Year-end money moves
Consumers, businesses, and investors are looking forward to putting 2022 in the rearview mirror, as soaring prices, rising interest rates and dreadful financial markets have wreaked havoc on pocketbooks.
While you may not be able to control any of those big issues, this is the time of year where I encourage you to be proactive, especially in light of the changes that are around the corner in 2023.
Those changes are primarily due to the inflation adjustments within the tax code for tax year 2023. The IRS announced increases for the standard deduction, new ranges of income to which existing marginal tax rates apply, increases to the Earned Income Tax Credit, contributions to health flexible spending arrangements and the annual exclusion for gifts, to name a few.
Additionally, the annual limit on contributions to employer-based retirement plans will increase to $22,500, SIMPLE IRAs will rise to $15,500 and catch-up contributions for those over 50 will increase to $7,500 (up from $6,500) for 401(k) plans, 403(b) contracts, 457 plans and SARSEPs, and to $3,500 (up from $3,000) for SIMPLE plans and SIMPLE IRAs.
Got it? Good ... now let’s do some yearend planning!
Think about 2022 taxes now. Use the IRS’s withholding estimator to see if you have had enough money set aside to pay your tax bill in April. If not, notify your payroll department to increase your withholding through the end of the year. If you are not working or are self-employed, you may want to make an estimated tax payment to reduce or eliminate potential tax penalties.
Slash your tax bill with Uncle Sam’s help. The best way to reduce your tax liability is to maximize your pre-tax retirement plan contributions before the end of the year. Most employer plans allow you to increase your contributions but be sure to readjust after the New Year.
Consider a Roth conversion. If you had lower income in 2022 or the value of your traditional IRA is down, it may make sense to convert to a Roth IRA. When you do so, the amount that you convert will add to your taxable income.
Considering that tax rates are historically low, paying the tax due now may be among the smartest decisions you could make over the long term. Once you convert to a Roth, the money will grow tax-free and when you retire and withdraw it, there will be no tax due. Because Roth plans are not subject to Required Minimum Distributions (RMDs), many use them to help control future taxation of Social Security benefits and/or increased costs of Medicare, which are income tested.
Down markets don’t impact RMDs. The IRS does not care that the value of your retirement accounts is down — you still must take your RMD before the end of the calendar year, or else you will pay a whopping penalty.
Embrace your losers. It has been a rough year for investors, but Uncle Sam may help assuage your suffering. If you have a taxable investment account, you can sell losing positions and use those losses against sales of winning positions. If you have more losses than gains, you can deduct up to $3,000 of losses against ordinary income. If you have more than $3,000 of losses, you can carry over that amount to future years.
When you reinvest the proceeds of these sales, be mindful of the IRS’ “Wash Sale” rule, which won’t let you deduct a loss if you buy a “substantially identical” investment within 30 days. To avoid the rule, wait 31 days and then repurchase the stock or fund you sold, or replace it with something that is close but not the same (hopefully something cheaper, like an index or an exchange-traded fund).