As we enter the last quarter of the year, we reach that time when we revisit tax considerations with our clients. Some key tax strategies must be implemented before the end of the year, while others have until each client’s tax filing deadline. Below are some important to-dos to discuss with your advisor before the end of the year.
1.) Retirement Account Contributions
Before the end of the year, check that you have maxed out all available qualified retirement accounts. For 2021, employees with 401(k)s plans can contribute $19,500 (or $26,000 for those over age 50) and $6,000 (or $7,000 for those over age 50) to IRA accounts. For those with the added benefit of a Health Savings Account can also put away $3,600 for individuals or $7,200 for families as well as an extra $1,000 for those over age 55.
2.) Required Minimum Distributions (RMDs)
Starting at age 72, RMDs from qualified retirement accounts must be withdrawn from an account before December 31st each year. If you withdraw less than your RMD, you may owe a 50% penalty tax on the balance not withdrawn. For those over age 70 ½, you may be able to avoid generating ordinary income from your RMD by either continuing to work or through charitable giving as mentioned in the next item on our list.
3.) Qualified Charitable Distributions (QCDs)
Once you are age 70 ½, you can provide cash donations directly to qualified charities from your qualified retirement accounts by a QCD. The maximum allowable amount per year that can be distributed as a QCD is $100,000 and it must transfer directly to a charitable institution. Any amount above and beyond $100,000 will not qualify for the tax benefit under the QCD provisions.
4.) Roth IRA Conversions
If you find yourself in a lower income tax year and believe you may be in a higher tax bracket in the future, it may be a good time to consider converting some of your Traditional IRA assets into Roth IRA assets. Roth IRAs do not require RMDs after your reach age 72, the assets grow tax-free, and distributions can be taken tax-free and penalty-free five years after the conversion. When we work with clients, we generally look to make Roth Conversions up to certain amounts to fill up tax brackets. For example, based on income results so far in the year, we can calculate how much space a client has available to fill up the 32% tax bracket and only convert that amount.
5.) Unused Flexible Spending Account (FSA) Money
FSAs are tax-advantaged accounts provided by employers which allow employees to make pre-tax contributions up to $2,750 and then spend the balance on health-related expenses. The major downside of an FSA is that normally any unused money at the end of the year is removed from the account. In 2021, there are two options for unused balances: (1) rollover up to $550 to next year’s balance, or (2) keep spending the money during the grace period which extends 2 ½ months past year end.
6.) Annual Gift Tax Exclusion Amount
You can make gifts of securities or cash to individuals up to $15,000 per beneficiary during 2021, and they won’t be included in your “taxable gifts” during the year. Any gifts over $15,000 do require filing Form 709. Married individuals can each make use of the exemption amount to double the annual exclusion to $30,000 per beneficiary. By gifting highly appreciated securities, the heir could sell the securities at potentially lower tax rates or donors could make cash contributions into 529 College Savings plans to be used for education expenses.
7.) Coordinate Tax Loss/Gain Planning Across Accounts
If you have separately managed accounts outside of your advisor’s management, consider coordinating gain/(loss) planning by providing the year-to-date profit and loss details on outside investment accounts to your advisor, particularly if there are significant gains or losses to harvest.
Disclaimer: Information provided is for educational purposes only. Your advisor does not provide tax, legal, compliance or accounting advice. In considering this material, you should discuss your individual circumstances with professionals in those areas before making any decisions. Further, your advisor makes no warranties with regard to such information or a result obtained by its use, and disclaims any liability arising out of your use of, or any tax position taken in reliance on, such information.