10 Tips for End-of-Year Tax Planning
The financial choices you make between now and the end of the year could have a big impact on the amount of tax you will owe in April. If you have investments outside of a retirement account, itemize your deductions, or are saving for retirement, this is especially true. However, time is running out. After we ring in the new year, most of the advice we've compiled below won't be able to reduce your tax burden. So it’s time to get to work!
1. Check Your Withholding
You may be able to take action between now and year's end to prevent receiving another April surprise if you received a large tax bill this year as a result of not having enough money withheld from your paycheck. If you want to know if you need to file a new Form W-4 with your employer and increase the amount of taxes withheld from your paycheck before the end of the year, use the IRS's Tax Withholding Estimator. To estimate your 2022 income, you'll need your most recent pay stub and a copy of your 2021 tax return. The IRS tool will tell you how much "additional withholding" you should enter on Line 4(c) of Form W-4 to catch up on withholding for the year if it appears that you will owe money when you submit your next tax return. Complete another W-4 for withholding in 2023 at the beginning of the next year.
Generally, you are exempted from penalties if your tax liability is less than $1,000 after deduction of credits and withholdings, or if you have paid at least 90% of the tax liability for the current year or 100% of the tax liability for the prior year, whichever is smaller.
2. Contribute to 529 Plan
Even if investing in a 529 plan before the year is out won't minimize your federal tax burden, it might lower your state tax burden. You can deduct at least a portion of your 529 plan contributions from your state income taxes in more than 30 jurisdictions. Most states require that you pay into your own state's retirement plan in order to qualify for a tax deduction, however some states let you pay into any state's retirement plan. Several states permit grandparents and others to deduct their contributions to your child's plan, and many states do this.
Want to start a 529 Plan today? The team at Vincere Wealth can help you!
3. Sell to Gain
The tax code permits you to sell investments at a loss and apply the proceeds to offset capital gains made in taxable accounts. Investments you've held for longer than a year are taxed at the long-term capital gains rate, which ranges from 0% to 23.8% (including the 3.8% surtax on net investment income). Investments you've held for less than a year are taxed as ordinary income.
Any excess losses can be utilized to balance the opposite kind of gain after balancing short-term losses against short-term gains and long-term losses against long-term profits. If you still have a net capital loss overall, you can carry the remaining amount over to the following year and use up to $3,000 of it to offset regular income. Keep in mind that the "wash-sale" rule mandates a 30-day waiting period before reinvesting in or purchasing a substantially comparable investment after you sell an asset at a loss.
For 2022, investors with lower incomes:
Those making less than $41,675 for single taxpayers and $83,350 for joint filers—do not have to pay capital gains tax on gains from investments held for more than a year. If so, it can make sense to immediately reinvest after selling profitable investments tax-free, essentially resetting the clock on future gains.
Profits made from Stocks
Any profits made from the sale of stocks or bonds during the year must be distributed to shareholders of mutual funds. Even if you reinvest the distributions if you own the fund in a taxable account, you are still required to pay taxes on them when you file your tax return. You might not believe this will be an issue given the stock market's dismal performance this year. However, some funds were still riding on significant gains from 2021, and they might have been compelled to sell some of those winners to offset investor exodus. As a result, even if your fund lost money this year, you can still be whacked with a capital gains dividend. Look over your portfolio to check whether any of your mutual funds, stocks, or bonds have lost value since you bought them.
4. Max Out Your 401ks and Roth 401ks
You might be able to save a little bit extra money for retirement at the end of the year from each paycheck. A 401(k), 403(b) will allow you to contribute up to $20,500 in 2022 including a contribution of $6,500 if you're 50 or older.
Pretax donations will decrease your after-tax income and cut your tax obligation. If your employer offers a Roth 401(k), you can contribute to it so that your current taxable income is not reduced but that you can withdraw the money tax-free in retirement. If your employer offers both types of plans, you can choose to make fresh contributions to the pretax 401(k) at any time, or you can choose to make them to the Roth 401(k). Find out how much you're on track to contribute to your 401(k) before the end of the year and inquire about the measures you need to do to increase your contributions by getting in touch with your 401(k) administrator or your employer's human resources department. The sooner the adjustment is implemented, the better: Payroll deductions are used to make 401(k) contributions. You have until April 18, 2023, to make an individual contribution to a regular or Roth IRA for 2022.
Smart move alert: Use your year-end bonus to increase your contributions without reducing your normal take-home pay if you aren't on schedule to max out your retirement account for the year! Depending on the plan, participants may not be able to contribute their bonuses so make sure you check to see if you are. You have until the deadline for submitting your taxes to remove any further contributions and earnings, which are both taxable.
Read: 6 Legal Ways to Avoid Taxes in Retirement
5. Pay Your Bills Earlier
If your financial situation hasn't changed dramatically, you likely know with reasonable certainty whether you'll itemize deductions or take the standard deduction on your 2022 tax return. Now is an ideal time to prepay deductible costs, such as January mortgage payments and state taxes, if you intend to itemize or are close to the threshold. Consider the examples below:
- Have any medical bills?
You might be able to write off your unreimbursed medical expenses if you have a sufficient amount. Unreimbursed medical expenses are only deductible to the extent they exceed 7.5% of your adjusted gross income. That makes this tax advantage unavailable to the majority of taxpayers, but you might be eligible if your medical expenses were exceptionally high this year as a result of a serious illness or a chronic disease, like long-term COVID. Additionally, there is still time to make appointments and undergo treatments that will raise your deductible expenses. Dental and vision care are on the list of allowable costs even if they might not be reimbursed by your insurer. Visit the IRS Publication 502 for more information.
- Make a tuition deposit if you are a parent
This tax break may help you save money on your taxes in 2022. For students who are enrolled in their first four years of undergraduate school, you can claim the American Opportunity Tax Credit, which is worth up to $2,500 for each eligible student. Married couples who file jointly and have modified adjusted joint income up to $160,000 are eligible for the whole credit, while those who have MAGI up to $180,000 are only eligible for a portion of it.
- Pay your property taxes early
State and local taxes paid up to $10,000 can be written off by itemizers. Pay the January property tax bill due in December if your town permits it and you haven't reached your year maximum so you can deduct it from your 2022 taxes.
6. Max Out Charitable Donations
If you itemize, giving away unwanted clothing, kitchen items, or furniture can increase your deductions while supporting a good cause. Your deduction will be based on the "fair market value" of the donated item. If you are declaring a contribution of $250 or more, the organization must provide you with a written acknowledgement. Plan to provide a documented appraisal for donated items worth more than $5,000. You may deduct cash contributions up to 60% of your adjusted gross income for the 2022 tax year.
7. Boost Your Retirement Savings by Using Your Side Gig
Open a solo 401(k) plan if you receive income from self-employment or freelancing. Although you have until April 18, 2023 to make contributions and get a tax credit for 2022, you must open it by December 31. A solo 401(k) allows you to contribute up to $20,500 ($27,000 if you're 50 or older), less any annual contributions you may have made to a 401(k) at a regular job. Additionally, you are allowed to contribute to the plan up to 20% of your net self-employment income. In 2022, you can contribute up to $61,000 (or $67,500 if you're 50 or older) to your solo 401(k), but you can't contribute more than your self-employed income for the year.
8. Transfer IRA Money to Charity
If the donation is made directly to the charity, taxpayers who are 7012 or older can donate up to $100,000 from a regular IRA tax-free each year. Since the payout counts as your required minimum distribution, it's a wonderful perk for IRA owners who are 72 or older. Additionally, a "qualified charitable distribution" will shrink your IRA's size, lowering future necessary withdrawals as well as your tax burden. Additionally, the transfer might lower the proportion of your Social Security payments that are taxed and help you maintain your income below the level at which you're subject to the Medicare high-income premium.
If you choose to create a QCD, make sure to start it long before New Year's Eve. The money must be removed from the account and the charity must pay the check by December 31 in order to be eligible for the tax deduction.
9. Consider a Roth Conversion (AKA The Best Account To Save On Taxes)
If you feel your taxes may increase in the future, you should think about converting some funds from a regular IRA to a Roth IRA this year, up to the top of your income tax bracket. The money will grow tax-free in the Roth account after you pay taxes on the conversion (less any part that represents nondeductible IRA contributions). You may move into a higher tax band by converting your whole traditional IRA amount, but you can stretch out conversions over several years.
If you're less than two years away from starting Medicare, be cautious before making a significant conversion because you'll have to pay more for Medicare Part B if your adjusted gross income (including tax-exempt interest income) exceeds a particular threshold. For instance, your 2022 Medicare Part B expenses will be greater if your 2020 income was $91,000 or more if you're single or $182,000 or more if you're married filing jointly. Your Medicare rates are determined by your most recent tax return on file, so a 2022 conversion might have an impact on 2024 premiums.
10. Open a Donor-Advised Fund
You can deduct the whole amount of your donation in the year you made it by putting your cash or other assets, such stocks or personal property, in a donor-advised fund. You can then select afterwards how to distribute the money to the charities of your choice. You may be able to itemize your deductions and increase your deductions this year by making a single, lump-sum contribution.
Here is where you can open a Donor-Advised Fund
Talk things over with your tax advisor to come up with a strategy that will benefit you the most.
I hope this information was helpful! If you have any questions, feel free to reach out to us here. I’d be happy to chat with you.
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This post is just for informational purposes and is not meant to be legal, business, or tax advice. Regarding the matters discussed in this post, each individual should consult his or her own attorney, business advisor, or tax advisor. Vincere accepts no responsibility for actions taken in reliance on the information contained in this document.