Uncertainty has become a usual way of life these past couple of years. But, in the words of Benjamin Franklin, “Nothing is certain except death and taxes.” With that thought in mind, tax planning has become more critical in our ever-changing legislative environment. Proactive tax planning can save tax dollars and help to ease any surprises come April 15. Although we have tax savings tools such as IRA contributions to use after the year is over, taxpayers must implement some strategies before 12/31/2021 to save on their 2021 taxes.
You may be able to benefit from a state tax deduction for contributions into your state 529 plan. For our Colorado state taxpayers, a contribution to a College Invest savings account is eligible for a deduction from your Colorado state income tax return. Contributions must be made by 12/31/2021 to qualify for a tax deduction. Currently, lifetime contributions may be made up to $500,000 per beneficiary.
Although 529 plans do not have an annual contribution limit, the federal gift tax exclusion is still $15,000 per beneficiary ($30,000 per couple) so keep this in mind when making 529 plan contributions. A 5-year election is available to make a lump-sum contribution of $75,000 to receive an immediate benefit of 5 years’ worth of gift tax exclusions. Beginning January 1, 2022, Colorado will limit the deductions to $20,000 per single taxpayer and $30,000 for joint filers.
The Covid-19 Economic Relief Cares act increased the income limitation on charitable donations from 60% of adjusted gross income up to 100%, allowing individuals to deduct cash donations in 2020 and then this rule was extended for 2021. Gifts to qualifying charities are included in your itemized deductions to reduce total income. Consider lumping charitable giving in one year to exceed the standard deduction and take advantage of increased itemized deductions. Donations can be in cash, long-term appreciated assets, or a combination of both. Whether you choose cash or appreciated securities, consider a donor-advised fund (DAF) that gives you flexibility on the timing of your gifts.
With a donor-advised fund, you receive a charitable deduction in the year that you contribute to the fund. Any funds invested within the account grow tax-free. As the donor, you control when you make grants to charitable organizations from within your DAF, and there is no minimum you must complete each year. Additional state credits are available by giving to Enterprise Zone Charities. Contributions are still deductible for the State of Colorado, even if you take the standard deduction. It’s essential to keep receipts from charities and provide them to your tax preparer, as these will need to be attached to your tax return.
Colorado Gives Day is December 7, 2021- https://www.coloradogives.org/COGIVESDAY
Qualified Opportunity Zone Fund (QOZ)
Do you have significant capital gains? 2021 is the last date an investment can be made in a QOZ to be held for five years and thus qualify for a 10% step-up in basis and exclude the gain on the new investment. These funds were created to spur economic development and job creation in distressed areas. However, they allow investors to defer recognition of eligible capital gains until the earlier of an inclusion event or December 31, 2026. Eligible gains must be invested within 180 days of realizing the gain and not from a related person.
Interest and earnings distributions come out tax-free. If you convert, the conversion amount is added to your income. There are no required minimum distributions on Roth IRAs, and they allow your account to grow uninterrupted, tax-free for life. There are no income requirements for Roth conversions and no age requirements to do a Roth Conversion. By using a Roth conversion, a taxpayer is potentially hedging against increases in future tax rates.
Three questions to ask before converting a Traditional IRA to a Roth IRA –
- Do you have a rough idea of the conversion’s impact on your tax bill?
- Do you have a plan to pay the resulting tax?
- Will you need your funds within five years as Roth conversion?
Roth conversions are subject to a five-year holding rule or will be subject to an early withdrawal penalty. There are a few exceptions to these rules, but it is recommended that you understand these rules before deciding to convert, especially if you want to withdraw funds soon.
Health Savings Account (HSA)
Health Savings Account can be a great way to save for current and future medical expenses while receiving a current tax deduction. If you are eligible by having a high-deductible health plan (HDHP) in 2021, the contribution limit is $3,600 for single (self) taxpayers and $7,200 for joint or Family filers. Catch-up contribution for those 55 years or older is $1,000 for single or Family filers. Minimum deductibles that qualify for the HDHP are self, $1,400, and Family, $2,800.
No matter what tax situations you and your family face this year, our team is always happy to help and make recommendations. In addition, our in-house CPA can consult on your tax situation or work with your tax advisor to find the best pro-active tax solutions for your financial circumstances.