The House tax proposal prohibits all nondeductible IRA contributions from being converted to Roth regardless of income level, effective for tax years beginning after 2021. Note that the House tax proposal includes additional limitations for high-income taxpayers. Under the proposal, single taxpayers (or taxpayers married filing separately) with taxable income over $400,000 (or over $450,000 for married taxpayers filing jointly, or over $425,000 for heads of households) would no longer be permitted to convert any IRA contributions, whether deductible or nondeductible, to Roth, effective for tax years beginning after 2031.
Depending upon your particular situation, and your views on potential tax increases, it could be beneficial to convert from a traditional IRA to a Roth IRA and pay taxes now, rather than holding the funds in the traditional IRA and paying taxes upon distribution at a later date. Consult with your tax advisor to see which might suit your circumstances better.
5. Use stock losses to offset capital gains
Now may be a good time to consider selling some underperforming investments, generating a capital loss before the end of the year—which could help offset the capital gains you realize from selling better-performing stocks. You may generally deduct up to $3,000 ($1,500 if married and filing separately) of capital losses in excess of capital gains per year from your ordinary income.
If your net capital losses exceed the yearly limit of $3,000 ($1,500 if married and filing a separate return), you can carry over the unused losses to the following year. Some investors who sell stocks or other assets at a loss to offset gains may decide to reinvest in those assets or ones very similar. But be sure not to invest in those assets or ones very similar for at least 30 days before or after the sale, Navani cautions, to avoid “wash sale” rules preventing you from claiming those losses on your taxes.
6. Look for tax-aware investing strategies
If your modified adjusted gross income is at least $200,000 ($250,000 for married couples filing jointly or qualifying widow or widower with a child, $125,000 for married filing separately), you're subject to a 3.8% Net Investment Income Tax on either your net investment income or the amount your modified adjusted gross income exceeds the statutory threshold amount, whichever is less. (Your tax advisor will understand.)
Putting a portion of your income into investments not generally subject to federal income taxes, such as tax-free municipal bonds, may not affect your tax picture this year, but could potentially ease your tax burden down the road, when these investments start generating income.
7. Fund a 529 education savings plan
By putting money into a 529 education savings plan account, you may be able to give a tax-free gift to a beneficiary of any age. (To find out more about contribution limits, see our Contribution Limits and Tax Reference Guide.) You may also be able to contribute up to five years’ worth of the annual gift exclusion per beneficiary in one year, subject to certain conditions. 529 accounts may be used to pay for qualified higher education expenses of the beneficiary—say, for instance, a child or grandchild—at an eligible educational institution. You’re allowed to pay up to $10,000 of qualified primary or secondary school tuition expenses annually from all 529 accounts for a beneficiary.
In addition, 529 accounts may be used to cover certain expenses for certified apprenticeship programs, and to repay principal or interest on qualified education loans, either for the beneficiary or the beneficiary’s sibling, up to a lifetime maximum of $10,000 per individual. Withdrawals for these qualified purposes are free from federal income tax. (Some states don’t follow all the federal tax rules, so it’s important to determine if any of these withdrawals would trigger state income tax.) If the beneficiary receives a refund from an eligible educational institution, you may generally re-contribute the refunded amount to the beneficiary’s 529 account within 60 days without adverse federal income tax consequences.
8. Cover healthcare costs related to the pandemic and beyond
If you took distributions from a retirement account last year to help get through pandemic-related challenges, now may be a good time for a conversation with your tax advisor, Navani says. The CARES Act enabled those with a spouse or a dependent diagnosed with the coronavirus or who had experienced certain adverse financial consequences due to the coronavirus to take distributions during 2020 of up to $100,000 from eligible retirement plans (if permitted by the plan) without paying the usual 10 percent additional federal tax for distributions before age 59½.
Moreover, the Act stated that for tax purposes, the income generated from those distributions could be included in your gross income ratably over three years. And, if you repay the distribution to your plan or IRA within three years, you can undo the tax consequences of the distribution. Your tax advisor can help ensure you maintain retirement savings momentum while keeping your tax obligation as low as possible.
Beyond the pandemic, both health savings accounts (HSAs) and flexible spending accounts (FSAs) could allow you to sock away tax deductible or pretax contributions to pay for certain medical expenses your insurance doesn’t cover. (For more on HSA contribution and plan limits, see our Contribution Limits and Tax Reference Guide.)
9. Give to your favorite charity—or your family
If you regularly give to charities, consider putting several years’ worth of gifts into a donor-advised fund (DAF) for a single year, Navani suggests. “Then you can spread out the giving from the DAF over the next several years.”
Also this feature of the 2020 CARES Act remains in place in 2021: taxpayers who itemize can deduct cash charitable contributions made to certain qualifying charities (not including DAFs) of as much as 100 percent of their adjusted gross income, up from 60 percent prior to the Act. While very few taxpayers can afford that level of generosity, Navani notes, this provision could work to the benefit of, say, a retired person with significant assets and modest living expenses.
When it comes to giving to loved ones, the lifetime federal gift and estate tax exemption has more than doubled since 2017, to $11.7 million for individuals in 2021 ($23.4 million for married couples3), meaning that far fewer estates owe estate tax. But changes could be in store, Navani notes. The current high estate gift and estate tax exemptions will, at the end of 2025, revert to 2017 levels (approximately $6 million for individuals, $12 million for couples) without Congressional action. And the House has proposed accelerating that reversion to the end of 2021.4 Speak with your tax advisor about whether such changes could affect your estate plans, Navani says.
You can give as many family members as you like up to $15,000 per year ($30,000 from a married couple electing to split gifts) each without being subject to federal gift tax. Generally, once the gift is made, your estate will not pay estate taxes on it, and it will not be considered taxable income for the recipient. However, also remember that the donor’s income tax basis carries over to the gift’s recipient, subject to a few qualifications—which means that in some cases, waiting to give could make sense.
These limits change on an annual basis, so please visit irs.gov for the latest information.