By Catherine Lightfoot, CPA, CHBC, Director of Healthcare at EEPB
In 2022, the world emerged out of the COVID-19 pandemic with the highest inflation rates we have seen in years. Additionally, political uncertainty stalled any significant tax changes. In this economically daunting period of time, there are still tax planning strategies worth considering before year-end. I recommend you take a look at what tax-lowering options may work for you.
Harvesting Capital Losses
Review your investments to determine if there is an opportunity to minimize taxes. The stock market might not have held gains for your portfolio; however, the real estate market did quite well in 2022. So, if you had significant gains from a real estate investment, they could be mitigated by stock losses. In other words, these capital losses would net against your capital gains to reduce your tax liability. Typically, we advise clients to hold assets more than a year to take advantage of the favorable long-term capital gain rate of 20%. But if you have short-term capital losses (on investments held less than a year), those will net against your long-term capital gains. Any leftover loss is limited to $3,000 (for married taxpayers, $1,500 for others), and the excess is carried over to future tax years.
This carryover is why it might make sense to harvest a tax loss now—even if you do not have a gain to offset in the current year. You could sell a stock and recognize the loss. Then, after 30 days, you could rebuy that stock and wait for it to appreciate. At a later time, when you do have gains, you will have a carryover loss to net against these future gains. Avoid buying any stock harvested for losses within 30 days before or after the sale. Under the “wash sale” rules, this type of loss is disallowed and adds to the basis of the repurchased stock, which defeats the purpose of harvesting the stock loss.
Making Retirement Plan Contributions
The maximum contribution to a 401k plan is $20,500 in 2022 (up from $19,500 in 2021). Employees aged 50 or older can contribute an additional $1,000, which is unchanged from 2021. You can also make a $6,000 IRA contribution. Depending on your income level and whether you or your spouse are eligible to participate in a retirement plan, it may not be deductible.
If your income level allows, you should consider contributing to a ROTH-IRA. In 2022, the Roth IRA contribution phases out as your adjusted gross income exceeds $129,000 to $144,000 for unmarried taxpayers, and $204,000 to $214,000 for married taxpayers. If your income exceeds the Roth contribution levels, you could consider a “backdoor” Roth. To do this, you first make a nondeductible IRA contribution, then immediately convert it to a Roth account. The conversion is considered a taxable event and will generate taxable income. If this is your only IRA balance, you will have tax basis in the conversion and no tax incurred. If you have other IRA account balances, the taxable amount on the conversion to a Roth will be apportioned based on the fair market value of all your IRA accounts.
This might be a good time to move your IRA accounts to Roth accounts. As mentioned, the conversion from an IRA account to a Roth is a taxable event. The tax paid on the conversion is based on the fair market value of the IRA immediately prior to the conversion. Since the stock market fell substantially in value in 2022 from its 2021 highs, it makes sense to review accounts for conversion because the tax cost of converting is substantially less than what it would be in a higher market. If you have large IRA account balances, you may want to spread the conversion over several tax years to avoid entering a higher tax bracket. Conversion is not an all-or-nothing scenario. You can convert portions of your IRA accounts into a Roth.
Contributing to a Health Savings Account (HSA)
I like to think of this type of account as the IRA for everyone. As noted earlier, not all of us can contribute to an IRA due to plan restrictions. To qualify for an HSA account, you basically need to have a high-deductible health plan that is not Medicare. Contributions to an HSA account are tax deductible and the earnings grow tax-free. Withdrawals are also tax-free as long as they are for qualified medical expenses. However, you do not have to draw out the medical expenses year by year, making it an overlooked savings vehicle for health expenditures.
In 2022, you can contribute up to $3,650 for an individual health plan, or $7,300 for a family plan. Individuals 55 or older can contribute an additional $1,000 per year. Did you know you can fund a contribution for 2022 up to the April 15th deadline in 2023?
Bunching Deductions
In 2022, the standard deduction for joint filers is $25,900, $19,400 for heads of household (this is for single taxpayers with a dependent), and $12,950 for single filers. The Tax Cuts and Jobs Act eliminated personal exemptions through at least 2025. So, for deductions, you either take the standard deduction or you itemize, if that gives you a higher result. Itemized deductions are mostly medical expenses, taxes, mortgage interest, and charitable donations. Medical expenses are only allowed to the extent they exceed 7.5% of your income. There is still a $10,000 limitation on property and state taxes (sales taxes for Texans). Therefore, for married taxpayers who have paid off their mortgage, they would most likely need charitable donations of more than $15,900 to have itemized deductions. This is why you will hear the term “bunching deductions.”
For example, let’s review a married taxpayer, who lives in West University. They have paid off their mortgage and have $24,000 in annual property taxes. Their property taxes are limited to $10,000 under current law. They normally give $10,000 to the Symphony every year. 10+10 is 20k and the standard deduction is $25,900, which is higher. So, they are basically wasting their charitable donation. Another plan would be to “bunch” the charitable donation and give $20k to the symphony every other year. This would allow them to have $30k of itemized deductions when they make the contribution and utilize the $25,900 standard deduction in the other years. You may also consider bunching elective medical procedures in 2022 for both services and purchases. For example, cataract or laser vision surgery. If you are close to being able to deduct your medical costs, these types of medical procedures could help you get over the 7.5% limitation for a medical deduction.
Take a deep breath. There is still time to minimize your 2022 tax exposure. I recommend reviewing these key areas, i.e., your investment portfolio, your retirement and HSA account contributions and account balances, and your itemized deductions, to be sure you are ready to close out the year with the best possible tax savings.