The tax filing deadline may be behind us, but tax season should be a year-round strategy for most Americans – especially those with income, assets, and financial goals. As you review how much you paid Uncle Sam in 2021 and start to forecast what will influence your 2022 tax bill, we at BFS Advisory Group have a few recommendations for you.
The IRS has long been viewed as being somewhat inefficient. Now it really is.
The IRS only answered 11% of its 280M+ phone calls last year. It has 20 million unopened pieces of mail. It has tax returns from 2020 that it has not processed yet. That is simply a bad situation for taxpayers with questions, or those that are waiting on answers about previous year returns to plan for this year’s taxes. However, the IRS website is robust, well-written, and easy to search. For business owners with a quarterly estimated tax payment due June 15, or taxpayers comparing how contributions to a Roth IRA or a Designated Roth Account differ, the IRS website can be a helpful substitute until the IRS can right its ship. The good news is that the agency has vowed to correct the situation by year end.
Possible tax legislation changes floated out in 2021 should catch our attention, even if none of it was passed.
If we look at history, we can assume a high likelihood that the mid-term elections will usher in more Republicans to Congress. If that happens, tax legislation changes like the ones that were discussed at the end of 2021 are unlikely. Nonetheless, the Biden administration’s current Green Book includes a recommendation to increase the corporate tax rate to 28% and to tax the ultra-wealthy to make sure they pay their “fair share” of taxes. While only a miniscule percentage of Americans would qualify for that tax, all of us would be wise to realize that we are currently in a very friendly tax environment that is unlikely to last for our lifetimes, even if there is a shift in political power in the fall. Traditional textbook tax theory says that you should delay taxes as long as possible. Wisdom says you may consider incurring some taxes now under a historically friendly tax code.
As with most things, planning early is better than planning in a scramble.
Estate attorneys, wealth managers, and CPAs were all in a short-term fire drill last year as Congress drafted many forms of tax legislation that would do any combination of altering trusts, increasing income tax, and increasing capital gain taxes. None of them came to be. Tax legislation is a messy process that can take many forms, and often comes together in a last minute negotiation. As taxpayers, it is wise to have strategies to enact under different scenarios, including ones that are most likely, to ones that are unlikely but would be detrimental to your financial plan.
Sometimes easy is okay.
Tax strategies come in a variety of levels of complication. Sometimes, complicated strategies are the only way to get something done the way you want to. Other times, a simple strategy may be as effective as a more complicated one. Ask yourself: what am I really trying to achieve here?
For example, Katherine, grandmother of 16 year old Kelly, wants to pay for education (which she considers to be a gift to her daughter, Laura). Katherine also wants to be able to gift money outright to Kelly. She doesn’t have a taxable estate, but has enough cash to pay for Kelly’s college expenses. She has heard all about the benefits of investing in a 529 Plan for a grandchild’s education. But is that necessary? A 529 Plan is not particularly complicated, but it does restrict the use of the funds to education expenses, and counts against her annual exclusion for gifts. If the funds will only be invested for a few years (since Kelly is 16), it might be easier for Katherine to pay the school directly for the expenses when Kelly goes off to school. This does not count against the gift limit of $16,000 per person in 2022, so Katherine can also still gift money directly to Kelly. In the end, Katherine has provided a “gift” to Laura through paying for the education, and has also gifted money directly to Kelly – all while avoiding gift tax.
Unlike financial markets, you have some control over timing with respect to taxes.
As wealth managers, we provide value to our clients in multiple ways, through the intersection of investment management and financial planning. Despite all of the process, theory and intelligent design behind our portfolios, sometimes the financial markets don’t provide a favorable environment. By contrast, investors can exercise control over their tax management decisions through intentional timing of financial transactions. Our tax planning is a continuous conversation with our clients, considering near-term and long-term opportunities, and incorporating expected taxable events such as corporate stock awards, liquidity events, or even tax desert years during times of transition.
If you are in need of a wealth management firm with an intentional, continuous focus on your tax strategy, contact us at firstname.lastname@example.org.
Debra Brennan Tagg is a CERTIFIED FINANCIAL PLANNER™ Professional and the creator of the DBT360 Financial Plan, a proprietary program that helps her clients prioritize their goals, leverage their resources, and address their risks. She is the president of BFS Advisory Group and teaches the public and the financial services industry about the importance of values-based financial planning and investor education.