YEAR END TAX PLANNING

It’s that time of year again!

Once the ball drops on One Time Square on New Year’s Eve and 2023 is rung in there is very little that you can do to reduce your 2022 tax liability.  But there is much that can be done during the last months of the year to make sure that you pay the absolute least amount of federal and state income tax possible.

Sit down with paper and pencil in October or at the beginning of November and add up your taxable income from all sources and allowable deductions for the first 10 months of 2022.  Next estimate the income and deductions you anticipate for the last 2 months.  Using your 2021 return as a guide, you want to prepare a “projected” 2022 tax return.

Traditional year-end planning calls for postponing the receipt of taxable income until 2023 and accelerating allowable deductions to be claimed in 2022.  This strategy will generally apply if you expect to be in the same tax bracket for both 2022 and 2023, or if you expect to be in a lower bracket in 2023.

If you anticipate a substantial jump in income in 2023, which will push you into a higher bracket, you should do the opposite and accelerate the receipt of taxable income this year and postpone deductible expenses until next year.  Income will be taxed at a lower rate in 2022, and deductions claimed in 2023 will provide a greater tax savings.

If you are unsure what your 2023 income will look like follow the traditional advice and “when in doubt, defer”. Postpone income and accelerate expenses.

It does not pay to itemize on Schedule A unless your total deductions exceed the Standard Deduction that applies to your filing status, plus any additions for age or blindness.  If you haven’t had enough deductions to be able to itemize in the past, but after preparing your projected 2022 return discover you will be able to do so this year, incur, and pay for, as many deductible expenses as possible during these last two months of the year.

Under the limitations on itemized deductions enacted by the GOP Tax Act there are fewer options where you can actually accelerate deductions.  The one area left where you can do this is with charitable contributions.  Make charitable contributions scheduled for early 2023 in 2022. 

Whether a deduction is allowed in 2022 or 2023 depends not on the date written on the check but on the check's anticipated “date of delivery”.  Put payments in the mail on December 24th and not December 31st.  Checks dated December 31 that are hand delivered to payees before the New Year is rung in will be deductible in 2022.    

If you do not have the cash available to pay for deductible items that you have scheduled as part of your 2022 year-end tax plan you can use a credit card.  Allowable expenses charged to a “bank” credit card (VISA, MasterCard, Discover, American Express) are deductible in the year charged, and not in the year that you actually pay for the charge.  This is not true for “store” credit cards like those issued by Sears or JC Penny.  

When preparing your projected return, review the performance of your investment portfolio for the year. Add up all realized gains and losses from actual sales for the first 10 months of the year, with separate net totals for short-term (held one year or less) and long-term (held more than one year) activity. Gains and losses from the sale of inherited property are considered long-term, as are capital gain distributions from mutual funds.  Do a similar calculation for any unrealized “paper” gains and losses on the investments you still hold.

If you anticipate you will fall below the 15% bracket income threshold for the special “qualified dividends and capital gains” tax rate you may want to generate additional long-term capital gains to take full advantage of the 0% rate.  If you need a gain to offset excess losses, or to take advantage of the 0% rate, you can sell an investment that has increased in value, claim the capital gain, and buy back the exact same investment the next day.  As an added benefit, this will increase your cost basis in the investments and reduce any future gain when the investments are sold.  The wash sale rules do not apply if the sale results in a profit.

When estimating year-end capital gains remember that capital gain distributions from mutual fund investments are considered long-term capital gains, and included in the income that is taxed at the lower rates.  These distributions are usually not made until at least mid-December.

It is important to keep in mind that any long-term capital gains that are taxed at the special 0% rate on your federal Form 1040 will be fully taxed on your state return under the tax laws for your state.  And when determining year-end capital gain strategies remember that while excess capital losses can be carried forward to future years on the federal return, this may not be true on your state return.  For example, losses in excess of gains are lost forever on the NJ-1040.

TTFN