2022 has been a busy year for most people. As this year is rushing toward the end, it is important ensure that you have taken advantage of the planning options available to you.
Income Tax Planning Opportunities
The first step in creating your year-end tax strategy is determining your expected marginal tax rates for 2022 and 2023. In general, if your marginal tax rate is expected to stay the same or go down next year, then you should consider deferring income to next year and accelerating deductions to 2022. If your marginal tax rate is expected to go up next year, then you may wish to consider accelerating income into this year and deferring deductions.
You should carefully consider the timing of significant income events that are expected in 2023 and that will impact your planning, such as a retirement, a significant work bonus or the sale of a business, real estate or other investments. These events could have tax implications including exposure to the:
- Net Investment Income Tax, a 3.8% tax on investment income, such as interest, dividends and capital gains, for taxpayers with gross income that exceeds certain threshold amounts: $250,000 for married couples filing joint returns, $125,000 for married couples filing separately and $200,000 for all others.
- Additional Medicare Tax, a 0.9% tax on a taxpayer’s wages and self-employment income in excess of the income thresholds listed above.
- Alternative Minimum Tax, another tax computation method. In certain situations, taxpayers are required to calculate their tax liability under ordinary income tax rules and the AMT rules and then pay whichever amount is the highest.
Scenario 1: Your marginal tax rate is expected to stay the same or drop in 2023. In this scenario, consider the following strategies to defer income to 2023 and accelerate deductions into 2022:
- Defer the sale of capital gain assets.
- Sell investments with unrealized losses to offset capital gains or to utilize the $3,000 per year offset against ordinary income. Be careful to avoid “wash sale” rules by waiting at least 31 days to purchase substantially identical securities.
- Participate in, or increase your participation in, any deferred compensation plan offered by an employer.
- Delay the exercise of nonqualified stock options until 2023.
- Maximize 401(k) plan contributions.
- Delay receipt of the liquidating distributions of a closely-held corporation until next year.
- Elect the installment method to report gain on qualifying sales.
- Buy mutual fund shares after the record date for a shareholder distribution, particularly after the large year-end capital gain distribution that many funds make.
- Review your ability to defer income and accelerate deductions of the business if you own a pass-through business, such as an S Corporation, partnership or limited liability company. Consider the timing of collections for cash-basis businesses, the timing of placing depreciable assets in service and the payment of employee bonuses.
- Determine whether you have expiring net operating losses and/or charitable contribution carryovers.
- Increase charitable contributions – see charitable gifting information below.
- Prepay deductible expenses that have economically accrued before the end of the year, such as property taxes, but be mindful of the $10,000 maximum deduction for state and local taxes and the impact of the Alternative Minimum Tax.
Scenario 2: Your marginal tax rate is expected to increase in 2023: Consider the following strategies to accelerate income into 2022 and defer deductions into 2023:
- Exercise nonqualified stock options.
- Accelerate bonuses into 2022.
- Elect out of installment sale treatment.
- Defer the payment of deductible expenses, such as property taxes, until 2023.
- Defer charitable contributions until next year.
- Accelerate recognition of income for a closely held pass-through business.
Family Gifting Opportunities
In 2022, individuals may make “annual exclusion” gifts of up to $16,000 each to as many people as they choose without reducing the donor’s lifetime estate and gift tax exemption. Tuition paid to educational institutions and medical expenses paid directly to a health care provider are not counted against this $16,000 limit.
You can also “superfund” a 529 plan by electing to contribute five years of annual exclusion gifts to a plan in one year. These contributions can be taken into account ratably over a five-year period, thus allowing a gift of $80,000 made in 2022 to qualify for annual exclusions.
Individuals currently are eligible to make cumulative lifetime gifts and transfers at death up to the lifetime estate and gift tax exemption amount of $12,060,000 without incurring federal estate or gift tax. With “gift splitting,” transfers of up to $24,120,000 can be made by a married couple in 2022, regardless of which spouse funds the gifts. You should consider whether significant lifetime gifts, either outright or in trust, would be appropriate to shift assets to your family and use this high lifetime exemption amount before the scheduled reduction of this exemption amount by one-half beginning in 2026.
Charitable Gifting Opportunities
If you are planning to make charitable contributions yet this year, be mindful of the deduction limits for cash and noncash contributions. Any excess charitable contributions not deductible in the current year may be carried forward for five years, and you should review whether your income in future years will permit you to fully utilize any prior year and 2022 carryforwards.
Individuals over age 70½ should consider making tax-free “qualified charitable distributions” from an IRA, as these are tax-free up to $100,000 per year. These distributions are treated as part or all of the IRA owner’s Required Minimum Distribution (RMD). The IRA owner does not include the amount paid to charity in their income and does not receive a charitable deduction for the payment. This strategy requires that the payments be made to the charity by the end of the year, so you should start this planning early to avoid year-end delays.
Wrap Up Your Tax Year Efficiently
You still have time to review year-end tax planning strategies with your legal, accounting and other advisors in order to leverage the opportunities that make sense for your situation. For assistance in creating your year-end tax plan, contact your Warner attorney or Jay Kennedy at firstname.lastname@example.org or 313.546.6180.