Originally Published 2019-11-05
Dear Colleagues:
With the end of 2019 fast approaching, let’s consider a few last minute strategies that might help reduce your 2019 tax bill. Last year was the first year to be impacted by the Tax Cuts and Jobs Act of 2017 (TCJA). While there was no significant new legislation in 2019 affecting most of us, situations do change from year to year, thus requiring a fresh look at how to approach year-end tax planning. The following are a few strategies that you might find beneficial.
Bunching Deductions into 2019
TCJA significantly increased the standard deduction for all taxpayers. As a consequence many individuals that previously itemized are now finding the standard deduction to be more advantageous. For 2019, the standard deduction for single individuals is $12,200, $24,400 for married taxpayers filing jointly, $18,350 for those filing as head of household, and $12,200 for those filing married separately.
Additionally, there is a $10,000 limitation on the combined amount of state and property taxes that may be deducted when itemizing. Unfortunately, this $10,000 limitation applies to single as well as married taxpayers and is not indexed for inflation.
If your total itemized deductions for 2019 are close to the standard deduction amount, alternating between bunching itemized deductions into 2019 and taking the standard deduction in 2020 (or vice versa) could provide a net-tax benefit over the two year period. An example might be doubling your charitable contributions in one year and not the next. Similar strategies may be available for some with medical and tax scenarios.
Medical and Health Savings Accounts
For 2019, your medical expenses are only deductible as an itemized deduction to the extend they exceed 10 percent of your adjusted gross income. Health savings accounts (HSAs) may be an attractive alternative. If you are eligible to set up such an account, you can deduct the amount you contribute to the account in computing adjusted gross income. Therefore, whether you itemize or not you will still be able to deduct these contributions. Distributions from the HAS are tax free to the extent they are used to pay for qualified medical expenses. For 2019, the annual contribution limits are $3,500 for an individual and $7,000 for an individual with family coverage.
Mortgage Interest Deductions
Mortgage interest related to acquisition indebtedness has been limited by TCJA. If the mortgage is over $750,000 and was acquired after December 15, 2017, your mortgage interest deduction will be limited. For mortgages acquired before December 15, 2017, the limitation is the same as it was under the prior law of $1,000,000. However, if you operate a business from your home, an allocated portion of the mortgage interest is not subject to these limitations.
You can potentially deduct interest paid on home equity indebtedness, but only if you used the debt to buy, build, or substantially improve your home. No longer can you use the same loan to pay personal expenses or credit card debt and still deduct that interest.
Charitable Contribution Deductions
As we discussed earlier, charitable contributions are deductions that can easily be bunched to provide a more beneficial tax situation.
Additionally, you can reap a larger tax benefit by donating appreciated stock to a charity. Even though the basis of the stock may be low, your deductible charitable contribution is its fair market value. In addition to providing a great benefit to yourself and the charity, you avoid the capital gains tax that would otherwise be due if you sold the shares.
Finally, taxpayers 70-1/2 years old and older who own an individual retirement account (IRA) are required to take minimum distributions from that account each year and include those amount in taxable income. If you are in this situation, then a special rule applies allowing you to make a charitable contribution directly from your IRA to a charity and not pay taxes on the distribution. There are several rules that must be followed including the distribution must come directly from the administrator of the IRA to the charity in order for this to be non taxable. The distribution is not deductible as an itemized deduction. And, the distribution to the charity counts towards the taxpayer’s required minimum distribution. Since this has no bearing on your itemized deductions, individuals who take the standard deduction may find this to be a very attractive option.
Re-evaluating your Stock Portfolio
Year end is a great time to review your stock portfolio to see if you might want to sell some stocks that have lost value over time. Evaluate whether you might benefit from selling off appreciated stock, particularly those that would generate a short-term gain, and using the resulting gain to limit your exposure to long-term capital loss on stock that you may have sold. Any net capital gain you may end up with will be taxed at the substantially reduced capital gain tax rate.
Rental Real Estate
If you own rental real estate, you may be eligible for the tax break generated by the TCJA’s Section 199A deduction or the Qualified Business Income Deduction that is available for certain business owners. A 20% deduction for eligible business owners on their net income, the activity, if rental, must be considerable, regular, and continuous in scope. This is a complex equation and I suggest that you contact your tax advisor to assist you with this.
Retirement Planning
By investing in a qualified retirement plan you’ll not only receive a current deduction…therefore, reducing current year income tax, but you are adding to your funds for your retirement years. For 2019, you can contribute up to $19,000 if you are 50 or under to your 401(K) plan. Catch-up contributions of $6,000 are allowed if you are 50 or over. If certain requirements are met, contributions to an individual retirement account (IRA) may be deductible. The maximum contribution for those under 50 is $6,000 for 2019….for those over 50 it is $7,000 for 2019. As an option, you may want to contribute after tax dollars to a Roth IRA, or consider converting your traditional IRA to a Roth IRA. In the latter case you will have to pay tax on the amount converted as ordinary income, but subsequent earnings will be free of tax.
The 3.8% Net Investment Income Tax
A 3.8% tax applies to certain net investment income of individuals with income above a threshold amount. The threshold amounts are $250,000 for married jointly and $200,000 for those filing as single. In general investment income includes, but is not limited to: interest, dividends, capital gains, rental and royalty income, non-qualified annuities, and income from businesses involved in trading of financial instruments or commodities. Thus, while the top tax rate for qualified dividend income is generally 20%, the top rate on such income increases to 23.8% for a taxpayer subject to the net investment income tax(NIIT).
Timing Income and Deductions
If there is going to be a dramatic change in your taxable income or your life circumstances between 2019 and 2020, it may make sense to either (1) accelerate income into 2019 and defer deductions into 2020, or (2) accelerate deductions into 2019 and defer income into 2020.
Some ways of accelerating Income into 2019 might include harvesting gains from investment portfolios; converting a retirement account into a Roth IRA and recognizing the conversion income; taking IRA distributions this year rather than next; or, if you have a business and have clients that owe you money, try to get them to pay before year end.
Some ways to defer deductions into 2020 might include postponing year-end charitable contributions or medical expenses to next year; postponing the sale of any loss-generating property such as stocks; or if you own a business deferring payment on some outstanding invoices until 2020.
Some ways to defer income into 2020 might include having your employer pay you that yearend bonus in January 2020 rather than at year end; selling those stocks that will generate a substantial gain in early 2020 rather than at year end; or, possibly delaying the exercise of those stock options until early 2020.
Some ways to accelerate deductions into 2019 might include making your January mortgage payment in December rather than waiting until January; making large charitable contributions in 2019 rather than waiting until the first of the year; selling some or all of your stocks that will generate a loss in December rather than January; or if you qualify for a health savings account, setting one up and making the maximum contribution allowable.
I hope that you find this information helpful!!! Please let me know if you have any questions. Have very Happy Holidays, and I look forward to seeing many of you in the New Year!!!