It appears as I write this that any modifications to our tax laws and system will not be enacted nor take effect until 2022. Additionally, there is very little likelihood that any tax rates will be lower in 2022 than they were in 2021. While it’s usually beneficial to defer taxes when possible, it can be even more advantageous to pay taxes at the lowest rate possible. It is clear that for some taxpayers 2021 will be the lowest rate for the foreseeable future.
It’s not too late to do some year end tax planning. Based on my assumptions above, some of these actions and strategies may be beneficial for you.
There are three basic strategies in play…
Firstly, if tax rates are going up, you want to consider accelerating income into this year and pay the taxes at a lower rate. This would include bonuses, appreciated asset sales, acceleration of pass through business income. It would also make sense to maximize contributions to Roth retirement plans to the extent they are mutually exclusive with traditional plans. Converting a traditional IRA to a Roth deserves strong consideration.
Secondly, it could pay off to defer deductions and expenses to next year. If rates are higher and preferences are lower, they will be more valuable then. However, some deductions may be capped or otherwise curtailed in future years, so it is important to keep that in mind.
Lastly, it’s time to develop a longer term tax planning strategy. With lower lifetime gift and estate tax exemptions looming, it may be time to do some gifting to take advantage of the larger exemption and avoid potentially more onerous new rules like deemed sale. It’s also time to consider updating your qualified plan retirement strategy, and other strategies available to you such as deferred compensation if you are a business owner or executive.
None of this works in a vacuum. It is critical to evaluate what shifting income or expenses to another year will do to qualifications for preferences in other years, as well as phase outs and tax brackets. It’s also to remember that everyone’s situation is different requiring different strategies and solutions (“your mileage may vary”).
This is an opportunity that is sure to expire in a few weeks for many of you. Don’t let the ship sail without you.
The Bottom Line: You have less than one month to act.
–Michael Ross, CFP®