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Year-End Tax Planning Strategies

Chawn Honkomp, CFP®, CPA®, RICP®, ChFC®, Certified Financial Fiduciary

Tax planning is an essential component of a customized retirement plan. We’ve seen first-hand how long-term tax planning strategies can increase your retirement savings. That’s why we are talking about and planning for taxes year-round (not just in April). As the end of the year approaches, here are a few tax planning strategies to consider and a reminder about 2023 tax law changes for Iowans.

Roth Conversion

A Roth conversion involves transferring funds from a traditional IRA or 401(k) into a Roth account. The year you make the conversion, you pay income tax on the amount rolled over, but you never pay taxes on the money again. Not the growth or the qualified distributions. If your IRA or 401(k) account balance is down, you’ll pay taxes on less money and enjoy tax-free growth on the market upside.

There is no limit on how much you can convert from tax-deferred accounts to a Roth IRA in a single year. Before taking this step, you must understand how the conversion impacts your 2022 taxable situation.

Contributions

If you are still working, the end of the year is an excellent time to consider taking advantage of catch-up contributions.  

Workers younger than 50 can contribute a maximum of $20,500 to a 401(k) in 2022. If you’re 50 or older, you can add an extra $6,500 in catch-up contributions. That brings the total amount those age 50 and older can contribute in 2022 to $27,000.

The traditional IRA contribution limit is $6,000 if you are younger than 50. Workers age 50 and older can contribute an additional $1,000 per year. That brings the maximum IRA contribution to $7,000. Generally, you must have earned income to contribute to an IRA. If you are married and one of you doesn’t work, the employed spouse can contribute to what is called a “spousal” IRA for the other.

Like the traditional IRA, the Roth IRA contribution limit is $6,000 if you are under 50. Workers age 50 and older can contribute an additional $1,000, bringing the maximum Roth IRA contribution to $7,000.

QCD

QCD stands for Qualified Charitable Distribution. This option allows you to give money to your favorite charities in a tax-favored way. A QCD is a direct transfer of funds from your IRA to a qualified charity. You can start doing this at 70 1/2 before RMDs kick in. You can use a QCD to donate up to $100,000 annually to the qualified charity of your choice. The amount does not count as taxable income.

QCDs can be counted toward satisfying your required minimum distribution (RMD) for the year. For a QCD to count toward your current year’s RMD, the fund must come out of your IRA by your RMD deadline, generally December 31st.

2023 Iowa Tax Law Changes

In 2023 Iowa will join a growing list of U.S. states that do not tax your retirement income. If you are age 55 or older, you will not pay retirement income taxes on pension income and distributions from IRAs, annuities, and employer-sponsored plans like 401(k)s. State income taxes will also be eliminated on distributions from deferred compensation plans and plans maintained or contributed to by a self-employed person (for those 55 and older). This applies even if you are still working.

These changes are part of a bill Governor Kim Reynolds signed into law earlier this year that also phases in a flat tax rate on all earned income. By 2026, Iowa will have a flat income tax rate of 3.9%. Currently, the state has nine brackets and a top marginal rate of 8.53%. In 2023, there will be four tax brackets ranging from 4.4% to 6%.

Source: Governor.Iowa.Gov

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