2021 brought a multitude of changes affecting individual taxpayers and with additional legislation being debated in Congress, it looks like 2022 will be no different. As the proposed legislation is still evolving, we will focus on the existing laws to assist your year-end tax planning. Below are a few strategies to help minimize your tax burden.
Tax Rates and Withholding
The tax rates for 2021 are 10%, 12%, 22%, 24%, 32%, 35% and 37%, unchanged from 2020. It is important to check withholdings and estimated payments to date to determine if withholding should be increased or if any fourth-quarter estimated payments should be made to avoid underpayment penalties. A larger estimated tax payment at the end of the year can still expose you to penalties for underpayments in previous quarters, but withholding is considered to have been paid ratably throughout the year, so increasing it for year-end wages can save you in penalties.
Standard & Itemized Deductions
For 2021 returns, the standard deduction is $25,100 for married filing jointly and surviving spouses, $18,800 for the head of household, and $12,550 for all other taxpayers. If itemized deductions are relatively constant and are close to the standard deduction amount, little or no benefit will be gained from itemizing deductions each year. To maximize the benefits of itemizing deductions, consider adjusting the timing of deductible expenses, i.e., “bunching,” so that they are higher in one year and lower the following year. Bunching can be accomplished, for example, by paying deductible expenses in 2021, such as mortgage interest due in January 2022 and state estimated tax payments due in early 2022 or doubling up on charitable contributions every other year. Bunching medical and dental expenses in one calendar year can also help maximize the allowable deduction.
Gifting
Now is an excellent time to evaluate whether you should be making year-end gifts. The annual gift tax exclusion for 2021 allows a person to give up to $15,000 to each donee without reducing the giver’s estate and lifetime gift tax exclusion amount. A person is not limited to the number of donees to whom they may make such gifts. Further, because the annual exclusion is applied on a per donee basis, a person can leverage the exclusion by making gifts to multiple donees (family and non-family). Thus, if an individual makes $15,000 gifts to 10 donees, they may exclude $150,000 from gift tax. In addition, because spouses may combine their exclusions in a single gift from either spouse, married givers may double the amount of the exclusion to $30,000 per donee.
Child Tax Credit (CTC)
The CTC is increased to $3,600 for children under six as of the end of the year and $3,000 per child ages six up to 17. The increased amounts ($1,000/$1,600) are phased out at modified adjusted gross income (AGI) of over $75,000 for singles, $112,500 for heads-of-households, and $150,000 for joint filers and surviving spouses, at a rate of $50 for each $1,000 (or fraction thereof) of modified AGI over the applicable threshold. This phase-out does not apply to the first $2,000 of the CTC, only the increased amounts. But the first $2,000 is still subject to the older phase-out rules. In addition, the IRS has been making temporary advance payments to taxpayers totaling 50% of the taxpayer’s CTC every month since July. The taxpayer will need to reconcile on the tax return what amounts have been paid in advance.
Child and Dependent Care Tax Credit (CDCTC)
The American Rescue Plan Act made several changes to the CDCTC for 2021 only. First, it made it a refundable credit; therefore, the credit isn’t limited by the taxpayer’s income tax liability. Second, there is a higher cap on expenses used to calculate the credit. It increased from $3,000 to $8,000 if the taxpayer has one qualifying individual and $6,000 to $16,000 if a taxpayer has two or more qualifying individuals. Third, the 2021 credit rate increased for many low- and moderate-income taxpayers and declined for the highest-income taxpayers. The credit rate for 2021 for workers with income under $125,000 the credit rate is 50%. For workers with income between $125,000 and $184,000, the credit rate gradually declines by one percentage point for each $2,000 (or fraction thereof) above $125,000 of AGI until it reaches 20% at $183,000 of AGI. For workers with income over $400,000, the credit gradually declines by one percentage point for each $2,000 (or fraction thereof) above $400,000 of AGI until it equals 0% at $438,000 of AGI. The dollar thresholds are the same for all tax filing statuses.
Charitable Contributions
For 2021, an individual who doesn’t itemize deductions can deduct eligible charitable contributions up to $300 ($600 for a joint return). The contribution must be cash and made to a public charity and not be made to establish or maintain a donor-advised fund. For taxpayers who itemize deductions, individuals may deduct contributions to charitable organizations up to a certain percentage of their “contribution base” (generally, AGI). For 2021, as it was in 2020, qualified contributions are disregarded in applying this percentage limitation. Thus, an individual can potentially make and deduct eligible contributions sufficient to offset 100% of AGI.
Economic Impact Payments
The American Rescue Plan Act created a new round of economic impact payments. Eligible individuals were to receive a payment of $1,400 plus $1,400 for each qualifying child. The payments will be treated as advance refunds of a 2021 tax credit. If you received a payment, you will reduce the amount of the credit available on your 2021 tax return by the amount you received. If you did not receive the full amount you were entitled to, you can claim the difference as a credit on your 2021 return.
Retirement Plan Distributions
The CARES Act impacted retirement plan distributions in two ways. For 2020 only, the Act waives required minimum distributions (RMDs) for IRAs and retirement plans, including beneficiaries with inherited accounts. This waiver includes RMDs for individuals who turned age 70 ½ in 2019 and took their first RMD in 2020. The rules did not get extended to 2021, so RMDs were required for 2021. The age requirement also has changed. If the taxpayer had not reached the age of 70 ½ before January 1, 2020, RMDs are required for taxpayers aged 72 by the end of 2021.
With the proposed legislation (Build Back Better Plan) currently being considered by Congress, we would like our clients to know that Sciarabba Walker is evaluating the possibility of changes to tax policy and will inform our clients if and when changes occur. As always, please stay tuned to our website and follow us on social media for the most up-to-date tips and guidance as it becomes available. Click here to read our business year-end planning guidance for 2021.
We would be happy to assist you with your year-end tax planning or answer any questions you have. Please reach out to your personal Sciarabba Walker contact or email us at info@swcllp.com at your earliest convenience.