As year-end approaches, it is a good time to think about planning moves that may help lower your tax bill for this year and possibly next. New tax rules have been enacted to help mitigate the financial impact of COVID-19, some of which should be considered as part of 2020 planning, most notably elimination of required retirement plan distributions, and liberalized charitable deduction rules.
Check out this list of 13 things to do before year end. Be proactive and you can lower your tax obligation!
- Required Minimum Distributions (RMDs): Required minimum distributions (RMDs) that usually must be taken from an IRA or 401(k) plan (or other employer-sponsored retirement plan) have been waived for 2020. This includes RMDs that would have been required by April 1 if you hit age 70½ during 2019. So, if you don’t have a financial need to take a distribution in 2020, you don’t have to. Beginning in 2020 the starting age for RMDs has been changed from age 70 ½ to age 72.
- Qualified Charitable Distributions: If you are age 70½ or older by the end of 2020, and have a traditional IRA, consider making 2020 charitable donations via qualified charitable distributions from your IRAs. These distributions are made directly to charities from your IRAs, and the amount of the contribution is not included in your gross income and you will not receive a deduction.
- Charitable Contributions: A new COVID-related change for charitable contributions is available as individuals may claim a $300 above-the-line deduction for cash charitable contributions in 2020. This means if you do not itemize you can deduct $300 of charitable contributions. This is an exception to the general rule that to claim the benefit of a charitable deduction, you must itemize.
- Realize Tax Losses in Taxable Accounts: Consider selling investments in taxable accounts that have unrealized losses. Capital losses can be used to offset capital gains. If you realize more losses than gains you can use up to $3,000 of the losses to offset your current income and the remainder is carried over to future years.
- Maximize 401(k) Contributions: Increase 401(k) contributions to reduce taxable income. The pre-tax and Roth 401(k) contribution limit for 2020 is $19,500. Employees age 50 or older by year-end are also permitted to make an additional contribution of $6,500, for a total limit of $26,000. If your employer makes a matching contribution to your contribution, your total retirement savings will increase even faster. Review and make appropriate adjustments to the contributions you make to your employer’s 401(k) retirement plan.
- Maximize HSA Contributions: Maximize contributions into a health savings account (HSA) before year end. The maximum contribution an individual may make to an HSA, in 2020, is $3,550 for an individual with self-only coverage under a high deductible health plan (“HDHP”) and $7,100 for an individual with family coverage under an HDHP. A “catch-up” contribution will increase each of these limits by $1,000 where the taxpayer is 55 or older by the end of the year.
- Consider a Roth Conversion: A Roth conversion may be a suitable strategy this year. If you believe a Roth IRA is better than a traditional IRA, consider converting traditional IRA money into a Roth IRA in 2020. Keep in mind, however, that the amount you convert to a Roth IRA is taxable and therefore such a conversion will increase your AGI for 2020, and possibly reduce tax breaks geared to AGI (or modified AGI). The benefit of the Roth IRA is that the growth is income tax-free and there are no RMDs. When doing a Roth conversion you will need to have the funds available to pay the associated tax.
- Increase State and Local Withholdings: If you expect to owe state and local income taxes when you file your return next year and you will be itemizing in 2020, consider asking your employer to increase withholding of state and local taxes (or pay estimated tax payments of state and local taxes) before year-end to pull the deduction of those taxes into 2020. But remember that state and local tax deductions are limited to $10,000 per year, so this strategy is not good to the extent it causes your 2020 state and local tax payments to exceed $10,000.
- Take Early IRA Distributions: Qualified individuals (generally those individuals directly affected by COVID-19) are not subject to the 10% extra tax on early distributions on withdrawals up to $100,000 from retirement plans including IRAs in 2020. These distributions are still subject to regular tax but under special rules can be taxed over a three-year period or can be repaid to the plan or IRA within 3 years. Also, the maximum limit on plan loans for Coronavirus affected individuals has doubled from $50,000 to $100,000, and there is a moratorium on plan loan repayment from March 27, 2020 through the end of the year. For company sponsored plans (like a 401(k) plan) the employer must adopt the coronavirus related distribution and loan rules so you should check with your employer to make sure you are eligible for the new rules.
- Make Gifts: Before the end of the year, consider gifting cash to qualify for the annual gift tax exclusion. The exclusion applies to gifts of up to $15,000 made in 2020 to each of an unlimited number of individuals. Keep in mind, you can’t carry over unused exclusions from one year to the next. Such transfers may save family income taxes where income-earning property is given to family members in lower income tax brackets who are not subject to the kiddie tax.
- Defer Income & Accelerate Deductions: Deferring income and accelerating deductions to minimize taxes still works for many taxpayers, as does the bunching of expenses into this year or next to avoid restrictions and maximize deductions. For example, it may be advantageous to try to arrange with your employer to defer, until early 2021, a bonus that may be coming your way.
- Pay Deductible Expenses via Credit Card: Consider using a credit card to pay deductible expenses before the end of the year. Doing so will increase your 2020 deductions even if you don’t pay your credit card bill until after the end of the year
- Use Your HSA: Avoid any forfeiture of your health or dependent care flexible spending accounts funds because of application of the use-it-or-lose-it rule.
These are just a few of the year-end strategies that can make a big dollar difference to you and your family. To discuss these and other strategies that should be put in place before year end, contact me at firstname.lastname@example.org