A Tax Nightmare on Your Horizon
MUST READ if using digital payment tools or reselling tickets
A recent tax law change by this edition of Congress now requires transaction reporting to the IRS for anyone receiving more than $600 in payments through digital payment tools like PayPal, Venmo, and CashApp. It also impacts anyone using transaction platforms to buy or sell tickets for sporting events and concerts. Here is what you need to know.
What is happening now
They need your Social Security number. If you use digital payment platforms you will now need to provide your Social Security number and a valid name and address to accept digital payments or to buy and sell tickets online.
The IRS will know. Most of these transactions for those receiving funds will now have this activity reported to the IRS if the total for the year exceeds $600. This is true even if you lose money on the transaction. It will be done using Form 1099-K and will be issued to you in January.
Your taxes may be more complicated. If the IRS considers the transaction a business transaction, you will now need to report the transaction on your 2022 tax return, even for casual transactions that lose money. This is often the case when selling event tickets for a loss or taking digital payments at a garage sale.
You may receive many 1099-Ks. You can expect to receive a separate 1099-K from every platform you use where you exceed the $600 threshold.
The IRS watchdog approach. Prior to 2022, the reporting threshold was $20,000 AND more than 200 transactions. But with the perceived under-reporting of income by those in the gig economy, the transaction threshold was eliminated and the dollar threshold was lowered to $600. Now the IRS will use their computer auditing to compare your 1099-Ks with what you report on your tax return and audit you if they do not match.
What to do now
Coach your friends. Whenever you exchange money with friends in a digital format like Venmo, have them mark the transaction as non-business. Each application will handle this differently, but it is critical you do this to avoid getting a 1099-K in error.
Use cash or check. When receiving payments from friends, if there is potential for error ask for a check or cash. This will avoid the 1099-K reporting mess.
Split payments. When splitting a bill at a restaurant, do not have one person pay and then get reimbursement. Instead, ask the restaurant to split the bill and everyone pay their share. You can make this easy on your server if you are willing to split the bill evenly.
Understand the problem. When receiving a digital payment, you are relying on the person paying you to code the transaction correctly. Unfortunately, you cannot make them do it correctly, so you now need to keep track of digital money received, who it was from, and for what purpose.
True business transactions. For those of you in the gig economy, you have a different problem. Many reporting platforms are inconsistent on reporting. Some will report your income twice, once on a 1099-K and again on another tax form (1099-MISC or 1099-NEC). You must actively monitor this information. Plus, you need to know whether the amount reported are gross proceeds (required) or whether they netted out their fees.
Casual users of seller platforms are now in business. Infrequent users of places like E-Bay, Etsy and Amazon are now in business when payments received are more than $600. Be prepared to create a business tax return on Schedule C of your Form 1040.
This seemingly simple change in the tax code is having a wide-reaching impact. It will further complicate filing taxes AND processing taxes for the IRS. Given the level of public outcry, a roll back of this new rule is possible, but given the nature of Congress, do not plan on it.
IRS Tax Tips: Issue Number: COVID Tax Tip 2022-11
Common tax return mistakes that can cost taxpayers
Tax laws are complicated but the most common tax return errors are surprising simple. Many mistakes can be avoided by filing electronically. Tax software does the math, flags common errors and prompts taxpayers for missing information. It can also help taxpayers claim valuable credits and deductions.
Using a reputable tax preparer – including certified public accountants, enrolled agents or other knowledgeable tax professionals – can also help avoid errors.
• Filing too early. While taxpayers should not file late, they also should not file prematurely. People who don’t wait to file before they receive all the proper tax reporting documents risk making a mistake that may lead to a processing delay.
• Missing or inaccurate Social Security numbers. Each SSN on a tax return should appear exactly as printed on the Social Security card.
• Misspelled names. Likewise, a name listed on a tax return should match the name on that person’s Social Security card.
• Entering information inaccurately. Wages, dividends, bank interest, and other income received and that was reported on an information return should be entered carefully. This includes any information needed to calculated credits and deductions. Using tax software should help prevent math errors, but individuals should always review their tax return for accuracy.
• Incorrect filing status. Some taxpayers choose the wrong filing status. The Interactive Tax Assistant on IRS.gov can help taxpayers choose the correct status especially if more than one filing status applies. Tax software also helps prevent mistakes with filing status.
• Math mistakes. Math errors are some of the most common mistakes. They range from simple addition and subtraction to more complex calculations. Taxpayers should always double check their math. Better yet, tax prep software does it automatically.
• Figuring credits or deductions. Taxpayers can make mistakes figuring things like their earned income tax credit, child and dependent care credit, child tax credit, and recovery rebate credit. The Interactive Tax Assistant can help determine if a taxpayer is eligible for tax credits or deductions. Tax software will calculate these credits and deductions and include any required forms and schedules. Taxpayers should Double check where items appear on the final return before clicking the submit button.
• Incorrect bank account numbers. Taxpayers who are due a refund should choose direct deposit. This is the fastest way for a taxpayer to get their money. However, taxpayers need to make sure they use the correct routing and account numbers on their tax return.
• Unsigned forms. An unsigned tax return isn’t valid. In most cases, both spouses must sign a joint return. Exceptions may apply for members of the armed forces or other taxpayers who have a valid power of attorney. Taxpayers can avoid this error by filing their return electronically and digitally signing it before sending it to the IRS.
The IRS urges all taxpayers to file electronically and choose direct deposit to get their refund faster. IRS Free File offers online tax preparation, direct deposit of refunds and electronic filing, all for free. Some options are available in Spanish. Many taxpayers also qualify for free tax return preparation from IRS-certified volunteers.
Share this tip on social media — #IRSTaxTip: Common tax return mistakes that can cost taxpayers. https://go.usa.gov/xtbkw
January 19, 2022
A coalition of 11 stakeholder groups from the tax practitioner community are urging the IRS to take action to reduce unnecessary burdens for taxpayers and practitioners during the upcoming filing season. IRS staff are currently processing a meeting request so that the practitioner groups can elaborate on their recommendations and respond directly to any questions the IRS may have.
The group includes those representing Latinos, Blacks, small businesses, and low-income taxpayers. In addition to the American Institute of CPAs, the group includes Latino Tax Pro, the National Association of Black Accountants, the National Association of Enrolled Agents, the National Association of Tax Professionals, the National Conference of CPA Practitioners, the National Society of Accountants, the National Society of Black CPAs, the National Society of Tax Professionals, Padgett Business Services, and Prosperity Now.
In a letter, the coalition urges the IRS to address the situation faced by practitioners and taxpayers during the filing season ahead.
“Currently, the IRS still has an unprecedented number of unprocessed returns in comparison to years before the pandemic,” they stated in the letter. “Consequently, the IRS sends numerous mistargeted notices, liens and levies. Additionally, the IRS is only answering 9% of all calls, and only 3% of calls regarding individual income tax returns, which prevents taxpayers from resolving these straightforward issues.”
To reduce the need for taxpayers and tax professionals to communicate with the IRS due to the persistent and erroneous notices, the coalition recommends that Treasury and the IRS should:
- Discontinue automated compliance actions until the IRS is prepared to devote the necessary resources for a proper and timely resolution of the matter.
- Align requests for account holds with the time it takes the IRS to process any penalty abatement requests.
- Offer a reasonable cause penalty waiver, similar to the procedures of first-time abate, or FTA, administrative waivers, without affecting the taxpayer’s eligibility for FTA in future tax years.
- Provide taxpayers with targeted relief from both the underpayment of the estimated tax penalty and the late payment penalty for the 2020 and 2021 tax years.
The letter noted that the COVID-19 pandemic has created enormous challenges for taxpayers, tax professionals, and the IRS: “It is time to take steps to ameliorate the situation. Implementing reasonable penalty relief measures, that the IRS can offer immediately, are necessary to help not only taxpayers and tax professionals but also the IRS during these challenging times.”
“The problems are highlighted by the fact that the IRS is sending out notices to taxpayers that did pay and in fact, their payment has cleared,” noted Stephen Mankowski, tax chair at NCCPAP, one of the members of the coalition. “There are so many cases where people have responded but are getting automated letters putting actual levies and liens against people, and if they try to call they can never get through. The IRS is so far behind that they can’t get to all of the issues.”
Much of this stems from the fact that the IRS is absolutely underfunded, Mankowski observed: “We support giving adequate funding to the IRS.”
Roger Harris, president of Padgett Business Services, another member of the coalition, agreed. “Underfunding of the IRS is a reality. The pandemic made a bad problem worse,” he said.
It’s been suggested that a moratorium on penalties will help the habitual offenders, but that’s unavoidable, according to Harris: “Anytime you have penalties reduced there’s the potential that some bad actors will benefit. But is that enough of a reason to not grant it to the majority who are trying to play by the rules?”
“It really comes down to a question of fairness,” he said. “Taxpayers are being asked to respond in a timely manner and yet the service is not responding in the same timely fashion. Taxpayers and practitioners should not be held to the pre-pandemic standard until the IRS can operate in the same manner. If I get a letter that I have to respond to within 30 days and I bust my tail to respond in time, why does the service take forever, and I can call and not get an answer — why is it just my problem? Let’s recognize that these are not normal times, and we all need some breaks.” https://www.accountingtoday.com/news/tax-practitioner-coalition-urge-irs-to-step-up-for-tax-season
By Ben Popken, NBC News, Dec. 29, 2021, 4:15 PM EST / Updated Dec. 29, 2021, 5:21 PM EST
As you [enter the new] year, cleaning out drawers and emptying wallets of receipts, don’t forget to report to the IRS any income you brought in from drug deals, bribes, stolen goods, prostitution, or other illegal activity.
According to IRS publication 17, the Internal Revenue Service wants taxpayers to include on their forms “income from illegal activities, such as money from dealing illegal drugs.” Make sure you put that on “Schedule 1 (Form 1040), line 8z, or on Schedule C (Form 1040) if from your self-employment activity,” the IRS wrote.
The agency also requests that “if you steal property, you must report its fair market value,” but only if you don’t “return it to its rightful owner in the same year.”
The somewhat obscure provisions went viral this week after a popular finance-meme social media account and daily newsletter author pointed them out.
The IRS didn’t immediately return an NBC News request for comment.
Humorous as they appear on their face, the statutes are law and have been on the books for years. Prohibition-era gangster Al Capone was indicted on tax evasion after prosecutors alleged that his stated income didn’t match his lavish lifestyle.
“All income, from whatever source, is taxable income unless excluded by an act of Congress,” Gary Schroeder, a Maryland-based tax preparer, said. “If you receive $500 to kill your neighbor’s annoying rooster, or find $1 on the street, or embezzle from your employer, that’s all taxable income, as well as your paycheck from flipping burgers at McDonald’s.”
In practice, it’s rare for those who break the law to then turn around and dutifully log their ill-gotten gains for the government to review. But there are exceptions.
People who are convicted or expected to be convicted of embezzlement will report the income to avoid getting prosecuted for tax evasion on the proceeds, Stephen Moskowitz, a San Francisco tax attorney, told NBC News.
If a person declares and pays taxes on their illegal activities, then they also get to deduct the cost of any restitution as well, he said.
Income for activities that may be legal at the state level, such as marijuana production, but illegal at the federal level is also disclosed in this manner, he said.
“This law exists. It’s a revenue raiser,” Moskowitz said.
“Congress requires that you report all of your income — whether legitimate or not,” said David Cay Johnston, an investigative journalist who specializes in tax code issues. “There are people who file tax returns and list as their occupation criminal activities like ‘prostitute.’”
Because tax returns are confidential and the IRS can’t share the information unless law enforcement has a case and gets a court order to get access to a taxpayer’s records, this is less risky than it sounds.
In 2020, there were 324 tax fraud convictions, according to the United States Sentencing Commission, down from 595 in 2016, a 45 percent decrease.
“The ‘tax gap’ — the difference between the taxes that are owed and the taxes that are collected — runs in the hundreds of billions of dollars a year,” Schroeder said.
“While a portion of that gap is the unreported profit from illicit drug sales, the gap also includes the folks who ‘skim’ by not reporting some or all of their income that is paid in currency,” he said.
In 2019, the IRS added a question to forms asking taxpayers to declare whether they had engaged in cryptocurrency transactions. In 2020, the IRS moved it to the top of Form 1040. Last year, the agency said it seized $3.5 billion in cryptocurrency assets. (https://www.nbcnews.com/business/taxes/dont-forget-declare-income-stolen-goods-illegal-activities-irs-says-rcna10345)
One of the biggest hurdles you’ll face in running your own business is staying on top of your numerous obligations to federal, state, and local tax agencies. Tax codes seem to be in a constant state of flux, making the Internal Revenue Code barely understandable to most people.
The old legal saying that “ignorance of the law is no excuse” is perhaps most often applied in tax settings. It is safe to assume that a tax auditor presenting an assessment of additional taxes, penalties, and interest will not look kindly on an “I didn’t know I was required to do that” claim. On the flip side, it is surprising how many small businesses overpay their taxes, neglecting to take deductions they’re legally entitled to that can help them lower their tax bill.
Preparing your taxes and strategizing as to how to keep more of your hard-earned dollars in your pocket becomes increasingly difficult with each passing year. Your best course of action to save time, frustration, money, and an auditor knocking on your door, is to have a professional accountant handle your taxes.
Tax professionals have years of experience with tax preparation, religiously attend tax seminars, read scores of journals, magazines, and monthly tax tips, among other things, to correctly interpret the changing tax code.
When it comes to tax planning for small businesses, the complexity of tax law generates a lot of folklore and misinformation that also leads to costly mistakes. With that in mind, here is a look at some of the more common small business tax misperceptions.
1. All Start-up Costs Are Immediately Deductible
Business start-up costs refer to expenses incurred before you begin operating your business. Business start-up costs include both start-up and organizational costs and vary depending on the type of business. Examples of these types of costs include advertising, travel, surveys, and training. These start-up and organizational costs are generally called capital expenditures.
Costs for a particular asset (such as machinery or office equipment) are recovered through depreciation or Section 179 expensing. When you start a business, you can elect to deduct or amortize certain business start-up costs.
You can elect to deduct up to $5,000 of business start-up and $5,000 of organizational costs paid or incurred; however, the $5,000 deduction is reduced by the amount your total start-up or organizational costs exceed $50,000, and any remaining costs must be amortized.
2. Overpaying the IRS Makes You “Audit Proof”
The IRS doesn’t care if you pay the right amount of taxes or overpay your taxes. They do care if you pay less than you owe and you can’t substantiate your deductions. Even if you overpay in one area, the IRS will still hit you with interest and penalties if you underpay in another. It is never a good idea to knowingly or unknowingly overpay the IRS. The best way to “Audit Proof” yourself is to properly document your expenses and make sure you are getting good advice from your tax accountant.
3. You Can Take More Deductions if You Are Incorporated
Self-employed individuals (sole proprietors and S Corps) qualify for many of the same deductions that incorporated businesses do, and for many small businesses, being incorporated is an unnecessary expense and burden. Start-ups can spend thousands of dollars in legal and accounting fees setting up a corporation, only to discover soon thereafter that they need to change their name or move the company in a different direction. In addition, plenty of small business owners who incorporate don’t make money for the first few years and find themselves saddled with minimum corporate tax payments and no income.
4. The Home Office Deduction Is a Red Flag for an Audit
While it used to be a red flag, this is no longer true–as long as you keep excellent records that satisfy IRS requirements. Because of the proliferation of home offices, tax officials cannot possibly audit all tax returns containing the home office deduction. In other words, there is no need to fear an audit just because you take the home office deduction. A high deduction-to-income ratio, however, may raise a red flag and lead to an audit.
5. Business Expenses Are Not Deductible if You Don’t Take the Home Office Deduction
You are still eligible to take deductions for business supplies, business-related phone bills, travel expenses, printing, wages paid to employees or contract workers, depreciation of equipment used for your business, and other expenses related to running a home-based business, whether or not you take the home office deduction.
Tax reform legislation passed in 2017 repealed certain itemized deductions on Schedule A, Itemized Deductions for tax years 2018 through 2025, including employee business expense deductions related to home office use.
6. Requesting an Extension on Your Taxes Is an Extension To Pay Taxes
Extensions enable you to extend your filing date only. Penalties and interest begin accruing from the date your taxes are due.
7. Part-Time Business Owners Cannot Set Up Self-Employed Pension Plans
If you start up a company while you have a salaried position complete with a 401K plan, you can still set up a SEP-IRA for your business and take the deduction.
Understanding how the tax system works is beneficial to any business owner, whether you run a small to medium-sized business or are a sole proprietor. Whether it is a missed payment or filing deadline, an improperly claimed deduction, or incomplete records, a tax headache is only one mistake away. Furthermore, even if you delegate the tax preparation to someone else, you are still liable for the accuracy of your tax returns.
By Emma Kerr, U.S.News, Oct. 14, 2021,
Quarterly taxes are estimated payments made on a quarterly basis to the U.S. Internal Revenue Service for income that is not subject to withholding. As the U.S. workforce is increasingly engaged in freelancing, side gigs, and self-employment, quarterly payments are a reality more taxpayers may soon be facing.
The group of Americans who are self-employed has grown since 2020: More than 10 million people in the U.S. were self-employed in September 2021, according to the U.S. Bureau of Labor Statistics, up from about 9.5 million in September 2020.
These self-employed individuals are usually required to make quarterly payments, but some workers receiving salaried W-2 income may still need to make quarterly payments under certain circumstances. These payments can help taxpayers avoid an unwelcome surprise on April 15.
“The trend has been that most taxpayers who don’t pay enough taxes throughout the year find themselves in a very tight situation at the end of the tax year when they file their tax return. They get into a situation where they cannot pay their back taxes owed,” says Alex Oware, certified public accountant at O&G Tax and Accounting Services and tax expert at JustAnswer. “Instead, they can pay their taxes up front by making quarterly payments.”
When Are Quarterly Taxes Due in 2022
Quarterly tax payments are due on the following dates:
|PAYMENT PERIOD||DUE DATE|
|Jan. 1 to March 31||April 15|
|April 1 to May 31||June 15|
|June 1 to Aug. 31||Sept. 15|
|Sept. 1 to Dec. 31||Jan. 15 of the following year|
Quarterly Taxes Aren’t Just for the Self Employed
Individuals who are self-employed – whether sole proprietors, partners, or S corporation shareholders – typically must make estimated tax payments if they anticipate owing $1,000 or more when their tax return is filed.
But quarterly taxes may also need to be paid in other situations where an individual’s withholdings are not sufficient. Estimated payments may need to be sent to cover income from the following sources:
- Gambling winnings or other prizes.
- Dividends and interest.
- Divorce settlements and alimony.
- IRA distributions.
- Social Security (if your income is high enough to make benefits taxable).
- Self-employed or independent contractor 1099 income.
- Self-employed people and independent contractors can sometimes avoid making quarterly payments.
“You could be self-employed and still pay yourself a salary. If you pay yourself a salary, you can adjust your withholdings however you like and avoid making quarterly payments,” says Deborah F. Graver, certified financial planner and principal at Signature Financial Planning in Pittsburgh. “But people often just aren’t sure what they’re going to be earning, so paying themselves a paycheck is tough.”
And workers with a W-2 income and a side gig can also avoid making estimated payments quarterly by talking with their employer.
“If you’re making a strong side income, you need to be thinking about quarterly payments,” Oware says. “If I have a W-2 income and a side gig, I have to decide to ask my employer to increase my W-2 withholding or just pay the estimated taxes on the other side.”
How to Estimate Your Quarterly Taxes
Quarterly taxes are used to pay income tax as well as self-employment taxes and alternative minimum taxes, if applicable. To get a rough estimate of your quarterly taxes, Oware says taxpayers can take last year’s owed taxes and simply divide by four to estimate this year’s quarterly tax payments.
If a small business owner, for example, owed $2,000 after filing last year, he or she could plan to pay roughly $500 each quarter in estimated tax payments this year.
However, last year’s income may not be predictive of this year’s if your financial situation has changed. To estimate your quarterly taxes most accurately, taxpayers should complete the worksheet included in Form 1040-ES.
Year after year, self-employed taxpayers may be able to better estimate their tax liability by comparing their estimated quarterly payments to the outcome of their annual tax return.
“If you still paid taxes, you might be underestimating,” Oware says. “Whenever you get a refund, it means you’re giving money to the government interest-free, you may be overestimating.”
How to Make Quarterly Tax Payments and Avoid Penalties
To make estimated tax payments, complete Form 1040-ES and submit your payment online, by phone or by mail.
The penalty for failing to pay enough tax throughout the year includes the tax owed plus interest. Taxpayers can avoid this penalty if they owe less than $1,000 in tax after subtracting their withholdings and credits, or by paying either at least 90% of the tax for the current year or 100% of the tax shown on the return for the prior year, according to the IRS website. (https://money.usnews.com/money/personal-finance/articles/2015/11/05/should-you-be-making-quarterly-tax-payments)
By Megan Gorman, Forbes, December 11, 2021
Ah, December. It always feels like this month sneaks up on us. For many, it is the last chance to impact their tax planning. But in the year-end rush, there is a lot to consider.
The past 18 months have been a wild ride in the capital markets. From the lows of March 2020 to the highs of the recent months, investors have done incredibly well. Further investors who fearlessly entered the crypto market a few years back might find themselves with significant gains.
And that is where taxes can become tricky.
“Think of cryptocurrency like a stock. Sell it in less than a year at a gain, and it is ordinary income. More than a year, and it’s taxed at long-term capital gains rates,” explains Adam Markowitz, EA and Vice President, Howard L Markowitz PA, CPA
While recognizing a gain might seem like the only option available to crypto investors, a unique tax planning opportunity is available: the ability to use your cypto holdings to donate to charity. As crypto becomes commonplace in investment portfolios, more donor advised funds (DAFs) and charities are accepting these holdings in their donations.
For many, this will be a significant planning opportunity, but just because it is permissible, doesn’t mean it’s straightforward. There are a few rules of the road that crypto investors must consider when donating to charity.
Before we get into how crypto can be donated, it is important to understand the mechanics of donating non-cash assets to charities.
“In addition to cash donations, individuals, partnerships, and corporations are allowed a charitable deduction on their tax returns for donated property,” explains Lorilyn Wilson, CPA & CEO of Lookahead LLC and DueNorth PDX.
Publicly traded securities are commonly-donated non-cash items. In this situation, investors can get a special two-part tax benefit. First, they do not have to recognize the capital gain; second, they get a charitable deduction when the holdings go to the charity or donor-advised fund.
“But there are rules. For property donated with a combined worth of more than $500 (think Goodwill donations, cars, etc.), an additional form called Form 8283 must be filed as well,” says Wilson.
For publicly traded holdings, only Part I of the form is required.
“The IRS requires you take the charitable deduction at the fair market value of the property being donated – and this is the form used to do just that,” says Wilson. “Questions such as the name of the organization donated to, property description, date property was acquired and contributed, how much it cost, and what the resale value is – is all information gathered on this form.”
Donating stocks can be a powerful tax management tool, but charities and DAFs have historically been nervous about crypto. Things are changing and the door for donating crypto is now open.
Be Aware of Appraisal Rules
Donating crypto is not as straightforward as donating publicly traded stocks. The world of crypto has not been transparent and the rules around donations reflect that.
“Now let’s say someone has decided to donate their crypto or other non-publicly traded securities. Could they artificially inflate the value of their donated property to get a higher deduction and pay less in taxes? As usual, the IRS is one step ahead of them,” says Wilson.
That’s why it is important to be aware of another set of rules surrounding Form 8283. Unlike publicly traded securities, a donation of crypto currency that exceeds $5,000 will require a qualified appraisal. Neither the IRS nor the SEC has taken any official position to treat cryptocurrencies as securities. The IRS has designated cryptocurrency as property and not currency.
A qualified appraisal must meet IRS requirements, including the need to use a qualified appraiser who has met education and experience requirements. Qualified appraisers are usually licensed or certified in the state in which the property is located.
Further, the appraisal must be done no more than 60 days prior to the donation and no later than the due date of the tax return including extensions. The appraisal is reported on Form 8283 and the appraiser is required to sign the form. No appraiser? No deduction.
It can be challenging to find a crypto appraiser, but as the technique is in greater demand, there are more resources available. Investors who use a donor advised fund like Schwab Charitable or Fidelity Charitable, may also be able to draw on their expertise.
Investors should anticipate that they will spend approximately $500 to $1,000 on appraisal fees, but the tax benefit may be worth it.
Check With Your Tax Professional
Ultimately, crypto investors should seek help from their tax professional to make sure that they take the appropriate steps in donating crypto to a DAF. It could mean the difference between a great tax planning experience and the disappointment of a disallowed deduction. (https://www.forbes.com/sites/megangorman/2021/12/11/crypto-investors-need-to-know-this-unique-tax-planning-opportunity/?sh=160453632267)
10 Surefire Tax Tips For Year-End 2021
By Ashlea Ebeling, Forbes, December 8, 2021
Who wants to think about taxes around the holidays? What if a few simple year-end moves could save you thousands of dollars off your 2021 tax bill? For example, there’s tax-loss harvesting, topping up retirement account contributions, and giving to charity. These are moves you can make even though the fate of the Build Back Better Act in Congress is uncertain. Senate Democrats say they’re trying to pass the proposal, which includes tax hikes on the rich and a possible increase to the cap on the deduction for state and local taxes, before Christmas. That might mean really last-minute tax planning. In the meantime, to lessen your tax bite for 2021, consider these surefire steps you can make by year-end.
Give to charity. The charitable contribution tax deduction means you can give more to charity at a lower net cost while lowering your tax bill. Usually, taxpayers who take the standard deduction instead of itemizing deductions—and that’s most of us—can’t deduct their charitable contributions. But there is a special deduction for gifts of cash to charity of up to $300 for individuals and up to $600 for married couples filing jointly for 2021. This charitable deduction for non-itemizers is basically an extension (and for couples, a doubling) of the one-year $300 tax break Congress put in for 2020 under the pandemic relief CARES Act. Watch out for extra rules. Contributions eligible for the special deduction include cash donations made by check, credit card or debit card, but not donations of household goods. And gifts to donor-advised funds and private foundations don’t count.
If you do itemize deductions, there are more ways to maximize the tax benefits of your contributions. “Instead of giving cash, give appreciated securities,” says Jere Doyle, senior tax and estate planning strategist at BNY Mellon Wealth Management. “You can give away the gain.” When you make a gift of highly appreciated stock to a person, say a child, the low tax basis is carried over to the recipient, meaning they’ll eventually have to take a tax hit when they sell. So it’s better to give low basis assets to charities, which are exempt from capital gains taxes. The gain is never taxed, but you get to deduct the full market value of your stock at the time of the gift.
For the most generous individual givers, there’s another special incentive for 2021: the elimination of limits on the percentage of your adjusted gross income that can be wiped out by a charitable deduction for cash gifts to public charities (not to private foundations or donor-advised funds).
Give to family and friends. Thinking of whittling down your estate? The sooner, the better, so any growth in assets is outside of your estate. Seventeen states impose death taxes, and the federal estate tax exemption is scheduled to drop back to $5 million, plus inflation adjustments, in 2026. Using what’s called the annual gift tax exclusion, you can give away $15,000 to as many individuals—kids, grandkids, their spouses—as you’d like with no federal gift tax consequences in 2021. That jumps to $16,000 in 2022. Spouses can each make gifts, doubling the impact. A series of annual exclusion gifts can add up, and they don’t count toward the $11.7 million (2021) lifetime gift and estate tax exemption amount, which climbs to $12.06 million in 2022. If you’re making annual gifts to individual, don’t delay: the check must clear the bank by the end of the year, Doyle notes.
You also can make unlimited direct payments for medical and tuition expenses for as many people as you’d like, with no gift or estate tax consequences. Medical and educational payments must be made directly to the institution. You can’t, for example, transfer money to your daughter who pays the bill for your grandkids’ tuition.
Fund a 529 Education Savings Account. 529 college savings plans work best if college is a long way off but they can make sense even if the beneficiaries are already in college. Parents or grandparents can easily set them up for one beneficiary and then add or change beneficiaries as your family needs evolve. The money you contribute grows tax free and comes out tax free if used for educational expenses, including a computer. And more than 30 states offer state tax breaks for contributing too, according to SavingForCollege.com. The rich can supercharge a 529 account by contributing up to five years of annual gift exclusions up front.
Recent tax law changes make these plans even more powerful: The money in a 529 can be used for K-12 tuition (up to $10,000 a year per student), college, graduate school, and trade schools.
Fund a Health Savings Account. If you’re eligible for an HSA, double check that you’re contributing as much as you can, and look at the investment options in your plan. These accounts are the most powerful savings accounts out there, with triple tax savings: the money goes in tax free, grows tax free and comes out tax free when used for medical expenses. You can keep the account when you switch jobs and there’s no use-it-or-lose-it problem as there is with flexible spending accounts. The catch: You’re only eligible to contribute if you have a high-deductible health plan. For 2021, you can contribute $3,600 as an individual, or $7,200 if you have family coverage, with an additional $1,000 if you’re 55 or older.
You do save by using the money in an HSA for current health care expenses. But the secret to making the most of one of these accounts is to pay your current medical costs out of pocket and to invest the money in the account, allowing it to grow tax-free into a retirement health care kitty.
Think about retirement now. The end of the year is a good time to check that you’re making the most of tax-advantaged retirement accounts for this year and next. If you have a workplace retirement plan, check that at a minimum you’re contributing enough to grab any employer matching contributions. For 2021, you can contribute $19,500 to a 401(k) plus a $6,500 catch-up contribution if you’re 50 or older. That jumps to $20,500 for 2022. The maximum amount you can contribute to an IRA (whether you choose a Roth IRA or a traditional IRA) is $6,000 plus a $1,000 catch-up contribution if you’re 50 or older. Those numbers are the same for 2021 and 2022. Self-employed workers and business owners can save even more in a SEP-IRA or solo 401(k).
Note: As long as you’ve got earned income, you can contribute to an IRA (the old rule that barred contributions past age 70 1/2 is no longer).
Check tax withholding. If you have gig income or if you’ve sold stocks at a gain, make sure you’ve withheld enough in income taxes. Typically you should be paying in estimates on a quarterly basis. The last date to pay in 2021 estimates is January 18, 2022. What if you haven’t been doing that? You could get hit with an underpayment penalty (it’s really just interest). But wage earners have a way to catch up without paying interest: You can withhold more on a year-end bonus or on your W-2 up to the full amount of pay, and it’s considered spread evenly over all four quarters.
Take advantage of tax loss harvesting. Meanwhile, to reduce your 2021 income, take advantage of tax loss harvesting. Pay attention to the types of gains and losses in your taxable investment accounts when selling at the end of the year. Short-term capital losses offset short-term capital gains, for example. You can deduct $3,000 of losses against your personal income, and carry over additional losses to future years.
Watch out: The wash-sale rule says you have to wait at least 31 days to buy back the same investment.
Consider Roth IRA conversions. A Roth IRA conversion doesn’t have to be a one-time move. It can work better to do a series of partial Roth conversions, so it’s something to consider every year. You move some—or all of the money—from your traditional IRA into a Roth IRA, paying income tax on the amount you moved or “converted”. The amount converted is added to your income for the year. The aim with a partial conversion is to move just the amount of money that keeps you in the same tax bracket, rather than bumping you into a higher one. Yes, you’re paying taxes on the converted amount before you otherwise would have to. But the Roth IRA grows tax free for your lifetime—and your spouse’s, and there are no required minimum distribution rules as there are for a traditional IRA.
Check Flexible Spending Account balances. If you contribute to a healthcare flexible spending account at work, check your remaining balance for 2021, and whether your employer lets you carry over unused amounts into the next plan year. You usually have to spend all the money in the account—or carry over no more than $550. But Congress loosened the rules because of the pandemic. Employers don’t have to allow it, but you might be able to carry over the full remaining balance for 2021. At the same time, you can elect to contribute up to $2,850 into an FSA for 2022. The money you contribute is pre-tax, so you’re saving by contributing, as long as you spend the account down by repaying yourself for out-of-pocket health care expenses like deductibles, co-insurance, and many things you pick up at the drugstore. Congress recently added masks and hand sanitizer to the list of eligible products that includes tampons, hearing aids, and contact lenses and solution.
Get your estate documents in order. Family get-togethers over the year-end holiday and the pandemic are driving folks to review and beef up their estate plans—not just to save taxes, but to provide peace of mind for themselves and their heirs. At a minimum, make sure you have basic documents in order. That includes a durable power of attorney, a will, and revocable living trust if applicable. On the healthcare front, you need a healthcare directive and a living will. These are the foundations that you need to have in place to protect yourself and your family in the near year. After all, there’s more to life than looking for tax savings. (https://www.forbes.com/sites/ashleaebeling/2021/12/08/10-surefire-tax-tips-for-year-end-2021/?sh=26cb76331bfc)