We’re now only about two weeks away from closing out the 2021 year. If you’re wondering what you can do now to save on 2021 taxes, keep reading! While some tax planning can still be done after the end of the year, most tax savings tips and strategies need to be implemented before the end of the year.
So check out some of our favorite year end tax savings tips and strategies:
1. Set-up and/or Maximize Your Retirement Plan Contributions
There are many different types of retirement plans out there today. If you’re an employee, the options are fairly simple. Hopefully your employer offers you either a 401k, 403b or similar retirement plan that you’ve been contributing to throughout the year. Additionally, separate from your employer’s retirement plans, you might maintain a traditional IRA or Roth IRA.
If you’re contributing to your employer’s retirement plan, your contributions need to be finalized by 12/31/21. Speak to your HR department ASAP if you’d like to increase your contributions on your final paycheck(s) in 2021.
If you’re contributing to your own Traditional IRA or Roth IRA, you have until 4/15/21 to maximize your 2021 contributions (but be sure to indicate any contributions made after 1/1/21 are for the 2021 tax year).
2021 Retirement Account Types and Contribution Limits (for employees)
- 401k/403b $19,500 ($26,000 if 50 or over)
- Simple IRA $13,500 ($16,500 if 50 or over)
- Traditional or Roth IRA* $6,000 ($7,000 if 50 or over)
*Please note that your ability to deduct traditional IRA contributions, as well as to make any Roth contributions, can be limited depending on your income and if you participate in an employer sponsored plan or not.
If you’re a business owner, the options get more complicated, and will depend on factors such as the entity type of your business and whether or not you have employees. The options may include a traditional 401k, Solo 401k, SEP IRA, Simple IRA, Defined Benefit Plans as well as your Traditional and Roth IRAs (separate from any plans your business maintains).
While it’s outside the scope of this blog to discuss all of these options in detail (schedule a call with us here if you’d like to discuss this), there is one very important tip we can tell you.
If you don’t have any employees in your business, you likely can qualify to set up our favorite type of retirement account – the Solo 401k. The Solo 401k is the simplest type of plan that also allows you to put away the most amount of money (and that can mean the most amount of tax savings).
However, unlike some other retirement plans, a Solo 401k must be established by the end of the year – so 12/31/21. Note that the plan must be established by the end of the year, although your actual contributions can often be made up until the deadline of your tax return (including extensions).
Considering that a 2021 Solo 401k plan potentially allows you to put away as much as $64,500, you don’t want to miss that deadline. For a taxpayer in the 32% Federal tax bracket, that’s $20,640 of savings that could be missed!
So if you think a Solo 401k plan might make sense for you, get in touch with us as soon as possible so we can review your options and help guide you through the steps of setting it up and making your contributions.
2. Note Your End of the Year Odometer Reading
If you drive a vehicle for business purposes, you don’t want to miss out on the deductions available to you. This subject gets complicated, but the most critical element to deducting business mileage is maintaining a contemporaneous log of your business trips.
That log should include the dates of your business drives, the to & from addresses, the purpose of the trip, and the total mileage incurred. There are numerous apps available for your phone today that help to track business mileage. But if you like to do things manually, be sure you’re keeping a written or electronic log of all your trips.
A nice tip to keep in mind is to set a reminder in your calendar for December 31 of each year to note the odometer reading of your car. That way, if nothing else, at least you can calculate the total mileage on your car each year (by subtracting the odometer reading from the previous December 31 from the reading on the current December 31). Then, based on your business mileage log, you can determine what percentage of your mileage is personal versus business.
Note that if you bought a new business car during the year, you’ll need to keep a separate log for each business vehicle.
And if you’re thinking of buying a new vehicle that will be used in your business, be in touch with your CPA as soon as possible. This is a great tax planning opportunity that can easily shed thousands of dollars off your tax bill.
3. Crypto Investors – Capture Those Wash-Sale Losses
For those of you that have invested in cryptocurrencies in 2021, hopefully you’ve experienced some nice gains!
However, if you have some coins that have gone down in value since you bought them, now is the time to take advantage of a tax loophole unique to cryptocurrencies: the lack of wash-sale rules.
With any other investment, such as a stock, if you sell the stock for a loss, and then subsequently rebuy the same (or ‘substantially identical’) stock within 30 days – you lose the ability to deduct that loss. This is known as the Wash-Sale rule, and it’s in place to prevent taxpayers from using an artificial capital loss to offset capital gains. Essentially, by repurchasing the stock (at or around the same value you sold it), you’re still in the same economic position you were in when the stock was sold; however, you’ve also locked in a loss from the sale. The IRS says that’s not fair play, since you haven’t actually lost anything – by repurchasing the stock you’re essentially in the same position you were before you sold it.
Well, the world of cryptocurrency taxation is changing by the day. And as of right now, Wash Sale rules do NOT apply to cryptocurrencies. Yes, the IRS knows this, and they want to change it. In fact, written into the legislation of the Build Back Better Act is a clause that would immediately end this, and subject cryptocurrency to Wash Sale rules.
However, until that legislation passes (if it does), you have a phenomenal opportunity on your crypto losses. You could sell one of your coins that’s currently down, realize a loss, and then shortly after (we’d recommend waiting at least 24 hours) repurchase the coin (hopefully around the same price you sold it for).
By doing so, you’ve locked in a loss which will either offset other capital gains, or go towards reducing your taxable income (up to $3,000 per year).
Obviously, considering how volatile the cryptocurrency markets can be, there’s some risk at play here (the value of the coin you sold could shoot up overnight, which would ruin this strategy), so proceed with caution.
And while you can’t use this strategy with any stocks that have dropped in value, harvesting capital losses can be a useful tax strategy in its own right. If you have an underperforming stock in your portfolio that you’ve been thinking of selling, consider doing so before the end of the year and use the loss to offset some of your other gains. But again, keep in mind that you can’t repurchase the same stock that you sold within 30 days of selling it, so this strategy works best with an investment that you’re either ready to completely move on from or that you think will stay down for at least the next month.
BONUS – Pay Your Bills Early and Delay Invoicing Clients
This strategy may seem obvious, or even silly, but it works!
Most small business owners file taxes on the cash basis. That means that expenses can be deducted when they are paid, regardless of what period of time they relate to. For example, if you pay an entire year’s worth of an insurance premium in December, you get to deduct the entire amount of the premium, not just one month’s worth. If your business filed taxes on the accrual basis, you’d only be able to deduct one month of that annual premium on this year’s tax return.
Similarly when it comes to income, if you file taxes on the cash basis that means you only record taxable income when the funds are received into your bank account. So if you sent out a large invoice in December 2021, but the customer doesn’t pay you until January 2022, that’s not taxable to you in 2021, even if you’ve already performed the work. If you file taxes on the accrual basis, as soon as the invoice is sent out and you’ve performed the work, it becomes taxable income to your business, regardless of when the client actually pays.
So how can you use this to your advantage to reduce your tax liability? Assuming your business files tax on the cash basis, you should be paying as many bills and making as many necessary purchases as possible before December 31. By doing so, you’re looking in deductions for the current tax year.
And similarly when it comes to any income, assuming your cash flow allows for it, simply avoid sending out invoices and/or cashing any checks (especially any large ones) for the next two weeks, so that the income falls into the upcoming year instead of this year.
This sounds pretty simple, but one word of caution – like with most strategies, you might want to speak to your accountant first.
How you utilize this strategy will depend on whether you think your overall income will be higher in this year or the next year. If you’re going to be in a higher tax bracket this year, then of course you’ll want to follow the advice above and maximize your end of year expenses while minimizing your end of the year income. However, if you think you’ll be in a lower tax bracket this year, and your income will go up next year, you might consider reversing the strategy and recognizing as much income now (while you’re still in a lower tax bracket), and pushing off your expenses until the new year (when you’ll be in a higher tax bracket).
There are so many tax savings strategies out there. Some are more complex, and some are pretty straightforward. Every individual and business owner’s situation is unique and requires special consideration. So don’t miss out on end of the year tax savings opportunities! If you’d like to schedule a free consultation to evaluate your potential tax savings, please click here.