Year-End Tax Planning Strategies for Individuals

Currently all the focus in the tax world is the potential “Build Back Better” bill being debated in Congress.  But without knowing if or when the bill will be passed and what the final version will include, there are still a number of proactive tax planning opportunities to consider before December 31st.

Here are some questions for individuals and families to consider:

Should you convert any of your IRAs to Roth IRAs?

• • If you have after-tax contributions in your IRAs or other retirement accounts, you should consider converting them to a Roth IRA before December 31^st. One of the original proposed changes was to no longer allow after-tax contributions to be converted beginning January 1, 2022.  While this proposal may not make it in the final bill, you still don’t want to lose out on this opportunity.
  • If your income is temporarily down (whether due to a job loss, starting a new business, or recent retirement), you may want to consider filling up a lower tax bracket. For example, you may be retired at age 60 and in the 12% federal tax bracket.  Once pension(s), Social Security, and required minimum distributions (RMDs) kick in, you may be in a much higher bracket for the rest of your life.  If so, this is a perfect opportunity for you to pay less taxes today than you would down the road.  Just be careful of any impact on COVID stimulus payments (remember those?!), child and dependent care tax credits, health insurance premium tax credits, and other factors that may increase your effective tax rate other than just your marginal bracket.

Are you around the edge of a particular tax bracket?

• • If you’re just above a particular tax bracket and/or about to phase out of a particular credit, consider looking for ways to reduce your taxable income before the end of the year. Popular strategies include:
    • Maximizing retirement account contributions (401(k), 403(b), 457, IRA, SEP IRA, Simple IRA, etc.)
    • Contributing to a health savings account (HSA), if eligible.

Do you have any self-employment income?

• • Consider setting up a retirement account, such as a Solo 401(k), SEP IRA or Simple IRA. Note that the deadline for establishing a Solo 401(k) is December 31^st.  Be sure to look at the actual tax impact of these contributions, as currently the qualified business income (QBI) deduction can help offset approximately 20% of self-employment income, depending on your income from other sources.

Do you donate to charity and take the standard deduction?

• • • If so, consider “charitable lumping.” This is where you contribute multiple years’ worth of charitable donations in one year so that you get a potential tax benefit on the donations.  A great way to do this is by utilizing a donor advised fund (DAF) where you can get a tax deduction now and then donate to charity in the future as you see fit.
    • Also remember that gifting directly from your IRA if you’re over age 70.5 (called a qualified charitable distribution, or QCD) and/or gifting appreciated stock directly to a charity or donor advised fund are two great tax planning opportunities.

Can you take long-term capital gains at 0%?

• • • If you’re in the 12% federal tax bracket, you may be able to sell appreciated stock without paying any federal capital gains taxes. Just be sure it doesn’t impact any other potential tax credits or cause more of your Social Security benefits to be taxable.

Did you take your 2021 required minimum distribution (RMD)?

• • • • 2020 was a temporary relief from RMDs. In 2021, they’re back with the full 50% penalty in effect if one is not taken.

Does your state offer a tax deduction for 529 (college savings) contributions?

• • • If so, consider making contributions before the end of the year for any children, grandchildren or other important people you wish to help support.

Would you itemize deductions if the $10,000 cap on state and local taxes is increased?

• • • With a potential for the $10,000 “SALT” cap to be increased, even retroactively for 2021, consider making 4th quarter state income tax payments and property tax payments before December 31st.

Are you trying to reduce your taxable estate?

• • • If so, consider utilizing the annual gift tax exclusion of up to $15,000 per individual.

The above strategies should be considered in conjunction with your overall financial plan, as no tax or financial decisions should ever be made in a vacuum.  Rather than focus on just trying to save taxes in 2021, the goal is to try and reduce your total tax liability over your lifetime to help you and your family achieve your financial goals and objectives.