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Year-end tax planning, 2020 edition

Start early this year on understanding your choices

The conventional rule of thumb for year-end tax planning has been to defer income and accelerate deductions. The 2017 tax reform hit that thinking with a one-two-three punch, doubling the standard deduction while cancelling some itemized deductions and capping the deduction for state and local taxes at $10,000. The result was that the number of taxpayers who itemize deductions fell by almost two-thirds from 2017 to 2018, according to a recent analysis. Nearly 90% of taxpayers now claim the standard deduction. See page 3 for more on this topic.

However, there are still choices that taxpayers may make, especially in the above-the-line area of the Form 1040, before they get to adjusted gross income.

 

Charitable gifts

For those who are near the boundary of the standard deduction, one strategy to consider is making large charitable gifts every other year. In the year without a gift, the standard deduction takes over. In this way, a maximum tax benefit may be secured for all of one’s charitable gifts. The CARES Act, enacted in response to the coronavirus pandemic, made two important changes to the tax treatment of charitable gifts this year.

No itemizing required for small gifts. Up to $300 in

cash charitable gifts may be taken as an adjustment to gross income by taxpayers who do not itemize. Charities would like to make this rule permanent, with a higher cap, but that is a story for another day.

Higher ceiling for large gifts. The normal rule after 2017 has been that the deduction for charitable giving is limited to 60% of adjusted gross income. The limit has been boosted to 100% for cash gifts this year.

Special rule for older taxpayers. Another import- ant rule for those who are 701⁄2 and older is that they may make direct charitable gifts from their IRAs, up to $100,000. This rule was not affected by the CARES Act. Such gifts satisfy the required minimum distribution rules (those are suspended for 2020). The important takeaway is that charitable gifts from an IRA are not included in income, and the taxpayer is still entitled to the full standard deduction. 

 

Portfolio review 

2020 has been a roller coaster ride for investors, and not the good kind. 

Many investors moved from stocks to cash as the pandemic got underway. Such prudent moves for protecting assets carry potential tax consequences, especially for long-term holdings. 

At the same time, the recovery in stock prices has not been uniformly distributed across all industries. If there are portfolio holdings in the loss category, harvesting those losses to offset realized capital gains may be the sensible course. Capital gains and losses are netted to reach the final taxable amount for Form 1040. 

 

Retirement savings 

Another important adjustment to income is a contribution to a traditional IRA. Up to $6,000 may be set aside ($7,000 for those 50 and older). If your income is too high to permit a deduction for a traditional IRA, the Roth IRA may be a good alternative. No current tax savings are created, but there is a potential for tax-free income in retirement. 

If the coronavirus pandemic has put you into a lower tax bracket than usual, this may be a good year to consider a conversion of your traditional IRAs to Roth IRAs. The conversion will be a taxable event this tax year, but the tax-free income in future years may be most welcome, especially if tax rates go higher so as to pay for the government deficits being run up in response to the pandemic. 

See your tax advisors before making any final decisions on this year’s tax strategies. 

 

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