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Tax Compliance

10 midyear tax planning moves

Shaun Hunley  Executive Editor / Thomson Reuters

· 8 minute read

Shaun Hunley  Executive Editor / Thomson Reuters

· 8 minute read

Once you’ve had a chance to catch your breath following the spring busy season, it’s time to remind your clients that tax planning is where you can really add value. In addition to the usual midyear planning ideas, possible tax law changes must be considered as you recommend ways to improve your clients’ cash flow by saving (or at least deferring) taxes. Here are 10 midyear tax planning moves that shouldn’t be overlooked this summer.

#1—Adjust withholding or estimated payments

Clients who owed taxes for 2021 may want to revise their Form W-4. The current version of the form has many clients scratching their heads, but help is available via the IRS’s “Tax Withholding Estimator”. If your clients make estimated tax payments throughout the year, take a closer look at their tax situation for 2022 to make sure they’re not underpaying or overpaying.

#2—Take advantage of lower tax rates on investment income

Gains from the sale of an investment held for more than one year (as well as dividends on certain stocks) are generally taxed at preferential capital gains rates. Those rates are 0%, 15%, and 20% for most investments. The applicable rate depends on your client’s taxable income. If their income is too high to benefit from the 0% or 15% rates, suggest they gift investments (like appreciated stock or mutual fund shares) to children, grandchildren, or other loved ones. If these individuals are in the 0% or 15% capital gains tax bracket when they later sell the investments, any gain will be taxed at the lower rates if your client and their loved one owned the investments for more than one year. Dividends from any gifted stock also may qualify for the lower rate. However, beware of the “Kiddie Tax,” which applies to all children under age 18 and most children age 18 or age 19–23 who are full-time students. It may limit your client’s opportunity to take advantage of this strategy. Also, beware of a potential increase in both long-term capital gains rates and ordinary income tax rates heading into 2023.

#3—Time investment gains and losses

As your clients evaluate investments held in their brokerage accounts, consider the tax impact of selling appreciated securities before the end of the year. President Biden has proposed a plan that would increase long-term capital gains rates to 39.6% for taxpayers making over $1 million. Combined with the Net Investment Income Tax (NIIT) of 3.8%, affected taxpayers could see a 43.4% marginal long-term capital gains rate, which is quite an increase from the current combined rate of 23.8%. Selling securities that have declined in value may need to wait until 2023 to offset the potential higher tax rate. Losses realized will offset any gains your clients may have realized. A net capital loss is limited to $3,000 of ordinary income annually, but any excess carries over indefinitely.

#4—Check your client’s deduction strategy

Generally, it’s best to itemize deductions if personal expenses, such as mortgage interest, charitable contributions, medical expenses, and taxes, exceed the standard deduction. For 2022, joint filers can enjoy a standard deduction of $25,900. The standard deduction for heads of household is $19,400, and single taxpayers (including married taxpayers filing separately) can claim a standard deduction of $12,950. However, “bunching” deductions may offer the best of both worlds. For example, your client can pay two years’ worth of property taxes in a single calendar year, or double up on charitable giving every other year. If that is enough to get over the standard deduction amount, they’ll get a bigger deduction every other year, yet part with the same amount of cash.

#5—Watch out for virtual currency

For federal tax purposes, virtual currency is treated as property, not currency. Basis in virtual currency is the Fair Market Value (FMV) of the currency on the date it is received. If your client receives virtual currency as payment for services, it is considered taxable income and will be subject to both income and Social Security taxes. Also, using virtual currency to obtain cash or purchase goods is a recognizable transaction. If the FMV of property your client receives for the virtual currency exceeds their adjusted basis in the currency, they will have a taxable gain. A loss will occur if the FMV is less than their basis. The character of the gain or loss depends on whether the virtual currency is considered a capital asset. Using the Highest-in, First-out (HIFO) accounting method, by which your client specifically identifies which units they are transferring in any transaction, can reduce their 2022 tax liability and defer the higher gain on lower basis units to a later tax year.

#6—Consider a reverse mortgage

Due to current inflation rates, some individuals are suffering from cash flow issues. If your client is age 62 or older and has substantial equity in their residence, a reverse mortgage may be one way to meet current cash flow needs. A reverse mortgage allows your client to receive loan proceeds over a certain period (by borrowing against equity in the home) while continuing to live in the house. While a reverse mortgage can help with cash flow issues, it does not allow a current tax deduction for the interest that accrues on the loan. However, starting in 2026, accrued interest may be deductible (subject to limitation) when the loan is repaid. The repayment (and tax deduction for mortgage interest) generally occurs when your client is no longer using the home as a principal residence, they refinance the property, they sell the home, or the home becomes part of their estate.

#7—Take advantage of Section 179 and bonus depreciation

If your small business client plans to purchase new or used machinery or equipment prior to year end, they may be able to expense the entire cost in 2022. Under Section 179, taxpayers can elect to expense up to $1,080,000 of qualified purchases, subject to taxable income limitations. Alternatively, your client can take advantage of 100% first-year bonus depreciation. Unlike the Section 179 deduction, claiming 100% bonus depreciation is not limited to taxable income, although another limitation could apply. Many factors can influence this decision, including current and future tax rates. With the possibility of higher rates in 2023, the best choice may be to wait and see if your client is going to be subject to a higher tax rate before they acquire assets, if it is feasible to hold off. Also, under current law, 100% bonus depreciation is scheduled to be reduced to 80% for property placed in service in 2023.

#8—Consider retirement plan contributions

Setting up a qualified retirement plan for a business allows your client to make deductible contributions for 2022 while allowing the earnings in the plan to build up without taxation until the funds are withdrawn. Selecting the best qualified retirement plan will depend on the facts and circumstances of your client’s business, including income levels and whether the business has employees. Types of available plans include defined benefit, defined contribution, one-person 401(k), Simplified Employee Pension (SEP), and SIMPLE IRAs. Each type of plan has advantages and disadvantages that should be discussed with the client. In addition, your client’s business may be eligible for two tax credits related to establishing and operating a small business retirement plan.

#9—Hire family members

Employing family members can be a useful strategy to reduce overall tax liability. If the family member is a bona fide employee, the client can deduct the wages and benefits, including medical benefits, paid to the employee on Schedule C or F as a business expense, thus reducing the proprietor’s self-employment tax liability. In addition, wages paid to children under the age of 18 are not subject to federal employment taxes, will be deductible at your client’s marginal tax rate, are taxable at the child’s marginal tax rate, and can be offset by up to $12,950 (the child’s maximum standard deduction). However, the family member must be a bona fide employee, and basic business practices, such as keeping time reports, filing payroll returns, and basing pay on the actual work performed, should be followed.

#10—Maximize business meal expenses

Normally, business meal expenses are limited to a deduction of 50% of the total costs. However, for 2022, food and beverages provided by a restaurant are allowed a 100% deduction. Taxpayers who use the per diem method may treat the entire meal portion of the per diem rate paid or incurred in 2022 as being attributable to food or beverages provided by a restaurant, making the meal per diem 100% deductible. As such, your client may want to move any business meals originally planned for early 2023 into late 2022 in order to obtain the higher deduction.

Want more planning ideas?

For additional planning ideas, see the Tax Planning and Advisory series on Checkpoint, with special focus on the Individual Tax Planning, Retirement Planning and Elder Care, Personal Financial Planning, and entity-specific topics. Also, PPC’s Practitioners Tax Action Bulletins, a twice-monthly newsletter, provides insightful articles on a variety of planning techniques, as well as sample letters that can easily be downloaded and sent to clients.

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