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The Five Best 2020 Tax Planning Ideas

Alex LaRosa

Investment Advisor Representative

October 15, 2020

The Five Best 2020 Tax Planning Ideas

2020 will certainly be a year to remember (or forget). On the tax and retirement planning side of things it has presented us with some unique opportunities. Each one of these tax planning strategies depend upon your personal situation and should be discussed with both your advisor and tax preparer before executed.

  1. Roth Conversions

Yes, these are a popular strategy every year because of the Roth’s tax-free growth and withdrawal advantage. However, 2020 seems more attractive because of lower income and the possibility of higher taxes in the future.

If you are like over 40 million Americans, your 2020 income has been reduced in some way due to COVID-19. While a lower income is obviously not ideal, it may make a Roth conversion make more sense. Since a lower income most likely means a lower tax bracket it could lessen the impact of tax you would owe on the conversion.

Another trend that has prevailed in 2020 is government spending. The larger the deficit grows the more likely it becomes for future tax hikes. Which means it may be a good long-term strategy to pay the taxes now on your IRA and allow your newly converted Roth funds to both grow tax free and avoid taxes on future withdrawals.

Roth conversion can be a tricky strategy and it always depends on your personal situation. We always insist on working with your advisor and tax preparer when considering a conversion.

  • IRA Distributions

In 2020, the CARES Act has eliminated the required minimum distribution (RMD). Normally, starting at age 72 you are required to take an RMD each year from your qualified retirement accounts. Since the required minimum distributions are waived for 2020, this presents a onetime opportunity for those subject to the minimums to convert RMDs instead to Roth IRAs (something they can’t normally do). Once the required distributions begin, they must be withdrawn as the first dollars out and cannot be converted. This makes Roth conversions more expensive tax-wise since the tax on RMDs must first be paid to convert any part of the remaining IRA or plan funds. But this is not the case for 2020, so this year presents a now closing window of opportunity to get this done.

As always, be sure to speak to your advisor and tax preparer to make sure it is the right move for you.

  • Qualified Charitable Distributions (QCDs)

Qualified charitable distributions are the most tax-efficient way to make charitable gifts because they reduce taxable IRA balances at no tax cost. The name refers to a direct transfer of IRA funds to a qualifying charity. Even thought the SECURE Act pushed RMD’s to age 72 QCDs are still allowed at age 70 1/2.

QCDs are allowed even if you do not itemize which is helpful because of the higher standard deduction amount put in place by the TCJ Act.

The downside to this is that it only available to those who are age 72 and have IRA assets. Be sure to speak with an advisor and tax preparer to see if this strategy is right for you. 

  • Gifting

With the exploding deficits and expanding national debt, there is a new urgency for clients to make gifts now, before year’s end, because the golden age of gifting may soon grind to a halt. Gifting is a lifetime transfer rather than inheritances received at death. The 2020 estate and gift tax exemption is $11,580,000 per person ($23,160,000 for a married couple). These figures are scheduled to go back to $5 million and $10 million, respectively, after 2025 (there will also be inflation increases). However, these limits can easily be reduced much earlier by a revenue-hungry Congress

Gifts are tax-exclusive, as opposed to inheritances, which are tax-inclusive. If the funds are left in the estate, the full value of the transfer at death is subject to the estate tax, so the funds used to pay the estate tax are taxed themselves, whereas gift taxes on lifetime transfers are only based on the gift amount received.

There are three tiers of tax-exempt gifting:

1. The first is $15,000 annual exclusion gifts. These gifts can be made to anyone each year and they do not reduce the gift/estate exemption. These annual exclusion gifts are always tax free—even if the exemption is used up.

2. Unlimited gifts for direct payments for tuition and medical expenses. These gifts can be made for anyone, the amounts are unlimited, and they do not reduce the gift/estate exemption. These gifts are also always tax free—even if the exemption is used up.

3. The $11,580,000 lifetime gift/estate exemption in 2020. The IRS has stated that there will be no claw back if these exemptions are used now, even if the exemption is later reduced, so it’s important for clients to know they must use it or possibly lose it.

If you are interested in putting together a gifting strategy for 2020 be sure to speak with and advisor and tax preparer.

  • Updating Estate Plans After the SECURE Act

The SECURE Act eliminated the stretch IRA for most non-spouse beneficiaries. This is effective beginning with deaths in 2020, so it is imperative for advisors to check IRA and company plan beneficiary forms for all their clients. This will reveal what may be the largest single asset in their estate plan.

Most non-spouse beneficiaries will be subject to the new 10-year payout rule, meaning that the entire inherited IRA will have to be withdrawn by the end of the 10th year after the IRA holder dies.

One solution here is to convert these IRAs to Roth’s to eliminate the post-death trust tax exposure or withdraw IRA funds now and purchase life insurance, which is a better and more flexible asset to leave to a trust.

If you are interested in updating your current estate plan, please reach out to an advisor. Call us at 610-825-3540.

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The Five Best 2020 Tax Planning Ideas

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