6. Be tax-savvy about school savings and tuition payment
Similar to retirement, saving for a college education is very expensive. Hopefully we are smart and are starting early, and have many years ahead of us. This way we save a little money each year and let the money grow.
Are you currently setting aside money in a taxable account to pay for your child’s school expenses? You could realize tax savings by opening a 529 education savings account instead. The sooner you do, the sooner earnings will grow tax-deferred. They will also generally be tax-free when withdrawals are used for qualified education expenses.
The government provides tax incentives through the following plans.
Additionally the Internal Revenue Code provides education-related tax credits and deductions that will take some of the sting out of college expenses, even before the school year starts.
- 529 Plans: you don’t get a federal tax deduction for contributions to 529 plans (some states allow for a deduction), but the investment in the plan grows tax free. No tax is due on distributions if the money is applied toward qualified education expenses in the same year. Beginning in 2018, elementary and secondary school tuition were available under 529 plans.
- Coverdell Education Savings Accounts (ESAs): Contributions to ESAs are not deductible, but investments grow tax free until the money is distributed, and distributions are tax free if used for qualified education expenses in the same year. Qualified education expenses for ESAs also include elementary and secondary education expenses, in addition to postsecondary education expenses.
Differences between the two plans are 1) Contribution restrictions. With a 529 plan, there are no income level restrictions for contributions. With a Coverdell ESA, if your adjusted gross income exceeds $110,000 for an individual, or $220,000 for a married couple filing a joint return, you’re not eligible to use a Coverdell at all.
Another difference 2) is Investment options. A benefit to using a Coverdell ESA is the ability to self-direct specific investments. While you can choose an asset allocation in a 529 plan, you are limited to the investments that the state-sponsored plan offers. With a Coverdell ESA, you can pick specific investments you like, which is a great option for donors who prefer to have more control over the investment offerings.
- IRA Plans: In general, if a taxpayer takes a distribution from any type of IRA account before reaching age 59½, they must pay a 10 percent penalty on the early distribution (25 percent for SIMPLE IRAs). However, if they take a distribution from an IRA for qualified higher education expenses, they escape the 10 percent additional tax. Note some may owe income tax on a portion of the distribution.
- American Opportunity Credit: Enables a claim up to $2,500 per student per year for the first four years of post-secondary education; 40 percent of the credit is refundable.
- Lifetime Learning Credit: If the student doesn’t qualify for the American Opportunity Credit, they may be eligible for the Lifetime Learning Credit. Students and families can claim the credit for up to $2,000 in education-related expenses.
- Student Loan Interest Deduction: Parents and students can take an above-the-line deduction for interest paid on a federal or private student loans up to $2,500.
What You Need to Do
- Start a saving plan suitable to your unique circumstances.
- Remember to withdraw money attributed to education expenses before year-end.
- Review if there is an opportunity to prepay some expenses before year-end to claim a benefit. And remember that you are not allowed to claim a double benefit on the same expenses.
7. Conduct an annual estate plan review
The estate tax is still alive and well, so as part of your year-end review you should update your will and other estate documents.
Remember that the federal estate tax applies to fewer people now, with the exemption at $ 11.58 million per individual, or $ 23.16M per couple. However, please note that this threshold could go back to the previous lower threshold of $5.79M per individual or $11.58M per couple in 2025, if no extension is made in the next few years. Given deficits from previous years and certainly pandemic-related stimulus packages, states and local legislatures may drastically lower the current $11.58M ($23.16M) threshold.
Lastly, the Fed and states may also increase the estate tax rate to be above the current 40%.
What You Need to Do
- Establish an estate plan to bypass probate if you can, even if you don’t have estate at a high threshold. Set up a will at the very minimum.
- Work with your financial and tax advisor to review your insurance needs.
- Have a conversation and help your aging parent to review his/her/their financial accounts.
8. Safeguard your deductions
Too often people are surprised when the IRS reduces their deductions. Don’t let this happen to you. You can work to ensure you can take deductions by keeping great records throughout the year. You’ll need proof if you want tax breaks for things like charitable contributions, gambling losses, vehicle costs and travel expenses. If you neglected to track these expenses at the beginning of the year, get going now.
What You Need to Do
- Bunching itemized deductions. The standard deduction has doubled, which drastically reduces the number of taxpayers who can or need to itemize deductions on Schedule A. With this newer, elevated threshold, taxpayers may consider bunching their deductions every other year to produce a higher deduction over a two-year period.
Amounts you pay for medical fees, property taxes and mortgage interest are deductible in the year you pay them. However, some expenses must exceed a percentage of your adjusted gross income (AGI) before you receive any tax benefit.
For example, out-of-pocket medical costs have to be greater than 10 percent of your AGI. Have less than you need to itemize? Consider accelerating or postponing expenses when possible to shift the deductions into the current or future year, depending on which year gives you the bigger tax break.
- Evaluate property taxes. The deduction for state and local taxes is now capped at $10,000. This is something to take this into account as you plan on paying expenses and deductions. When prepaying property taxes, remember that they are only deductible in the current year if the tax is assessed by the governing body in the same year; otherwise they are deductible in the following year.
9. Make the most of charitable donations.
Payroll contribution programs and checks written and mailed to your chosen charity before year-end can get you a tax deduction, as can credit card charges made by Dec. 31.
Donating appreciated stock owned for more than one year is a charitable tax-saver that gives you an itemized deduction for the fair market value of the stock while letting you avoid the capital gains tax generated by a sale.
Keep in mind that you as you itemize to claim charitable contributions, and you must have written documentation of your donation.
Only in 2020 - Donate up to $300 to your favorite charity.
For the 2020 tax year only, an above-the-line deduction of $300 is available to all Americans who want to donate to their favorite charity. While you will still need to itemize your deductions if you want a tax break for donations greater than $300, this break helps alleviate the elimination of the charitable deduction for most taxpayers. Please note $300 is the maximum above-the-line deduction per tax return, regardless of filing status.
Only in 2020 - Donate up to 100% of your income.
The normal contribution limit of 60% of your income is suspended for 2020, allowing you to contribute as much of your income as you want to various charities.
What You Need to Do
- Make contribution by December 31, 2020.
- Get receipts for these contributions. For the 2020 special contributions above, you must receive a written acknowledgment from each charity you donated to before filing your 2020 tax return.
10. Harvest Capital Gain and Loss
When you have more losses than gains, up to $3,000 can be used to reduce your ordinary income. With careful planning, you can take advantage of this loss amount each year.
Harvest these capital losses by selling off positions with unrealized losses to offset taxable capital gains. At the same time, harvest capital gains by selling long-term capital gains to fill up the zero or 15 percent tax brackets.
What You Need to Do
- Rebalance your investment portfolio, and take any final investment gains and losses.
11. Consider Other Saving Opportunities
If an employer offers a Flexible Spending Account plan, take advantage of this tax-deductible spending by setting one up. If you already have an account, try to use up the funds by year-end or before the end of the grace period.
Year end is also a good time to identify what automatic monthly expenses should be reduced or eliminated. You may also discover billing for services you thought were canceled. This specific review often catches errors that a simple account reconciliation may be missing.
What You Need to Do
- Set up and contribute to a Flexible Spending Account.
- Review automated billing transactions for less mindless spending and for more saving.
12. Organize for A Stress-Free Life
Who doesn’t want to have less stress? Not to mention being helpful to your friendly CPA/tax preparer? Help yourself by helping us!