2023 and 2024 Tax Planning Ideas for Individual Taxpayers
2023 and 2024 Tax Planning Ideas for Individual Taxpayers
Including a discussion of the 529 plan to Roth IRA rollover option in 2024
Before getting into some specific strategies, let’s review the general approach to tax planning. In many circumstances, due to the time value of money concept, taxpayers should defer income (and the tax paid) and accelerate deductions (to decrease current year tax). This allows the taxpayer more after-tax income that can be invested to grow long-term to build wealth or meet current financial needs.
However, in some circumstances, the situation may reverse. A taxpayer may want to accelerate income to pay a lower rate in the current tax year or to use deductions or credits that would disappear if not used (thus paying a 0% rate on that income). A taxpayer may want to defer deductions if they have a low marginal tax rate in the current year and anticipate having a higher marginal tax rate in future years.
In any of these strategies, we must be cognizant of the downstream effects of any actions on adjusted gross income (AGI) or modified adjusted gross income (MAGI). There is no universal definition of MAGI; it is defined differently in each provision tied to MAGI.
Increasing AGI or MAGI in a tax year could decrease credits and deductions or subject the taxpayer to additional taxes. Lowering AGI or MAGI in a tax year could increase other deductions or credits (thus providing further tax reduction) or reduce other taxes.
Specific Individual Taxpayer Strategies
The SECURE 2.0 Act authorized the ability to do a tax-free and penalty-free 529 plan to Roth IRA rollover starting January 1, 2024. The 529 plan must have been maintained for the beneficiary for at least 15 years, and no funds contributed in the last five years can be transferred to a Roth IRA.
The maximum amount that can be transferred in a tax year is the annual IRA limit based on earned income; however, the Roth IRA income limitations do not apply to this provision. There is a lifetime 529 plan to Roth IRA rollover amount of $35,000 per individual.
A taxpayer with unused 529 plan funds should use this rollover mechanism as their primary way of funding their Roth IRA starting in 2024. They should not contribute directly to a Roth IRA until they either have exhausted the 529 plan funds or reached the $35,000 lifetime maximum.
Capital loss harvesting can have many benefits for investors. It can offset either short-term or long-term capital gains, which can be taxed anywhere from a 0% rate to a 40.8% rate (including the net investment income tax). It can also reduce a taxpayer’s AGI, leading to downstream tax benefits. Capital loss harvesting must be done before the close of the tax year, and capital losses will not offset qualified dividends taxed at long-term capital gain rates.
Investors should also consider capital gain harvesting if they have significant capital loss carryforwards or have not fully utilized the 0% long-term capital gains bracket. Using the 0% capital gains tax bracket will increase a taxpayer’s AGI, possibly leading to some downstream tax costs, such as the loss of deductions or credits. Capital gain harvesting must be done before the close of the tax year.
Some taxpayers may consider a Roth conversion if they would pay a relatively low average tax rate on the conversion amount. A Roth conversion that absorbs unused deductions and credits could incur zero federal income tax on that amount. While the conversion amount is free of the 10% additional tax, it does increase the taxpayer’s AGI, so it may have downstream tax costs on the tax return.
Starting in 2024, taxpayers should use the §25E and §30D clean vehicle credit dealer election to get an immediate benefit of the credit via a price reduction at the time of sale. This can reduce finance charges over the life of any vehicle loan.
The election also converts the credit into a fully refundable credit as the proposed regulations state it is not clawed back if the taxpayer has insufficient tax liability to use the credit. The credit may be clawed back to the taxpayer if the taxpayer ultimately does not qualify for the credit.
Taxpayers who reach age 70.5 should make charitable donations via a qualified charitable distribution (QCD) if they have taxable individual retirement account (IRA) balances. The QCD is excluded from gross income and can count toward a taxpayer’s annual required minimum distribution (RMD) amount. It can also reduce a taxpayer’s AGI, leading to downstream tax benefits. It is especially useful for taxpayers who cannot itemize deductions to get a tax benefit from charitable donations.
Anyone age 65 and over must consider the Medicare IRMAA surcharge. This is a hidden tax on higher-income taxpayers in the form of higher Medicare premiums. Planning for IRMAA is challenging as the IRMAA surcharge in a tax year is based on MAGI from a prior tax year. For IRMAA purposes, MAGI is AGI plus tax-exempt interest. See this prior edition for an entire discussion on IRMAA.