As we approach the end of the year (Finally…Be gone 2020!) we should once again revisit some wise things to do before the calendar flips. Once it is January, we can’t do anything about it, so it may be a good time to review with your financial advisor and/or tax advisor now.
When you are doing your taxes in 2021 for the 2020 tax year, you will need to determine which is better for you, taking the standard deduction, or itemizing. The standard deduction for 2020 is $24,800 for a married couple and $12,400 for a single filer. Simply put, if you total up all your deductions and they don’t exceed $24,800/$12,400, it may be better to take the standard deduction. If your deductions exceed $24,800/$12,400 you may be eligible to itemize.
Charitable Giving-With the economy taking a turn for the worse due to COVID-19 followed by the government mandated shut-downs and widespread layoffs that occurred this year, there are many people in need. Charities that do their best to fill that need could use your help big time. Most people do not give enough during a given year to exceed the standard deduction that we discussed previously, because it is a high threshold to meet.
If you are a consistent giver, meaning you give this year and you know you will give next year, and so on…you may want to consider combining more than one year’s worth of gifts and donating them to what is called a donor advised fund. Most brokerage firms have their own version of this type of product. Your donor advised fund account IS a charity. For example, if I give $5000 to charity, church or other or non-profit organizations every year, what if instead I made two years’ worth of gifts to my donor advised fund account THIS year. I will be able to deduct the full $10,000 (assuming I can itemize) this year. The great thing is that you are in control. You don’t have to give all of the money to actual charities right away. You go online or call your donor advised fund account sponsor whenever you want to make a gift and they will send a check to your charity of choice and a letter saying who it came from. You can also give anonymously. You can even invest the money in your donor account. There are usually several choices to choose from. This account could potentially grow depending on how the money is invested.
Give away your capital gains-Before we leave the subject of giving, we should talk about the fact that giving cash is not the only way to give charitably. If you have a highly appreciated stock or mutual fund in a taxable account (non-IRA), you may want to consider giving away shares to that charity. Most charities can accommodate this request. Reach out to them and they will be glad to give you instructions. You can also donate stock or mutual fund shares to a donor advised fund that we discussed previously. Since you gave away the shares, the charity takes them and sells them. No one will pay tax on the gains and the charity gets to use the proceeds. You can usually deduct the fair market value of the stock on the day that you made the gift (again, assuming you can itemize).
Pro-move: Let’s pretend that you were considering making a cash gift to a charity, for example $5000. What if instead you donate $5000 worth of a highly appreciated stock or mutual fund to the charity, and then take $5000 cash and buy back the position that you just gave away. Now you have the same amount of shares you did before making the gift, but now you have a brand new cost basis on that lot!
Property tax– If you own a home and pay property tax, this is another potential valuable deduction. This deduction has now been capped at $10,000 per year, which hurts for those who have huge property taxes, but could still help many people. If you are looking at charitable donations, mortgage interest and property tax and feel that you will still not make it over the $24,800/$12,400 hump, you may want to considering what is called bunching. There is no rule that says that you can’t pay next year’s property tax this year. For example, if your property tax for 2020 is $5000 and you know that your tax for next year will be $5000 you could pay both year’s taxes this year and use that deduction on your 2020 taxes. This really may only benefit you every other year, but it is something to consider when tax planning. One important note to point out is that to deduct property tax on your Federal return, you actually have to have been assessed that amount.
Tax loss harvesting-With the potential for capital gain rates to go up with a new Federal administration, this is even more important to pay attention to. This is a simple concept. Let’s face it, we all want to pick funds and stocks that go up, but unfortunately sometimes we have a loss. If I sell an investment at a profit in a taxable account (non-IRA), I must pay tax on that gain. However, if I sell another security at a loss during the same year, those gains and losses could potentially wipe each other out. Let’s say that you sell stock ABC at a loss this year, you cannot buy the same stock back for 30 days. However, you could buy a different stock with the proceeds and still claim the loss. If you have more losses than gains this year, you can carry your losses forward to future years. This is referred to as a tax loss carry forward.
Check on your mutual funds– Mutual funds are notorious for distributing capital gains to their shareholders at year end, which create a tax issue for many investors. Mutual fund families usually give you a heads up on their websites as to estimated upcoming year end distributions, which are taxable to you. If you have a fund in a taxable account that is about to make a big distribution, you may want to consider selling the fund. You will have to weigh the cost of realizing gains from appreciation in the fund by selling, with the savings by avoiding the capital gain distribution. There are many sites that you can go to and enter the mutual funds that you own and it will give you an estimate of year end distributions, so you can act. Your advisor should be able to help you with these decisions.
Bump up your 401k-If you are an active employee and you have a 401k plan at work, this a good time to increase your contributions for next year. This can usually be done online. If you contribute on a pre-tax basis, this could help lower your taxes and increase your savings. Make sure that you are contributing at least as much as your employer matches. If you’re not where you want to be yet in terms of contributions, try increasing them by 1%. Small changes can lead to big outcomes!