Year End Tax Planning: A Few Reminders

As we approach the end of 2020, it’s a good time to take a look at your personal finances. There are some standard strategies that can be used to reduce your tax exposure and help organize savings, gifting, and charitable donations.

While one or more of these strategies may be suitable for you, we know that everyone’s situation is unique. Please reach out to us to have an in-depth conversation about which financial moves are right for you.

Here are a few of the more common opportunities we see for our clients:

Annual gifting

The IRS allows you to give away a certain amount of property without incurring taxes or requiring gift tax reporting every year. For 2020, you can gift up to $15,000 to as many people as you wish by utilizing this exclusion.

In terms of an optimal estate planning strategy, it’s best to gift assets that are likely to appreciate significantly after the gift is made. Why? Because the assets that have depreciated in value below their cost create an opportunity for you to take a loss on the asset and offset any gain you may have.

When it comes to helping a family member by contributing to their medical or education expenses, you can pay the amount due directly to the institution, without any limit. This amount will not be included towards the annual gift limit ($15,000) for the beneficiary of the gift.

Roth Conversion

If you think your taxable income may be higher in retirement years, you might consider doing a conversion of your tax deferred assets (Individual Retirement Account – IRA) to a Roth IRA. This can help shelter future gains from taxes and also allows you to maximize the estate for your heirs.

In order to make this transition, you will have to pay taxes on the amount you convert in that tax year. This option may be particularly appealing if you have lower than normal income this year. It’s also important to note that the ideal setup for a Roth conversion is to fill up your current tax bracket without pushing you into the next bracket. Depending on your income predictability, this strategy can be implemented in one year or over multiple years.

Allowance of Partial above the Line Deduction for Charitable Contributions

In typical tax years, charitable donations were only tax deductible if you itemized deductions. However, the CARES Act has created an above-the-line deduction of up to $300 for qualifying charitable contributions made in cash, per person. ($600 for a married couple filing jointly).

The CARES Act allows charitable contribution of cash up to 100% of AGI (Adjusted Gross Income) in 2020

If you are itemizing your deductions for 2020 and donating cash to charities, you are allowed to deduct up to 100% of your adjusted gross income. However, the contributions made to your Donor Advised Fund are deductible at the same percentage as before.

Qualified Charitable Distributions from your IRA

If you are above 70-1/2 years of age, you are allowed to make direct distributions from your IRA account to charities up to $100,000 per year. This distribution is not included in your taxable income for the year.

Tax Loss Harvesting

This strategy helps minimize any taxes owed on capital gains or regular income. Sometimes an investment that has lost value can still help your portfolio; if an investment drops you can deduct that loss, which helps boost your overall investment returns.

For a married couple filing jointly, up to $3,000 per year in realized capital losses can be used to offset capital gains tax or taxes owed on ordinary income. Losses larger than $3,000 can be carried over to the next year indefinitely and used to offset future gains.

Now that we’ve covered some of the “bigger ticket” items, below are some additional ideas that can help you shore up your financial situation and begin the New Year on solid footing.

  • Maximize contributions to 401(k): This will help reduce taxable income in the current year, but be mindful of your contribution limit.
  • Contribute to an IRA or Spousal IRA: Note that this depends on your and your spouse’s incomes and if you or your spouse are covered by employer plan.
  • Saving for college: Some states allow deductions for contributions made to 529 plans. This applies to yourself, your children or your grandchildren.
  • Flex Spending Account (FSA): Fund this account to use pre-tax dollars for medical expenses or dependent care. However, remember that these are use-or-lose dollars!
  • Health Savings Account (HSA): If you are signed up for a high-deductible health plan, this allows pre-tax contribution – and when used for qualified medical expenses, they are tax free.

These are a few of the ways in which you can help minimize your tax exposure, but again, everyone’s situation is different. If you have questions about end-of-year financial planning, we are always here to help.