Year-end tax planning this year is likely to be different than the last few years, especially for retirees.
Many retirees should take a close look at their estimated tax payments and determine if they need to adjust their last payment, due January 15, to avoid penalties.
Interest rates increased in 2022. A result is many people earned more interest income than in recent years. If you had a lot of money in taxable interest-earning accounts, your income could be substantially higher than last year and require higher estimated tax payments.
Mutual funds will be an unexpected source of higher income to many shareholders. Because of the strong returns the last few years, many funds held investments with significant capital gains.
As stock and bond prices declined in 2022, investors redeemed their fund shares. The funds had to sell some of those appreciated assets to pay the redemptions.
A consequence at some funds is that investors who didn’t redeem their shares will have net capital gains distributed to them. On fund shares held in taxable accounts, they’ll owe taxes on those distributions, though they received no cash and their fund shares are worth less than they were at the start of the year.
These investors also might need to increase their estimated tax payments to avoid penalties.
On the other hand, some people incurred losses on investments they sold from taxable accounts during 2022. These losses might reduce income taxes for the year. When you’re in that situation, you might want to reduce the final estimated tax payment for the year so you won’t have to wait to receive a refund of the overpaid taxes.
Taxpayers who are over age 70½, charitably inclined, and haven’t taken all of their required minimum distributions (RMDs) for the year should consider making charitable contributions from their traditional IRAs as qualified charitable distributions (QCDs).
When you make a QCD, the distribution from the traditional IRA isn’t included in your gross income but it counts toward your RMD for the year.
Other taxpayers might want to bunch several years of charitable gifts in one year to ensure they can deduct some of the contributions by itemizing expenses on their income tax returns. One way to bunch the contributions is to give them to a donor-advised fund.
A third year-end charitable strategy is to contribute appreciated investment property from a taxable account to a charity. The entire fair market value of the investment on the date of the gift qualifies for a charitable contribution deduction, and the appreciation that occurred while you owned the property isn’t taxed to you.
Another strategy for people who haven’t taken their RMDs for the year is to take the RMDs by distributing shares of stock or mutual funds that declined in value during the year.
You don’t have to take an RMD in cash. Property can be distributed from the traditional IRA in what is known as an in-kind distribution.
The value of the shares on the date of the distribution counts toward your RMD and is included in your gross income.
That value also is the tax basis of the shares in your taxable account. That way, the future appreciation as the shares recover from the bear market is out of the traditional IRA and when you sell the shares will be taxed at capital gains rates instead of ordinary income rates.