Top 5 Year-End Tax Tips to Make For Those Nearing Retirement
As 2023 comes to a close, we’ve certainly experienced more volatility than we would have cared for and I think we can all agree, this has been a year that we’d like to forget when it comes to stock market returns.
Years like this test our resilience and long-term resolve, but they can also provide some silver linings and present several tax-favorable planning opportunities.
We all need to pay our fair share in taxes, but there’s no need to leave the IRS a tip!
With that in mind, here are some suggestions to consider making before the end of the year to lower your overall taxes, whether that be for this year or years down the road in retirement.
Year-End Tax Move # 1: Max Out Your Tax-Advantaged Savings
There are three tax-advantaged accounts that have year-end deadlines to pay attention to. These accounts are your Qualified Employer Plan, Traditional IRA, and Health Savings Account. Both your Employer Plan (401k/403b) and IRA could have post-tax (Roth) options for you to consider or be eligible for, but for the sake of this article, we are identifying ways to reduce your tax bill this year.
The 2023 annual contribution limits for each of the below accounts are as follows:
401k/403b/457 - $22,500 for eligible contributions from your paycheck deductions. And, if you are 50 or older, the catch-up contribution is an additional $7,500. Meaning, you can save a total of $30,000!
Traditional IRA: 6,500, with a catch-up provision for people 50 or older of an additional $1,000.
Note: Income limits max out at $153,000 for Single filers and $228,000 for Married filers seeking a tax deduction on contributions.Contribution deadlines for IRAs are technically not due until April 15, 2024, but it’s helpful to finish your contributions before the end of the year so that you can focus on 2023 come January.
Health Savings Account (HSA): $3,850 for individuals and $7,750 for families.
Contributions to HSAs are tax-deductible and you’re eligible to invest your contributions within an HSA and allow them to grow. Withdrawals are tax-free assuming the funds are used to pay for qualified medical expenses.
Helpful Reminder: Once you turn 65, you have the option to take distributions from your HSA for medical expenses and non-medical related expenses. Tax-free distributions for qualified medical expenses still apply, but if you prefer to use the money on something else, you can make non-qualified withdrawals without penalty and the distribution will be subject to ordinary income taxes.
Think of your HSA account as a backup investment account to your 401k or IRA!
Thought to Consider: If you have the additional cash flow, one popular strategy with HSA accounts is to make annual contributions to your HSA, invest it, and then pay for your medical expenses out of pocket. This alternative approach is a creative way to lower your taxable income and build up a larger investment balance heading into retirement that can be used tax-free for medical expenses later.
Year-End Tax Move # 2: Bunch Your 2023 Itemized Deductions
Through a Donor Advised Fund (DAF)
2023 Standard Deduction amounts for Single filers are $13,850 and $27,700 for Married filers.
Are you close to being able to itemize deductions but not quite there? If so, this strategy could be helpful for you.
A common practice is to “group” or “bunch” your future year donations into one tax year.
Doing this will allow you to qualify to take the higher deduction on your taxes through itemizing and you still get to give the same out to your favorite church, charities, or qualified non-profit.
Think of it this way, instead of making an annual donation once a year, by bunching, you are able to combine 2, 3, or even 5 years’ worth of donations in a single year, then take a few years off.
The math still works out the same, but the tax benefit is the real difference maker.
To do this, you can either give directly to the charity all at once or you can use a vehicle known as a Donor Advised Fund to hold your future year donations. In either method of giving, an upfront tax deduction is created when your cash is donated, reducing your current year’s tax bill.
By using a Donor Advised Fund, you can choose whether or not you’d like to contribute cash or you can donate a highly appreciated stock position and avoid paying the capital gains taxes. In addition to eliminating capital gains taxes, you’ll also receive the full deduction amount of the market value of the appreciated security.
Year-End Tax Move # 3: Bunching Other Itemized Deductions into One Year
Time for more bunching!
Medical Expenses: In 2023 you can only deduct expenses that exceed 7.5% of your adjusted gross income. However, by grouping as many non-emergency medical expenses as possible in a single year, you can maximize the deduction you get for those expenses.
If you’ve had higher-than-expected medical expenses this year, it may make sense to consider scheduling any upcoming 2024 medical appointments, procedures, or additional out-of-pocket medical expenses before the end of the year.
This could be to your advantage tax-wise, instead of missing out on tax savings and electing for the smaller standard deduction.
Long-Term Care Insurance: Premiums paid to keep Long Term Care policies in place are considered medical expenses. This is particularly important in that you can include the cost of these premiums as part of your itemized deductions along with your unreimbursed medical expenses.
Premiums are tax-deductible to the extent your total unreimbursed medical expenses exceed 7.5 % of your adjusted gross income (AGI).
Important Reminder: The older you are, the more you can deduct. It’s worth mentioning however that any premium amounts for the year above the limits shown below on the chart are not considered to be a medical expense.
Credit: ElderLawAnswers
Year-End Tax Move # 4: Tax Loss Harvesting
Nobody likes losing money, but there are proactive tax strategies you could use to help soften the sting before the end of the year. By selling one of your investments that is down in value, you can realize that loss and put it to use.
The strategy of tax loss harvesting allows you to use your realized investment losses
and offset them against investment gains.
Any net losses beyond that can be used to either reduce ordinary income up to $3,000 annually or carried forward into future years.
A few rules apply like understanding the difference between short and long-term capital gains and those losses mixed together to be used to offset short and long-term capital gains. Additionally, paying attention to the 30-day wash sale rule is critical to ensure that you do not erase your capital loss by purchasing back into the same investment you sold at a loss.
To learn more, check out our blog post on Tax Loss Harvesting here.
Year-End Tax Move # 5: Roth IRA conversions
A Roth conversion can be an excellent way to improve your tax situation and pay less in taxes over the course of your lifetime.
Seeing if a Roth conversion is right for you, can be a great exercise to get in the habit of doing annually before the end of the year. For a full list of examples and events to see if a Roth conversion may make sense for you, click here.
One thing worth noting is that the decision to do a Roth conversion has become even more appealing due to the Tax Cuts and Jobs Act of 2017. This legislation temporarily lowered taxes for 10 years and is set to revert back to 2017 tax rates expire 2026. If no tax legislation is passed within the next few years to revise this ruling, future tax rates are on track to not only be higher but the tax brackets also will be smaller too.
So, with tax rates expected to increase within the next few years, it may make sense to consider a Roth conversion today.
Converting tends to present more of an opportunity during volatile markets and when account values are down, such as what we’re experiencing this year in 2023.
Of course, the one major downside is that taxes are due upfront on the conversion. Moving pre-tax money from a tax-deferred account creates ordinary income and results in a taxable event. Thus, taxes are due on the amount you decide to convert and in the year of conversion.
Important Reminder: Unlike the above four tax tips that are designed to reduce your taxable income today, Roth conversions are forward-looking and seek to lower your taxes in the future.
Doing a Roth conversion would increase your taxes this year, but could potentially save you money on taxes in the future.
Each case and situation is going to be different and you’ll need to do the math to see if paying taxes today makes financial sense to benefit you in the long run.
Closing Thoughts
Down years in the Market, like what we’ve experienced in 2023, present many tax-favorable planning opportunities that can be used to your advantage.
While there’s still time left in 2023, it’s worth your while to consider taking a few minutes to pull up your investment statements, pay stubs, and medical expenses to see if the strategies we named above could help you reduce the amount of taxes you pay this year.
Very few things when it comes to investing are within our control, fortunately for us, taxes are one of those.
It is fully within your power before the end of the year to take action and not pay more than you need to in taxes.
Which steps will you take to avoid overpaying in taxes this year?
Disclaimer: Swell Financial is registered as an investment adviser in the state of California and provides advisory services only in states where registered or otherwise exempt from registration. All information presented here is for informational and educational purposes only and should not be relied upon as investment, financial, legal, or tax advice. It is not a recommendation for purchase or sale of any security or investment advisory services. Please consult your own legal, financial, and other professionals to determine what may be appropriate for you. Opinions expressed are as of the date of publication, and such opinions are subject to change.