A tax advisor that only prepares your tax return and you don’t talk to again until the following year is useful, but the value of a great tax advisor is in planning. No one likes surprises with taxes. A costly surprise can set back your short-term financial goals. If you get a large refund, that is likely capital you could have deployed more wisely elsewhere. I encourage all my clients to go through some sort of year-end tax planning. There are not a lot of planning items that can be done for 2022 once the clock strikes midnight on January 1, 2023.
The goal of this post is to discuss some of the items I would go over during tax planning. The first section is for individuals and the second is for businesses. Please review and let me know if you have questions about any of these items. My goal is to ensure you know what to expect this coming April 15, whether or not you extend your tax return (which does not extend the due date for tax payment).
Individual tax items
For W-2 earners, we should do a check on your withholding. The W-4 is the most confusing form the IRS puts in the hands of most taxpayers. Tax pros are stumped in how to prepare these correctly, and our government requires all of us to fill this out and hope we do it right. I think highly of my ability to do federal income taxes and I have never gotten a W-4 right on the first try. What I do know is typically speaking, higher income taxpayers withhold too little. This results in taxes due next April. There is enough time to adjust withholdings, but even if no adjustments are made, knowing what to expect in April is key for planning.
There are various reasons to consider increasing or decreasing taxable income. In general, most want to defer taxes so decreasing income is often the strategy most want to employ. That said, taxpayers who will have higher income in 2023 may want to accelerate 2023 income into 2022 to take advantage of the progressive tax rate system and lessen higher taxes that income would bring in 2023. Possibly your dependent child is going on their own and your head of household filing status will no longer apply. Lastly, with certain new credits coming online in 2023 for EVs and energy efficient property that phase out at certain income levels, shifting 2023 income into 2022 could be beneficial.
The list of items that phase out at certain income levels would rival War & Peace in length but working with me to do a projection will highlight those more clearly based on individual situations. Some examples are IRA contributions, child tax credits, and education tax credits. In some cases, $1 of income can cost hundreds or thousands in tax credits.
Ways to reduce income:
Recognizing capital losses – capital losses can offset all capital gains and up to $3,000 of ordinary income. Any excess losses carry forward indefinitely during your life. With a down market in 2022, finding losses should not be too tricky. Careful planning needs to be considered due to the wash sale rules that prevent you from buying back the same stock within 30 days of the loss. These wash rules do NOT apply to cryptocurrency currently.
Donations of appreciated stock – This is one of the most effective ways to reduce taxes. Securities donated will be deductible at their fair market value and can offset up to 30% of your AGI. All gain you’ve earned on those shares is untaxed, but you get the deduction for the full value.
With the higher standard deductions in place ($12,950 for singles, $25,900 for married, $19,400 for head of household) and a $10,000 limit on property and sales tax deductions, many taxpayers who once itemized are taking the standard deduction. Because of this, it could be beneficial to stack your charitable giving every other year, thus itemizing in odd years and taking the standard deduction in even years.
Increasing contributions to retirement plans or health savings accounts
IRA contributions – this is an item that can wait until after year-end as they are due by the original due date of the return (usually on or around April 15). There are many phase out rules here and higher income taxpayers cannot take advantage of IRAs unless they have no other retirement plan. A strategy that still can work is the Backdoor Roth IRA, which does not provide a tax deduction, but it does allow for tax deferred growth and no tax upon the withdrawal during retirement age.
For taxpayers considering estate planning, the annual gift exclusion is $16,000 for 2022 (increases to $17,000 in 2023). Beyond this, for individuals with estates above $12M, if planning is not in place, it’s time to start talking about federal estate planning. This is a large amount, but the State of WA only exempts $2.193M and then imposes the highest state estate tax in the country. As I often say, Washington is a great place to live, but a bad place to die. Planning for this can be beneficial.
Additional ways to gift money is to make tuition or medical expense payments on behalf of the recipient directly to the educational institution or medical provider. Those gifts are not considered toward the $16,000 limit.
Taxpayers having a down year may want to consider conversion of tax deferred retirement accounts to Roth. Those conversions are taxable, but if you can pay little or no tax on the conversion and convert money that will be taxed in the future to tax free, this could be a massive win.
The age that taxpayers must take required minimum distributions (RMDs) from a 401k or IRA plan has increased to 72 years old. Taxpayers below this age who have inherited an IRA will have to take RMDs based on their life expectancy over 10 years.
Taxpayers who will be 70.5 or older at year-end should consider making a charitable contribution directly from their IRA. This allows the charitable deduction to be “above the line” and not factored into itemized deductions. This means you can get the full standard deduction and charity (up to 100k). It also means lower AGI, and this could help with other phase out items.
While not necessarily a tax deduction item, with rising interest rates and inflation, taxpayers may be looking for places to put cash to earn money. Series I bonds may be a good idea (currently paying 6.89%). A fellow tax pro, Thomas Gorcynski, wrote a great post on inflation investments back when the rate was 9.62%. Check it out.
Business tax items
The qualified business deduction (“20% deduction”) of sole proprietor, rental, partnership, and S corporation income is still here and can require significant planning to maximize the deduction. 20% of business income earned can be deducted, which creates a top tax rate on this income of 29.6% rather than 37%. Ensuring you maximize this deduction is key.
100% bonus depreciation still applies on any non-real estate property acquired. This means a full write off on capital purchases can be had, regardless of whether you buy the item in cash or financed. Bonus depreciation phases down 20% per year for the next 4 years after 2022.
Remember that items under $2,500 can be expensed without issue as long as your tax advisor files a “DMSH election” with your timely filed tax return
For rental properties costing less than $1M, a safe harbor election for repairs can be made on a timely filed tax return that ensures many repairs can be expensed rather than capitalized over 27-39 years.
Employee Retention Credit (ERC) - I have to believe you've gotten some literature on this from someone. This tax credit existed between March 27, 2020 and September 30, 2021 and can still be claimed. If your business suffered a significant decline in gross revenue when compared to 2019, you may qualify for a large tax credit.
For real estate owners, consider a cost segregation study to maximize depreciation of your assets now rather than slowly over time. I can help you find a good provider and discuss the pros and cons.
Ask me about the research and development tax credits if your business involves trying or developing new things. The thing doesn't need to be new to the world, only new to you.