The economic situation due to the coronavirus (COVID-19) pandemic, as well as the magnitude of the tax law changes in the stimulus packages known as the CARES Act (The Coronavirus Aid, Relief, and Economic Security Act) and the FFCRA (The Families First Coronavirus Response Act), emphasizes the need for tax planning. Moves you make now can have a significant impact on your tax situation. The goal of tax planning is to minimize your tax liability without sacrificing your other personal and financial goals. Proper planning also helps avoid surprises at tax time! Good tax planning requires accurate estimates of your income and deductions.
Unfortunately, due do the COVID-19 pandemic, many individuals and businesses may have lower income in 2020. Also, the tax law changes create opportunities to amend prior year returns and once again carryback current year losses to prior years to generate tax refunds.
It is generally better to recognize income in a low tax rate year and better to claim deductions in a high tax rate year. Thus, estimating your income and deductions for at least a two-year period helps in the planning process.
Here are some ideas to consider.
- Consider ROTH IRA conversions. If your tax rate is low in 2020, consider ROTH conversions if you think your rate will be higher in the future. Conversions must be done before December 31 to count for 2020. The Federal 12% tax rate bracket goes up to $80,250 of taxable income for married filing joint taxpayers ($40,125 for single taxpayers), and the Federal 22% tax rate bracket goes up to $171,050 of taxable income for married filing joint taxpayers ($85,525 for single taxpayers).
- Remember that unemployment income is taxable. If you had little or no tax withholding from unemployment compensation received, consider whether to increase your withholding or make an estimated tax payment now to minimize or avoid penalties for underpayment of estimated tax.
- 100% Bonus depreciation applies to business equipment and qualified improvement property (QIP) purchases for 2020. The CARES Act provides substantial tax deductions for qualified improvement property allowing such deductions up to 100% of the cost of the assets, retroactive for QIP placed in service after December 31, 2017. AMENDED RETURN OPPORTUNITY – If a business placed QIP in service and did not immediately write-off the costs associated with improving facilities, this may be an opportunity to amend previously filed returns and secure a refund.
- Evaluate the “new” net operating loss (NOL) carryback rules. There may be 2018, 2019, and/or 2020 losses that can be carried back five years. Also, the recent tax legislation temporarily removes the 80% of taxable income limitation allowing an NOL to fully offset income.
- Revisit the modified loss limitation rules applicable to pass-through business owners and sole proprietors. The modified rules may allow some individuals to have net operating losses that can now be carried back five years per the above change in the NOL carryback rules. For 2018 through 2020, the modified loss limitation applicable to pass-through business owners and sole proprietors allows full utilization of business losses rather than a $500,000 limit ($250,000 for single filers) as required under the Tax Cuts and Jobs Act legislation that was enacted in 2017. AMENDED RETURN OPPORTUNITY – If a pass-through owner’s deduction for losses were limited, this may be an opportunity to amend previously filed returns and secure a refund
- For those 70 ½ or older, take advantage of Qualified Charitable Distributions. This strategy could be even more beneficial for those who no longer itemized deductions.
- Donate appreciated stock held longer than one year to charity, allowing a itemized deduction for the fair market value of the stock while avoiding tax on the appreciation.
- Reduce home mortgage debt. This could serve to reduce investment income (since you would be using your investments to pay down the mortgage) and allow you to use the standard deduction.
- Consider ROTH 401(k) contributions. If your tax rate currently is lower than you believe it will be in the future when you would take withdrawals from your 401(k), consider making your contributions as ROTH contributions. Unlike ROTH IRA contributions, there are no income limitations for being eligible to make ROTH 401(k) contributions, however your company plan must allow for ROTH contributions.
- Consider maximum use of flexible spending accounts and Health Savings Accounts contributions to increase the tax benefit associated with medical expenses.
- Offset capital gains with capital losses. This strategy continues to be effective in minimizing adjusted gross income. Also, be aware that the 0% capital gains tax rate that applies to long-term capital gains and qualified dividends is available for single taxpayers with less than about $40,000 of taxable income and married filing joint taxpayers with less than about $80,000 of taxable income. Remember that taxable income is calculated AFTER deducting your itemized or standard deduction.
- For those with business income that qualifies for the 20% qualified business income deduction, there is planning that can be done regarding the business income versus the individual’s taxable income. Also, if the business is a service business, there is planning that can be done regarding the threshold where the deduction is still allowed.
- Take advantage of after-the-fact planning. Contributions to Health Savings Accounts, Individual Retirement Accounts, and self-employed retirement plans can many times be made after the end of the year. This allows you to have a better idea of your tax situation before making cash contributions.
We have a worksheet you can use to help project your income and deductions for planning purposes. From this information, we can provide planning options, taking into consideration your individual situation and tax planning opportunities available to you. If you would like to do some year-end tax planning or receive a copy of our worksheet, please call us at (816) 561-1400 or e-mail us at firstname.lastname@example.org.