Is anyone out there thinking about tax planning right now?
Probably not, but you should. Starting those tax-planning strategies now could pay off big time when April 15 rolls around. Meanwhile, the clock is ticking for taxpayers who want to act before Dec. 31 to minimize what they will pay next spring.
You may be eligible for new tax breaks, so don’t overlook some of those credits and deductions. Here are some year-end tax tips, offered by financial experts, that may help you maximize your tax refund or minimize the taxes you owe.
Defer your income: It's tough for employees to postpone wage and salary income, but you may be able to defer a year-end bonus into next year — as long as it is standard practice in your company to pay year-end bonuses the following year. If you are self-employed or do freelance or consulting work, you have more leeway. Delaying billings until late December, for example, can ensure that you won't receive payment until the next year.
Take some last-minute tax deductions: Contributing to charity is a great way to get a deduction, and you control the timing. For 2021, this amount is up to $600 per tax return for those filing married filing jointly and $300 for other filing statuses.
Sell loser investments to offset gains: A key year-end strategy is called “tax-loss harvesting” — selling investments such as stocks and mutual funds to realize losses. You can then use those losses to offset any taxable gains you have realized during the year. Losses offset gains dollar for dollar.
Contribute the maximum to retirement accounts: There may be no better investment than tax-deferred retirement accounts. They can grow to a substantial sum because they compound over time free of taxes. Company-sponsored 401(k) plans may be the best deal because employers often match contributions. Try to increase your 401(k) plan contribution so that you are putting in the maximum amount of money allowed ($19,500 for 2021, $26,000 if you are age 50 or over). If you can’t afford that much, try to contribute at least the amount that will be matched by employer contributions. Also consider contributing to an individual retirement account. You have until the April 18, 2022 filing deadline to make IRA contributions, but the sooner you get your money into the account, the sooner it has the potential to start to grow tax-deferred.
Avoid the kiddie tax: Congress created the kiddie tax rules to prevent families from shifting the tax bill on investment income from Mom and Dad’s high tax bracket to the low bracket of their kids. For 2021, the kiddie tax taxes a child’s investment income above $2,200 at the same rates as the parents. If the child is a full-time student who provides less than half of his or her support, the tax usually applies until the year the child turns age 24. So be careful if you plan to give a child stock to sell to pay college expenses. If the gain is too large and the child’s unearned income exceeds $2,200, you could end up paying taxes at the same rates as you do.
Watch your flexible spending accounts: Flexible spending accounts are fringe benefits which many companies offer that let employees steer part of their pay into a special account which can then be tapped to pay child care or medical bills. The advantage is that money that goes into the account avoids both income and Social Security taxes. The catch is the notorious "use it or lose it" rule. You have to decide at the beginning of the year how much to contribute to the plan and, if you don't use it all by the end of the year, you forfeit the excess. With year-end approaching, check to see if your employer has adopted a grace period permitted by the IRS, allowing employees to spend 2021 set-aside money as late as March 15, 2022. If not, you can do what employees have always done and make a last-minute trip to the drug store, dentist or optometrist to use up the funds in your account.
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