Year-End Tax Planning Amid Economic Uncertainty by Tony Gutierrez, CPA
Once again, year-end tax planning is complicated by an uncertain economic landscape. Despite a year of strong job growth and consumer spending, persistent inflation, rising interest rates and market volatility have stoked fears of an impending recession. On the political front, the November mid-term elections have left the country with a divided Congress that will likely spend the final weeks of the year attempting to push through legislation that could affect future tax policy. In this environment, taxpayers must tread carefully when making decisions that could impact their businesses and personal wealth in the current year and for many years to follow.
Individual Income Taxes and Deductions
The fourth quarter is an ideal time to estimate your 2022 tax liabilities and ensure you paid the appropriate amount of estimated tax throughout the year, either through withholding or quarterly estimated tax payments directly to the federal government. If you find yourself looking at a significant tax liability, you have until December 31 to increase the amount of taxes withheld from your salary or take other steps to reduce the sum you will owe the federal government on April 17, 2023. For example, depending on your income, contributions you make to your 401(k) or individual retirement account (IRA) before the end of the year can reduce your taxable income by the contribution amount.
Now is also a good time to look at the 2023 inflation adjustments to several provisions of the tax code to determine if there are planning opportunities you can take advantage of before the end of the year to maximize your 2022 tax efficiency. For example, higher income limits on tax brackets in 2023 mean that more of your income will be taxed at lower rates next year, and you will likely have higher take-home pay even if you will not receive a raise in 2023. As a general rule, taxpayers should look for opportunities to recognize income in the year they fall into the lowest marginal tax rate and account for deductible expenses in the year they are subject to the higher marginal rate.
For example, if you anticipate higher earnings in 2023, perhaps due to a raise or job change, consider accelerating income to the current year and delaying the recognition of deductions until next year. For example, try to get your year-end bonus before December 31, and hold off until January 1 to make deductible payments of alimony, real estate taxes and/or medical expenses. You may also consider accelerating the sale of appreciated assets in the current year (to realize the capital gain in 2022) and deferring capital losses until 2023. For business owners, you can avoid pre-paying business expenses before the end of the year.
By contrast, if you expect to be in the same or a lower tax bracket in 2023, perhaps due to a planned retirement, consider accelerating deductions in the current year and deferring recognition of income until next year. This can be accomplished by maxing out 2022 contributions to a 401(k) or IRA and increasing contributions to a health savings account or healthcare-related flexible spending account.
If you have access to an employer’s 401(k) retirement plan, you have until Dec. 31, 2022, to max out your annual salary deferral contribution, which, for 2022, is $20,500, or $27,000 if you are age 50 or older. These contributions can reduce your taxable income in the current year, and the money you save can grow tax-deferred until you take withdrawals after the age of 59 ½. If you are a business owner, you have until April 17, 2023, to make your 2022 salary deferral and employer match.
If you do not have access to an employer-sponsored retirement-savings plan, consider setting up a traditional IRA or a Roth IRA before the end of the year. You have until April 17, 2023, to contribute up to $6,000 to your plan for 2022, or $7,000 if you are age 50 or older. With today’s low tax rates and low asset values, it may be a good time to consider converting a traditional IRA that provides tax-deferred growth to a Roth IRA that allows for tax-free distributions during your retirement years. Doing so will result in an immediate tax liability on the converted amount, but it will enable you and your beneficiaries to enjoy tax-free income in the future.
While it is important to recognize that many of the rules for retirement savings changed in 2020 under the SECURE Act, it is likely that Congress will act on its latest round of proposed reforms, commonly referred to as Secure Act 2.0. Included in the bill is a lower threshold for part-time workers to qualify for participation in workplace retirement plans and a recommendation to raise the age when taxpayers must take required minimum distributions (RMDs) from tax-deferred plans from age 72 in 2022 to age 73 in 2023, 74 in 2030, and 75 in 2033.
Estate Tax Planning
Recent attempts by Congress to reduce the federal estate and gift tax exemption before the scheduled reduction in 2026 were not successful, allowing individuals who pass away in 2022 to exclude $12.06 million from federal estate tax in the current year ($24.12 million for married couples filing joint tax returns).
With just a few weeks left until the end of the year, you do have an opportunity to reduce the size of your taxable estate by making tax-free gifts of up to $16,000 to as many people as you wish (or up to $32,000 per recipient for married taxpayers filing joint returns.) You may also give tax-free gifts of any amount to your spouse or to pay another person’s tuition or medical expenses. Other ways to remove appreciated assets from your taxable estate and reduce your estate’s tax obligations are to donate to charity, make intrafamily loans or make proper use of certain trusts that meet your unique needs and accomplish your wealth-transfer goals.
Business Tax Planning
The recently enacted Inflation Reduction Act, which goes into effect on Jan. 1, 2023, imposes a new 15 percent corporate minimum tax on the average annual adjusted financial statement income reported by companies with annual profits of $1 billion or more, calculated over a three-year period. Excluded from the new tax are S corporations, real estate investment trusts (REITs) and regulated investment companies (RICs). The bill also introduces a new 1 percent excise tax on stock buybacks with the exception of stocks contributed to retirement accounts and employee stock ownership plans (ESOPs).
Regardless of any changes to existing tax law, the end of a year is an ideal time to meet with your professional tax advisors to review your existing plans and ensure that said plans continue to meet your evolving life circumstances, needs and goals; including but not limited to asset protection and beneficiary designations.
About the Author: Tony Gutierrez, CPA, is a director of Tax Services with Berkowitz Pollack Brant Advisors + CPAs, where he focuses on tax and estate planning for high-net-worth individuals, family offices, and closely held businesses in the U.S. and abroad. He can be reached at the CPA firm’s Miami office at 305-379-7000 or firstname.lastname@example.org.