2023 Year-End Tax Planning for Individuals
With rising interest rates, inflation and continuing market volatility, tax planning is as essential as ever for taxpayers looking to manage cash flow while paying the least amount of taxes possible over time. As we approach year end, now is the time for individuals, business owners and family offices to review their 2023 and 2024 tax situations and identify opportunities for reducing, deferring or accelerating their tax obligations.
Individual tax planning highlights
Taxpayers should consider whether they can minimize their tax bills by shifting income or deductions between 2023 and 2024. Ideally, income should be received in the year with the lower marginal tax rate, and deductible expenses should be paid in the year with the higher marginal tax rate. If the marginal tax rate is the same in both years, deferring income from 2023 to 2024 will produce a one-year tax deferral, and accelerating deductions from 2024 to 2023 will lower the 2023 income tax liability.
Actions to consider that may result in a reduction or deferral of taxes include:
- Delaying closing capital gain transactions until after year end or structuring 2023 transactions as installment sales so that gain is deferred past 2023 (also see Long Term Capital Gains, below).
- Considering whether to trigger capital losses before the end of 2023 to offset 2023 capital gains.
- Delaying interest or dividend payments from closely held corporations to individual business-owner taxpayers.
- Deferring commission income by closing sales in early 2024 instead of late 2023.
- Accelerating deductions for expenses such as mortgage interest and charitable donations (including donations of appreciated property) into 2023 (subject to AGI limitations).
- Evaluating whether non-business bad debts are worthless by the end of 2023 and should be recognized as a short-term capital loss.
- Shifting investments to municipal bonds or investments that do not pay dividends to reduce taxable income in future years.
On the other hand, taxpayers that will be in a higher tax bracket in 2024 may want to consider potential ways to move taxable income from 2024 into 2023, such that the taxable income is taxed at a lower tax rate. Current year actions to consider that could reduce 2024 taxes include:
- Accelerating capital gains into 2023 or deferring capital losses until 2024.
- Electing out of the installment sale method for 2023 installment sales.
- Deferring deductions such as large charitable contributions to 2024.
Long-term capital gains
Investment decisions are often more about managing capital gains than about minimizing taxes. For example, taxpayers below threshold amounts in 2023 might want to take gains, whereas taxpayers above threshold amounts might want to take losses. Tax-loss harvesting – offsetting capital gains with losses – may be a good strategy to use if you have an unusually high income this year or significant losses.
In 2023, tax rates on capital gains and dividends remain the same as 2022 rates (0%, 15%, and a top rate of 20%); however, threshold amounts have been adjusted for inflation as follows:
- 0% – Maximum capital gains tax rate for taxpayers with income up to $44,625 for single filers, $89,250 for married filing jointly;
- 15% – Capital gains tax rate for taxpayers with income of $44,626 and $492,300 for single filers and $89,251 to $553,850 for married filing jointly;
- 20% – Capital gains tax rate for taxpayers with income above $492,300 for single filers, $553,850 for married filing jointly.
Where feasible, reduce all capital gains and generate short-term capital losses up to $3,000. As a general rule, if you have a significant capital gain this year, consider selling an investment on which you have an accumulated loss. You can claim capital losses up to the amount of your capital gains plus $3,000 per year ($1,500 if married filing separately) as a deduction against income.
After selling a securities investment to generate a capital loss, you can repurchase it after 30 days. This is known as the “Wash Rule Sale.” If you buy it back within 30 days, the loss will be disallowed. Or you can immediately repurchase a similar (but not the same) investment, e.g., an ETF or another mutual fund with the same objectives as the one you sold. The wash sale rule only applies to stocks and securities. It does not currently apply to cryptocurrencies such as Bitcoin, which means you can sell Bitcoin and immediately buy it back. If you have losses, you might consider selling securities at a gain and then immediately repurchasing them since the 30-day rule does not apply to gains. That way, your gain will be tax-free, your original investment is restored, and you have a higher cost basis for your new investment (i.e., any future gain will be lower).
Long-term capital gains (and qualified dividends) are subject to a lower tax rate than other types of income. Investors should consider the following when planning for capital gains:
- Holding capital assets for more than a year (more than three years for assets attributable to carried interests) so that the gain upon disposition qualifies for the lower long-term capital gains rate. Short-term capital gains are taxed as ordinary income.
- Considering long-term deferral strategies for capital gains such as reinvesting capital gains into designated qualified opportunity zones.
- Investing in, and holding, “qualified small business stock” for at least five years.
- Donating appreciated property to a qualified charity to avoid long term capital gains tax.
Mutual fund investments
Before investing in a mutual fund, ask whether a dividend is paid at the end of the year or whether it will be paid early in the following year but be deemed paid this year. The year-end dividend could make a substantial difference in the tax you pay.
Action: You invest $20,000 in a mutual fund in 2023. You opt for automatic reinvestment of dividends, and in late December of 2023, the fund pays a $1,000 dividend on the shares you bought. The $1,000 is automatically reinvested.
Result: You must pay tax on the $1,000 dividend. You will have to take funds from another source to pay that tax because of the automatic reinvestment feature. The mutual fund’s long-term capital gains pass through to you as capital gains dividends taxed at long-term rates, however long or short your holding period.
The mutual fund’s distributions to you of dividends it receives generally qualify for the same tax relief as long-term capital gains. If the mutual fund passes through its short-term capital gains, these are reported to you as “ordinary dividends” that don’t qualify for relief.
Depending on your financial circumstances, it may or may not be a good idea to buy shares right before the fund goes ex-dividend. For instance, the distribution could be relatively small, with only minor tax consequences. Or the market could be moving up, with share prices expected to be higher after the ex-dividend date. To find out a fund’s ex-dividend date, call the fund directly.
Net investment income tax (NIIT)
An additional 3.8% NIIT applies on net investment income above certain thresholds. Net investment income does not apply to income derived in the ordinary course of a trade or business in which the taxpayer materially participates. Similarly, gain on the disposition of trade or business assets attributable to an activity in which the taxpayer materially participates is not subject to the NIIT.
In conjunction with other tax planning strategies that are being implemented to reduce income tax or capital gains tax, impacted taxpayers may want to consider deferring net investment income for the year.
Social security tax
The Old-Age, Survivors, and Disability Insurance (OASDI) program is funded by contributions from employees and employers through FICA tax. The FICA tax rate for both employees and employers is 6.2% of the employee’s gross pay, but only on wages up to $160,200 for 2023 and $168,600 for 2024. Self-employed persons pay a similar tax, called SECA (or self-employment tax), based on 12.4% of the net income of their businesses.
Employers, employees, and self-employed persons also pay a tax for Medicare/Medicaid hospitalization insurance (HI), which is part of the FICA tax, but is not capped by the OASDI wage base. The HI payroll tax is 2.9%, which applies to earned income only. Self-employed persons pay the full amount, while employers and employees each pay 1.45%. An extra 0.9% Medicare (HI) payroll tax must be paid by individual taxpayers on earned income that is above certain adjusted gross income (AGI) thresholds, i.e., $200,000 for individuals, $250,000 for married couples filing jointly and $125,000 for married couples filing separately. However, employers do not pay this extra tax.
Retirement plan contributions
Individuals may want to maximize their annual contributions to qualified retirement plans and Individual Retirement Accounts (IRAs).
- The maximum amount of elective contributions that an employee can make in 2023 to a 401(k) or 403(b) plan is $22,500 ($30,000 if age 50 or over and the plan allows “catch up” contributions). For 2024, these limits are $23,000 and $30,500, respectively.
- The SECURE Act permits a penalty-free withdrawal of up to $5,000 from traditional IRAs and qualified retirement plans for qualifying expenses related to the birth or adoption of a child after December 31, 2019. The $5,000 distribution limit is per individual, so a married couple could each receive $5,000.
- Under the SECURE Act, individuals are now able to contribute to their traditional IRAs in or after the year in which they turn 70½.
- Beginning in 2023, the SECURE Act 2.0 raised the age that a taxpayer must begin taking required minimum distributions (RMDs) to age 73. If the individual reaches age 72 in 2023, the required beginning date for the first RM D is April 1, 2025, for 2024. If the taxpayer reaches age 73 in 2023, the taxpayer was 72 in 2022 and subject to the age 72 RMD rule in effect for 2022. If the taxpayer reached age 72 in 2022, the first RMD was due April 1, 2023, and the second RMD is due December 31, 2023.
- Individuals age 70½ or older can donate up to $100,000 to a qualified charity directly from a taxable IRA.
- The SECURE Act generally requires that designated beneficiaries of persons who died after December 31, 2019, take inherited plan benefits over a 10-year period. Eligible designated beneficiaries (i.e., surviving spouses, minor children of the plan participant, disabled and chronically ill beneficiaries and beneficiaries who are less than 10 years younger than the plan participant) are not limited to the 10-year payout rule. Special rules apply to certain trusts.
- Under proposed Treasury Regulations (issued February 2022) that address required minimum distributions from inherited retirement plans of persons who died after December 31, 2019 and after their required beginning date, designated and non-designated beneficiaries will be required to take annual distributions, whether subject to a ten-year period or otherwise.
- Small businesses can contribute the lesser of (i) 25% of employees’ salaries or (ii) an annual maximum set by the IRS each year to a Simplified Employee Pension (SEP) plan by the extended due date of the employer’s federal income tax return for the year that the contribution is made. The maximum SEP contribution for 2023 is $66,000. The maximum SEP contribution for 2024 is $69,000. The calculation of the 25% limit for self-employed individuals is based on net self-employment income, which is calculated after the reduction in income from the SEP contribution (as well as for other things, such as self-employment taxes).
Foreign earned income exclusion
The foreign earned income exclusion is $120,000 in 2023 and increases to $126,500 in 2024.
Alternative minimum tax
A taxpayer must pay either the regular income tax or the alternative minimum tax (AMT), whichever is higher. The established AMT exemption amounts for 2023 are $81,300 for unmarried individuals and individuals claiming head of household status, $126,500 for married individuals filing jointly and surviving spouses, $63,250 for married individuals filing separately and $28,400 for estates and trusts. The AMT exemption amounts for 2024 are $85,700 for unmarried individuals and individuals claiming head of household status, $133,300 for married individuals filing jointly and surviving spouses, $66,650 for married individuals filing separately and $29,900 for estates and trusts.
The unearned income of a child is taxed at the parents’ tax rates if those rates are higher than the child’s tax rate. Children with unearned income are allowed a standard deduction of the greater of $1,250 or the child’s earned income plus $400, but not more than the regular standard deduction ($13,850 in 2023). The next $1,250 of unearned income is taxed at the child’s tax rate. Any amounts over $2,500 are taxed at the rates for single individual filers. If the child is under age 19 (or under age 24 and a full-time student) and both the parent and child meet certain qualifications, then the parent can include the child’s income on the parent’s tax return.
If your company grants stock options, then you may want to exercise the option or sell stock acquired by exercising an option this year. Use this strategy if you think your tax bracket will be higher in 2024. Generally, exercising this option is a taxable event; the sale of the stock is almost always a taxable event.
Limitation on deductions of state and local taxes (SALT Limitation)
For individual taxpayers who itemize their deductions, the Tax Cuts and Jobs Act (TCJA) introduced a $10,000 limit on deductions of state and local taxes paid during the year ($5,000 for married individuals filing separately). The limitation applies to taxable years beginning on or after December 31, 2017 and before January 1, 2026. Various states have enacted new rules that allow owners of pass-through entities to avoid the SALT deduction limitation in certain cases.
Medical expenses are deductible only to the extent they exceed a certain percentage of adjusted gross income (AGI); therefore, you might pay medical bills in whichever year they would do you the most tax good. In 2023, deductible medical and dental expenses must exceed 7.5 percent of AGI. By bunching medical expenses into one year, rather than spreading them out over two years, you have a better chance of exceeding the thresholds, thereby maximizing the deduction.
Deductible expenses such as medical expenses and charitable contributions can be prepaid this year using a credit card or check. You can only deduct medical and dental expenses you paid this year – not payments for medical or dental care you will receive in a future year. For example, suppose you charge a medical expense in December but pay the bill in January. Assuming it’s an eligible medical expense, you can take the deduction on your 2023 tax return.
Cash contributions made to qualifying charitable organizations, including donor advised funds, in 2023 and 2024 will be subject to a 60% AGI limitation. The limitations for cash contributions continue to be 30% of AGI for contributions to non-operating private foundations. Tax planning around charitable contributions may include:
- Creating and funding a private foundation, donor advised fund or charitable remainder trust.
- Donating appreciated property to a qualified charity to avoid long term capital gains tax.
- Bunching charitable deductions every other year if it enables a taxpayer to get over the standard deduction threshold.
Sound estate planning often begins with lifetime gifts to family members. In other words, gifts that reduce the donor’s assets are subject to future estate tax. Such gifts are often made at year-end, during the holiday season, in ways that qualify for exemption from federal gift tax. Gifts to a spouse who is a U.S. citizen are free of federal gift tax. Gifts to non-spouse donees are exempt from the gift tax for amounts up to $17,000 for 2023. An unused annual exemption doesn’t carry over to later years. To make use of the exemption for 2023, you must make your gift by December 31.
- Husband-wife joint gifts to any third person are exempt from gift tax for amounts up to $34,000 ($17,000 each). Though what’s given may come from either you or your spouse or both of you, both of you must consent to such “split gifts.”
- Gifts of “future interests” are assets that the donee can only enjoy at some future period such as certain gifts in trust and generally don’t qualify for exemption. Gifts for the benefit of a minor child, however, can be made to qualify.
- Cash or publicly traded securities raise the fewest problems. However, you may choose to give property you expect to increase substantially in value later. Shifting future appreciation to your heirs keeps that value out of your estate. But this can trigger IRS questions about the gift’s true value when given.
- You may choose to give property that has already appreciated. The idea here is that the donee, not you, will realize and pay income tax on future earnings and built-in gain on the sale.
Gift tax returns for 2023 are due on the same date as your income tax return (April 15, 2024). Gifts over $17,000 (including husband-wife split gifts totaling more than $17,000) and gifts of future interests must file a gift tax return. Though you are not required to file if your gifts do not exceed $17,000, you might consider filing anyway as a tactical move to block a future IRS challenge about gifts not “adequately disclosed.” Please call the office if you’re considering making a gift of property whose value isn’t unquestionably less than $17,000.
For 2023, the unified estate and gift tax exemption and generation-skipping transfer tax exemption is $12,920,000 per person. For 2024, the exemption is $13,610,000 under current tax law.
Net operating losses
Net operating losses (NOLs) generated in 2023 are limited to 80% of taxable income and are not permitted to be carried back. Any unused NOLs are carried forward subject to the 80% of taxable income limitation in carryforward years.
A non-corporate taxpayer may deduct net business losses of up to $289,000 ($578,000 for joint filers) in 2023. The limitation is $305,000 ($610,000 for joint filers) for 2024. A disallowed excess business loss (EBL) is treated as an NOL carryforward in the subsequent year, subject to the NOL rules. With the passage of the Inflation Reduction Act, the EBL limitation has been extended through the end of 2028.
Roth conversions allow a taxpayer to convert funds in a pre-tax individual retirement account or 401(k) to a post-tax Roth IRA. The amount withdrawn from the IRA is considered income and subject to tax; however, future Roth IRA distributions are tax-free.
You do not have to convert your entire IRA to a Roth IRA at once; you can convert all or part of it during different tax years. For example, if you have $90,000 in a 401(k), you can convert it over three years – $30,000 in the first year and $30,000 per year for the next two years. This strategy works well for taxpayers who want to eliminate to minimize RMDs (Required Minimum Distributions) at age 73 from their IRAs and leave more of your retirement account funds to heirs.
Converting to a Roth IRA from a traditional IRA makes sense if you’ve experienced a loss of income (lowering your tax bracket) or your retirement accounts have decreased in value. Please call if you would like more information about Roth conversions.
Health savings accounts
Consider setting up a health savings account (HSA) if you are covered by a high deductible plan. You can deduct contributions to the account, investment earnings are tax-deferred until withdrawn, and any amounts you withdraw are tax-free when used to pay medical bills. In effect, medical expenses paid from the account are deductible from the first dollar (unlike the usual rule limiting such deductions to the amount of excess over 7.5 percent of AGI). For amounts withdrawn at age 65 or later not used for medical bills, the HSA functions much like an IRA.
529 education plans
Maximize contributions to 529 plans, which can now be used for elementary and secondary school tuition as well as college or vocational school.
Student loan forgiveness
Although forgiven debt is generally taxable income, recent legislation includes a measure that exempts cancelled student debt from federal taxation through 2025. Most states follow the federal treatment, including New York State.
An above-the-line educator deduction has been inflation adjusted to $300 for 2023 for unreimbursed qualified expenses.
Energy tax credits
From electric vehicles to solar panels, “going green” continues to provide tax incentives. The Inflation Reduction Act of 2022 included new and newly expanded tax credits for solar panels, electric vehicles (EV) and energy-efficient home improvements. The rules are complex but there is still time for these credits to be beneficial in the current year. The most notable change to the EV credits is the requirement that the vehicle has final assembly in North America. If you are planning an EV purchase, please reach out as the list of qualifying vehicles has changed significantly.
Beneficial ownership interest (BOI) reporting
The Corporate Transparency Act (CTA) requires the disclosure of the beneficial ownership information of certain entities to the Financial Crimes Enforcement Network (FinCEN) starting in 2024. This is not a tax filing requirement, but an online report to be completed if applicable to FinCEN. There are severe penalties for businesses who willingly do not comply with the requirements.
Let us know about any major changes in your life such as marriages or divorces, births or deaths in the family, job or employment changes, starting a business and significant expenditures (real estate purchases, college tuition payments, etc.).
State and local taxes
- Remote working arrangements or moving your residency could potentially have tax implications to consider. Let us help you with your state income, sales and use tax questions.
Please reach out to us with any questions you might have.