Four tax planning considerations for year-end

Bill Cass, CFP®, CPWA®

Bill Cass, CFP®, CPWA®, 11/19/20


While tax rates are historically low, investors may want to consider several tax-smart strategies as they prepare for year-end planning.

Although impossible to predict, tax rates could move higher in the future. The ongoing pandemic has resulted in increased federal spending to provide economic relief to individuals and businesses, resulting in a record annual federal budget deficit. Eventually, lawmakers will likely be looking for ways to raise revenue, which likely means increasing taxes in some form.

Here are some tax efficient ideas to consider as year-end approaches.

1. Utilize a Roth conversion to take advantage of lower tax rates

The Tax Cuts and Jobs Act (TCJA) of 2017 reduced effective tax rates for most taxpayers. Investors may want to meet with an advisor before year-end to determine their marginal income tax rates for 2020 and identify potential strategies. The TCJA tax rates are set to expire in 2025. Consider utilizing Roth IRA strategies now as a hedge against the risk of higher tax rates in the future.

Getting a sense of your projected income before the end of the year can help determine your marginal tax bracket. This can set the basis for considering a Roth IRA conversion before the end of the year. The idea is to “fill up” the remaining room in the tax bracket with additional income from a Roth conversion, without creeping into a higher tax bracket. However, the higher the marginal tax bracket now, the harder the case for executing a Roth conversion.

2. Consider tax-smart strategies for charitable giving

The TCJA also created a new landscape for tax deductions. By reducing popular deductions and doubling the standard deduction, most taxpayers now opt to claim the standard deduction, rather than itemize. This has profound implications for making charitable gifts. For taxpayers who are planning on claiming the standard deduction, there are several strategies to consider.
  • For those age 70½ or older, distributing funds from an IRA tax free directly to a qualified charity (up to $100,000 per IRA owner and can include RMDs) may be an option.
  • Another strategy is the concept of “lumping” multiple years of charitable gifts into one year in order to itemize deductions on that year’s tax return. For example, instead of a couple gifting $10,000 annually to a charity, consider gifting $30,000 in one year, representing three years’ worth of gifts. The couple could benefit from itemizing deductions for that tax year and claim the higher standard deduction in the next two years.
  • The CARES Act pandemic relief bill made two changes for 2020. Taxpayers, including those utilizing the standard deduction in 2020, can claim an above-the-line deduction of up to $300 of cash contributions to qualified charities. And, the limit on cash contributions to qualified, public charities increased from 60% of adjusted gross income to 100%. These changes, however, are set to expire at the end of this year. Investors need to be mindful of the fact that time is running out to take advantage of these provisions.

3. Identify opportunities to harvest tax losses

In the process of reviewing portfolios, advisors and investors may want to explore whether there are opportunities to strategically generate losses to offset other gains. For example, using a tax-swap strategy for mutual fund holdings allows investors to realize a tax loss while retaining essentially equivalent market exposure.

To learn more about using a tax-swap strategy, read our investor education piece, “Using investment losses to your advantage.”

4. Review beneficiary designations

In December 2019, Congress passed the SECURE Act, which eliminated the “stretch” option on distributions from inherited retirement accounts. Under the new rules, most non-spouse beneficiaries are required to fully distribute inherited account balances by the end of the 10th year following the year the account owner dies. In light of this change, those wishing to pass retirement accounts to the next generation may want to review their beneficiary designations. For example, considering most heirs must withdraw inherited IRAs within 10 years, does it make sense to leave these type of assets to higher-income beneficiaries?

For more information about the SECURE Act and its impact on retirement accounts, read “Understanding the SECURE Act and its implications for planning.”

Set a time for year-end planning

It is important to discuss tax strategies with a tax and financial advisor to determine if it is appropriate for an overall financial plan.

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