronavirus-related distributions - The CARES Act allowed qualified taxpayers impacted by COVID-19 to withdraw up to $100,000 from certain qualified plans and IRAs as a “coronavirus related distribution.” The CARES Act allows coronavirus related distributions to be repaid within three years. If you repaid some or all of a coronavirus distribution this year, you should take this into consideration.
□ Maximize your contributions to a State 529 plan for a potential state tax deduction or credit.
□ Consider deferring certain types of income to next year and maximizing deductions for this year, as this would decrease the overall current tax bill for calendar year 2021.
▪ If income tax rates go up, whether because of tax law changes (Congress is considering adding a 3-5% surtax on very high-income taxpayers beginning in 2022) or you expect to have higher income next year, you will want to do the opposite — recognize income this year and defer deductions to next year.
Note: This may result in you accelerating income through strategies such as taking more in required minimum distributions from retirement accounts, doing a Roth IRA conversion, or harvesting capital gains to realize more income this year. Therefore, be sure to consider all factors with this approach.
□ Contribute to your retirement account for 2021
▪ Roth or traditional IRAs can be opened and funded all the way until April 15, 2022, for the tax year 2021. The maximum contribution that can be made to these accounts is $6,000 with limitations ($1,000 catch-up contribution for those 50 years or older).
▪ In a year with reduced income, perhaps it makes sense to consider converting some or all of your traditional IRA to a Roth IRA, which could save in income tax over the long-term. Note: Congress is considering eliminating the ability of certain high-income taxpayers from converting traditional IRAs to Roth IRAs. If passed, this strategy could be eliminated for those taxpayers in 2022.
▪ For SEP IRAs, you may be able to contribute the less of 25% of net self-employment income or total contributions up to $58,000 for 2021. Even better, assuming you filed an extension, you have until October 15, 2022, to open fully fund your SEP IRA retirement account.
▪ Solo 401(k) plans must be opened by December 31st. The employee contribution should be made by year-end, but you have until October 15th to fully fund the employer contributions to the plan. For 2021, you can contribute up to $58,000 into a Solo 401(k), but that figure jumps an additional $6,500 if you are 50 years old or older.
□ Small business owners or those with other forms of self-employment income, you may be eligible for the Qualified Business Interest (QBI) deduction (Sec 199A pass-through business deduction), which extends a 20% deduction for the net income of many businesses that operate as pass-through entities. The QBI tax deduction is limited for those with a 2021 income of more than $164,900 (single) or $329,800 (married filing jointly).