Retirement Plan Contributions and Distributions

Make every effort to max out company retirement plan contributions.  If you receive a bonus, put what you can towards your 401(k) plan which has a 2020 maximum of $19,500 ($26,000 for those 50 and older).  If your company has a 401k match, that’s free money, so contribute what you can so that you realize the maximum match, which is often a percentage of your contribution up to a dollar limit.  You can contribute up to $6,000 ($7,000 for those 50 and older) to an IRA as long as your earned income is greater than the amount contributed.  Also remember that the SECURE Act allows you to contribute to an IRA beyond the prior age limit of 70 ½ so you can contribute at any age if you have earned income.  The IRA deposit is due by the April 15, 2021 tax filing deadline for year-ended December 31, 2020.

Although Required Minimum Distributions (“RMD”) have been waived for 2020 though the CARES Act, if you are 72 or older or own an “Inherited IRA”, you are normally subject to RMDs from your retirement accounts (non-Roth IRA, 401k, 403b, etc…) which must be taken before December 31 of each year and likely must be instructed several days earlier depending on your custodian.  These distributions are based on the value of your retirement accounts on the preceding December 31 divided by a number based on the IRS’s Life Expectancy Table which can be found at the following link (https://www.irs.gov/pub/irs-tege/uniform_rmd_wksht.pdf)

Reduce Capital Gains

If you have net capital gains in your taxable investment accounts for 2020, especially short-term gains which are taxed at higher ordinary income tax rates, you should look through your portfolio for positions with unrealized losses to offset those gains.  Short-term losses offset short-term gains first, so sell positions with short-term losses to offset short-term gains.  Remember that if you buy those or substantially identical positions (for example options to replicate the position) back within 30 days, those losses will be disallowed due to the “wash sale” rule.  The disallowed loss will be added to your basis on the new purchase.

Another thing to consider if you are fortunate enough to have income over $1 million is the potential for President-Elect Biden’s proposed increase in the qualified dividend and capital gains rates (which both have a top rate currently set at 20%)  to equal the ordinary rate which could go to 39.7% (currently set at 37.0%).   For this to happen, new tax legislation presented by the new administration would have to be passed by both the Senate and the House.  While Democrats currently control the House, any vote along partisan lines in the Senate would require both Georgia Senate seat runoffs in January to go in favor of the two democratic candidates, which the political pundits deem unlikely.  If you disagree with the pundits and you are that high-earner, you might want to accelerate long-term capital gains into 2020 while the top rate is still 20%.

Analyze your Itemized Deductions

With the 2017 passage of the Tax Cut and Jobs Act (“TCJA”), the standard deductions were significantly increased.  If the total of your itemized deductions is close to the new standard deduction for your filing status, you may want to think about the timing of your charitable contributions.  For example, if your total itemized deductions total $24,500 and your standard deduction as a married couple is $24,800 ($25,100 in 2021), you would receive no tax benefit from the first $300 of donations for 2020.  If you donated that $300 in January 2021 and more in December 2021, at least you would get a deduction to the extent your contributions increased your itemized deductions above the 2021 standard deduction of $25,100.  Another perhaps more efficient way to get tax benefits from your charity is to donate directly from your IRA in lieu of your Required Minimum Distribution (“RMD”) as discussed below.

Gifting

You can gift $15,000 to anyone this year without being subject to gift tax.  You and your spouse can each gift $15,000 to each child and their spouse or grandchildren, so this can be an effective way to reduce your estate and provide your heirs additional wealth when they may need it most.  Only gifts above the annual exclusion must be reported and go against your lifetime gift and estate tax exclusion, which the TCJA doubled to about $11.6 million, but will revert back after 2025.  Biden has proposed lowering the exclusion even lower than the level to which it would revert. Estate taxes at the federal level are 40% and many states have double digit rates, so unless you prefer to fund the government rather than your heirs, careful planning should be undertaken.

Charitable Donations

As the Tax Cut and Jobs Act of 2017 increased the Standard Deduction and eliminated many itemized deductions, millions of Americans will no longer get tax benefits for their charitable giving.  However, donors age 70 ½ or older often have a great way to get around this change.  You can make donations directly from a Traditional IRA (not eligible to SEP or SIMPLE IRAs) to one or more charities by using a Qualified Charitable Distribution, or QCD in amounts totaling up to $100,000.

Here’s how an IRA QCD provides benefits. Say you and your spouse are over 72 and therefore must take an RMD every year from your traditional IRAs. This year the RMD is calculated at $20,000.  As a couple you normally contribute $10,000 to various charities such as churches, colleges or other 503c organizations.  You could write checks to these groups, give appreciated assets such as stock held in a taxable account, or donate from your IRAs.

If you don’t have a mortgage (no interest deduction) and are limited to $10,000 on your state and local taxes, it is unlikely you will get any benefit if you send checks, as you will be taking the 2020 standard deduction of $24,800 rather than itemizing. You also may not want to give appreciated stocks, because that would deprive your heirs of a tax break, called the step-up, that reduces capital-gains tax on some assets held at death.   By donating IRA assets, you and your spouse may get the most tax benefit.  While you won’t get a charitable deduction, you will not have to count the distribution from your IRA to the charity as ordinary income.  Your taxable IRA payout will be reduced from $20,000 to only $10,000.  What’s more, the $10,000 donation disappears from your modified adjusted gross income (“MAGI”) which can lower Medicare Part B and D premiums that are based on MAGI.

IRA donations must go directly from the account to the charity. Typically, the custodian submits them to the charity or else sends checks made out to the charity to the IRA owner, who passes them on.  IRA donations can’t be made to many private foundations or to donor-advised funds, the popular giving accounts that allow individuals to bunch contributions and take an up-front deduction while designating recipients later on.   Also keep in mind that no benefit should be derived or conditions on the donation set by the owner.

If you have any questions about these or other year-end tax planning strategies, please call or email.

Best,

Steve