#63 – As we approach the end of 2021 tax year, we would like to share some year-end measures that you can use to minimize your tax bill.
Drawing inspiration from an article by Kiplinger, Jeremy Keil highlights 7 year-end moves to help you lower your taxes during retirement.
(Saving money in year-end taxes = more money to spend on Christmas presents!)
Join Jeremy Keil in today’s episode to take a deep dive into efficient tax-planning during retirement. You’ll learn how to lower your effective tax rate not only for the current year, but throughout your post-retirement life.
- Strategies to optimally harvest tax gains and losses
- Retroactive tax-planning steps that you can take in 2022
- How to maximize tax savings while simultaneously benefitting your favorite charities
- Latest contribution limits for different retirement accounts that you must be aware of
- And more
7 Ways To Lower Your Tax Bill (2021 Year-end Edition)
1) Pre-pay Some Bills
If you’re a business owner, you can pre-pay some of your bills and use them as a deduction to reduce your taxable income.
You can also pre-pay your kids’ or grandkids’ tuition. Doing so can make you eligible for various tax credits.
For example, the American Opportunity Tax Credit (up to $2,500 for each qualifying student) and the Lifetime Learning Credit (up to 20% of your out-of-pocket costs for tuition, fees, and books, up to a maximum of $2,000).
Even if the tuition fees are due the following year, you can still get the tax credits if you make the payment ahead of time in December.
2) Consider Selling Some Stock
When you have a huge capital gain or loss on your stock investments (inside your regular taxable accounts), they are only realized after you sell the stock.
Tax-loss harvesting: You can use your capital losses to offset your gains, which ultimately reduces your taxable income. In addition, the current tax law allows up to $3,000 in capital losses to offset ordinary income, and you get to carryover the rest to the following year.
Remember, while harvesting your losses, you need to be mindful of wash sales — an instance where you sell a security to realize the loss and then immediately buy it back (within 30 days). Wash sales can take away any benefit of tax loss harvesting.
Tax-gain harvesting: Are you expecting 2021 to be a relatively lower tax year? If yes, then realizing capital gains can actually be beneficial for you.
You may have heard of the 30 day wash sale rule (explained above) when doing tax-loss harvesting, but there is no such rule for gains! If you love your stock, but want to realize the gains this year then just sell and rebuy immediately to capture that gain on this year’s taxes (and reset your cost basis to a higher value!).
3) Watch for Capital Gains Distributions
If you have invested in mutual funds, then this one is particularly important for you.
When the fund manager buys and sells securities on your behalf (through the fund you have invested in), you’re responsible for paying any taxes due on your investment income.
So, when you get a capital gains distribution, watch out for any potential gains and losses.
If you’re hit with a distribution at the very end of the year and realize huge capital gains, the taxes owed could be huge.
To avoid such unexpected surprises, it is good practice to keep yourself updated about the fund’s expected distributions by visiting its website.
4) Max Out Your Retirement Savings
For all relevant retirement accounts, such as 401(k)s, Roth 401(k)s, 403(b)s, and TSPs (for federal employees), know the maximum contribution limit.
In 2021, it is $19,500 for 401(k)s, 403(b)s or TSPs. Plus, you get an additional $6,500 if you’re 50 or older (with a total limit of $26,000).
For traditional and Roth IRAs, you can contribute up to $6,000 per year. This is increased to $7,000 for people over age 50. Note that these contributions are eligible for retroactive payments in the following year! You have until April 15th to make a contribution to the prior year.
Finally, for health savings accounts (HSAs), the contribution limit (also eligible for retroactive payments) is $3,600 per person and $7,200 per couple. If you’re 55 or older, it is increased by $1,000 per person and $2,000 per couple.
Retirement accounts are a great way to defer taxes or allow your money to grow tax-free in the future!
And because of the ability to wait until next year (up until April 15) to make contributions for the prior year it highlights the importance of asking your tax preparer for a draft copy of your return – before you file it! Review that return to see if an HSA or Traditional IRA contribution could benefit you immediately – or if you’re eligible to contribute to a Roth IRA for future tax-free growth.
5) Donate With Qualified Charitable Distributions (QCDs)
If you’re over age 70½, you can make qualified charitable distributions (QCDs), which is sending money from your Traditional IRA directly to a qualifying charity, and not having to pay taxes on that distribution.
For people over 72 years of age, required minimum distributions (RMDs) can be a pain because of the extra taxes it creates. However, if you transfer your money directly from your IRA to a charity using a QCD, you can save on the taxes you would have owed on the IRA distribution and show a lower tax income, which could help your taxes on Social Security!
The maximum you can take each year from your IRA for the Qualified Charitable Distribution is $100,000. More info on QCDs
An important thing to remember here is that you should try and make these contributions at the beginning of the year.
Why? Because if you send a check to a charity during the last week of December and it is cashed out in January, you’ll miss out on the tax savings for the current year – and potentially have some penalties for missing part of your RMD!
6) Donate to a Donor-advised Fund (DAF)
Donor-advised funds help enable you to bundle your charitable contributions, while maintaining a regular flow of payments to the designated charities.
Bundling your charitable contributions in one year can help you maximize your itemized deductions.
We cover the topic of donor-advised funds, how they work, and their benefits in our recent blog: 5 Reasons To Set Up a Donor-Advised Fund Today.
7) Utilize Roth Conversations
Wait a minute. Roth conversions would actually increase your tax bill this year. So, why are we suggesting it in this list?
Consider this: You may be expecting 2021 to be a relatively lower tax year. You’ve seen that the Tax Cut and Jobs Act tax rates expire at the end of 2025. Or you may expect a new tax law to increase your taxes even sooner than that. If you make Roth conversations now, you can lock in that lower expected tax rate!
After all, your goal isn’t to minimize taxes for the current year. Your goal is to minimize your effective tax rate throughout your retirement!
Don’t forget to check out the resources below to learn more about year-end tax planning.
If you have any questions, feel free to contact us and we’ll be more than happy to help you achieve your ideal retirement!
- Kiplinger: 10 Year-End Moves to Lower Your 2021 Tax Bill
- Kiplinger: Make the Most of Your Charitable Donations
- 5 Reasons To Set Up a Donor-Advised Fund Today
- IRS Tax Withholding Estimator
- 3 Things You Should Know Before Choosing A Financial Advisor
- 6 Questions Retirees Aren’t Asking But Should Be
- Subscribe to Retirement Revealed on Google Podcasts
- Subscribe to Retirement Revealed on Apple Podcasts
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