Tax Update: 5 ways to make hay while the sun is shining!

By Bill Mock, CFP^®, CRPC^®

The Tax Cuts and Jobs Act (TCJA) has been making a lot of headlines since it was first announced last year. Some of the news is good, some not so good, and some of it is just plain confusing. Even today, in the dog days of summer, there is still a lot of guidance from the IRS that has yet to be issued. What does that mean for you as a taxpayer? First, perhaps more than ever, it means that tax planning should be a top priority to be sure you are optimizing the new tax laws to your advantage. Second, because of the new, higher standard deduction and other significant changes in the law—and the fact that those changes won’t last forever—it means that right now is the time to truly “make hay while the sun is shining”!

The opportunity (and the challenge) hinges on two of the most significant changes to the tax law: lower tax rates and a higher standard deduction. Revised tax brackets mean that most people will see a nice reduction in their tax rate. The new standard deduction has been raised to $24,000 (up from $12,700 in 2017) for married couples filing jointly, and $12,000 for single taxpayers and married couples filing separately (up from $6,350 in 2017). At the same time, the law places a $10,000 cap on state and local tax deductions for taxpayers who itemize. Not only will that make it a challenge for many households to exceed the new threshold, but it can also be a pretty big tax hit for higher income families who pay state, local, and property taxes above the $10,000 limit.

The good news is that there are a number of strategies that allow you use the new tax law to your advantage and help you eliminate any surprises come April 15. Here are my top five:

1. Verify that your federal withholding amount is correct.
   The amount of federal withholding taken out of your check is based on the number of deductions you select on the W-4 form you provide to your employer. Since this is the first year under the new tax law, it’s highly possible that the assumptions made on how much to deduct according to those elections may not be appropriate for your tax situation. Work with your advisor or CPA to create a detailed tax projection and determine if your withholdings are on track. Making the necessary adjustments today can help ensure you haven’t underpaid or overpaid by year-end.
    
2. Consider shifting your Traditional IRA/401(k) contributions to a Roth IRA/401(k).
   Traditional IRAs and 401(k)s are funded with pre-tax money and taxes are paid on those funds at the time of withdrawal. Roth IRAs and 401(k)s, however, are funded with post-tax money and are tax-free at withdrawal—meaning that you pay the taxes on your contributions now rather than later. If you’re in the “sweet spot” of the new tax law, you may find that you have less taxable income and a reduced tax rate. Since taxes may to go up in the future, maximizing post-tax contributions to your retirement account using a Roth IRA/401(k) may be wise.
    
3. Explore a Roth IRA Conversion.
   Converting existing Traditional IRA dollars to a Roth IRA may offer additional opportunities for tax savings. When you shift a portion of your Traditional IRA savings into a Roth, you will have to pay taxes on the money you withdraw, just as you would in retirement. But again, because your tax rate is likely to be lower today than it will be in the future, by making that withdrawal now, placing the funds in a Roth IRA and letting it grow tax free, you may be able to save a considerable amount in taxes over the long run.
    
4. Look into “lumping.”
   The higher standard deduction has the potential to wipe away the tax benefit of even a sizable charitable contribution if you don’t exceed the new standard deduction amount. One option that can help is to “lump” your charitable gifts into a single calendar year by tacking on next year’s planned gifts in December of the current year. The result: if the higher gifts help you exceed the standard deduction, your taxes could be reduced. Lumping can also help with deducting the amounts paid for state and local taxes. By paying your estimated state taxes in 2019 by the January 15 deadline you can effectively “lump” one more quarter of estimated state taxes into a single calendar year, and pre-paying property taxes to lump two or even three payments into a single year can also potentially push you over the standard deduction.
    
5. Make a Qualified Charitable Distribution.
   If you’re over 70½, a Qualified Charitable Distribution (QCD) allows you to donate up to $100,000 of tax-deferred IRA savings annually to any qualified charity. Not only is your charitable contribution not wasted from a tax perspective, but it can also reduce your taxable income for the year. Because your QCD contribution is not included in your Adjusted Gross Income (AGI), but is counted as part of your Required Minimum Distribution (RMD), your taxable income on your tax return may be significantly lower—having a direct impact on the amount you owe. Better yet, you still get the full standard deduction. It’s a great way to kill two birds with one stone.

According to a recent analysis by the Tax Policy Center, as many as 90% of households are expected to use the standard deduction in 2018. It’s no surprise. After all, who doesn't love the idea of easier tax preparation? But if you’re even close to having enough deductions to exceed the new standard deduction, it’s well worth exploring your options to be sure the new tax law is working for you, not against you. Contact your financial advisor and your CPA sooner rather than later to take a close look at the new tax laws and how they will impact your own tax situation. With their help, you may find yourself making hay—even long after the sun has stopped shining on the new tax law.