What are some key tax-saving strategies available to taxpayers that could potentially minimize taxes? With the 2022 tax year quickly ending, there are only a few weeks left to take advantage of the available tax breaks, detailed below.
Evaluate Opportunities for Roth Conversions
Investors with traditional IRAs might consider converting to a Roth IRA. Investors who move money from their traditional IRA will pay taxes on the funds at ordinary state and federal rates and deposit the remaining funds into a Roth IRA where it can grow tax-free. Future withdrawals can be made on a tax-free basis provided investors meet certain criteria, such as a five-year waiting period following the conversion, and must occur after the age of 59 ½.
Complete Required Minimum Distributions
Individuals 72 and older holding an IRA, SEP IRA, SIMPLE IRA or retirement account should remember to withdraw the Required Minimum Distribution (RMD). The penalty for forgetting is 50% of the amount that should have been distributed, and this could be a huge penalty. For example, if the required RMD is $20,000, the penalty would be $10,000.
Those who turned 72 in the 2022 tax year and hold a retirement account have until April 1, 2023, to take the first distribution. However, a person’s tax situation might have them consider taking an RMD before the year’s end.
Review Contributions to Tax-Advantaged Retirement Accounts
Consider increasing contributions to retirement plans by contributing the maximum amount. In 2022, individuals are allowed to contribute up to $20,500 to a 401(k) plan, and individuals aged 50 and older can contribute an additional $6,500 for a total of $27,000. Contributing to a retirement plan is a great way to save money for retirement while reducing taxable income.
Contribute to a Health Savings Account (HSA)
HSA contributions can lower taxable income. In addition, interest earnings on contributions are tax-free. Because HSA contributions can be made with pre-tax funds, individuals can deduct the amount contributed from annual taxable income in the year the contribution was made.
HSA account holders 55 years of age and older are entitled to make an additional catch-up contribution valued at $1,000 on top of the above contribution caps. Table source IRS website.
Review Tax Withholdings and Estimated Tax Payments
The end of the year is a good time to look at the amount of tax that has been withheld from any income, pension, or Social Security, as well as any estimated payments made throughout the year. It’s possible that more tax has been withheld than necessary.
The 2022 Form 1040-ES on the IRS website will help in completing the calculations. Located in the 2022 Form 1040-ES instructions are the tax rate schedules to use for projecting 2022 estimated tax liability. Of course, it is always prudent to check with a tax advisor to ensure the correct withholding amount.
Persons facing a penalty for underpayment of federal estimated taxes might consider increasing withholding amounts going forward. Doing so may reduce or eliminate potential penalties and interest.
Proactive Tax-Gain and Tax-Loss Harvest
Tax-loss harvesting only applies to taxable investment accounts. Retirement accounts such as IRAs and 401(k) accounts grow tax-deferred and so are not subject to capital gains taxes.
Investments that decreased in value could be sold at a loss, using the loss to offset any realized gains on a similar investment. It’s important to proactively monitor losses throughout the year so that losses can be taken as they occur. For an individual taxpayer and a married couple filing jointly, up to $3,000 per year in realized capital losses can be used to offset capital gains tax or taxes owed on ordinary income.
Consider Charitable Giving
Taxpayers who take the standard deduction cannot deduct their charitable contributions. The law now permits taxpayers to claim a limited deduction on their 2022 federal income tax return for cash contributions made to certain qualifying charitable organizations.
Taxpayers, including single filers or married individuals filing separate returns, can claim a deduction of up to $300 for cash contributions to qualifying charities during 2022. The maximum deduction is $600 for married individuals filing joint returns.
Consider an Annual Gift to Family
Making an exclusion gift before the year is up will save on gift and estate taxes. A gift up to $16,000 per person ($32k for spouses) is allowed for an unlimited number of individuals for the 2022 tax year. These transfers also may save family income taxes where income-earning property is given to family members in lower-income tax brackets not subject to the kiddie tax.
Author, Eli Smith, CPA
Senior Tax Manager
Any accounting, business or tax advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues, nor a substitute for a formal opinion, nor is it sufficient to avoid tax-related penalties.