While tax planning ideally should be an all-year undertaking, the last calendar quarter of the year is a great time to take advantage of some rapid-fire tax savings moves and to finalize an overall plan for saving on taxes before the year ends.
In developing a year-end tax plan, aside from tried-and-true tax planning strategies used every year, one must also consider recently passed legislation. The SECURE 2.0 Act brought many updates to the U.S. retirement system. Also, the Inflation Reduction Act boosted a number of energy tax credits for 2023.
The following are some 2023 tax planning strategies to consider:
Bunch Itemized Deductions
If 2023 is looking like it could be a high-income year due to a promotion or large increase in income, the taxpayer should consider accelerating his or her deductions this year. This can include accelerating medical deductions, interest payments or charitable contributions or maximize pre-tax retirement contributions. This will allow the individual to reduce their tax liability considerably more than if they took the standard deduction.
Harvest Capital Losses
Prior to year-end may be a good time for an individual to consider selling their worst-performing stock positions. This will allow them to offset any capital gains they generated for the year and, as well, take advantage of offsetting their ordinary income up to $3,000 ($1,500 if married filing separate). Any capital losses remaining can be carried forward to future tax years.
Invest in Energy Efficient Property
The Inflation Reduction Act resulted in a number of energy credits being improved for 2023. For example, the energy efficient home improvement credit replaced the nonbusiness energy property credit for 2023. It provides a credit of 30% of the costs of all eligible home improvements (e.g., roofs, insulation, windows, doors, air conditioners, water heater, heat pumps) made during the year, up to a $1,200 annual limit rather than a $500 lifetime maximum under prior law.
Also, the residential clean energy property credit allows a 30% credit for expenditures on certain solar, fuel cell, wind, geothermal and battery storage property, subject to applicable kilowatt restrictions.
Consider a Roth Conversion
This strategy largely depends on the condition of the overall stock market. If the stock market is underperforming, it maybe advantageous to convert a traditional IRA or 401(k) to a Roth IRA. When the stock market is down, plan portfolios are likely at a reduced value. Converting when a plan’s value is lower will allow the individual to convert a greater amount than he or she would normally be able to for the same cost. After conversion and paying the applicable tax costs that make the account an after-tax Roth IRA, it will be able to grow tax-free.
Roth accounts also have no required minimum distributions (RMD) and tax-free distributions after the age 59½. Even if the taxpayer does not convert to a Roth IRA in 2023, this is an effective strategy to keep in mind for the future.
Delay Required Minimum Distributions
The SECURE 2.0 Act included increasing the age for RMDs. For those turning 72 after Dec. 31, 2022, the RMD age has increased from 72 to 73. Those who turn 72 in 2023 no longer have to take their initial RMD by April 1, 2024. Rather, their first RMD will be due for their 73rd year, by April 1, 2025. Their 2025 RMD will also be required that same year. As such, consultation with a tax adviser may be needed to plan for this additional income. Note that in 2033, the age requirement increases to 75.
Increase Retirement Contributions
Retirement plan limits received an inflation adjustment increase in 2023. Individuals can now contribute up to $22,500 annually (up from $20,500 in 2022) to 401(k), 403(b), most 457 plans and Thrift Savings Plans. People 50 or older can contribute an additional $7,500 (up from $6,500 in 2022) in catch-up contributions.
The SIMPLE IRA contribution limit increased to $15,500 (up from $14,000 in 2022) with an additional $3,500 (up from $3,000 in 2022) available in catch-up contributions for people aged 50 and over.
Traditional and Roth IRAs also received an increase to $6,500 (up from $6,000 in 2022), but catch-up contributions to these IRAs remains at $1,000.
Simplified Employee Pension (SEP) IRA contribution limits have increased from $61,000 in 2022 to $66,000 in 2023. Defined benefit plans also got a sizable jump, from $245,000 in 2022 to $265,000 in 2023.
Consider Section 179 or Bonus Depreciation for Business Assets
Section 179 allows a taxpayer to deduct the cost of purchasing eligible new or used assets. Examples include equipment, furniture, off-the-shelf computer software, qualified improvement property and certain personal property used predominantly to furnish lodging. The following improvements to nonresidential real property are also eligible: roofs, HVAC equipment, fire protection and alarm systems, and security systems.
For qualifying property placed in service in 2023, the expensing limit is $1,160,000. The deduction begins to phase out dollar for dollar when asset acquisitions for the year exceed $2,890,000.
First-year bonus depreciation is available for qualified assets, which include new or used tangible property with a recovery period of 20 years or less (such as office furniture and equipment), off-the-shelf computer software and water utility property. For qualified assets placed in service through Dec. 31, 2023, bonus depreciation is 80%. However, bonus depreciation is scheduled to be gradually reduced and eventually eliminated as follows: 60% for 2024; 40% for 2025; 20% for 2026; 0% for 2027 and future years. As such, those contemplating large capital purchases would be wise to accelerate placed-in-service dates to 2023 in order to take advantage of 20% additional bonus depreciation for 2023.
The strategies above can have broad applicability to most taxpayers. As tax practitioners are aware, facts and circumstances will vary by taxpayer. Careful consideration of a particular taxpayer’s situation is warranted before embarking on any suggested tax strategy. Finally, you must review and consider both the taxpayer’s current tax year and the following tax year to plan out the best strategies.