Surprised by your 2021 tax return? There is still time for action!

You are likely in the process of completing your 2021 tax return.  For those engaged in tax planning throughout the year, few if any surprises should arise.  Those who didn’t plan may be frustrated and wonder if there is anything to do.  The answer is YES!

This blog post provides a few remaining actions that can be taken now to potentially impact the 2021 tax year.  Additional strategies are included to implement during 2022 to better manage the outcome next spring.  It may be helpful to reference my past blog post on base understanding of taxes.

Potential actions to impact 2021 tax return

The amount of tax planning is quite limited at this point but there are a few things to consider.  Recall if you meet specific rules for different types of accounts, you may be able to deduct contributions from taxable income, thus reducing taxes due for 2021.  Here are the main accounts you can still act upon.

Individual Retirement Accounts (IRAs)

Any action taken now for IRAs can still apply to the 2021 tax year, unlike employee contributions to 401ks.

There are two main types – Roth and Traditional.  Everyone with taxable compensation can participate, but the type used and whether a deduction applies depends on income.  Recall Roth contributions are not deductible but investments grow and withdrawn tax-free.  A Traditional contribution may be deductible and while investments grow tax-free, you pay ordinary income tax on deductible contributions and all growth when withdrawn.  Maximum contributions are $6,000 under age 50 and $7,000 age 50+ (or taxable compensation if less).  One can also use taxable compensation of a spouse for eligibility.

The key criteria is the marginal tax rate when contributing vs. expected tax rate when withdraw (see past blog post for marginal rates).  There are also income limits for those who can contribute to a Roth and who can deduct (all can contribute) a Traditional contribution as summarized in the table below.

And don’t forget, you can contribute to IRAs even if you maxed out your 401k (provided total wages greater than contributions).  And for married couples with one-earner, be sure to utilize the Spousal IRA for the other.

Health Savings Accounts (HSAs)

Any action taken now for HSAs can still apply to the 2021 tax year, unlike Flexible Spending Accounts used with employers.

There is no income limits or even a requirement to have taxable compensation to utilize this account.  However, your medical insurance coverage has to be a qualified high deductible health plan (HDHP) for the tax year contributing (Medicare is not HDHP).  The contribution limits for 2021 are $3,600 for single and $7,200 for family plus an extra $1,000 for each if over age 55 (not 50 like IRAs!).  These contribution amounts are fully deductible regardless of income and can later be withdrawn tax-free provided used for qualified medical expenses.  If you contributed through payroll last year and didn’t hit the maximum, you can still deposit funds outside of payroll for the remaining deduction.

Employer Retirement Plan Contributions

Those with their own business can still make the employer portion of contributions to retirement plans.  Note any employee portion of contributions had to be made by 12/31 of the previous year and most plans had to be established in 2021 (exception is SEP).  Common retirement plans include SEP, SIMPLE, Individual (or Solo) 401k and PSP 401k.  See IRS Publication 560 for all the details.

Planning for Upcoming Tax Year

There are more deductible account types and other strategies but if not listed above, they needed to be funded or completed by the end of the tax year.  Here is a brief list.  The details will have to wait for a future blog post.  Note all the accounts mentioned above can also be utilized now for 2022 tax year if wish.

• Employee contributions to a 401k type, either Roth or Traditional, up to $20,500 ($27,000 if age 50+) for 2022.
• Roth conversions, depending on current vs. expected retirement marginal tax rates among other things; “fill up your bracket”.
• SIMPLE IRAs need to be established by October 1 of the tax year along with additional rules; other retirement plans must be established by end of year (except SEPs).
• If comfortable using high deductible health insurance, need to select the coverage before utilizing an HSA.
• 529 College Savings Plans are deductible for some states up to limits.  As an aside, withdrawals for qualified educational expenses must occur the same year as expenses.
• Capital losses must be realized the same tax year.  Don’t wait until the end of the year and don’t forget to “harvest gains” if in 12% or lower bracket!
• Charitable contributions or funding a Donor Advised Fund must also be done by 12/31 of a given tax year.
• Qualified Charitable Distribution (QCD) for those age 70.5+ (not 72 like RMDs) if have a Traditional IRA and charitably inclined.

So whether it is last minute contributions before the 2021 tax year closes or laying the groundwork for an intentional 2022 tax year, understanding and utilizing the options available can leave more of your own money in your pocket.

Posted by Kirk, a fee-only financial advisor who looks at your complete financial picture through the lens of a multi-disciplined, credentialed professional. www.pvwealthmgt.com