As we enter the end of the year, it becomes time when we revisit yearend tax planning with 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 tax planning opportunities you may want to discuss with Hollow Brook before the end of the year.
Retirement Account Contributions
- Before the end of the year, check that you have maxed out all available qualified retirement accounts. Making contributions into workplace retirement accounts must be made before December 31st, while IRA contributions can be made up to the tax filing deadline regardless of tax extensions. This year’s contribution limits are listed below.
- We view Health Savings Accounts as even more favorable retirement accounts compared to traditional 401(k) or IRA accounts given the distributions can be tax-free, while traditional accounts have taxable distributions in retirement. If you have access to an HSA, be sure to max it out and allow the account to compound.
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- Starting at age 72, RMDs from qualified retirement accounts must be withdrawn from an account before December 31st each year. If you withdraw less than your RMD, you may owe a 50% penalty tax on the balance not withdrawn. Some ways to avoid taking RMDs is to either continue to be employed full time or through charitable giving, as mentioned in the next item on our list.
Qualified Charitable Distributions (QCDs)
- Once you are age 70 ½, you can send cash donations directly to qualified charities from your qualified retirement accounts and completely avoid generating ordinary income on the donation, while still satisfying your RMDs. The maximum allowable amount per year that can be distributed as a QCD is $100,000 per individual, and it must transfer directly to a charitable institution.
Donate Appreciated Securities
- Consider gifting highly-appreciated securities as an alternative to making cash donations to avoid capital gains taxes on those appreciated securities. For securities held for longer than one year, you can deduct the donation at the average of high and low selling price on the date of delivery and deduct up to 30% of your adjusted gross income.
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 you reach age 72. Assets converted into a Roth account 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 their income so far this year, we can calculate how much space a client has available to fill up the 32% tax bracket, and only convert that amount.
Unused Flexible Spending Account (FSA) Money
- Now is a good time to review FSA balances and spend down the accounts before the end of the year. FSAs are tax-advantaged accounts provided by employers which allow employees to make pre-tax contributions up to $2,850 per year, per employer. The major downside of an FSA is that unused money at the end of the year is removed from the account. While for 2020 and 2021, you were allowed to rollover unused balances due to COVID-19 relief measures, that provision is no longer available.
Estate and Gift Tax Exclusions
- Each year, you can make gifts of securities or cash to individuals up to the gift tax exclusion and incur no gift tax, and it will not deplete your estate tax exclusion amount. In addition to gifting the annual gift tax exclusion amount, individuals can pay for medical or education expenses directly to a provider on behalf of someone else and not pay any gift taxes or use their gift tax exclusion amount.
- Taxes are imposed on transfers by gift or death above the applicable estate tax exclusion amount. This higher estate tax exclusion amount is set to expire on December 31st, 2025, at which time it would revert to $5 million adjusted for inflation. With proper planning, you might take advantage of these higher exemption amounts before it changes.
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. Each year you can deduct $3,000 of capital losses against ordinary income and carry forward any excess capital losses into future tax years.
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Disclaimer: Information provided is for educational purposes only. HBWM 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, HBWM 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.