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Planning for Tax Year 2021

Kelly HooverNovember 12, 2020

Taxes

Election Results – Possible Impact on 2021

  • Election results are still uncertain and which party will control the Senate will not be decided until January 5, 2021, when there will be runoff elections in Georgia for two Senate seats.
  • Tax legislation must be passed by both chambers of Congress and signed by the President. It is unclear if tax legislation will be introduced and approved in 2021.
  • When Republicans won the White House and both chambers of Congress in November 2016, it took until December 2017 for tax legislation to be adopted. The new tax rules were effective for 2018.
  • It is unusual for new tax rules to be applied retroactively.
  • This blog assumes no significant changes to the tax rules for 2021. It may be the last year to do tax planning under these rules.
  • If the rules change for 2021, we will keep you informed.

Tax Brackets

  • There will continue to be 7 income tax brackets.
  • The increased levels for the brackets recently announced by the IRS are as follows:

Income Tax (IT) Brackets based on Taxable Income (TI)- Bracket starts at:

Tax Rate Single (S) Married (M) Head of Household
 10% $1 $1 $1
12% $9,951 $19,901 $14,201
22% $40,526 $80,051 $54,201
24% $86,376 $172,751 $86,351
32% $164,926 $329,851 $164,901
35% $209,426 $418,851 $209,401
37% $523,601 $628,301 $523,601

 

  • There will continue to be the following 3 tax brackets that apply to Long-Term Capital Gains (LTCG) and Qualified Dividends (QD) as recently increased for 2021

LTCG & QD Tax Rates – Based on TI -Bracket starts at:

Rate Single Married Head of Household
0% $1 $1 $1
15% $40,401 $80,801 $54,101
20% $445,851 $501,601 $473,751

+3.8% If Net Investment Income Tax applies based on Adjusted Gross Income (AGI)

Standard Deductions and Itemized Deductions

  • The increased Standard Deduction amounts for taxpayers under age 65 are $12,550 (S), $25,100 (M) and $18,800 (head of household).
  • For taxpayers 65 and older the amounts are $14,250 (S), $27,800 (M with both 65+) and $20,500 (head of household).
  • The Itemized Deductions that most taxpayers will use remain limited to:
    1. Tax deduction for state and local income taxes; sales taxes; and real estate taxes will be limited to 10K.
    2. Mortgage Interest Deduction will be limited to mortgage debt up to 750K for debt incurred after 12/14/17. Interest is deductible on 1M debt incurred before 12/15/17. Interest on mortgage debt and home equity debt is deductible if used to buy, build, or substantially improve the home that secures the loan.
    3. The threshold to deduct out-of-pocket Medical Expenses will be 10% of AGI. The threshold is 7.5% for tax year 2020.
    4. Charitable Contributions limit will be 60% of AGI for cash donations and 30% of AGI for securities and property donations to charities. For tax year 2020 only, there are special one-time rules that 1) allow a charitable deduction of $300 (S) or $600 (M) without the need to itemize deductions or 2) allow an itemized deduction of up to 100% of AGI for cash donations to qualified public charities.

Other Items

  • 401(k), 403(b) and 457 plans – before-tax contribution limits will remain at 19.5K with a 6.5K catch up for those 50.
  • The maximum contribution to defined contribution plans will be 58K.
  • Traditional IRA contribution limits will remain at 6K for regular contributions and 1K for catch up for those over 50, subject to modified AGI phase out limits for active participants in an employer retirement plan.
  • Roth IRA contribution limits will be the same as those for Traditional IRA subject to modified AGI phase out limits of 125K to 140K (S) and 198K to 208K (M).
  • Health Savings Account (HSA) limits will be 3.6K (S) and 7.2K (M) with 1K catch up for those over 55.
  • The maximum amount of wages subject to the employee portion of the 6.2% Social Security tax is 142.8K.
  • Annual Gift Tax exclusion will remain at 15K.
  • The threshold for estates subject to the Federal Estate Tax will be 11.7M per person (or 23.4M for married couples electing portability).

Managing AGI

  • One key tax planning area to carefully manage is your AGI because there are several items that depend on your level of AGI or modified AGI. Modified AGI refers to certain excluded income items, such as tax-exempt interest, IRA deductions or education deductions that must be added back to AGI to determine modified AGI.
  • Some of the items that are dependent on AGI or Modified AGI are:
    1. Child tax credit begins to phase out at 200K (S) and 400K (M) of modified AGI
    2. Medicare premiums start to increase at 88K (S) and 176 (M) of modified AGI
    3. The Net Investment Income Tax starts at 200K (S) and 250K (M) of AGI
    4. Additional Medicare Tax (0.9%) on wages starts at 200K (S) and 250K (M) of wages
    5. Ability to deduct student loan interest starts to phase out at 70K (S) and 140K (M) of modified AGI
    6. Ability make a tax-deductible contribution to a Traditional IRA
    7. Ability to make an after-tax contribution to a Roth IRA
    8. Eligibility for education tax credits
    9. Eligibility to deduct tuition and related expenses
  • Some methods to reduce your AGI are:
    1. Make before-tax contributions to retirement plans
    2. Make tax-deductible contributions to a Traditional IRA or an HSA
    3. Make Qualified Charitable Distributions (QCDs) from your IRA instead of your Required Minimum Distribution (RMD)
    4. Take a distribution from a Roth IRA instead of a Traditional IRA
    5. Bundle medical expenses and charitable contributions into a tax year when the medical deduction threshold will be exceeded
    6. Do tax-loss harvesting to reduce your capital gains
    7. Donate appreciated securities to a charity or a donor advised fund when your Itemized Deductions will exceed your Standard Deduction

If you have any questions about tax issues, please do not hesitate to call our office (610-651-2777).