Year End Tax Planning Issues
DISCLAIMER: The information and materials in this blog post are intended for reference only. As the information is designed solely to provide guidance to the readers, it is not intended to be a substitute for someone seeking personalized professional advice based on specific factual situations. Therefore, we strongly encourage you to seek the advice of a professional to help you with your specific needs.
Year-end is rapidly approaching as are the holidays. So before you become distracted with the seasonal celebrations, it may be in your best interest to consider year-end tax moves that can benefit you for both 2022 and 2023.
Having the Congressional members preoccupied with the November mid-term elections has sidelined, at least temporarily, any legislation to extend tax provisions that expired after 2021 and won’t be available for 2022, including:
the mortgage insurance premium deduction
increased AGI limit for charitable deductions for those itemizing deductions
the above-the-line charitable deduction for non-itemizers
tax credits for COVID sick and family leave pay for self-employed individuals
the employee retention credit (for employers)
the temporary increase in the child tax credit, which reverts to $2,000, the old phase-out levels and the lower age to be a qualifying child
the child and dependent care credit that returns to pre-COVID amounts; and the enhanced earned income tax credit for taxpayers without a qualifying child.
Looking forward to 2023, the temporary allowance of a 100% deduction for business meals at a restaurant ends after 2022 and reverts to 50% and bonus depreciation on business property purchases begins to phase out and will only be 80% in 2023.
Here are last-minute tax issues you might consider:
Maximize Education Tax Credits
If you qualify for either the American Opportunity or Lifetime Learning education credits, check to see how much you will have paid in qualified tuition and related expenses in 2022. If it is not the maximum allowed for computing the credits, you can prepay 2023 tuition if it is for an academic period beginning in the first three months of 2023. That will allow you to increase the credit for 2022. This is especially effective for students just starting college who only have tuition expense for part of the year.
Employer Health Flexible Spending Accounts
If you contributed too little to cover expenses this year, you may wish to increase the amount you set aside for next year. As a reminder, feminine menstrual products and COVID personal protective equipment now qualify. The maximum contribution for 2022 is $2,850. The amount that may be carried to 2023 is $570 and must be used in the first 2½ months of 2023.
Maximize Health Savings Account Contributions
If you become eligible to make health savings account (HSA) contributions late this year, you can make a full year’s worth of deductible HSA contributions even if you were not eligible to make HSA contributions for the entire year. This opportunity applies even if you first become eligible in December. In brief, if you qualify for an HSA, contributions to the account are deductible (within IRS-prescribed limits), earnings on the account are tax-deferred, and distributions are tax-free if made for qualifying medical expenses.
Roth IRA Conversions
If your income is unusually low this year, you may wish to consider converting your traditional IRA into a Roth IRA. The lower income results in a lower tax rate, which provides you an opportunity to convert to a Roth IRA at a lower tax amount. Also, the decline in the stock market may provide an opportunity for some to convert where the stocks in their retirement account have had a significant decline in value.
Avoid Required Minimum Distribution (RMD) Penalties
Once U.S. taxpayers reach the age of 72, they are required to take what is known as a “required minimum distribution” from their qualified retirement plan or IRA every year. If this is the first year that this rule applies to you and you haven’t withdrawn the required amount yet, there’s no need to panic – you don’t have to do so until sometime during the first quarter of next year. Of course, if you wait until 2023 to take your 2022 distribution, you’re going to end up having to take two distributions in one year – one for 2022 and one for 2023.
For those who have fallen into this category before 2022, you only have until December 31st to take the required distribution if you want to avoid penalties.
Recognizing Capital Losses
With our current down market you should review your stock portfolio and consider selling losers to offset capital gains that would otherwise be subject to the 15% or 20% long-term capital gains tax rate. Capital losses can also offset up to$3,000 ($1,500 in the case of a married taxpayer filing a separate return) of ordinary income if capital losses exceed capital gains by at least that amount. Recognizing capital losses to offset capital gains can also reduce the amount of income subject to the net investment income surtax. Be aware of the wash sale rules that don’t allow you to deduct a loss if you repurchase those loser stocks within 30 days before or after the sale date.
Take Advantage of the Zero Capital Gains Rate
There is a zero long-term capital gains rate for those taxpayers whose taxable income is below the 15% capital gains tax threshold. This may allow you to sell some appreciated securities that you have owned for more than a year and pay no or very little tax on the gain. The 2022 15% capital gains tax bracket starts at taxable income of $83,351 for married joint filers, $55,801 for those filing as head of household, and $41,676 for all other filers.
Make Business Purchases
You can reduce taxable income if you make last-minute business purchases such as for office equipment, tools, machinery, and vehicles and write them off using the 100% bonus depreciation or Sec. 179 expensing, provided you place the item(s) into business service by the end of the year. However, you must consider the impact that expensing the items will have on your taxable income and the Sec. 199A 20% pass-through deduction. It may be appropriate to contact this office in advance of any last-minute business acquisition.
You might also make sure you are taking advantage of the de minimis safe harbor rule that allows small businesses to expense rather than capitalize the purchase of tangible property up to $2,500.
Prepay State Income and 2023 Property Taxes
You probably know that if you are not subject to the alternative minimum tax and you itemize your deductions, you are eligible to deduct both your property taxes and state income (or sales) tax up to a maximum of $10,000. But did you know that in some cases, you can increase the amount that you deduct on your 2022 return by prepaying some of the taxes by December 31, 2022? You can ask your employer to boost the amount of your state withholding by a reasonable amount; or, if you are self-employed, pay your 4th-quarter state estimated tax installment in December (due in January) and increase your deduction. The same is true for your real estate taxes: if you pay your first 2023 installment in 2022, you can take it as part of your 2022 deduction. But be mindful of the so-called SALT limit – the maximum deductible amount of state and local taxes of all types is $10,000. So, don’t electively prepay state taxes if you are at or above the $10,000 cap.
Charitable Deductions
Many people who itemize take advantage of the ability to take a deduction for their donations to their favorite charities or house of worship. Did you know that you can choose to pay all or part of your 2023 planned giving in 2022 in order to increase the amount you deduct in 2022? Though this may not be appealing to those who itemize every year, if you alternate between taking the standard deduction one year and itemizing the next, this can give you a big boost.
Charitable contributions are deductible in the year in which you make them. If you charge a donation to a credit card before the end of the year, it will count for 2022. This is true even if you don’t pay the credit card bill until 2023. In addition, a check will count for 2022 if you mail it in 2022. For last minute mailings it may be appropriate to obtain a proof of mailing from the USPS.
Qualified Charitable Distributions
Those who are age 70½ or older are allowed to transfer funds (up to $100,000 annually) from their IRA to qualified charities without the transferred funds being taxable, provided the transfer is made directly by the IRA trustee to a qualified charitable organization other than a private foundation or a donor-advised fund. If you are required to make an IRA distribution (i.e., you are age 72 or older), you may have the distribution sent directly to a qualified charity, and this amount will count toward your RMD for the year.
Although you won’t get a tax deduction for the transferred amount, this qualified charitable distribution (QCD) will be excluded from your income, with the result that you may get the additional benefit of cutting the amount of your Social Security benefits that are taxed. Also, since your adjusted gross income will be lower, tax credits and certain deductions that you claim with phase-outs or limitations based on AGI could also be favorably impacted.
If you plan to make a QCD, be sure to let your IRA trustee or custodian know well in advance of December 31 so that they have time to complete the transfer to the charity. If you have contributed to your traditional IRA since turning 70½, the amount of the QCD that isn’t taxable may be limited, so it is a good idea to check with this office to see how your tax would be impacted.
Pay Outstanding Medical or Dental Bills
Taxpayers who itemize their deductions are able to deduct qualified medical and dental expenses that exceed 7.5% of their adjusted gross income. If you have reached that threshold or are close, then it may make sense for you to pay off any of those types of bills that are still outstanding rather than paying them over time. If you are near or above the limit, it may also make sense to look at what your medical and dental expenses will likely be for the next year and move those that you can into 2022 to increase the deduction. These expenses could include dental work or eyeglasses. An additional important issue: if you are thinking of doing this by paying using a credit card and you’re not going to pay the balance immediately, make sure that you’re not paying more in interest than you’re saving with the increased tax deduction.
Remember the Annual Gift Tax Exemption
Though gifts to individuals are not tax deductible, each year, you are allowed to make gifts to individuals up to an annual maximum amount without incurring any gift tax or gift tax return filing requirement. For tax year 2022, you are able to give $16,000 (up from $15,000 in 2021) each to as many people as you want without having to pay a gift tax. If this is something that you want to do, make sure that you do so by the end of the year, as you are not able to carry the $16,000, or any unused part of it, over into 2023. Such gifts need not be in cash, and the recipient need not be a relative. If you are married, you and your spouse can each give the same person up to $16,000 (for a total of $32,000) and still avoid having to file a gift tax return or pay any gift tax.
Avoid Underpayment Penalties
If you think there’s a chance that the income taxes you’ve paid to date for 2022 are insufficient, it’s a good idea to increase your withholding in the time that’s left to make up for it. Underpaying taxes makes you vulnerable to an underpayment penalty that is assessed quarterly. The good news is that even if you have underpaid for any or all of the first three quarters of the year and will owe taxes when you file your 2022 return, you can make up for it by boosting your year-end withholding, since federal withholding is deemed paid ratably throughout the year. Plus, increased withholding and possible payment of estimated taxes can also reduce the fourth quarter underpayment penalty.
Disaster Loss Planning
2022 has had some significant declared disasters including Hurricanes Fiona and Ian plus the wildfires in the West. Any losses incurred because of a federally declared disaster can be claimed on the current year’s tax return or, at the election of the taxpayer, on the prior year’s return (2021 for 2022 disasters), generally providing quicker access to a tax refund. However, care must be exercised to ensure a disaster loss is claimed on the return of the year that will provide the greater benefit. In addition, after insurance reimbursement is accounted for, the result may not be as expected and should be determined before making the decision of which year to claim a loss.
Divorced or Separated During the Year
A divorce or separation can have a significant impact on a couple’s tax filings. Filing joint or separate returns, who claims the children, the tax rules related to whether to take the standard deduction or itemize, how income and tax prepayments are allocated, and more are issues to be considered. Best to figure that all out in advance.