Gorfine, Schiller &Gardyn’s (GSG) annual year-end and year-round tax planning guide provides an extensive analysis of tax-saving strategies for individuals and businesses for the upcoming tax season as well as future tax years.
Tom Colegrove, a Principal in GSG’s Tax Services, breaks down the thorough guide and highlights key areas where taxpayers should focus this tax season.
Q: One of the earlier sections in the report discusses retirement planning. What are important points taxpayers should make note of from this section of the tax planning guide?
A: As 2020 comes to a close, it’s incredibly important to save for retirement. Maximizing your contributions to tax-favored retirement plans can help you pursue this goal while also potentially saving money on your taxes. This is a reminder to take advantage of employer plans, fund an IRA, and know when to take your required minimum distributions (RMDs).
Q: How can taxpayers best take advantage of employer plans, like Roth contributions, IRAs, etc.?
A: With an employer-sponsored retirement savings plan, such as a 401(k), 403(b), or a SIMPLE plan, the contributions and any income on those contributions generally won't be taxed until you begin receiving funds from the plan.
Just note that the 403(b) plan is for government-type of entities and tax-exempt, and the 401(k) is for traditional for-profit entities.
Some employers also allow employees to make after-tax Roth contributions to their 401(k) or 403(b) retirement savings plans, which is a new concept. Roth contributions are subject to current income taxes but once in the plan, the contributions potentially grow tax-deferred. Withdrawals of both Roth and related earnings are not taxed until certain requirements are met.
Another reminder is to fund an IRA. An IRA would be an account that is obtained outside of your employment. This is obtained from any bank of your choosing. You may make an IRA contribution for the 2020 year as late as the April 2021 filing deadline for your federal income tax returns. There are no income restrictions on making tax-deductible contributions to a traditional IRA, unless you or your spouse actively participates in employer-sponsored retirement plans. With active plan participation, the 2020 deduction gradually phases out once AGI exceeds. There's three thresholds to keep in mind, $65,000 for single and head of household, $104,000 for married filing joint status, and $10,000 for married filing separately.
Q: What changes are there to the required minimum distributions(RMDs), especially regarding to the SECURE Act and CARES Act?
A: The SECURE Act increased the age for taking RMDs from 70 ½ to 72 for individuals who didn't reach age 70 ½ before January 1, 2020. However, the CARES Act, which was passed later on, suspended the RMDs for 2020, but you must start taking them again in 2021.
The additional excise tax for failure to take an RMD is a steep 50% of the amount that you should have withdrawn. Your first RMD will typically be due April 1 of the year after you attain age 70 ½, and another RMD will be due by December 31 of that same year. RMDs for subsequent years must be taken by year-end. This is a reminder to weigh the tax deferral benefit of waiting until right before the April 1 deadline to take your first RMD against the potential for being pushed into a higher tax bracket by taking two RMDs in one year.
Also, consider state taxes used, particularly, if you anticipate moving to a state with a significantly different tax rate.
Q: What are some overall investment strategies, like planning for gains and losses?
A: As the guide mentions, as part of your year-end planning, review your investments held outside of your tax-deferred retirement accounts to see if there may be some opportunities to save taxes, specifically if you have already realized, or expect to realize, a large capital gain in the year. Consider whether you are holding securities in your portfolio that you want to sell because they haven't performed up to your expectations. Realizing capital losses before the end of the year will allow you to use those losses to offset your capital gains.
You should also watch your holding period. The length of time you hold an investment before selling it determines if the capital gain or loss is short-term or long-term. The short-term holding period is one year or less, and the long-term holding period is more than one year. Ideally, any taxable net capital gain you have will be long-term, so you'll benefit from preferential tax rates.
GSG's published 2020 tax guide includes a comprehensive analysis for planning for gains and losses.
Q: What’s important to note about the new 20% qualified business income deduction, Section 199A?
A: Corporations received a major rate reduction resulting from the Tax Cuts and Jobs Act (TCJA). To give some parity, business owners, other than C corporations, received the new deductions beginning in 2018 and expiring after 2025. It’s measured by 20% of business income. It's a relatively cumbersome calculation, and not all taxpayers may qualify for the full 20% deduction since it's subject to various phaseouts.
The 199A deduction calls for the taxpayer to distinguish the income or loss of each separate trade or business. Limitations apply to the deduction, depending on the taxpayer's taxable income, which includes the type, trader business, the amount of W2 wages paid by the qualified business, and the unadjusted basis immediately after acquisition of qualified property held by the trader business.
Q: What are some timing strategies for bonus payments and bad debts for business owners?
A: If your company intends to pay employee bonuses for 2020, consider the timing of those payments as a cash method business company may want to pay bonuses before year-end to gain a 2020 deduction for the expense. You have a little more flexibility if your business used the accrual method because expenses are required to be deducted when incurred, compared to when paid.
The 2020 deduction will be available for bonus payments made on related employees that paid by the time we filed tax returns, including extension, provided the liability to pay the bonuses is both fixed and determinable by the end of that year.
Business bad debts represent another potential deduction. A deduction is available for any debt that is wholly or partially worthless, assuming your company has already included that amount in income. However, the businesses that use the cash method of accounting can't write off uncollectable amounts of bad debts because they don't recognize sales revenue until it is received. Review your accounts receivable at year end to identify potentially uncollectable amounts that can be written off as bad debts.
Q: What more should we know about retirement plan contributions, especially with regards to 401(k), profit-sharing, SEP-IRA, and SIMPLE IRA?
A: Business owners have various strategies to save for retirement and also lower their business income taxes. I suggest maximizing tax-deductible contributions to a retirement plan for yourself and any eligible employees. To elaborate, there’s a 401(k) plan, a profit-sharing plan, a SEP-IRA plan, and a SIMPLE IRA plan that you can use to do so, in addition to some other methods.
With the 401(k) plan and the profit-sharing plan, you can contribute the lesser of $57,000or 100% of compensation, a SEP-IRA plan, the lesser of $57,000 or 25% of compensation, and a SIMPLE IRA plan, up to $13,500 employees' salary deferrals plus employer contributions, which is a 3% match or 2% non-elective contribution. It’s important to note for certain types of these plans, such as a solo 401(k) or profit-sharing plan, this may trigger the filing of Form 5500 if certain asset thresholds are met.
Tom Colegrove is a Principal in GSG’s tax department and has over 10 years of experience in public accounting with a focus in serving tax-exempt organizations, employee benefit plans, and the real estate industry at large. He is responsible for managing the workflow of Forms 990 & 5500 within the tax department. His work also includes tax planning and preparation for individuals, trusts, estates, partnerships, S-Corporations, and C-Corporations spanning many different industries.