WESCAP 2021 Tax Planning Considerations, Strategies and Issues
Having said farewell to 2020—the year of a raging coronavirus plague, a halt to life as we know it with shutdowns everywhere, we have entered a new year of opportunities and changes. Now is a great time to get started on planning for income taxes. No matter your income level or age, it’s always a good idea to keep your tax bill to a minimum and stay on top of tax-related matters. Here are a few tax strategies to incorporate in the course of 2021.
Contribute to your Retirement Plan
For employed individuals, it is not too late to reduce 2020 taxes by contributing to an IRA before you file your tax return this year. However, there are some limitations if your income is above the current phaseout or if you participate in an employer sponsored retirement plan. If you are in a low enough tax bracket, a Roth IRA contribution could be a better choice.
To reduce 2021 income taxes, employed individuals can contribute to either an IRA or an employer sponsored retirement plan—401 (K), 403 (b) or similar plan. If the employer has a matching contribution, you want to maximize that as well.
The retirement plan contribution limits for 2021 are as follows:
$6,000 in an IRA if you are under 50
$7,000 in an IRA if you are 50 or older
$19,500 in a 401(k) if you are under 50
$26,000 in a 401(k) if you are 50 or older
Note that these limits did not increase from 2020.
Donate money to charity
If you itemize on your tax return, donating money to a qualified charity will give you a higher deduction to claim. Be sure to retain receipts and track your contributions accurately. You can also donate stocks to charity and get a tax write-off that way. Not only will you be able to deduct the fair market value of those stocks, provided you have held them for over a year, but you will also avoid paying capital gains taxes if those stocks have appreciated since you first bought them. A Donor Advised Fund (DAF) is a perfect vehicle to make a charitable gift, even if you have not decided which charity is to receive the donation.
If you are required to take distributions from your IRA account, you may find it best to make Qualified Charitable Distributions, discussed in the RMD section below.
Take advantage of greater charitable deductions available for 2021
Thanks to special legislation, you are allowed to donate and deduct from taxes up to 100% of your adjusted gross income (AGI) to a public charity in 2021, as you were able to do in 2020. Previously, that AGI limit was 60%.
However, you can combine your use of this provision with other donations, which are subject to other limitations (such as the 30% AGI ceiling on donations of appreciated publicly traded stock to public charities), to still achieve 100% deductibility of your 2021 AGI. To do so would require thoughtful alignment of the assets to be donated, and the receiving entity (including possibly your DAF account).
Retirement plan required distributions (RMDs) are back for 2021
Last year, retirement plan RMDs were waived for that year only under the CARES Act. The waiver expired in 2021, so RMDs are once again required for those over age 72 (or 70.5 if that age was reached prior to 2020).
Before you complete your 2021 RMD, there are some decisions
to consider:
1) How much federal and state
withholding do you want to do. If you do
enough tax withholding, this may reduce or eliminate the need to do quarterly
estimated tax payments.
2) How much of the RMD amount do you want to allocate to qualified charities via Qualified Charitable Distributions (QCDs). QCDs directly reduce Adjusted Gross Income up to a maximum of $100,000 and are unaffected by various limitations that can affect itemized deductions reported on Schedule A.
A limitation is that a QCD cannot be made to either a donor-advised fund (DAF) or to a private foundation (operating or non-operating).
Harvest losses from underperforming investments
If you have investments with unrealized losses in your portfolio, selling them at a loss could benefit you tax-wise. You can use capital losses to offset capital gains, and if your losses exceed your gains, you can use up to $3,000 in losses to offset ordinary income (in other words, the IRS will not tax up to $3,000 of your other earnings). Furthermore, capital losses can be carried forward to future years, so if you have a remaining loss once you have offset your gains and $3,000 of income, you can use the remainder to lower your taxes in years beyond 2021.
Other Tax considerations:
- Consider taking capital gains in 2021 if your other income is low enough, as the federal tax rate for such capital gains is zero in such cases.
- Another choice if your taxable income is low enough is to convert some of your IRA to a Roth IRA. This creates taxable income this year, but may lower future taxes to justify this strategy.
- “Too much” income could cause higher taxation of Social Security retirement benefits, higher part B Medicare premium costs or a loss of pending federal stimulus benefits.
- Reduce future taxable investment income via tax-advantaged 529 college savings plan accounts for relatives or ABLE accounts for those with disabilities.
- The tax code could be changed by the Biden administration as soon as this year, but more likely in 2022 or 2023. Changes in the tax code could result in significant changes to tax strategies.
The tax code has many complicated provisions that can run at cross purposes to each other, resulting in unexpected consequences. Often it will be necessary to run detailed tax projections to determine the overall effect of any contemplated tax strategies. WESCAP can help articulate and identify strategies and issues, but we cannot render legal advice on tax issues. Before making any final decisions affecting your taxes, please contact your tax preparation professional.
Please contact us if you need to more information.