Each year, the IRS offers tips on preparing for filing tax returns in the upcoming filing season. With two months left this year, it is an excellent time to gather your tax records and review your withholding and estimated tax payments. With preparation this month, your filing season can be much more convenient.
- Withholding – If you are employed, it may be time to update your IRS Form W-4, Employee's Withholding Allowance Certificate. If your income has increased, you can increase withholding these two months. There is no timing test for withholding – you can increase withholding in November and December to get in compliance. The IRS Tax Withholding Estimator on IRS.gov may be helpful.
- Estimated Tax Payments – If you have self-employment income, investment income and some types of retirement income, you may need to make quarterly estimated tax payments. A new type of income that may require larger estimated tax payments is virtual currency. If you receive virtual currency payments for goods or services, you may need to make estimated tax payments. Publication 505, Tax Withholding and Estimated Tax, may be helpful if you have a complicated tax situation.
- Gather Documents – You should have an electronic or paper system for gathering all of your necessary tax information. You should have copies of prior year tax returns, Forms W-2 from your employers, Forms 1099 from banks and financial service companies and records for virtual currency transactions. If you have moved, you should be certain your employer, bank, financial service company or other payer has your current address. If they send the tax forms to your old address, your return filing process could be delayed.
- Tax ID Numbers – Some taxpayers without a Social Security Number have an Individual Tax Identification Number (ITIN). If your ITIN has expired, use IRS Form W-7 to renew it. If you delay in renewing your ITIN, your refund may be delayed.
- Electronic Filing – Most taxpayers have embraced the convenience and accuracy of electronic filing. If your income is below $72,000, you may use the IRS Free File software. All taxpayers can use the fillable forms. You can expedite your refund with direct deposit to your bank account.
Starting early is always a good practice. By adjusting your withholding or estimated tax payments and preparing to gather your records, you can have a good filing season next year.
IRA and 401(k) Contributions in 2021
On October 26, 2020, the IRS announced the 401(k) and IRA contribution limits for 2021. The IRA limit remains at $6,000 in 2021. Individuals over age 50 may make a catch-up contribution of $1,000, for a total transfer of $7,000 in 2021.
Traditional IRA contributions from earned income are tax deductible. The traditional IRA has two main tax benefits – contributions are tax deductible and grow tax free. If you are covered by a qualified retirement plan at your workplace, the IRA deduction may be reduced or phased out.
- Single Taxpayers with Workplace Plan – IRA contributions for single taxpayers are phased out for persons with incomes from $66,000 to $76,000.
- Married Couple with Workplace Plans – A couple with joint income of $105,000 to $125,000 will experience the IRA phaseout.
- Married and No Workplace Plan – If one person has no workplace plan and the spouse is covered in his or her workplace, the phaseout on a joint return is $198,000 to $208,000.
A Roth IRA is funded with after-tax income. It grows tax free and most distributions are tax free. After the Roth IRA has been in existence for five years and the owner is over age 59½, amounts may be withdrawn tax free.
The Roth IRA phaseout limits also increase in 2021.
- Single Individuals – The Roth IRA phaseout for single persons next year will be $125,000 to $140,000.
- Married Couples – For married couples, the Roth IRA phaseout is $198,000 to $208,000.
Many businesses maintain a 401(k) plan and most nonprofits provide a 403(b) plan. The 2021 limit for an employee contribution to a 401(k) or 403(b) plan remains $19,500. Employees over age 50 may make a catch-up addition of $6,500, for a total transfer limit of $26,000.
If your employer offers both a traditional 401(k) and a Roth 401(k) plan, you may allocate your employee contribution to one or both funds. The traditional 401(k) amounts are deductible, but the Roth 401(k) contributions are after-tax.
Many employers match the employee 401(k) contributions. This is a good way to encourage employee participation in the 401(k) plan. The employer match is used to fund the employee's traditional 401(k) account. The employee may still make contributions to a Roth 401(k) account up to the $19,500 or $26,000 limit.
Modified Legacy IRA Act in Bipartisan Retirement Bill
Building on the success of the Setting Every Community Up for Retirement Enhancement (SECURE) Act, Ways and Means Committee Chair Richard Neal (D–MA) and Ranking Member Kevin Brady (R–TX) introduced the Securing a Strong Retirement Act of 2020 (SSRA). The new bill includes a tax credit of 100% of the costs for starting a pension plan (small business owners). It increases the savers credit from $1,000 per person to $1,500.
It also includes provisions of the Legacy IRA Act that would facilitate IRA charitable rollovers to life–income plans.
"COVID–19 has only exacerbated our nation's existing retirement crisis, further compromising Americans' long–term financial security. In addition to meeting workers' and families' most pressing, immediate needs, we must also take steps to ensure their wellbeing further down the road," stated Chairman Neal. He continued, "This bill will help Americans approach old age with the confidence and dignity they deserve after decades of hard work and sacrifice."
Ranking Member Brady stated, "Ensuring Americans have the resources they need for a prosperous retirement is a bipartisan priority–and I'm glad that Chairman Neal and I were able to come together again to build on our work from the SECURE Act."
The SSRA increases the annual $100,000 qualified charitable distribution (QCD) amount to $130,000. Section 310 of the bill includes a modified version of the Legacy IRA Act. It also permits a one–time QCD to a charitable remainder annuity trust, a standard charitable remainder unitrust or an immediate charitable gift annuity. The income interest must be for the qualified plan owner (or the owner and a spouse) and must be non-assignable.
Section 311 of the bill also expands IRA charitable rollovers to include other qualified retirement plans. A "trust as defined in Section 401(a)" permits rollovers from most Section 401(k), Section 403(b) and other qualified plans. The minimum age for IRA charitable rollovers remains 70½.
The SSRA has bipartisan House and Senate support. It is reasonably likely that it will pass in 2021 and will apply to distributions in 2022. While only one IRA charitable rollover to a life income plan is permitted, this is great news. By 2022, the leading edge of the Boomer generation starts to turn age 76, the primary age for a first charitable gift annuity. Because the World War II age-year groups were small and the Boomer groups are nearly twice as large, there will be a greatly enhanced market for charitable gift annuities in 2022. This $130,000 rollover from a qualified plan to gift annuity rollover will be very popular. Charitable IRA Initiative President John Pierce, Vice President Michael Kenyon and counsel Conrad Teitell have been leading the effort for over a decade to pass the Legacy IRA Act.
Pension Limits in 2021
In Notice 2020-79; 2020-46 IRB 1 (26 Oct 2020)
, the IRS announced the 2021 pension plan limits.
- Defined Contribution Plans – Sec. 415(c)(1)(A) limits increased from $57,000 to $58,000.
- Elective Deferrals – Sec. 402(g)(3) deferrals remains unchanged at $19,500.
- Annual Compensation Limits – Secs. 401(a)(17), 404(l), 408(k)(3)(C) and 408(k)(6)(D)(ii) limits are increased from $285,000 to $290,000.
- Key Employee Top Heavy – The Sec. 416(i)(1)(A)(i) limit remains at $185,000.
- Five Year Distribution – The Sec. 409(o)(1)(C)(ii) maximum account balance is increased from $1,150,000 to $1,165,000. The dollar amount for lengthening the five-year distribution stays at $230,000.
- Highly Compensated Employees – Sec. 414(q)(1)(B) remains at $130,000.
- Catch-Up Over Age 50 – Sec. 414(v)(2)(B)(i) for catch-up contributions stays at $6,500.
- Compensation Limit Government Plans – The Sec. 401(a)(17) limit on government plans increases from $425,000 to $430,000.
- Government Plans – The Sec. 457(e)(15) limit remains at $19,500.
- Control Employee – The Reg. 1.61-21(f)(5)(i) compensation amount for a fringe benefit valuation of a control employee stays at $115,000.
- Qualified Longevity Annuity Contract (QLAC) – The QLAC dollar limit on premiums under Reg. 1.401(a)(9)-6 remains at $135,000.
- Retirement Savings Contribution Credit Married – The adjusted gross income limit for married taxpayers is increased from $39,000 to $39,500 under Sec. 25(B)(b)(1)(A). The higher limits are increased from $42,500 to $43,000 and from $65,000 to $66,000 under this section.
- Retirement Savings Contribution Credit Single – The Sec. 25(B)(b)(1)(A) limit is increased from $19,500 to $19,750. Higher limits under this paragraph are increased from $21,250 to $21,500 and from $32,500 to $33,000.
- Retirement Contributions – The Sec. 219(b)(5)(A) individual amount remains at $6,000.
2021 Tax Table, Exemptions and Deductions
In Rev. Proc. 2020-45; 20209-46 IRB 1 (26 Oct 2020)
, the IRS published tax tables, exemptions and deduction limits for 2021. With a slowly increasing rate of inflation for the mid-2019 to mid-2020 base period, most changes are modest.
The standard deduction will be $25,100 for couples filing jointly and $12,550 for single filers. The head of household standard deduction is increased to $18,800. All three standard deductions were nearly doubled for 2018 and later years by the Tax Cuts and Jobs Act (TCJA).
Each taxpayer must calculate both regular and alternative minimum tax (AMT) amounts. The tax payable is the higher of the two numbers. The 2021 AMT exemptions are $114,600 for married couples and $73,600 for single individuals. The AMT exemption is phased out for married couples with income over $1,047,200 or for single individuals with incomes over $523,600. The AMT tax is 26% at the lower level and 28% for amounts over $199,900.
Cafeteria plans are available for medical reimbursement of qualified expenses. The flexible spending account (FSA) plan limit for 2021 is $2,750.
Charities are permitted to transfer token gift premiums to donors who make gifts above a specific level. In 2021, a donor who makes a gift over $56.50 may receive a premium with the logo or other identification of the nonprofit and a value of $11.30 or less. Donors who make larger gifts may receive a premium up to 2% of the value of the gift, with a limit of $113.
The estate tax basic exclusion amount increases from $11.58 million to $11.70 million. A couple in 2021 may have an estate of $23.4 million with no transfer tax.
Special use agricultural land under Sec. 2032A may qualify for $1.19 million of reduced value. If an estate qualifies for installment payment of the estate tax under Sec. 6166, the 2% interest amount is levied on $1,590,000.
Finally, the annual gift exclusion remains at $15,000. This is a per donor-per donee exclusion. An individual or couple with a large family may make substantial tax-free transfers each year through use of annual gift exclusions.
Applicable Federal Rate of 0.4% for November – Rev. Rul. 2020-22; 2020-45 IRB 1 (16 October 2020)
The IRS has announced the Applicable Federal Rate (AFR) for November of 2020. The AFR under Section 7520 for the month of November is 0.4%. The rates for October of 0.4% or September of 0.4% also may be used. The highest AFR is beneficial for charitable deductions of remainder interests. The lowest AFR is best for lead trusts and life estate reserved agreements. With a gift annuity, if the annuitant desires greater tax-free payments the lowest AFR is preferable. During 2020, pooled income funds in existence less than three tax years must use a 2.2% deemed rate of return.