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Tips to Help You Meet Your Tax Savings Goals and Set You Up for Success in 2021

By MICHELE D. SLOCUM, CPA

November 12, 2020

The end of the year is quickly approaching, but before we ring in the New Year, it’s important to reexamine our tax strategies. It’s an understatement to say that 2020 has been challenging and the economic and fiscal assumptions we relied upon this time last year have likely changed due to the COVID-19 crisis. Though we cannot predict what 2021 will bring, we have enough data to make informed changes to our tax plans, which likely need to be given a closer look due to the various provisions included under the Coronavirus Aid, Relief, and Economic Security (CARES) Act.

Consider the following five strategies, and see if they would work for you.

Report Your Charitable Contributions

If you have the means to donate to charity this year, doing so may reduce your taxable income. Beginning in 2020, taxpayers can take a $300 above-the-line deduction for charitable donations. This allows all taxpayers to see at least some benefit regardless of whether they itemize or take the standard deduction. But this change to the tax code can help beyond just reducing taxable income. Because the deduction is an adjustment to income, it reduces your adjusted gross income (AGI). AGI is a benchmark of which other deductions and credits are calculated, so donating to charity may help you qualify for additional deductions and credits.

Taxpayers who itemize can also enjoy a temporary increase in the charitable deduction limitation. Typically, cash and non-cash contributions are only permitted up to 60% of AGI, but in 2020, Congress raised the limit to 100% for cash contributions. This allows you to deduct more donations, including those passed down from businesses you own.

Invest in Opportunity Zones

The qualified opportunity zone (QOZ) program allows taxpayers to defer gain recognition when they reinvest capital gains into federally declared “opportunity zones.” Taxpayers can permanently exclude 10% of their gain if they (1) initiate the investment before December 31, 2021, and (2) hold their investment for at least five years. If they keep their investment for at least ten years, they can also eliminate capital gains tax on all appreciation within the fund. Though the deadline for receiving the 10% gain exclusion is still a year away, investing in an opportunity zone now can help you reduce gain recognition on your 2020 tax return.

Max Out HSA Contributions

Taxpayers with high-deductible healthcare plans can establish health savings accounts (HSAs) to set aside pre-tax dollars for qualified medical expenses. In 2020, families can contribute up to $7,100 to their HSA. Because HSA funds are carried over from year-to-year, they are often treated as a savings fund that you can draw from if you experience a medical emergency.

Select Your Preferred Kiddie Tax Calculation Method

Children who report more than $2,200 of unearned income like interest, dividends, and capital gains will be subject to the kiddie tax. On 2018 and 2019 tax returns, taxpayers can choose one of two calculation methods:

  • METHOD 1: Use the Parents’ Marginal Tax Rates – Children’s unearned income exceeding $2,200 is taxed not at the child’s tax rate but the parent’s highest marginal tax rate.
  • METHOD 2: Use Trust and Estate Tax Tables – Children’s unearned income exceeding $2,200 is taxed using the progressive tax table for trusts and estates. The option to choose either calculation method expires with the 2019 tax year, and if you need to amend prior year returns to make the correct election, your CPA can help you prepare those documents. Your tax advisor can perform the calculations to see which option is best for minimizing your tax liability.

Plan RMDs and IRA Contributions

The Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019 and the CARES Act of 2020 improved retirement plan flexibility in a few ways:

  • RMDs are suspended in 2020. Also, taxpayers who had already taken required minimum distributions (RMDs) from retirement accounts were permitted to reinvest those funds without paying the penalty if they did so by August 31, 2020. Regular RMD rules will resume in 2021.
  • Individuals up to age 72 can contribute to traditional IRAs. Beginning in 2020 and after that, the starting age for RMDs rose from age 70.5 to age 72, allowing more individuals to delay taking distributions unless they genuinely need them.
  • Individuals can withdraw $5,000 from their IRAs for a qualified birth or adoption.

Although they will owe income taxes on the amount they withdraw, this new legislation eliminates the 10% early withdrawal penalty when those funds are used for qualified births and adoptions. Taxpayers can make these penalty-free withdrawals within 12 months of a child’s birth or adoption. Because a $5,000 withdrawal is available to each parent, married couples can spread their withdrawals between two tax years instead of taking them in the same year to control the amount of taxable income they report.

One curveball that the SECURE Act threw into the mix was the repeal of the stretch IRA. The stretch IRA was a way for IRAs to grow tax-free over multiple generations. Beginning in 2020, most inherited IRAs must be fully paid out within ten years.

Even More Opportunities

The five strategies above are not the only ones available to you. A few other things to evaluate as the year draws to a close:

  • Did you get married, divorced, have a new baby, purchase a home, move, work from another state, or purchase energy-efficient appliances? Any of these events could affect your tax position, so make sure to let our tax advisor know what you’ve been up to.
  • Have you made your estimated tax payments timely? The first and second quarter Federal estimates were both delayed until July 15, 2020 (compared to the original deadlines of April 15 and July 15), but the third and fourth quarters remain the same. Make these payments timely if you want to avoid penalties and interest.
  • How has the coronavirus pandemic affected you? If you collected unemployment, that income is taxable for federal purposes.  The stimulus payments received in 2020 are not subject to income tax, but you should still retain any paperwork relating to these payments to provide to your accountant.

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Tax planning is not an exact science, and many of your tax strategies will depend on where you expect to be in the near and distant future. The state of the economy, the culmination of the election cycle, the continued uncertainty surrounding COVID-19, and so many other elements are unknowns. While we cannot predict the future, a Klatzkin tax advisor can help create or strengthen your tax strategy heading into the New Year. For additional information, click here to contact us. We look forward to speaking with you soon.

©2020 Klatzkin & Company LLP. The above represents our best understanding and interpretation of the material covered as of this post’s date and should not be construed as accounting, tax, or financial advice. Please consult your tax advisor concerning your specific situation.

 

About the Author

Michele is a Manager focused on serving the tax planning, reporting, and compliance needs of real estate, professional service and nonprofit organizations. She enjoys working to find tax-saving opportunities, many created through tax reform, including Section 199A deductions, bonus depreciation and capital gains deferral through investment in Qualified Opportunity Zones.    Going beyond the expected...

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