Now that we are in the 4th quarter of 2021, it’s a good time to start looking at ways to reduce your 2021 tax liability. Even though you might not know your tax liability until you file your tax return in April (or October) of 2022, in order to take advantage of some key tax saving tools, many tactics require you to take action before the end of the calendar year. Here are a few tax saving tools consider:
- Charitable Giving
- Qualified Charitable Distribution
- Retirement Plan Contributions
- Health Savings Account Contributions
- Dependent Care Flexible Spending Account Contributions
- 529 Plan Contributions
1. Charitable Giving
Since the Tax Cuts and Jobs Act (TCJA) was enacted, many people began taking the standard deduction rather than itemizing their deductions. As a result, many people cut back on charitable giving, or at least tracking their giving, because they were not getting a tax benefit from making charitable contributions.
The American Rescue Plan enacted in 2020 provides a temporary above-the-line deduction in 2021 for up to $300 cash contributions for single taxpayers, and $600 for married filing jointly taxpayers, when the taxpayer takes the standard deduction. So, if you have been putting off your charitable giving or have made donations but have not kept appropriate records, make sure to get those done by 12/31/2021 to receive a deduction that directly reduces your Adjusted Gross Income (AGI).
If you are on the cusp of taking the standard deduction versus itemizing your deductions, one technique that might be useful to ensure you get a tax benefit for your charitable giving is to consolidate your donations into one year rather than giving a small amount each year. Using a Donor Advised Fund (DAF) is a helpful tool which allows you to put a lump sum into the DAF, get a charitable deduction in the year you contribute, and disperse funds from the DAF over many years to qualifying charities.
2. Qualified Charitable Distribution (QCD)
If you are 70 ½ or older, and have an Individual Retirement Account (IRA), then you might want to consider a Qualified Charitable Distribution (QCD). Rather than taking a distribution from your IRA and then giving cash or property to a charity, you can make a QCD, which allows for a direct transfer from your IRA to a charity. In turn, you do not recognize the income coming out of your IRA as income, and you do not take a charitable deduction for the amount going to charity. The maximum allowed QCD per taxpayer is $100,000. This technique can often provide a higher per dollar tax benefit because it directly reduces a taxpayer’s AGI.
3. Retirement Plan Contributions
Contributing to a retirement plan not only provides savings for future years, but it could also provide a current tax benefit. Depending on your income level, you could get a tax deduction for the contributions made to a 401(k), IRA, SEP, or SIMPLE retirement plans. These contributions either directly reduce your taxable wages, if funding through an employer sponsored plan, or are taken as an above the line deduction on your tax return. In both cases, they directly reduce your AGI. Talk to your financial advisor to see which retirement plan is right for you. For additional information on the various retirement plans options for self-employed individuals, visit this article written by Plancorp’s Chief Investment Officer.
4. Health Savings Account Contributions
If you have a high-deductible health insurance plan, you might be able to contribute to a Health Savings Account (HSA) and receive a tax deduction. The maximum contributions for 2021 are $3,600 for self-only coverage and $7,200 for family coverage, with an additional $1,000 contribution allowed for taxpayers over 55. One useful aspect of an HSA is once you fund it, you can either invest the money within the account and save for future qualifying medical expenses, or you can fund and use the HSA within the same year. Either way, as long as you use the distributions from your HSA for qualifying medical expenses, you are not taxed on the distributions, including earnings. This is a double benefit – tax deduction when you put money in, and tax free distributions when you take the money out! Using tax-free dollars to pay for medical expenses now or in the future is a big benefit that many people overlook. For more information on the benefits of HSAs, visit this link.
5. Dependent Care Flexible Spending Account Contributions
The American Rescue Plan also changed the benefits you can receive through a Dependent Care Flexible Spending Account (FSA). The contribution limit for 2021 increased significantly from $5,000 to $10,500. So, if you pay a person or organization to care for your child so you can work, you could fund a Dependent Care FSA and receive a tax benefit. If you are currently contributing to one of these accounts, you might want to change your contribution amount to fund the maximum allowed by 12/31/2021 to receive the greatest tax benefit available. Remember, unlike an HSA, the contributions to an FSA must be used for expenses incurred the same year it is funded.
6. 529 Plan Contributions
Depending on which state you reside in, you could get a state tax benefit for contributions made to a state 529 plan. Missouri, for example, allows up to a $16,000 deduction for married taxpayers filing jointly for contributions made to any 529 plan ($8,000 deduction for single taxpayers). Not only are you receiving the benefit of tax-free growth, but you also receive a state tax deduction when funding the plan. Check your specific state or ask your advisor on the deductibility in your state. Still have questions about 529 Plans? This article written by a Plancorp Senior Wealth Manager specializing in financial planning for college-bound families might help answer those questions.
This post was written by a member of the Plancorp Women’s Initiative, which strives to advocate for clients and women in the community by addressing topics specific to their financial lives. For more information about the Women’s Initiative and how you can get involved, email email@example.com or visit the InspireHer webpage.
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