The year end approaches, making it a terrific time to start preparing for taxes. It is never too early, as getting an early start can save you from mistakes and tax fines.
While there is no set date for accepting the 2021 tax return, you are better off preparing and getting your documents in order in preparation for the coming year's tax return.
Here are some terrific steps to prepare:
Who will prepare and File your taxes?
As long as you have a significant life change in 2021, you will have a complicated tax. Such changes can be marriage, divorce, starting your business, etc. As a result, you might need a CPA or tax pro to help prepare and file your taxes.
If you need help, get it now, rather than waiting till March or April to get one. Tax pros will double their charges as the April deadline approaches, so be prepared.
There are alternatives for tax pros.
Let's face it; not everyone can afford a tax pro. The good news is, some options will not cost you a penny.
You can enlist the help of Free File Alliance – a partnership of some tax software firm with Uncle Sam to help taxpayers file their returns. As long as your AGI is below $72,000 every year, you qualify.
Also, you can get help from volunteers through the Volunteer Income Assistance program to offer tax preparation and filing to people with income below $57,000 each year, disabled people, or people with limited English language capacity.
Ensure Your beneficiary Designations are Updated
While beneficiary designations might have no present effect on your taxes, they can give your heirs issues in the future.
As a result, ensure to review your beneficiary every year end and make any necessary change then. This will reduce the tax your heirs will have to pay after your exit.
Your Retirement Plan Contributions
It will be in your best interest to increase contribution to every retirement account – 401(k), 403(b), or whatever retirement account you have. Such funds bring down your taxable income and, consequently, your tax bill. There is no tax payment until withdrawal.
The limit for 401(k) contributions is $19,500 and an extra $6,500 in other catch-up contributions for 2021 for people age 50 and above.
For IRAs through banks or brokers, the 2021 contribution limit is $6000, with an extra $1000 for catch-up contributions.
It is in people's best interest to contribute as much as possible to their HSA account, provided they qualify and have a high deductible health plan. You get triple tax advantages on the federal level – withdrawal and growth are not tax, provided they go to qualified health expenses. One also gets an above-the-line deduction after contribution.
Don’t Forget Your Required Minimum Distributions (RMD)
For people aged 72 and above that have watched their 401(k) or other individual Retirement account grow over the years without tax, Uncle Sam sure wants its cut. It is compulsory to take the required minimum distribution by the end of the year, or you risk a 50% penalty of the RMD amount.
Since Uncle Sam has allowed this investment to grow in value without taxes, Uncle Sam will not let go of its share when they are ripe – that is the idea behind RMD.
The RMD amount is a factor of the age and the value when it ends. Ensure to work with an expert who can guide you to take the correct distribution amount.
Transform IRA to Roth for Long term Purpose
With a Roth IRA, you get two tax advantages over a traditional IRA. Withdrawals are not classified as income for the purpose of state and federal taxes. Also, one need not take the RMD when the year end once you are 72.
One can leave the funds to be accruing interest for as long as possible hence you need not take such income when you don’t need it.
However, don't forget that conversion of IRA to a Roth IRA is classified as taxable income. As a result, you will be faced with a huge tax bill for the year. This way, you are better off converting to a ROTH IRA in a year you have low income.
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THANKS FOR VISITING.
Pat Raskob