When I thought about what to write for this month’s newsletter, I was originally going to write Happy April 15th – Tax Day! I was going to talk all about the things that can be learned from this tax season and used in the upcoming months. Unfortunately, tax season isn’t over just yet and won’t be until May 17th for most filings, so I’ve changed my tune.
Last week I spent 4 days on a radio show, LI in the AM on WRIV 103.9 FM, talking all about taxes, planning, and the best ways to make sure you’re getting the most out of your tax return and your preparer. I decided to use the information I shared on the air and share it with you.
If you want to listen to the shows, I have included links to them at the bottom of this newsletter.
Enjoy! And as always, if you have any questions or if something strikes you that you’d like more information on, please let me know.
5 Things to Learn from [Another] Extended Tax Season
1. The Impact of Unemployment
Last year when the world started going into lock down, many people were forced to go onto unemployment. This unemployment was then supplemented by $600 and $300 per week extra on top of the normal weekly payout for the state you live in. The number of people who submitted a claim for unemployment in April 2020 rose by almost 16 million, according to the US Bureau of Labor Statistics.
If you were someone who had to take unemployment, while it was most likely a lifesaver in the moment, now a full year later, could be having some unintended consequences on your taxes. The extra income from the IRS over the course of the year totaled $10,200. Some people had no withholdings taken from unemployment and others had just 10%.
The IRS’ decision to extend tax season had to do in part with the pandemic, as well as the changing tax laws. One of these changes had to do with unemployment. If you are filing a tax return which shows less than $150K in modified adjusted gross income, the IRS made the decision on March 11th to allow the $10,200 in extra unemployment to be excluded from income, $20,400 maximum if each individual on a jointly filed return received unemployment. Individual states are still deciding whether to conform or decouple from the IRS’ decision.
While this has been a savior to a lot of taxpayers, it is important to remember that the unemployment rate is still at a somewhat high level of 6%. If you are continuing to receive unemployment, make sure to plan ahead for next year so that this year’s stress of a large balance due prior to the March 11th decision does not implicate you next year.
2. How to Review Filing Status and Deductions
Choosing the correct filing status is always important, but this year’s pandemic has reinforced this. Last year’s unemployment, as previously discussed, as well as the numerous stimulus checks which have been released to families, make it ever important to review your income and your filing status to make sure you are claiming the right status.
There are a few comparisons that can be made each year, but more importantly for this year. If you are in a position of filing a return as married, most taxpayers automatically chose the Married Filing Jointly status and, in most years, this benefits the couple more than filing married separately. This is a different year with different rules. With stimulus checks and the potential for excluding unemployment from your income, for some taxpayers, Married Filing Separately could be the way to go for this year.
Another filing status which doesn’t get as much attention is Head of Household. Even if you are single but are supporting a household on your own and have a qualifying dependent, you could most likely qualify for Head of Household filing status. This increases not only your standard deduction, but also provides for more beneficial tax rates.
Deductions are also important to review. If you were working from home in 2020 for the first time, review the expenses that you had specifically for your job which were not reimbursed by your company. If you are a medical professional and had increased spending with the high expectations placed on you this past year, make sure to include those deductions. Educators are also allowed a credit of $250 on their federal tax return which can include any classroom expenses and PPE purchased for 2020.
3. What happens with a COVID Distribution from a Retirement Plan
The CARES act was finalized at the end of March 2020. This initiated the first round of stimulus checks, allowed for extra unemployment checks, delayed student loan interest, and also allowed distributions to be taken from retirement plans, penalty free. Distributions of up to $100K were allowed for various reasons such as if the distribution was needed because you, a spouse or dependent were diagnosed with COVID, the distribution was needed to support your household after a lack of childcare or other implications as a result of COVID on your household.
These distributions were welcomed by families in need, and especially with the promise of no penalty on the distribution, which is typically 10% for an early distribution. The unintended consequences of these distributions were that your taxable income still increased by the amount of the distribution. Additionally, for some taxpayers the distribution caused their income to land in a higher tax bracket, go over the $150K limit for unemployment income exemptions, or even resulted in lost stimulus checks.
The IRS did lay out alternative treatments for including income over 3 years instead of including the entire distribution in your income this year. This can create a lower tax burden for the 2020 filing season. This also creates increased income in the upcoming 2 years, with no additional withholdings from the additional income added to each of these years. If you took a distribution, make sure you get assistance or are educated on the implications of each of the ways to treat your distribution.
4. IRA Contributions are Important
After announcing the extended tax season, the IRS then confirmed that IRA contributions for 2020 will be allowed through 5/17/2021.
IRA contributions are important and are a great tool for saving for retirement. With the extra time now allowed to make these contributions, take time to review your finances on your own or with an advisor and see how much you are able to contribute this year. Depending on your income level and accessibility to an employer-sponsored plan, your IRA contributions have the possibility to be deductible on your taxes. Even if you are not able to get the deduction, investing money in an IRA is beneficial!
5. The Importance of Tax Planning
When we talk about taxes, both for the current 2020 filing season as well as the 2021 year in progress, it is always important to understand what is happening and why. When presented with the outcome of your taxes this year, make sure you understand the reasoning behind your balance due or refund so that you can stay consistent year over year, or make any necessary changes.
It is important to take the time to plan; do not wait until last minute. When taking actions throughout the year, for example, a new job, trading in an investment account, or making contributions to or taking distributions from a retirement account, it is important to understand how your taxes will be impacted. As the world begins to return to its new normal, unemployment rates continue to lower and finances are taken back under control, take the time to plan and figure out what your new tax situation will look like.
Working with someone who can not only help you and educate you on the way you file your taxes, but also how your finances can play into them is important. Having a CPA and a financial advisor who understands what the other hand is doing is very important (whether that be two people or someone like myself, who can do both).
I have software which gives me the ability to run your current year tax return and then create what a future tax return could look like, such as 2021, to paint a better picture of your future tax situation. This also illustrates areas that you can take advantage of today that can help lower your taxes in the future. As an example, if you’re someone who’s considering moving or a Roth conversion, we can use this as an opportunity to see what that would look like for you.
Teaching people about their taxes, not just telling them what they owe, is very important to me and a key focus of my business. If you want more information or guidance your taxes or finances, please let me know! I am happy to schedule a complimentary consultation to discuss any questions or concerns you may have.
Thank you, as always, for your time.
Radio Show Segments:
April 6, 2021: https://soundcloud.com/jvcbroadcasting/the-financial-report-w-cpa-megan-d-muccio-live-on-li-in-the-am-w-jay-oliver4-6-21
April 7, 2021: https://soundcloud.com/jvcbroadcasting/the-financial-report-w-cpa-megan-d-muccio-live-on-li-in-the-am-w-jay-oliver-4721
April 8, 2021: https://soundcloud.com/jvcbroadcasting/megan-5821
April 9, 2021: https://soundcloud.com/jvcbroadcasting/the-financial-report-w-megan-d