social security

Article Dean Dorton

Tax planning for 2021 is just as complicated as it was for 2020 for many due to the following major factors:

  • The impact on business profits, cash flow, and activity of the continued COVID-19 pandemic and the related government assistance programs, and
  • The current uncertainty about future tax law changes in proposed legislation.

Discussions of all the “what-ifs” are beyond the scope of this article, and our planning ideas will focus on the short-term – reducing 2021 taxes. We recommend you consult your tax advisor if you believe your situation is particularly impacted by unusual circumstances.

Maximize pre-tax deductions – Determine if you are on track to have 2021 maximum amounts withheld from your paycheck for your retirement plan deferrals, HSA contributions, dependent care benefits, and other pre-tax options with your employer. If you are not going to maximize these, consider having additional amounts withheld from year-end bonuses, if possible. Also, consider increasing these amounts for 2022.

Capital gains and losses – If you have realized net capital gains during 2021, consider realizing capital losses before the end of the year to offset the gains. Remember that net long-term losses can be used to offset net short-term capital gains which otherwise would be taxed as ordinary income. Also, be aware of the “wash sale” rules if you are inclined to reinvest in a security you sell at a loss.

Bonus depreciation & Section 179 – Businesses should consider these tax breaks related to fixed asset acquisitions:

  • Special “bonus depreciation” allowance. For 2021, 100% of the cost of qualifying property (includes used assets) is deductible if the property is placed in service by year end. This deduction can create or increase an existing business loss. Note: Because its requirements are much less restrictive, 100% bonus depreciation usually will make Section 179 not applicable.
  • Section 179 depreciation deduction. In 2021, individuals and business entities can elect to deduct up to $1,050,000 of qualifying business property cost in the year the property is placed in service. The deduction is reduced dollar-for-dollar for qualifying property cost greater than $2,620,000. This deduction is available only to the extent of positive business taxable income.

Self-employed retirement plans – If you have self-employment income and don’t have a retirement plan in place to shelter any of it, you may qualify to use a Self-Employed Plan (SEP). A SEP contribution deduction is allowed for 2021, even if the SEP is created and funded at any time up to the due date, including extensions, of your 2021 income tax return in 2022. Depending on the amount of self-employment income, you could fund (and deduct) up to $58,000 for 2021.

Required minimum distributions (RMDs) – Individuals with traditional IRAs and most individuals with employer-sponsored qualified retirement plan accounts are required to take minimum annual distributions from the account upon reaching a certain age, most recently changed to 72.

Charitable contributions – Depending on your situation, it may be beneficial to accelerate planned 2022 charitable contributions into 2021 or to defer 2021 contributions into 2022 to bunch them into the same year for greater tax savings.

Due to the CARES Act, the deduction limit on cash charitable donations has increased from 60% to 100% of adjusted gross income for contributions made in 2021 (note that the contributions must be to public charities or churches, not private foundations or donor-advised funds to qualify for the increased percentage). Contributions of most non-cash assets remain limited to 30% of adjusted gross income. For taxpayers who do not itemize their deductions, up to $300 of charitable contributions are allowed to be deducted this year even without itemizing.

Annual gifting – You may give your children and others up to $15,000 each in 2021 without any gift tax consequences. This annual exclusion is calculated on a per donee basis and no carryover is allowed for the unused exclusion. Consider making year-end gifts to fully utilize this year’s annual exclusion.

Roth IRAs – With individual tax rates at the lowest levels in recent memory, consider conversion of IRAs to Roth IRAs. The current tax cost from a conversion done now may turn out to be a relatively small price to pay for completely avoiding potentially higher future tax rates on the account’s earnings. Also, consider making a backdoor Roth IRA contribution, if your current income level is too high to make a direct Roth IRA contribution. A backdoor Roth IRA contribution consists of making a nondeductible IRA contribution followed by a conversion of the contributed funds to a Roth IRA. The rules regarding this are very particular so please consult with your tax advisor regarding this strategy.

HSAs & FSAs – Health Savings Accounts (HSAs) and Flexible Savings Accounts (FSAs) are two separate tools, each helping convert your dollars spent on medical expenses from post-tax into pre-tax, potentially saving you up to 42% of the cost. An HSA is a bank account set up to pay for medical expenses and must be paired with a high-deductible health plan. FSAs allow you to direct some of your wages into a pre-tax account, and your employer will reimburse you from the account for your documented medical expenses. Specific funding rules and limits apply to these accounts.

S Corporation and partnership losses – If your S Corporation will generate a tax loss this year, consider whether you have enough basis in the stock (or in loans you’ve made to the corporation) to take the full loss. If you don’t, additional investments should be considered. Similar considerations can arise in some situations with partnerships expecting tax losses.

Excess Business Loss – The Tax Cuts and Jobs Act (TCJA), passed in late 2017, introduced a limitation on business losses deductible by individuals and other non-corporate taxpayers (trusts and estates) against non-business income.  Specifically, the TCJA disallowed net tax losses from active businesses in excess of $250,000 ($500,000 for joint filers), adjusted annually for inflation. For pass-through entities, this is calculated at the owner level, as tax-paying persons combine all business activities when determining overall net business income or loss. Disallowed losses are treated as net operating loss carryforwards to the following year. Under the TCJA, the excess business loss (EBL) limitation was effective for 2018 through 2025. The CARES Act retroactively postponed implementation of the EBL limitation until 2021. The EBL limitation for 2021, as adjusted for inflation, is $262,000 (or $524,000 for joint returns).

Article Dean Dorton

FICA base
Annual compensation to which Social Security tax applies is $142,800 for 2021 (up from $137,700 in 2020).

Social Security benefits
Individuals who are drawing Social Security benefits before attaining full retirement age will begin to suffer reductions in payments if they have earned income exceeding $18,960 in 2021 (up from $18,240 in 2020).

Adjustments for retirement accounts
The maximum annual addition to a defined contribution plan is increased to $58,000 for 2021 (up from $57,000 for 2020), and the corresponding maximum amount of compensation that can be considered as the base for retirement plan contributions is $290,000 for 2021 (up from $285,000 for 2020).

Individual Retirement Account (IRA) limits, elective deferral limits, and catch-up contribution limits have remained the same for 2021. So, even though the total retirement plan contribution has increased to $58,000, the maximum amount individuals can elect to contribute to employer-sponsored plans remains $19,500.

Year IRAs SIMPLE IRA Plans Other Employer Plans
Annual Contribution Catch-Up Contribution Elective Deferral Catch-Up Contribution Elective Deferral Catch-Up Contribution
2020 $6,000 $1,000 $13,500 $3,000 $19,500 $6,500
2021 $6,000 $1,000 $13,500 $3,000 $19,500 $6,500

Kentucky’s pension income exclusion
The amount of retirement income excludable from tax in Kentucky remains $31,110 for 2021.

Health savings accounts
The limits on contribution deductions for 2021 are $3,600 for self-only coverage (up $50 from 2020) and $7,200 for family coverage (up $100 from 2020). The additional “catch-up” contribution allowable for those age 55 or older remains $1,000.

Health flexible spending arrangements
The maximum voluntary employee salary reduction for employer-adopted FSAs (flexible spending arrangements) is $2,750 for 2021 (unchanged from 2020).

Estate tax
Federal estate, gift, and generation-skipping taxes will apply to cumulative subject transfers exceeding $11,700,000 in 2021, up from $11,580,000 in 2020.

Gift taxes
The annual exclusion for gifts per donee remains at $15,000 for 2021. The exclusion for gifts given to non-citizen spouses is increased to $159,000 (up from $157,000 in 2020).

Nanny tax
Cash wages paid for domestic service in the employer’s home of less than $2,300 are not subject to FICA in 2021 (up from $2,200 in 2020).

This article was originally published in News & Views (Dean Dorton’s quarterly newsletter).

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Article Dean Dorton

The CARES Act has increased the deduction limit on cash charitable donations from 60% to 100% of adjusted gross income (note that the contributions must be to public charities or churches, not private foundations or donor-advised funds). Contributions of most non-cash assets remain limited to 30% of adjusted gross income. For taxpayers who do not itemize their deductions, up to $300 of charitable contributions are allowed to be deducted for 2020.

This article was originally published in News & Views (Dean Dorton’s quarterly newsletter).

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Article Dean Dorton

On Friday, August 28, the IRS issued Notice 2020-65, which provides guidance on President Trump’s Executive Order directing Treasury to defer the withholding, deposit, and payment of certain employee payroll taxes. While the Notice provides some clarity, questions remain. For a discussion of the initial Order, click here.

In this article, we break down what’s new in the latest IRS guidance.

A Due Date for the Deferred Taxes

As a reminder, the President’s Order instructed Treasury to issue guidance deferring the withholding, deposit, and payment of the employee’s share of Social Security taxes (6.2% of annual wages and compensation up to $137,700) in certain circumstances. The President’s Order directed Treasury to defer these taxes, meaning absent further action, the taxes will be due eventually. Notice 2020-65 sets that due date. Under the Notice, the deferred taxes are due on a pro-rata basis beginning on January 1, 2021, and ending on April 30, 2021.

Determining “Applicable Wages”

The deferral applies to wages and compensation paid to an employee on a pay date between September 1, 2020, and December 31, 2020, if the amount of such wages or compensation paid for a bi-weekly pay period is less than $4,000, or the equivalent amount for other pay periods. The Notice clarifies that “Applicable Wages” are determined on a pre-tax, pay period-by-pay period basis. This means that if the wages payable to an employee for a pay period are less than the threshold amount, then the wages are considered “Applicable Wages” eligible for the tax deferral for that pay period, regardless of the amount of wages paid to the employee for other pay periods. For example, assume an employee who is paid bi-weekly has wages of $3,000 for the pay period ending September 5 and wages of $5,000 for the pay period ending September 19. The wages paid for the period ending September 5 qualify as “Applicable Wages” even though the wages paid for the period ending September 19 do not.

Method for Paying the Deferred Taxes

The Notice states that employers must withhold and pay the deferred taxes ratably from wages and compensation paid between January 1, 2021, and April 30, 2021. Interest, penalties, and additions to tax will begin to accrue on May 1, 2021, for any deferred taxes that have not been paid by that date.

This means that employees whose taxes are deferred may see a bigger paycheck this fall, but it could create a hardship on employees in early 2021 by requiring employers to withhold twice as much Social Security tax from the employees’ wages. In addition, while the Notice states that employers “may make arrangements” to collect the deferred taxes from employees, it does not provide guidance on how to handle employees who are no longer on the payroll on January 1.

We will continue to keep you informed of any significant developments.

Want more information about how COVID-19 is impacting businesses? Visit our COVID-19 Resources page.

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Article Dean Dorton

In addition to income tax, you must pay Social Security and Medicare taxes on earned income, such as salary and self-employment income. The 12.4% Social Security tax applies only up to the Social Security wage base of $118,500 for 2016. All earned income is subject to the 2.9% Medicare tax.

The taxes are split equally between the employee and the employer. But if you’re self-employed, you pay both the employee and employer portions of these taxes on your self-employment income.

Additional 0.9% Medicare tax

Another employment tax that higher-income taxpayers must be aware of is the additional 0.9% Medicare tax. It applies to FICA wages and net self-employment income exceeding $200,000 per year ($250,000 for married filing jointly and $125,000 for married filing separately).

If your wages or self-employment income varies significantly from year to year or you’re close to the threshold for triggering the additional Medicare tax, income timing strategies may help you avoid or minimize it. For example, as a self-employed taxpayer, you may have flexibility on when you purchase new equipment or invoice customers. If your self-employment income is from a part-time activity and you’re also an employee elsewhere, perhaps you can time with your employer when you receive a bonus.

Something else to consider in this situation is the withholding rules. Employers must withhold the additional Medicare tax beginning in the pay period when wages exceed $200,000 for the calendar year — without regard to an employee’s filing status or income from other sources. So your employer might not withhold the tax even though you are liable for it due to your self-employment income.

If you do owe the tax but your employer isn’t withholding it, consider filing a W-4 form to request additional income tax withholding, which can be used to cover the shortfall and avoid interest and penalties. Or you can make estimated tax payments.

Deductions for the self-employed

For the self-employed, the employer portion of employment taxes (6.2% for Social Security tax and 1.45% for Medicare tax) is deductible above the line. (No portion of the additional Medicare tax is deductible, because there’s no employer portion of that tax.)

As a self-employed taxpayer, you may benefit from other above-the-line deductions as well. You can deduct 100% of health insurance costs for yourself, your spouse and your dependents, up to your net self-employment income. You also can deduct contributions to a retirement plan and, if you’re eligible, an HSA for yourself. Above-the-line deductions are particularly valuable because they reduce your adjusted gross income (AGI) and modified AGI (MAGI), which are the triggers for certain additional taxes and the phaseouts of many tax breaks.

For more information on the ins and outs of employment taxes and tax breaks for the self-employed, please contact us.