Ncpe Fellowship



November 2020

Dear clients and friends,

With the holidays approaching, now is the time to take steps to cut your 2020 tax bill. Here are some year-end tax planning strategies for your consideration.

Year-end Planning Moves for Individuals

Prioritize Contributions to Health Savings Accounts. Health Savings Accounts (HSAs) are the best deal going in the tax code. You receive a deduction for your contribution, earnings grow tax free, and withdrawals used for medical expenses are tax free. This is better than contributing to a 401k or traditional IRA because those contributions merely defer tax. For 2020, the contribution limits are $3,550 for self-only coverage and $7,100 for a family. Taxpayers 55 and older can contribute an additional $1,000. The deadline for 2020 contributions is April 15, 2021.

Warning: You must be enrolled in a high deductible health insurance plan to contribute to an HSA, along with out-of-pocket maximums below certain amounts. Taxpayers on Medicare are not eligible. Additionally, if you receive employer matches for your 401k contributions then you should max out those contributions to get your match, but then max out your HSA before contributing further to your 401k.

Check on Stimulus Payments. The Economic Impact Payment (EIP) is a credit that will be calculated on your 2020 individual income tax return, reduced for any payments already received based on your 2018 or 2019 income. The amount of the credit is phased out (but not below zero) by 5% for each dollar that the taxpayer’s adjusted gross income exceeds the following thresholds:

|Filing Status |Phase-out begins at AGI of: |Credit completely phased out at AGI of: |

|Married filing jointly |$150,000 |$198,000 if no children (add $10,000 for each child) |

|Head of household |$112,500 |$146,500 if one child (add $10,000 for each child) |

|Single |$75,000 |$99,000 |

If your 2020 income is above these thresholds, and you have already received an advance payment based on your 2018 or 2019 income, you will not be required to repay the advance. IRS Notice 1444 shows the amount you have already received, and we will need this amount to prepare your 2020 tax return.

Game Generous Standard Deduction Allowances. For 2020, the standard deduction amounts are $12,400 for singles and married filing separate, $24,800 for married filing joint, and $18,650 for heads of household. If your total annual itemizable deductions for 2020 will be close to your standard deduction amount, consider making additional expenditures before year-end to exceed your standard deduction.

If you are 65 or older and single, your standard deduction increases by $1,650 to $14,050. If you are 65 and married, each spouse gets an additional $1,300 standard deduction. Therefore, if you are both 65 and older, your total deduction is $27,400.

The easiest deductible expense to accelerate is your house payment due on January 1. Accelerating that payment into this year will give you 13 months’ worth of interest in 2019. Also, consider state and local income and property taxes that are due early next year. However, the maximum amount you can deduct for state and local taxes is $10,000 ($5,000 if you are married filing separately).

Also consider making bigger charitable donations this year or accelerating elective medical procedures, dental work, and vision care. For 2020, medical expenses are deductible to the extent they exceed 7.5% of Adjusted Gross Income (AGI), assuming you itemize.

Carefully Manage Investment Gains and Losses in Taxable Accounts. If you hold investments in taxable brokerage firm accounts, consider the tax advantage of selling appreciated securities that have been held for over 12 months. The maximum federal income tax rate on long-term capital gains recognized in 2020 is only 15% for most taxpayers, although it can reach 20% at higher income levels. The 3.8% Net Investment Income Tax (NIIT) also can apply at higher income levels.

What if you have some loser investments that you would like to unload? Taking capital losses this year would shelter capital gains, including high-taxed short-term gains, from other sales this year.

If selling a bunch of losers would cause your capital losses to exceed your capital gains, the result would be a net capital loss for the year. That net capital loss can be used to shelter up to $3,000 of 2020 ordinary income ($1,500 if you use married filing separate status). Any net capital loss more than that is carried forward to next year and beyond.

Take Advantage of 0% Tax Rate on Investment Income. For 2020, singles can take advantage of the 0% income tax rate on long-term capital gains and qualified dividends from securities held in taxable brokerage firm accounts if their taxable income is $40,000 or less. For heads of household and joint filers, that limit is increased to $53,600 and $80,000, respectively.

While your income may be too high to benefit from the 0% rate, you may have children, grandchildren, or other loved ones who will be in the 0% bracket. If so, consider giving them appreciated stock or mutual fund shares that they can sell and pay 0% tax on the resulting long-term gains. Gains will be long-term if your ownership period plus the gift recipient’s ownership period (before the sale) equals at least a year and a day.

Giving away stocks that pay qualified dividends is another tax-smart idea. If the dividends fall within the gift recipient’s 0% rate bracket, they will be free from federal tax.

Warning: If you give securities to someone who is under age 24, the Kiddie Tax rules could potentially cause some of the resulting capital gains and dividends to be taxed at the higher rates. That would defeat the purpose. Please contact us if you have questions about the Kiddie Tax.

Give away Winner Shares or Sell Loser Shares and Give away the Resulting Cash. If you want to make gifts to some favorite relatives and/or charities, they can be made in conjunction with an overall revamping of your taxable account stock and equity mutual fund portfolios. Gifts should be made according to the following tax-smart principles.

Gifts to Relatives. Do not give away loser shares (currently worth less than what you paid for them). Instead, you should sell the shares and book the resulting tax-saving capital loss. Then, you can give the sales proceeds to your relative.

On the other hand, you should give away winner shares to relatives. Most likely, they will pay lower tax rates than you would pay if you sold the same shares. As explained earlier, relatives in the 0% federal income tax bracket for long-term capital gains and qualified dividends will pay a 0% federal tax rate on gains from shares that were held for over a year before being sold. (For purposes of meeting the more-than-one-year rule for gifted shares, you can count your ownership period plus the gift recipient’s ownership period.) Even if the winner shares have been held for a year or less before being sold, your relative will probably pay a much lower tax rate on the gain than you would.

Gifts to Charities. The principles for tax-smart gifts to relatives also apply to donations to IRS-approved charities. You should sell loser shares and collect the resulting tax-saving capital losses. Then, you can give the sales proceeds to favored charities and claim the resulting tax-saving charitable deductions (assuming you itemize). Following this strategy delivers a double tax benefit: tax-saving capital losses plus tax-saving charitable donation deductions.

On the other hand, you should donate winner shares instead of giving away cash. Why? Because donations of publicly traded shares that you have owned over a year result in charitable deductions equal to the full current market value of the shares at the time of the gift (assuming you itemize). Plus, when you donate winner shares, you escape any capital gains taxes on those shares. This makes this idea another double tax-saver: you avoid capital gains taxes while getting a tax-saving donation deduction (assuming you itemize). Meanwhile, the tax-exempt charitable organization can sell the donated shares without owing anything to the IRS.

Manage Required Minimum Distributions (RMDs). Due to the pandemic, RMDs have been waived for most retirement accounts in 2020 (they were not waived for defined benefit plans). RMDs will resume in 2021. Note, for taxpayers who turn 70 ½ or older after December 31, 2019, RMDs begin at age 72 instead of 70 ½.

Contribute to an IRA. The age limit for making contributions to traditional IRAs was repealed in 2020. Therefore, subject to certain restrictions, almost anyone can now contribute to a traditional IRA.

Make a Qualified Charitable Distribution (QCD) from your IRA. A QCD is a non-taxable distribution made directly by the trustee of the taxpayer’s IRA to an eligible charitable organization. The taxpayer must be 70½ or older at the time of the QCD. All or part of the taxpayer’s required minimum distribution (RMD) may be included in the QCD.

Warning: QCDs are limited to $100,000 per taxpayer, and not all charities are eligible. For example, donor-advised funds and supporting organizations are not eligible recipients of QCD distributions. A charitable contribution deduction cannot be claimed for any QCD not included in income.

Note: If you make a deductible IRA contribution and you are greater than age 70 1/2, the amount of the IRA contribution will cause the same amount of your QCD to be taxable. For example, suppose you contribute $7,000 to an IRA after age 70 ½ and claim a deduction for it. If you later make a QCD contribution of $50,000, only $43,000 of QCD will not be taxable.

Monitor Inherited Retirement Accounts. One of the major changes under the SECURE Act is the elimination of the “stretch” distribution strategy for inherited IRAs and retirement plans. If an IRA owner or retirement plan participant passes away in 2020 or after and leaves the assets to a non-spouse beneficiary, the non-spouse beneficiary generally must distribute the entire balance of the inherited account by December 31 of the 10th anniversary of death (known as the 10-year rule). This rule change impacts all IRAs (including ROTH IRAs) and Qualified Retirement Plans.

Prior to 2020, non-spouse beneficiaries had the option of “stretching” the inherited account over their life expectancy by taking minimum distribution each year. This “stretch strategy” maximized the amount of time those assets could stay in a tax-deferred account and minimized taxation each year.

The 10-year rule (instead of life expectancy) significantly speeds up the inherited asset payout and thus typically makes the assets taxable for the beneficiary sooner. The taxable income over the 10-year period may also bump beneficiaries into higher tax brackets. While the 10-year payout impacts most beneficiaries, there are a few exceptions:

• Spouses

• Minor children of the IRA or retirement plan account owner

• Disabled or chronically ill individuals

• Non-spouses who are no more than 10 years younger than the deceased.

These beneficiaries may generally still take minimum distributions each year over their life expectancy. For minor children, they may stretch the inherited account over their life expectancy until they reach the age of majority in their state. At that point, the 10-year rule will apply.

Convert Traditional IRAs into Roth Accounts. The best profile for the Roth conversion strategy is when you expect to be in the same or higher tax bracket during your retirement years. The current tax hit from a conversion done this year may turn out to be a relatively small price to pay for completely avoiding potentially higher future tax rates on the account’s earnings. In effect, a Roth IRA can insure a portion or all your retirement savings against future tax rate increases.

A few years ago, the Roth conversion privilege was a restricted. It was only available if your modified AGI was $100,000 or less. That restriction is now gone. Even billionaires can now do Roth conversions!

Note, there are some disadvantages of doing the Roth Conversion:

1. By converting, you report additional income, which can cause your Medicare premiums to increase (see Medicare chart below).

2. The increase in income may also cause you to lose the zero percent federal tax rate on long term capital gains and qualified dividends.

3. You can no longer recharacterize your Roth conversion if the value of your investments goes down. 2017 was the last year you could do this.

4. The increase in income may cause more of your Social Security benefits to become taxable.

5. The increase in income may cause a decrease in the child and education credits.

6. The increase in income may subject you to the 3.8% net investment income tax.

7. The increase in income may cause you to lose a passive loss deduction, such as a rental loss.

8. The increase in income may cause you to lose medical deductions.

Manage Medicare Costs: Taxpayers pay a premium each month for Medicare Part B medical insurance. If your modified adjusted gross income two years ago is above a certain amount, you may pay an Income Related Monthly Adjustment Amount (IRMAA). IRMAA is an increase to your premiums based on the following levels of income:

|If your income in 2019 (for what you pay in 2021) was: |Your 2021 Monthly Part B Premiums will be: |

|Single filers |Joint filers | |

|$88,000 or less |$176,000 or less |$148.50 |

|$88,001 to $111,000 |$176,001 to $222,000 |$207.90 |

|$111,001 to $138,000 |$222,001 to $276,000 |$297.00 |

|$138,001 to $165,000 |$276,001 to $330,000 |$386.10 |

|$165,001 to $499,998 |$330,001 to $749,998 |$475.20 |

|$499,999 or more |$749,999 or more |$504.90 |

However, if you have experienced a life-changing event, you can request that the Social Security Administration (SSA) revisit its decision. Situations that the SSA considers life-changing events include:

1. Marriage or divorce.

2. Spousal death.

3. You or your spouse stop working or reduce the number of hours worked.

4. Involuntary loss of income-producing property due to a natural disaster, disease, fraud, or other circumstances.

5. Pension loss.

6. Receipt of the settlement payment from a current or former employer due to the employer’s closure or bankruptcy.

You will receive a letter from Social Security in late November informing you of your 2021 Medicare premiums. You have only 60 days to appeal, so please let us know if we can assist you with the filing.

Maximize Home Mortgage Interest Deductions. For 2019-2025, the Tax Cuts and Jobs Act (TCJA) reduces the limit on home acquisition debt to $750,000. For married taxpayers filing separately, the debt limit is halved to $375,000. Also, the TCJA generally disallows home equity debt interest. However, interest paid on home equity loans and lines of credit may be deductible if the funds are used to buy, build, or substantially improve the taxpayer’s home that secures the loan. In other words, such loans will be treated as home acquisition debt subject to the new $750,000/$375,000 limits.

Thanks to a set of grandfather rules, the new limits do not apply to home acquisition debt that was taken out on or before 12/15/17 (or taken out on or before that date and refinanced later). This is good news for existing homeowners. However, if you have a home equity loan or line of credit, you will need to trace how the proceeds were used to determine if the interest is still deductible under the new law.

Access Cash Efficiently. If you do not have an emergency fund and the bills are starting to pile up, you may be tempted to start charging more expenses to your credit cards. Before you run up a high-interest balance that could take years to pay off, you should explore the following options.

Roth IRA. A Roth IRA is a low-cost source of funds. You can always withdraw the amount of your contributions tax-free and penalty-free. Contributions come out of the account before earnings do, so you will not pay taxes until you have depleted your contributions.

401(k) loan. The economic stimulus package enacted in March doubles the amount you can borrow from your 401(k), from $50,000 to $100,000, or up to 100% of the vested balance if less. This option is available to workers (or family members) who have been diagnosed with COVID-19 or have suffered adverse financial consequences because of the pandemic. The interest rate on 401(k) loans is low -- about 5% --and you usually have five years to repay the loan. However, the law allows borrowers to skip payments for 2020, essentially giving you another year to repay it.

Health Savings Account. If you have an HSA, you can use money in the account for a variety of medical expenses, from dental work to co-payments. And if you lose your job, you can use money from your HSA to pay premiums under COBRA, the federal law that lets you continue group coverage. You can also use money from your HSA to pay health insurance premiums while you are receiving unemployment benefits.

Life insurance policy. A permanent life insurance policy has two components: a death benefit, which is the amount that will be paid to your beneficiaries when you die, and a cash value, a tax-advantaged savings account that’s funded by a portion of your premiums. You can make tax-free withdrawals up to the amount you have paid in premiums. The death benefit will be reduced by the total amount that you withdraw. Alternatively, you can borrow against your policy. If you do not repay the loan, or pay back only part of it, the balance will be deducted from your death benefit when you die.

Short-Term Loan From Your IRA (But Be Careful!). You can take a distribution from your traditional or Roth IRA, and it is tax free if you rollover the balance to a new IRA within 60 days. If it is not rolled over within 60 days, the entire amount is taxable. You can only do this once within a 365-day period. You must also rollover the same property that you received, so if you take out stock, it must be replaced with the same stock.

Covid Distribution. Due to Covid-19, under certain restrictions you can take up to $100,000 from an IRA or retirement account without an early withdrawal penalty. Additionally, you can elect to pay the tax on the withdrawal over three years or repay the amount entirely with no tax due.

Manage Long-Term Care Costs. For tax years beginning on or after January 1, 2020, New York’s Long-Term Care Insurance credit amount is reduced to $1,500. Additionally, only taxpayers with a New York adjusted gross income (AGI) of less than $250,000 are eligible.

Take Advantage of Excess Deductions on the Termination of an Estate or Trust. Prior to 2018, excess deductions on an estate or trust were claimed by a beneficiary as a miscellaneous itemized deduction. Starting in 2018, the IRS eliminated these itemized deductions, although they were still deductible on a New York State tax return. The IRS has now clarified that you may deduct these expenses as either an adjustment to your income or as an itemized deduction, depending on the type of expense. Some of these deductions are retroactive to 2018. As such, it might be worth amending a 2018 or 2019 return.

Year-end Planning Moves for Small Businesses

Manage Paycheck Protection Program Loan. The landscape of the Paycheck Protection Program (PPP) has changed throughout the year. Recently the IRS has declared that businesses with PPP loans cannot deduct 2020 expenses that will eventually be used to have those loans forgiven. This ruling effectively makes PPP loan proceeds fully taxable in 2020, regardless of when the forgiveness application is submitted or approved. Several politicians have already started to push back on this ruling so legislation may be forthcoming. Stay tuned.

Establish a Tax-favored Retirement Plan. If your business does not already have a retirement plan in place, now might be the time to take the plunge. Current retirement plan rules allow for significant deductible contributions. Options include a 401(k) plan (which can be set up for just one person), defined benefit pension plan, and a SIMPLE-IRA. Additionally, there are federal tax credits of up to $500 per year for three years to assist with the setup costs.

Take Advantage of Net Operating Losses (NOLs). The CARES Act temporarily relaxed many of the NOL limitations that were implemented under the Tax Cuts and Jobs Act (TCJA). If your small business expects a loss in 2020, know that you will be able to carry back 100% of that loss to the prior five tax years. If you had an NOL carried into 2020, you can claim a deduction equal to 100% of your 2020 taxable income.

Maximize the Deduction for Pass-through Business Income. For 2020, the deduction for Qualified Business Income (QBI) can be up to 20% of a pass-through entity owner’s QBI, subject to restrictions that can apply at higher income levels and another restriction based on the owner’s taxable income. The QBI deduction also can be claimed for up to 20% of income from qualified REIT dividends and 20% of certain qualified income from publicly traded partnerships.

For QBI deduction purposes, pass-through entities are defined as sole proprietorships, single-member LLCs that are treated as sole proprietorships for tax purposes, partnerships, LLCs that are treated as partnerships for tax purposes, and S corporations. The QBI deduction is only available to noncorporate taxpayers (individuals, trusts, and estates).

Because of the various limitations on the QBI deduction, tax planning moves can have the side effect of increasing or decreasing your allowable QBI deduction. So, individuals who can benefit from the deduction must be careful at year-end tax planning time. We can help you put together strategies that give you the best overall tax results for the year.

Check Your Partnership and S Corporation Stock Basis. If you own an interest in a partnership or S corporation, your ability to deduct any losses it passes through is limited to your basis. Although any unused loss can be carried forward indefinitely, the time value of money diminishes the usefulness of these suspended deductions. Thus, if you expect the partnership or S corporation to generate a loss this year and you lack sufficient basis to claim a full deduction, you may want to make a capital contribution (or in the case of an S corporation, loan it additional funds) before year end.

Employ Your Child. If you are self-employed, do not miss one last opportunity to employ your child before the end of the year. Doing so has tax benefits in that it shifts income (which is not subject to the Kiddie tax) from you to your child, who normally is in a lower tax bracket or 0% bracket. There can also be payroll tax savings since wages paid by sole proprietors to their children age 17 and younger are exempt from both Social Security and unemployment taxes. Employing your children has the added benefit of providing them with earned income, which enables them to contribute to an IRA. Children with IRAs, particularly Roth IRAs, have a great start on retirement savings since compounded growth of funds can be significant.

Warning: The wages paid must be reasonable given the child’s age and work skills. Second, if the child is in college, or is entering soon, having too much earned income can have a detrimental impact on the student’s need-based financial aid eligibility. Third, be sure to obtain workers’ compensation and disability insurance before paying any wages.

Also consider hiring your spouse to deduct unreimbursed medical expenses. Your spouse must receive a salary and must perform services which must be documented. Check to see if worker’s compensation and disability insurance is required.

Take Advantage of Last-Minute Opportunities: If your 2020 income is low, or you have large deductions that will create negative taxable income, you should try to accelerate income into 2020. Some ways to do this:

1. Do a Roth conversion.

2. Take an IRA distribution if you are 59½ or older.

3. Cash in savings bonds.

4. Sell stocks with gains.

5. Defer deductions to 2021.

Be Aware of New York’s Voluntary Disclosure and Compliance Program. Under this program, eligible taxpayers who owe back taxes can avoid monetary penalties and possible criminal charges by telling NYS what taxes they owe, paying those taxes, and entering an agreement to pay all future taxes. The application is filed electronically, and New York State will contact taxpayers after reviewing the application. You must apply to the program before NYS contacts you.

Claim 100% Gain Exclusion for Qualified Small Business Stock. There is a 100% federal income tax gain exclusion privilege for eligible sales of Qualified Small Business Corporation (QSBC) stock that was acquired after 9/27/10. QSBC shares must be held for more than five years to be eligible for the gain exclusion break. Contact us if you think you own stock that could qualify.

Conclusion

This letter covers only some of the year-end tax planning moves that could potentially benefit you, your loved ones, and your business. Please contact us if you have questions, want more information, or would like us to design a year-end planning package that delivers the best tax results for your circumstances.

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