Let Me Clarify
Phew, we made it to 2021! I think we can all agree that 2020 was a bit of a rough year.
Not only is this a good time for a fresh start and setting some personal goals, but the beginning of the year is also great time to focus on tax planning. In terms of financial planning, earlier in the year is the ideal time to plan for the next 12 months. But there are still some opportunities that may be available to you regarding your 2020 taxes.
Let me clarify.
You might assume that most tax planning options end on December 31st of the calendar year. However, two major opportunities to defer income remain until the typical April 15th deadline for filing your Federal income tax return.
IRA Contributions– It is not uncommon to want to contribute to an IRA to defer additional income, ultimately lowering your taxable income for that year. At the same time, many individuals need to get a handle on their overall income for the year to determine their eligibility to make pre-tax, Roth, or non-deductible contributions (eligibility depends on filing status and Modified Adjusted Gross Income). With the deadline of April 15th for making these contributions, it allows you to defer additional income for a longer period of time and get all your income ducks in a row instead of being forced to contribute by the end of the year and then finding out that you may not be eligible.
HSA Contributions – Contributions to Health Savings Accounts work in a similar way. Refer to our previous piece, “Things to Know about HSAs” for detailed information about the accounts themselves, but let this be a reminder that this is another potential opportunity to defer income for the previous year up until the tax filing deadline of April 15th.
As early in the year as possible is the ideal time to plan for those tax items that are most dependent on your overall cash flow. Two items that I want to spend some time on here are evaluating 401k, 403b, etc. contributions for the year and projecting your upcoming year’s tax liability to determine your correct withholding.
Employer-Sponsored Savings – For those of you that are taking part in your company’s 401k, 403b, etc., now is a good time to reconsider the amount you are contributing. Outside of the usual pros and cons to consider (check out our Employer-Sponsored Retirement Plans Insights for more), now is the time to factor in any raises and/or bonus pay that you may have received.
Tax Withholding Projection – Whether you work with a professional that walks you through this exercise or are attempting to go at it alone through the IRS Withholding Calculator, the earlier you re-evaluate your projected tax liability against your withholding for the upcoming year the better. Changes to income, changes to tax rates/brackets, and the full-year impact of a mid-year adjustment you may have made last year are just a few of the many items that will affect this year’s situation. At the same time, completing these projections and making adjustments earlier in the year gives you the ability to spread them out over more paychecks than if you wait; lessening the impact on each month’s take-home pay.
Obviously, this is only a small drop in the bucket of considerations to make when planning for income taxes. The decisions that you make and any projections that are made should continue to evolve and update as the year progresses, but hopefully these few pieces of information can serve as a helpful year-end reminder and a springboard into a successful coming year.
As we embark on this clarifying journey together, I encourage you to submit any ideas, topics, or questions to firstname.lastname@example.org. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for any individual. This information is not intended to be a substitute for specific individualized tax advice. We suggest you discuss your specific tax issues with a qualified tax advisor. A Roth IRA offer tax deferral on any earnings in the account. Qualified withdrawals of earnings from the account are tax-free. Withdrawals of earnings prior to age 59 ½ or prior to the account being opened for 5 years, whichever is later, may result in a 10% IRS penalty tax. Limitations and restrictions may apply. Contributions to a traditional IRA may be tax deductible in the contribution year, with current income tax due at withdrawal. Withdrawals prior to age 59 ½ may result in a 10% IRS penalty tax in addition to current income tax. “Let Me Clarify” is a weekly blog containing Chad Baxter’s insights and thoughts about a variety of topics. To learn more about Chad,click here