End of Year Smart Tax Strategies
“Few of us ever test our powers of deduction, except when filling out an income tax form.”
When I started working a part time job at 17, I noticed that a big part of my paycheck would disappear. I wasn’t sure what all these lines on the check stub meant. SDI, FUTA, SUI, FICA… I had no idea what any of those abbreviations stood for!
What I did know was that those amounts were not going into my bank account. It was a wake up call for me to learn more about taxes and how to minimize them. I spent the next several decades trying to comprehend our complex tax system and build strategies to help my clients pay less to Uncle Sam.
You might also be looking at your paystub or recent tax return and wondering why you are paying so much in taxes recently. The IRS is constantly making changes to the tax laws and it’s my job to keep up with them.
Luckily, there are strategies that you can implement immediately, to ensure you don't overpay in taxes. However, prompt action is crucial, as some of these opportunities may have limited availability.
Utilize this comprehensive list as a guide to address concerns regarding an uncertain future that could include higher taxes.
Opportunity #1 - Make the Most of Your Tax-deferred Accounts
You're likely already maxing out your employee contribution to the company's retirement plan. (If you're self-employed, make sure that you have the right kind of retirement plan for your business to capture the largest contribution you're able to make.) But don't stop there.
Have you considered making:
HSA contributions if you have a high deductible healthcare plan?
529 contributions? You can change the beneficiary of a 529 to yourself in many instances.
After-tax contributions to your 401(k), if applicable? Some employer retirement plans allow you to contribute additional funds on top of the employer match and your employee deferral contributions.
Crucial questions to ask yourself:
What tax-deferral opportunities are specifically available to me?
Can I add after-tax funds to my employer-sponsored retirement plan?
Am I maxing out all my potential contributions?
Opportunity #2 - Position Your Portfolio for an Uncertain Tax Future
Do you have embedded capital gains in your investments?
Harvesting them now under a favorable tax policy where the top rate is 20% could be beneficial if capital gains lose their favorable tax treatment in the near future. The top ordinary income tax rate could rise up to nearly 40%... just about double the current highest capital gains rate.
Taxes are just one part of your overall investment picture, but it could offer an opportunity to make tactical investment changes where prudent.
Crucial questions to ask yourself:
Should I consider paying capital gains taxes now?
Do I need to make some investment changes to my portfolio?
Is it worth freeing up some cash to make purchases I've been considering?
Opportunity #3 - Harness a Mega-backdoor Roth
Currently, savvy investors who have the ability to use a mega-backdoor Roth are doing so: by adding after-tax contributions to their 401(k)s and then converting to Roth IRAs. This strategy could be subject to elimination under future administrations, so if a mega-backdoor Roth strategy sounds interesting, consider it before it’s too late.
Not all 401(k) plans allow for this strategy. However, if you have pretax money that you put in any type of retirement account, you may still want to convert some of it to a Roth. The entire amount of the conversion is taxable income to you, but it may still make sense in view of your overall tax strategy.
This could be a good time to convert (with a lower tax rate) since tax rates may rise.
Consider how much you can convert without pushing yourself into a higher tax bracket.
Reducing your pretax money also means that you're reducing your future Required Minimum Withdrawals (RMDs), since Roth IRAs aren't subject to these taxable withdrawals.
Crucial questions to ask yourself:
Do I have access to additional after-tax contributions to my employer-sponsored retirement plan?
Does the mega-backdoor Roth technique make sense for my overall portfolio?
Opportunity #4 - Bundle Up and Save
The standard deduction for taxpayers who are married filing jointly is $29,200 and $14,600 for single filers in 2024. That puts the bar a little higher for taking itemized deductions, but you can combine a number of deductions together to make it past the standard deduction threshold.
Bundle several years' worth of charitable deductions into one year rather than spreading them out over several years.
Accelerate medical procedures into this year rather than wait until next year, as long as you'll meet the 7.5% of AGI floor for medical expenses.
Items such as Long Term Care insurance premiums and home modifications for aging in place are medical expenses that may help you reach the 7.5% AGI.
Pay next year's property taxes (as long as they're billed before December 31).
Crucial questions to ask yourself include:
Will I be able to reach the floor of 7.5% AGI for medical expenses this year so I can deduct them?
What other deductions could I bundle along with my charitable contributions?
Are there other deductions that I could capitalize on this year?
Opportunity #5 - Capture Your (Current) Tax Bracket
You might not want to think about it this way, but it's possible that your current tax bracket is the lowest it will be for the near future, and possibly even later in life. If that's the case, then it might make sense to maximize the amount of income you have this year without pushing your income into the next higher tax bracket.
Yes, it could mean paying more in tax this year than you would otherwise. But paying tax on the highest income in your current tax bracket could mean less of a tax exposure compared to when your tax bracket (and marginal tax rate) are higher.
It's crucial to carefully coordinate a strategy with your accountant to avoid unforeseen complications.
You might want to consider these potential strategies:
Roth conversions.
Capital gains harvesting (only if they make sense in light of your overall investment strategy).
Accelerating income into this year.
Crucial questions to ask yourself:
Should I be concerned about my tax rates increasing due to potential policy changes?
Does it make sense to fill up my income tax bracket this year?
Do I have a strategy for maximizing what could potentially be my lowest tax rate for several years to come?
Action Items
We can’t avoid paying taxes. However, there's no reason for you to pay more than your fair share. In order to take advantage of many of these strategies, you need to implement them before the year is over.
Some of these maneuvers are a little more complex, and require the help of knowledgeable professionals to make sure that you don't end up on the wrong side of your current tax bracket – or the IRS, for that matter.
I’m always here to help if you want to see which one of these opportunities makes the most sense for your specific situation.
~Alex
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