With the close of 2019 in sight, there’s still time for several strategies that may help minimize your personal tax burden.
Here’s a refresh on a list of ideas I previously put together for folks in life’s second half. I’ve segmented it into strategies for everyone 50 or older, for age 65+, and for those who’ve reached the age 70½ milestone.
If you’re age 50+
1. Defer income into 2020
If you’ll be receiving a year-end bonus or other significant income—and your taxable income will likely be lower next year—consider if you’d be better off arranging to receive that income in 2020.
2. Accelerate deductions into 2019
If you’re one of the few who still itemize your deductions on federal Schedule A, consider how you might benefit by shifting more deductions into this tax year. This is sometimes referred to as “bunching” deductions.
Charitable contributions made by December 31 are a good example. Or if you’ve reached the threshold for deductible medical and dental expenses (10% of adjusted gross income), elective healthcare and/or check-ups could be scheduled and paid by year-end to make them deductible.
If you’re subject to Alternative Minimum Tax (AMT), not all deductions are allowable under AMT. Be careful the acceleration strategy doesn’t backfire on you.
3. Harvest capital gains and offset with capital losses
If you’ve sold investments at a gain earlier in the year (or will do so by year-end), consider also selling certain investments at a loss by year-end to offset those gains. In addition to the offset, you can deduct up to $3,000 of any excess capital losses and carry forward any remainder for use against future capital gains.
But don’t let the tax tail wag the investment dog. Your buy-sell decisions should be made primarily on investment merit, with tax being a secondary consideration. Also, if you wish to buy back the investment you sold at a loss, be aware of the 30-day wait period under “wash sale” rules.
4. Maximize deductible contributions to your retirement plan at work
Participants in a 401(k), 403(b), or 457(b) retirement plan through work can contribute up to $19,000 to their plan. Folks age 50+ can also make a $6,000 age-related catch-up contribution, for a total of $25,000. (For 2020, this will increase to $19,500 + $6,500 = $26,000.)
If you have both a 403(b) and 457(b) plan, you get the double benefit of being able to contribute the maximum to both.
Contributions through payroll must be made by December 31. Since it’s late in the year, you’d presumably need to make a temporary payroll deductions adjustment. But the strategy might work well for you if you have other resources and don’t need to live on your November-December paychecks or if you’ll be paid a large bonus.
Note that the December 31 deadline doesn’t apply to IRA contributions ($7,000 for those age 50+), which can be made until April 2020 tax filing deadline.
5. Donate appreciated investments to charity
As noted above, if you itemize your deductions on federal Schedule A and there are important charitable causes you care about, consider making (additional) contributions by December 31.
But an alternative to donating cash is to contribute long-term investments (outside of your retirement plan) that have gained in value. The tax benefit? You can take a charitable deduction for the investment’s fair market value up to 30% of your adjusted gross income and you will not have to report any capital gains. The charity is then free to sell the appreciated investments and pay no tax.
6. Health Flexible Spending Arrangement (FSA) year-end planning
If you have an FSA through your work, depending on your plan rules the tax-favored benefits for health spending may be lost if you don’t use it by year-end.
Be sure to check your plan to see if it:
- Has a “use it or lose it” by December 31 requirement
- Allows a $500 carryover to the following year, or
- Offers a 2½ month grace period in the new year for using your benefits
This would also be a good time to plan your FSA health spending for 2020.
7. Conversions to Roth IRA
If you have a 401(k), IRA, or other pre-tax retirement plan and your 2019 income is in the lower tax brackets, consider if it may be beneficial to convert at least some of that to a Roth IRA. Note that, unlike tax filing deadline for contributions, Roth conversions must be done by December 31.
I’ve helped clients with a multi-year Roth conversion strategy. We convert just enough each year to keep them in the lower income tax brackets. The end result? They paid little tax to end up with tax-free resources that have potential for future tax-free growth.
8. 529 college savings plan contributions
Many states offer tax-favored 529 college savings plans, with considerable flexibility as to who can benefit. They’re not just for our kids and grandkids…we can use them ourselves.
Some states allow a tax deduction or credit (subject to limits) on the state income tax return. Several states require such contributions be made by December 31, which is why I list it here as a year-end planning strategy.
Oregon allows a deduction for contributions made up to tax filing deadline, to a maximum of $2,435 for single filers and $4,865 for married filing jointly.
9. Annual gift tax exclusion
If you’re trying to reduce the size of your estate or simply help your kids or grandkids, you can give any or each of them up to $15,000 annually without having to file a gift tax return and use up part of your lifetime exemption. The gift must be completed by December 31 to apply to this tax year.
If married, you and your spouse can choose to combine gifts for a total of $30,000 per donee per year.
Note that gifts toward medical expenses or college education may be paid directly to those institutions without having to use up any of the $15,000 annual exclusion. Also, gifts to qualified charities are not subject to the $15,000 threshold either.
If you’ve made a private gift in excess of $15,000, you won’t owe gift tax unless you’ve used up your lifetime gift and estate tax exemption ($11.4 million federal for 2019). But it does apply against that exemption and will need to be reported to the IRS on Form 709.
If you’re age 65+
10. Additional standard deduction
No action needed by year-end, but if you turn 65 in 2019 and claim the standard deduction, be aware that you now receive a larger total deduction"
- $13,850 for single filers
- $25,700 if married filing jointly and you or your spouse are 65 or older
- $27,000 if married filing jointly and both you and spouse are 65 or older
11. Medicare Part B and Part D premiums for higher income recipients
If you’re currently on Medicare or will be in 2021, be sure to consider how your income/deduction decisions for this year may affect future premiums.
Why? Medicare has an Income-Related Monthly Adjustment Amount (IRMAA). That’s a higher premium charged to individuals with Medicare Part B and Part D who have higher modified adjusted gross income (MAGI). And it’s generally based on your tax return a couple years prior.
Currently, higher premiums begin to kick-in at MAGI of $85,000+ for singles and $170,000 for married filing jointly. Here's a helpful Medicare link on it. For most people, MAGI is their adjusted gross income (line 7 of new Form 1040) plus tax-free municipal bond interest.
If you’re age 70½+
12. Required Minimum Distributions (RMDs)
If you turned 70½ this year, you must take what are known as Required Minimum Distributions (RMDs) from your retirement plans, except from a Roth IRA. These must be complete by December 31. And it’s serious business because Uncle Sam charges a 50% penalty tax on the amount you were supposed to have taken but didn't—and then you still have to take the distribution.
Your RMD will change every year based on your account balance for the prior December 31 and a life expectancy factor from IRS tables.
The first year only, you can wait until April 1 of the year after you turn 70½, but that’s generally not advisable because you’ll end up having to take two RMDs for that year. If this will be your first RMD and you anticipate much lower income next year, using the “by April 1” strategy could be a tax-smart move.
13. Make the maximum IRA distribution that avoids Social Security taxation
Social Security is taxable federally based on a concept called “provisional income.” Provisional income is basically half of your Social Security, plus other taxable income, plus tax-free municipal bond interest.
The extent your Social Security benefits are taxable works like this:
- 0% included in taxable income – if provisional income is less than $25,000 for single or less than $32,000 for married filing jointly.
- up to 50% included in taxable income – if provisional income is $25,000-$34,000 for single or $32,000-$44,000 for married filing jointly.
- up to 85% included in taxable income – if provisional income is greater than $34,000 for single or great than $44,000 for married filing jointly.
In some instances, I’ve been able to help lower income clients not only take their RMDs but also distribute additional pre-tax funds yet pay no tax because we stayed under the taxable threshold. A strategy to consider for those in a similar situation.
14. Qualified Charitable Donation (QCD)
If you financially support charitable causes and must take an annual Required Minimum Distribution from your IRA, consider making a Qualified Charitable Donation directly from your IRA to the charity.
What’s the benefit? When the contribution is made directly from your IRA, you don’t get a tax deduction for the donation but neither will you have to claim it as taxable income. And since your adjusted gross income triggers a number of other tax items (higher Medicare premiums, for example), the lower you can keep your AGI the better.
Limitations? The gift must be completed by December 31 and it can be no larger than $100,000 (if you want exclusion from your taxable income).
Qualified Charitable Donations have specific rules that must be followed. Read more in my previous blog post: Here’s a Tax-Smart Strategy for Those Age 70+ to Give to Charity.
I’ve only scratched the surface with these strategies. As with all tax matters, the potential benefit depends on the facts and circumstances of your situation. Feel free to reach out if you'd like to discuss any of these.
[Edited November 17, 2019 to clarify item #13 on Social Security taxation.]