With rising interest rates, inflation and continuing market volatility, tax planning is as essential as ever for taxpayers looking to manage cash flow while paying the least amount of taxes possible over time. As we approach year end, now is the time for individuals, business owners and family offices to review their 2022 and 2023 tax situations and identify opportunities for reducing, deferring or accelerating their tax obligations.
The information contained within this article is based on federal laws and policies in effect as of the publication date. This article discusses tax planning for federal taxes. Applicable state and foreign taxes should also be considered. Taxpayers should consult with a trusted advisor when making tax and financial decisions regarding any of the items below.
Taxpayers should consider whether they can minimize their tax bills by shifting income or deductions between 2022 and 2023. Ideally, income should be received in the year with the lower marginal tax rate, and deductible expenses should be paid in the year with the higher marginal tax rate. If the marginal tax rate is the same in both years, deferring income from 2022 to 2023 will produce a one-year tax deferral, and accelerating deductions from 2023 to 2022 will lower the 2022 income tax liability.
Actions to consider that may result in a reduction or deferral of taxes include:
Delaying closing capital gain transactions until after year end or structuring 2022 transactions as installment sales so that gain is deferred past 2022 (also see Long Term Capital Gains, below).
Considering whether to trigger capital losses before the end of 2022 to offset 2022 capital gains.
Delaying interest or dividend payments from closely held corporations to individual business-owner taxpayers.
Deferring commission income by closing sales in early 2023 instead of late 2022.
An additional 3.8% net investment income tax (NIIT) applies on net investment income above certain thresholds. Net investment income does not apply to income derived in the ordinary course of a trade or business in which the taxpayer materially participates. Similarly, gain on the disposition of trade or business assets attributable to an activity in which the taxpayer materially participates is not subject to the NIIT.
In conjunction with other tax planning strategies that are being implemented to reduce income tax or capital gains tax, impacted taxpayers may want to consider deferring net investment income for the year.
Social Security Tax
The Old-Age, Survivors, and Disability Insurance (OASDI) program is funded by contributions from employees and employers through FICA tax. The FICA tax rate for both employees and employers is 6.2% of the employee’s gross pay, but only on wages up to $147,000 for 2022 and $160,200 for 2023. Self-employed persons pay a similar tax, called SECA (or self-employment tax), based on 12.4% of the net income of their businesses.
Employers, employees, and self-employed persons also pay a tax for Medicare/Medicaid hospitalization insurance (HI), which is part of the FICA tax, but is not capped by the OASDI wage base. The HI payroll tax is 2.9%, which applies to earned income only. Self-employed persons pay the full amount, while employers and employees each pay 1.45%. An extra 0.9% Medicare (HI) payroll tax must be paid by individual taxpayers on earned income that is above certain adjusted gross income (AGI) thresholds, i.e., $200,000 for individuals, $250,000 for married couples filing jointly and $125,000 for married couples filing separately. However, employers do not pay this extra tax.
Long-Term Care Insurance and Services
Premiums an individual pays on a qualified long-term care insurance policy are deductible as a medical expense. The maximum deduction amount is determined by an individual’s age. The following table sets forth the deductible limits for 2022 and the estimated deductible limits for 2023 (the limitations are per person, not per return):
Individuals may want to maximize their annual contributions to qualified retirement plans and Individual Retirement Accounts (IRAs).
The maximum amount of elective contributions that an employee can make in 2022 to a 401(k) or 403(b) plan is $20,500 ($27,000 if age 50 or over and the plan allows “catch up” contributions). For 2023, these limits are $22,500 and $30,000, respectively.
The SECURE Act permits a penalty-free withdrawal of up to $5,000 from traditional IRAs and qualified retirement plans for qualifying expenses related to the birth or adoption of a child after December 31, 2019. The $5,000 distribution limit is per individual, so a married couple could each receive $5,000.
The foreign earned income exclusion is $112,000 in 2022 and increases to $120,000 in 2023.
Alternative Minimum Tax
A taxpayer must pay either the regular income tax or the alternative minimum tax (AMT), whichever is higher. The established AMT exemption amounts for 2022 are $75,900 for unmarried individuals and individuals claiming head of household status, $118,100 for married individuals filing jointly and surviving spouses, $59,050 for married individuals filing separately and $26,500 for estates and trusts. The AMT exemption amounts for 2023 are $81,300 for unmarried individuals and individuals claiming head of household status, $126,500 for married individuals filing jointly and surviving spouses, $63,250 for married individuals filing separately and $28,400 for estates and trusts.
The unearned income of a child is taxed at the parents’ tax rates if those rates are higher than the child’s tax rate.
Limitation on Deductions of State and Local Taxes (SALT Limitation)
For individual taxpayers who itemize their deductions, the Tax Cuts and Jobs Act introduced a $10,000 limit on deductions of state and local taxes paid during the year ($5,000 for married individuals filing separately). The limitation applies to taxable years beginning on or after December 31, 2017 and before January 1, 2026. Various states have enacted new rules that allow owners of pass-through entities to avoid the SALT deduction limitation in certain cases.
Cash contributions made to qualifying charitable organizations, including donor advised funds, in 2022 and 2023 will be subject to a 60% AGI limitation. The limitations for cash contributions continue to be 30% of AGI for contributions to non-operating private foundations. Tax planning around charitable contributions may include:
Maximizing 2022 cash charitable contributions to qualified charities to take advantage of the 100% AGI limitation.
Creating and funding a private foundation, donor advised fund or charitable remainder trust.
Donating appreciated property to a qualified charity to avoid long term capital gains tax.
Estate and Gift Taxes
For gifts made in 2022, the gift tax annual exclusion is $16,000 and for 2023 is $17,000. For 2022, the unified estate and gift tax exemption and generation-skipping transfer tax exemption is $12,060,000 per person. For 2023, the unified estate and gift tax exemption and generation-skipping transfer tax exemption is $12,920,000. All outright gifts to a spouse who is a U.S. citizen are free of federal gift tax. However, for 2022 and 2023, only the first $164,000 and $175,000, respectively, of gifts to a non-U.S. citizen spouse is excluded from the total amount of taxable gifts for the year. Tax planning strategies may include:
Making annual exclusion gifts.
Making larger gifts to the next generation, either outright or in trust.
Creating a Spousal Lifetime Access Trust (SLAT) or a Grantor Retained Annuity Trust (GRAT) or selling assets to an Intentionally Defective Grantor Trust (IDGT).
Net Operating Losses
Net operating losses (NOLs) generated in 2022 are limited to 80% of taxable income and are not permitted to be carried back. Any unused NOLs are carried forward subject to the 80% of taxable income limitation in carryforward years.
A non-corporate taxpayer may deduct net business losses of up to $270,000 ($540,000 for joint filers) in 2022. The limitation is $289,000 ($578,000 for joint filers) for 2023. A disallowed excess business loss (EBL) is treated as an NOL carryforward in the subsequent year, subject to the NOL rules. With the passage of the Inflation Reduction Act, the EBL limitation has been extended through the end of 2028.
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