As we move into year-end 2021, we reflect on a year marred by Covid variants, high inflation, shortages, the new normal of work-from-home, and a dizzying variety of proposed tax changes. Congress has not been able to agree on the Build Back Better agenda, particularly around the revenue raisers in tax changes. As the year-end nears, we sit on pins and needles wondering if anything will get passed with enough time for last-minute income or deduction shifting. However, there are planning opportunities despite this uncertainty.
What We Know
If the proposed tax changes are not passed, tax rules in 2022 will largely mimic those in 2021. The IRS has released the inflation-adjusted tax figures (Rev. Proc. 2021-45) along with retirement contribution limits and phaseouts (Notice 2021-61). The main changes will revolve around temporary tax initiatives implemented due to the pandemic in 2020 and early 2021, such as eliminating charitable deductions for those not itemizing on their taxes and higher child tax credits, along with those credits being prepaid monthly.
Tax Proposals
In early 2021, the President laid out his ideas for how to achieve his various agenda items. From there, the House has released several proposals. Just before Thanksgiving, the House passed the Build Back Better (BBB) legislation, which is now with the Senate for consideration, and likely more negotiations. So, what’s in it?
- Child Tax Credit: Extension of the enhanced child tax credit for one more year. This includes the $3,600 credit for children under six and $3,000 for those six to seventeen. In addition, the extension will include the monthly prepayment of the credit to those who qualify.
- Millionaire’s surtax: additional tax of 5% on modified adjusted gross income (MAGI) over $10 million with an additional 3% (8% total) when MAGI exceeds $25 million.
- Qualified Small Business Stock: Limitations on Qualified Small Business Stock (Section 1202) gain exclusion, 50% rather than 100% for high income taxpayers.
- Taxes on pass-through business profits: Certain pass-through business profits will be subject to the 3.8% Medicare surtax.
- Stock Buybacks: 1% tax on the fair market value of stock buybacks.
- State and Local Tax (SALT): cap increase to $80,000 and made retroactive to tax year 2021.
What is maybe more interesting than what is in the legislation is what’s not in it. There are no changes to the income tax brackets, capital gains taxes, or estate taxes. Previous proposals sought significant changes to these areas. There is a sigh of relief by many that these changes are not likely to become a reality.
The best-educated guess at this point is that we will see some version of the above bill passed just days before year-end.
Actions to consider to improve your tax considerations:
As applied to individuals, the tax rules for 2022 are largely known, even if the Build Back Better bill is passed this year. The actual changes to tax law should be minor, if at all, for most taxpayers. In preparation for a new year, taxpayers should review their current taxable income and deductible expenses to plot their estimated tax position for the year. The following are some key considerations:
Working from Home Deduction: The current law does not allow employees to deduct home office expenses. However, if you are a small business owner, using part of your new home “solely and exclusively” for business purposes may allow a deduction. The deduction can be based on a simplified method, $5 per square feet with a maximum of 300 square feet, or the regular method, which allows a partial deduction of certain home expenses such as utilities, insurance, mortgage interest, and real estate taxes. If electing the regular method, keep receipts and records for all expenses. Then divide the business use space (in square feet) by the total home space to determine how much to write off against your business income. You will also be able to deduct some depreciation for that space each year!
And, while no windfall, teachers may still deduct $250 of qualified expenses used for work if they teach kindergarten through 12th grade at least 900 hours during the year. If filing jointly and both spouses teach, that limit goes up to $500.
Capital Gain Recognition: If income is low enough, consider recognizing some capital gains at the 0% bracket for a tax-free step-up in basis or consider converting some of your IRAs into Roth IRAs.
Donor Advised Fund: If income places you in a high bracket, consider donating more to charity outright or via a donor advised fund (DAF).
Property Taxes: If making fourth quarter estimated payments for state taxes, consider delaying those until 2022 in the event the SALT cap increase is not made retroactive.
Roth Conversion: Lastly, if you can’t contribute directly to a Roth IRA, review the rules for a “backdoor” Roth contribution to evaluate whether it makes sense for you. If it does, complete that before year end because that opportunity could be closed next year.
With contributions from Bryan Strike, Lead, Senior Wealth Strategist at Mercer Advisors
MORE ON HERMONEY:
- What Working Remotely In a Different State Means For Your Taxes
- Tax Filing Tips for Women Who’ve Gone Through Some Stuff
- What To Do If You Can’t Pay Your Tax Bill
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