Since we’re wrapping up the year, I thought now would be the best time to talk about some year-end tax planning tips everyone should be aware of before we hit 2020.
To do so, I welcomed Scott Cheslowitz onto episode 57 of the Retire Right podcast. Scott is a CPA and a partner of Rothenberg & Peters, PLLC. He has been a general practitioner for over 28 years, working with closely held entities, estates, and high net worth individuals providing services like accounting and tax and business planning for corporations, LLCs, partnerships, and individuals.
According to Scott, the average person will likely take a standard deduction on their return this year. Because of the Tax Cuts and Jobs Act of 2017, a lot of miscellaneous itemized deductions that you used to be able to take, you can’t anymore. In addition, there’s now a new $10,000 cap on state and local tax deductions. This means that many people will find that standard deductions are greater than itemized deductions. This is something that’s important to keep in mind as you strategize how you can make the most of your tax planning this year.
Read on to find out what else Scott recommends keeping in mind during your year-end tax planning!
Projecting Your Taxes
Whether you're a high net worth individual or not, Scott always recommends having an idea of where you stand tax-wise. Last year, the withholding tables changed, meaning that more money was infused into the economy because people were withholding less in taxes. Because of this, it didn't mean you were paying less in taxes, but instead had less paid towards the potential liability that would have been calculated based on tax law. This surprised people when tax time rolled around.
Instead of being surprised come April 15, we encourage you to do some tax projections. Not only will you have a better idea of what’s coming, but it will also allow you some time to be strategic around your taxes.
To do your projection, look at your pay stubs and see where your wages are going to be at the end of the year and what the withholdings will look like. If you’re an individual and not at the limitation of $10,000 for state and local taxes (including real estate taxes), then you may want to pay your state estimate. If you’re paying an estimate or increasing your state withholdings, you can get a greater deduction, which may benefit you as opposed to taking a standard deduction. It’s also important to always compare your itemized versus your standard deductions.
You can also look at your mortgage interest expense and your investment interest expense and do a projection at least once during the year (or two or three times if you have a business). But if you do a tax projection towards the end of the year, you not only get a snapshot of where you’re going to be from a tax standpoint come April 15, but you can also use some strategies to reduce that tax bill legally.
Another area to look at towards the end of the year is the charitable contributions that you’ve given during the year. By doing so, you can consider whether grouping two years together would be beneficial to you, so that you could have an amount that would allow you to itemize compared to the standard deduction, thus allowing you to lower your taxable income.
For example, if you’re over 65, and your itemized deductions are below the limit, at $15,000 for example, and you give $5,000 to charity, you're not going to get a tax deduction for this year. So instead of doing $5,000 in 2019 and $5,000 in 2020, you instead give $10,000 in one year to meet the limit.
The type of charity you give to is also important. In some cases, you’ll get a 60% adjusted gross income (AGI) deduction, meaning that if your adjusted gross income is $100,000, you can give up $60,000 during the year and get a deduction depending upon whether it’s cash. If it’s given to a private foundation and it’s appreciated property, it could be 20%. But if you give cash to a private foundation, it can be 30% of adjusted gross income. It’s also important to note that if you don’t use all these deductions, you don’t lose them. It gets carried forward and you can use it later to boost deductions.
According to Scott, if you’re 70 and a half, you can also give up to $100,000 to a qualified charity directly through your IRA. That way, you get a 100% deduction, because the income on that $100,000 (or up to that) is not picked up on your return as income.
Another option is to make use of donor-advised funds. With these, you can give a large amount and take the deduction in one year but still spread out your actual contributions over several years— plus, you also get to direct which charities your money is going to.
Qualified Opportunities Zone Fund Investing
Have you ever considered investing in qualified opportunity zones? Each state has designated areas, called qualified opportunity zones, which are designed to stimulate distressed communities by providing tax benefits to those who invest in those communities. For the first 5 years that you have an investment in a qualified opportunity zone, you save 10% of your basis. That means, if your gain was $100,000 and you invested five years in those funds, then you’re only going to be taxed on $90,000. If you invested for 7 years, you’ll be taxed on $85,000 because the benefit has a 15% increase in basis.
Another advantage is that if you hold the properties at least 10 years, then you will not have to pay taxes on the appreciation in a qualified opportunity zone fund. However, you’ll still have to pay taxes on the original gain after 7 years. So up to December 31st this year, you’ll have seven years in which you can invest that money and not pay taxes during those years. You can plan for that gain, put away some cash and remember that you don’t have to invest that principal, just the gain. However, it’s important to take a look at each state to see exactly what you’re allowed to do within the limitations of the law.
Tax Loss Harvesting
There may be times where you have a loss position in your portfolio. But that doesn’t mean you can’t benefit from those losses when it comes to taxes. The investment itself is more important than just taking the tax loss. So, if you feel good about the investment, Scott advises you keep it. If you have something you're not sure about anymore, then take the loss, especially because it can offset capital gains dollar for dollar up to $3,000 of ordinary income — plus, any losses you can't use gets carried forward.
In addition, if you have a loss in a mutual fund position, you could actually sell the loss and buy a similar fund. Then, 30 days later, you could go back into the original fund. It's a way of avoiding what's called the “wash sale rules” and getting those tax losses. However, be sure to ask your advisor about it to make sure you’re taking advantage of these opportunities appropriately.
Roth IRAs are also a wonderful way to generate lots of wealth. And depending upon how long you hold it and to what age, you can withdraw that wealth when retirement comes and not pay taxes on the appreciation.
If you have an IRA, you're going to have to take minimum distributions when you're 70 and a half. But if you have large losses in one year, you can convert the IRA into a Roth. That way, instead of paying those gains, you could take the money out of an IRA converted into a Roth and have those gains offset against losses. But you have to be careful when doing this. If you're under 59 and a half, you could have a penalty. But if you're over 59 and a half, you can convert without a penalty.
Section 529 Plans
One final tax planning consideration is to look at your 529 plan. A lot of people don't realize that you get a tax deduction for your section 529 plans. If you're married and are filing joint, you get up to a $10,000 deduction on your New York state return. If you're single, you get $5,000.
So, don't let the rest of the year go by without thinking about how you can take advantage of your tax situation. Run your projections and consider ways that you can either shelter some taxes or save money — and always be sure to consult your financial professionals to make sure you’re doing what’s best for you.
If you’d like to learn more about Scott’s year-end tax saving tips, be sure to listen to the full episode of year-end tax planning ideas over on the Retire Right podcast, or reach out to Scott at directly at firstname.lastname@example.org or at (516) 773-3200.