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Tax Planning

3 Time-Sensitive Tax Moves to Consider this December

Tax planning can help you make the most of your hard-earned money, and December is a great time to do it.

Articles by Eric Bronnenkant

By Eric Bronnenkant
Head of Tax, Betterment  |  Published: December 21, 2018

The Tax Cuts and Jobs Act of 2017 changed tax rules, so this year, doing your taxes may feel different compared to previous years.

December is a great time to plan your taxes. Why? Because most of your 2018 numbers are now known, and you still have time to take actions that can reduce your tax bill come April.

What’s different about 2018 is that it’s the first year after the tax reform bill, the Tax Cuts and Jobs Act of 2017. That means the experience of filing your taxes may feel different than past years. The good news is there’s no better time to plan your taxes than December, and most strategies still apply even after the reform. Here are three tax moves to consider this December.

1. Finish up your contributions to your IRA, HSA, 401(k), or 529 plans—better yet, max them out.

For many taxpayers, the most straightforward way to lower your current year tax bill can be to contribute to a tax-deferred savings account such as a Health Savings Account (HSA), traditional IRA, 401k, or 403(b). If you aren’t sure whether or not you’ve hit the 2018 limits (up from 2017), however, check the rules twice.

Did you reach the age 50 at any time during 2018? If you have, you get extra catch-up contributions to your retirement plan. For HSAs, you’ll have to wait until age 55.

With 529 plan contributions, there’s no federal tax deduction, but you might get a break on state taxes. Either way, last year’s tax reform bill offers new incentives to consider a 529. Specifically, you can take a tax-free withdrawal of up to $10,000 annually for qualified elementary and secondary school costs.

2. Sell, convert, or gift your investment gains and losses, time shifting your taxable income.

Time shifting taxable gains and losses on the sale of investments is another tax planning method to consider. When settling up your bill with Uncle Sam, it’s often a question of “pay me now or pay me later.” This strategy has you explicitly choosing now versus later depending on tax implications.

Based off of your income this year, you might benefit from tax loss harvesting.  This is the practice of deliberately selling losing investments in order to use the loss on that sale to help offset other income, thereby reducing taxes. Some services are even doing this automatically for you throughout the year.  If you don’t use automatic tax loss harvesting, you have until year end to do it manually.

If your taxable income is $38,600 or less ($77,200 for married couples), you might consider harvesting gains instead of losses. That’s because a portion of your profit may be subject to 0% long term capital gains tax rate.

If you don’t qualify for the 0% rate and you have appreciated assets, your tax-planning options could involve transferring these investments to others. If you hold the assets for life, you could enable heirs to receive a step-up in basis. When they sell, they can avoid taxes on the gain the investments saw during your lifetime.

Alternatively, you could donate the appreciated assets to a qualified charity or donor-advised fund, which may net you an immediate tax deduction. Since the charitable contribution is not subject to capital gains taxes, more of the value is preserved for the cause when the investments are sold.

You may also want to consider doing a Roth conversion for time shifting taxes due on investment gains. Let’s say that over the years you’ve been contributing to tax-deferred retirement accounts. The usual course of action is to let these investments grow tax-free, and withdraw them in retirement when you expect to be in a lower tax bracket.  But suppose your 2018 income is unusually low (e.g. you took unpaid leave). That—plus the generally lower rates of the tax reform bill—may mean you are subject to a low tax rate. This means that it may be to your advantage to convert some or all of your traditional retirement savings to Roth.

It’s worth noting that in the past, investors had the option to change their minds and undo Roth conversions. With the new tax reform bill, however, Roth recharacterization is no longer permitted.

3. Shift your expenses to bunch your deductions.

Investment gains and losses are not the only elements of the tax planning equation that can be time shifted. Delaying or accelerating other income and expenses is also a popular strategy. Examples include pushing bonuses to January, prepaying education expenses, and “bunching” itemized deductions.

“Bunching” is the practice by which taxpayers consolidate as many deductible expenses as possible into a given year. The goal? To make the most of itemizing rather than taking the standard deduction. Historically, this meant controlling the timing of things like medical expenses, state and local taxes, mortgage interest, property taxes, and charitable giving. The new tax law is expected to change all of that since it nearly doubled the standard deduction. As a result, few will qualify to itemize going forward.  Tax preparation may be simpler, but some taxpayers may end up owing more, including:

  1. Homeowners subject to new limitations on home mortgage interest deductions
  2. Residents with higher state and local tax rates, because the federal tax deduction for state and local taxes is now capped.

Similarly, many miscellaneous itemized deductions have been disallowed. Bottom line: the benefit of bunching deductions has been severely curtailed.  The exception, appropriately enough during this season of giving, is charitable contributions. Here, careful planning still has the potential to help ensure a happier holiday and tax time for you and the lucky recipient.

Move quickly before the end of the year, but talk with a professional.

It’s the most wonderful time of the year for income tax planning. But as we’ve seen, tax law changes, limitations, and interdependencies between provisions make it something of a tricky business. It’s crucial that you (or your tax advisor) run projections to help you see the intended benefits and quickly—like holiday sales, the window on this opportunity closes fast.

Betterment is not a tax advisor, nor should any information herein be considered tax advice. Please consult a qualified tax professional.

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