With the extended July 15 deadline for 2019 federal income tax returns behind us, it’s time to think about your tax situation for this year. Obviously, 2020 has been far from typical, and it is quite possible that this abnormal year has created some abnormal tax considerations.
The COVID-19 pandemic has resulted in many losing their job or being furloughed. The crisis has created sporadic market behavior, causing some investors to lose money and others to earn it. The Coronavirus Aid, Relief and Economic Security (CARES) Act may create opportunities for some taxpayers to save taxes or tap into alternative sources of cash (like retirement funds).
On top of all of that, it’s an election year. A change in leadership can lead to a change in tax laws and other provisions for 2021 and beyond. Some of those changes could possibly be retroactive for 2020.
With all that in mind, here are several tax planning moves midway through the year that could lower your tax obligations for 2020.
Pay Taxes Due
If you normally make estimated tax payments, and have yet to do so this year, it’s time to settle up. The due dates for the first two installments are normally April 15 and June 15, respectively. But because of COVID-19, those deadlines were extended to July 15. You still have by September 15 to make catch-up payments and avoid an interest penalty that’s charged on estimated tax underpayments.
Don’t think that because the first two payment deadlines were extended that the next one will be too. The IRS hasn’t extended the September 15 deadline yet, and they likely won’t. It’s in your best interest to make your estimated tax payments sooner rather than later.
Rent Out Your Vacation Home
If you have a vacation home elsewhere (or a summer home here in Maine) the COVID-19 pandemic and the accompanying travel restrictions and quarantine mandates may have kept you from using it. But you may still be able to generate some income and salvage tax breaks if you rent out the vacation home while you’re not using it.
You can write off expenses attributable to the home rental against your rental income. This may include a portion of the home’s:
- Mortgage interest
- Property taxes
These deductions offset your rental income. In fact, you may be able to claim an overall rental property tax loss for the year if:
1) Your personal use of the vacation home doesn’t exceed the greater of 14 days or 10% of the rental days, and
2) You can avoid the passive loss rules that can prevent you from currently deducting rental losses.
Find a Child Care Solution
The pandemic created numerous challenges for parents who often relied on school, daycare and summer camps for child care. If this is the case, consider hiring a family member to care for your kids. For example, you might ask for help from a retired relative who has free time and needs a little extra spending money. Besides the comfort of using a trusted family member, the arrangement may qualify you for the dependent care tax credit. In most cases, the credit equals 20% of the first $3,000 of qualified expenses for one child or 20% of the first $6,000 of qualified expenses for two or more children. So the maximum credit is usually $600 for one eligible child or $1,200 for two or more eligible children. Be aware, however, that the credit isn’t available for payments to a caregiver who’s your own under-age-18 child.
Roll Over Your RMD
If you are taking annual required minimum distributions (RMDs) from tax-favored retirement accounts — such as traditional IRAs, SEP-IRAs and 401(k) accounts — the taxable percentage of those mandatory distributions (often 100%) must be reported as income on your tax returns.
Previously, the initial RMD was for the year you turn age 70½. The SECURE Act increases the age after which you must begin taking RMDs to 72. However, this favorable change applies only to individuals who reach age 70½ after December 31, 2019. So, if you’ll turn 70½ in 2020 or later, you won’t need to start taking RMDs until after you’ve attained age 72.
Failure to take RMDs can result in a 50% penalty on the amount you should have taken out but didn’t. Thankfully, the CARES Act waives any and all RMDs that you would otherwise have to take in 2020.
Additionally, recent IRS guidance gives you until August 31 to roll over any RMDs that you received earlier in 2020. The IRS is also waiving the usual limit of just one IRA-to-IRA rollover per year. So, if you’ve received RMDs from one or more IRAs this year, you can roll the money back into an IRA, as long as you get it done by August 31.
Review Your Investment Portfolio
With the stock market taking drastic swings this year and no clear picture on future stability, now is a good time to review positions held in your taxable accounts. See where you currently stand on capital gains and losses. Then act accordingly.
For example, if you realized a high-taxed, short-term capital gain from a securities sale earlier this year, you could sell loser securities to offset the gain plus up to $3,000 of income from other sources (such as salary or self-employment income), or $1,500 if you will use married filing separate status for this year’s return.
Conversely, if you’re showing an overall net capital loss so far this year, consider selling some short-term winners. You can offset the gains, that would otherwise be taxed at higher rates, with losses from sales earlier in the year.
Boost Charitable Giving
If you’re in a position to help a worthy cause during the pandemic, you can deduct some of those donations without itemizing your tax return. While normally you can deduct charitable donations only if you itemize on your tax return, the CARES Act allows you to claim an above-the-line deduction of up to $300 for donations to qualified charitable organizations in 2020. However, it’s currently unclear if the $300 limit is doubled to $600 for a married joint-filing couple.
Additionally, there’s more charitable write-off flexibility for individuals who make large donations. Normally, the annual itemized deduction for monetary donations to qualified charities is limited to 60% of adjusted gross income (AGI). The CARES Act raises the limit to 100% of AGI for 2020 donations.
Arrange a 401(k) Loan
If you need cash during these challenging economic times, borrowing money from your 401(k) account may be a viable option. The CARES Act significantly eases the rules for qualified plan loans taken out on or after March 27, 2020, and before September 23, 2020. The new rules are as follows:
- The maximum permissible loan amount is doubled from $50,000 to $100,000.
- Plan participants can borrow up to 100% of their vested benefit instead of the usual 50% limit.
- The due date for loan repayments is extended by one year, so you generally have six years to repay a loan that’s covered by the CARES Act liberalizations.
Important: This strategy is generally viewed as a last resort. Don’t touch your retirement savings if you can help it.
For More Information
This year has been difficult in so many ways, and tax planning is just one more additionally complicated matter we must face due to COVID-19. The situation is constantly evolving, and we are likely to see more legislation and various scenarios play out. Additionally, this blog just covers a few of the many mid-year tax planning strategies. To ensure you’re not missing out on an opportunity to lower your taxes, or to better understand your financial situation, contact us at Filler & Associates.