As the calendar year comes to an end, it’s important to review your financial situation to be certain you’ve taken advantage of any year-end planning opportunities.

  • While planning is certainly not just a once-a-year endeavor, there are certain strategies that you may wish to consider to help optimize your tax and financial planning before ringing in the New Year.
  • With so many demands on our time at year end, we offer the following tax and financial planning tips.
  • You should consider each of these with your tax and financial advisors and discuss whether there might be other strategies that you can implement before year end.

What if you find yourself in a high taxable income year?

The IRS requires individuals who have retirement accounts and that are over age 70½ to withdraw a certain amount from those accounts each year. This is called a required minimum distribution (RMD), and it is included as taxable income in the year it is withdrawn.  However, if you don’t need or want the additional income the RMD will provide, and are charitably inclined, you can take advantage of the qualified charitable distribution as a tax planning strategy.  This allows an individual who is over age 70½ to transfer up to $100,000 from an IRA directly to a qualified charity without recognizing the income. Any amount transferred to a charity would count towards satisfying all or part of your RMD.  This may reduce your income tax liability, as the RMD otherwise would be taxed to you as ordinary income.  

Contributions to 529 Plans may also provide some income tax relief. These plans are used to help save for college expenses for your children or grandchildren. Like other tax-advantaged accounts, income accumulated in a 529 is not subject to federal income tax and distributions are not taxed so long as the funds are used for the qualified education expenses of the plan beneficiary.  Under new rules, up to $10,000 per year per student may also be withdrawn from a 529 to pay for elementary or secondary school expenses.   If contributions are made before December 31, there may be a state income tax benefit associated with it. Each state has its own rules, so you should consult with your tax advisor to determine if your state allows for such tax benefits.

Care should also be taken each year to review the specific investments that you have in your portfolio. In non-retirement accounts, capital gains and losses can be used to help minimize your tax bill. Tax-loss harvesting is a strategy in which investments are sold at a loss to offset taxable capital gains that have been realized during the year. This can allow you to reduce your taxable income while also removing poorly performing assets from your portfolio.

On the other hand, what if the current year has generated low taxable income?

The opposite of tax-loss harvesting would be to harvest capital gains in a year in which you have realized capital losses or have carryover capital losses from previous years. This will allow you to lock in gains on assets and pay little to no tax on those gains, depending on the amount of the losses.

If you have a traditional IRA, an additional planning strategy is to consider converting it to a Roth IRA. This involves paying income tax on the traditional IRA funds in order to convert them over to Roth status. In a year when your taxable income is low, it might be beneficial to pay the tax on the traditional IRA funds at a lower tax rate than you might incur in the future. This will also allow you to take advantage of the benefits of having a Roth IRA, which include tax-free growth and withdrawals (if qualified), and no required minimum distributions during your lifetime. This strategy to convert to Roth status can also be implemented with employer-sponsored retirement plans, such as 401(k) plans.  

Does your retirement planning coincide with your tax and financial planning?

As discussed earlier, if you have a traditional retirement plan account and are at least age 70½, you will need to remember to withdraw your RMD by the end of the year. The IRS levies a heavy penalty on those who fail to withdraw the full amount during the year.

The end of the year is also a good time to determine if you have contributed as much as you can to your employer-sponsored retirement plan. The contributions to this type of plan are a good way to defer taxable income while also saving for retirement. In 2019, the maximum contribution allowed is $19,000 with an additional $6,000 if you are age 50 or older.

Did you know that employer’s assistance in tackling medical costs is becoming more popular?

The end of the year may bring new enrollment opportunities for employer benefits. Many employers are now offering medical plans that are considered high deductible plans. Individuals who are covered by a high deductible medical plan could be eligible to fund a health savings account (HSA). If qualified, funding an HSA would allow you and your family to defer taxable income while also saving for medical expenses. The HSA is a pre-tax savings vehicle that can grow tax deferred and permits tax-free withdrawals if the funds are used for qualified medical expenses. As an additional benefit, if you are age 65 or older you can withdraw from your HSA penalty-free for any expense (although income tax would be owed) while still maintaining tax-free withdrawals for qualified medical expenses. In 2019, the maximum contribution for an individual is $3,500 and for a family is $7,000. Those age 55 or older can contribute an additional $1,000.

In addition to health savings accounts, many employers also offer flexible spending accounts (FSA). These accounts are also pre-tax savings vehicles for use with certain medical or dependent care expenses. A flexible spending account may have a “use-it-or-lose-it” requirement that states that if you don’t use the funds in the account by the end of the year, you lose them. If you have this type of arrangement, you should make sure you get your eligible expenses in by December 31.

Are you reviewing your estate planning strategies regularly?

For families that are in a position to gift assets, the IRS allows each individual an annual gift exclusion amount where there are no adverse tax consequences for giving that gift. In 2019, the annual exclusion amount is $15,000 per individual. The gift, whether it is cash, stock, or tangible property, would need to be made by December 31 in order to qualify for the current year’s exclusion amount.

Gifts that are made to a qualified charity may also entitle you to an income tax deduction, if you are able to itemize your deductions (such as charitable gifts, mortgage interest, real estate taxes, etc.) on your income tax return. Given the current tax law changes, many taxpayers will end up using their standard deduction, rather than itemizing their deductions. For those who are charitably inclined, it could be a tax benefit to bunch a large charitable gift into one year as opposed to making smaller gifts in multiple years. This would allow you to use the charitable gift as an income tax deduction, rather than have it wasted in a year when you use the standard deduction.

Finally, something that should also be done on a continual basis is to review the beneficiary designations on your retirement accounts and life insurance policies. Both primary and secondary beneficiaries should be designated as these will determine how those assets pass at your death. There are many events that a family can experience that may make you want to update beneficiary designations, such as death, marriage, divorce, and birth. Getting into the habit of a year-end review for these designations is a good practice.

These are just a few of the year-end steps you can take now to help minimize your tax burden in the future and be sure you start 2020 optimally positioned. You should consider each of these with your tax and financial advisors and discuss whether there might be other strategies that you can implement before year end. 

This article is for informational purposes only and is not intended as an offer or solicitation for the sale of any financial product or service or as a determination that any investment strategy is suitable for a specific investor. Investors should seek financial advice regarding the suitability of any investment strategy based on their objectives, financial situations, and particular needs. This article is not designed or intended to provide financial, tax, legal, accounting, investment, or other professional advice since such advice always requires consideration of individual circumstances. If professional advice is needed, the services of a professional advisor should be sought.

Note that financial and estate planning strategies require individual consideration, and there is no assurance that any strategy will be successful.

IRS Circular 230 disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that, while this article is not intended to provide tax advice, in the event that any information contained in this publication is construed to be tax advice, the information was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding tax related penalties under the Internal Revenue Code or (ii) promoting, marketing, or recommending to another party any matters addressed herein.

Note that a few states, including Delaware, have special trust advantages that may not be available under the laws of your state of residence.

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