It is probably an understatement to call this year unusual, and that extends to the financial planning topics that our advisors are focused on heading into the end of 2020. We have divided the items in this article into four categories, so that you can easily find the sections that are relevant to you.
Section 1: Big Picture, Election-Related Topics
Lifetime Estate Tax Exemption
The 2017 Tax Cuts and Jobs Act increased the estate tax exemption from $5.49 million to the current $11.58 million in 2020 ($23.16 million for married couples). While this increased exemption was set to sunset after 2025, a change in Senate majority and/or the presidency could cause the current exemption to be significantly reduced prior to year-end. Gifting of assets below this amount can decrease the size of your estate and significantly reduce your estate tax liability while not incurring any tax cost today. If you do not need the income from certain assets or have assets that do not produce a lot of cash flow, you may want to consider a gifting strategy. This is most appropriate for very high net worth households. If valuations of certain assets are required, it is best to start that process as soon as possible.
Capital Gains Harvesting
The potential change in party majority in the Senate and/or change in president could cause capital gains rates to increase as well. If you know you will be liquidating assets in the shorter term, it may make sense to accelerate the sale into 2020. It still does not make sense to sell unless you were planning to, but if you were, this year may end up being more advantageous than future years from a tax perspective. This might be an opportunity for those households with highly concentrated stock positions to diversify their portfolio holdings. Another strategy for consideration would be gifting highly appreciated stock to other family members in a lower tax bracket. It is important to consult a tax advisor or your CPA about this strategy.
Section 2: CARES Act Topics Due to the Coronavirus Pandemic
If you are needing cash due to unemployment or unexpected events, the next item may be of interest to you. Remember most of these CARES Act policy changes revert after December 31, 2020 so you may need to act prior to year-end.
$100,000 Penalty-Free Withdrawal From Retirement Accounts Before 59½
While the CARES Act permitted individuals under the age of 59½ to withdraw up to $100,000 of retirement funds from their retirement accounts without the usual 10% early withdrawal penalty, we have advised individuals to first consider other options to support short-term needs. For any amount withdrawn under these conditions, there would be income taxes owed based on the individual’s ordinary income tax bracket. There are opportunities to either repay these funds to your account or pay the tax on the withdrawal over three years. It is important to document financial hardship for this exception to apply and review the rules regarding repayment and income reporting as well as the criteria for a qualified individual that must be met.
Section 3: Charitable Giving Topics for 2020
Because of the widespread need across this country and the world caused by the pandemic, we have seen increased interest in charitable giving from clients. There are two items that we want to highlight.
While required minimum distributions (RMDs) have been suspended, the opportunity to use your IRA to make a qualified charitable distribution (QCD) remains an option. Individuals over 70½ can contribute up to $100,000 to a 501(c)(3) this year directly from their IRA. With a QCD, the deduction is a top-line deduction, lowering your income from tax-deferred accounts for the year. We expect to see the number of clients who want to take advantage of this increase as we get closer to December 31.
2. 100% of AGI Deduction
The CARES Act temporarily raised the adjustable gross income (AGI) limit on cash contributions made to charities for qualified contributions from 60% of AGI to 100% of AGI with any contributions above the 100% AGI limit carried forward as charitable contributions for up to five years. (Future use of the carryforward will be limited to 60% of AGI.) This could serve to erase tax liability in 2020 for individuals planning to make qualified cash charitable contributions. However, the CARES Act prohibited such contributions from going to donor-advised funds (DAFs) or 509(a)(3) supporting organizations. For individuals who do not itemize, it is possible to deduct up to $300 in 2020 as a charitable contribution deduction.
Section 4: Normal Yearly Maximization of Retirement Accounts
Even though this year has been out of the ordinary, we do not want to lose track of the items that we normally take care of around year-end or before April of next year.
Retirement Account Contributions
Clients should ensure that they are hitting their targeted retirement contributions. Maximum limits are shown in the table below.1
Roth Conversions in Low Tax Years
If your taxable income is down this year, you might consider doing a Roth conversion for a portion of your tax-deferred retirement accounts. This strategy might be particularly attractive for retirees who did not have to take their RMDs this year and do not need the cash. There is no optimum conversion amount for individuals because tax and cash flow situations differ; we suggest you consult your financial planner and/or tax advisor. It Is worth noting that Roth distributions are not subject to the 3.8% net investment income tax.
An individual can make gifts up to $15,000 to an unlimited number of individuals. Married couples can make joint gifts of up to $30,000. Gifts must be made by the end of the year, and checks must be deposited by December 31. Gifts of highly appreciated stocks to donor advised funds or directly to charity remains an attractive gifting strategy.
1 “Retirement Topics — 401(k) and Profit-Sharing Plan Contribution Limits” IRS.gov, September 19, 2020; “Retirement Topics — IRA Contribution Limits” IRS.gov, October 5, 2020; “Amount of Roth IRA Contributions That You Can Make for 2020” IRS.gov, January 10, 2020; and “Amount of Roth IRA Contributions That You Can Make for 2019” IRS.gov, June 17, 2020.
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