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Fast Facts: Your Individual Tax Plan: Retirement, Medical, Education and Insurance

We understand the importance of considering all the options when it comes time to prepare for a new year and a new tax season. That’s why we’ve listed a checklist to assist you with your individual and income tax planning.

Individual / Income Tax Planning
  • Retirement Accounts
  • Medical Expenses
  • Education
  • Permanent life insurance
Retirement Accounts

Retirement accounts can represent a substantial portion of an individual’s savings—so it makes sense to understand actions you can take to help maximize your income when you are ready to retire.

Here are four approaches you might want to consider that may optimize retirement savings:

  1. Fund Roth IRA Accounts
    Roth IRAs can grow tax free indefinitely and can be accessed free of tax in retirement. Contributions can be made up to $6,000 ($7,000 if over 50) for 2020 and 2021 from earned income. Roth contributions are subject to income limits ($196,000 MFJ for 2020, $198,000 MFJ for 2021).

  2. Convert Traditional IRA Accounts to Roth IRAs
    Convert Traditional IRAs to Roth IRAs accounts where they can grow tax-free indefinitely as no Required Minimum Distributions (RMDs) are required for Roth accounts. Roth conversions work best in years with lower total income. Unlimited amounts can be converted to Roth under this strategy however the conversion is considered a taxable event.

  3. “Back-Door” Roth IRA Conversion
    Consider a back-door Roth Conversion where income exceeds the Roth contribution limits ($196,000 MFJ for 2020, $198,000 MFJ for 2021). Make contributions to a Traditional IRA on a post-tax (non-deductible) basis, then convert that Traditional IRA to a Roth IRA without tax consequences.

  4. Separate pre-tax and post-tax IRAs accounts
    Roth conversion strategies may be less effective where there are both pre-tax and post-tax funds within the same IRA account or across different accounts. Contribute the pre-tax portion of IRA account(s) to an “active participant” employer plan, such as a 401(k), and then convert the clean post-tax remainder(s) to a Roth IRA. Both transactions can be achieved on a tax-free basis.
Here are a few additional considerations to help with your 2020 retirement account tax planning:
  • Traditional IRA contributions are fully deductible regardless of income level However, where the taxpayer or the taxpayer’s spouse are covered by a qualified plan with an employer, the deductibility of the contribution may be limited or lost entirely. The deduction for the contribution starts to be limited at modest income levels ($65,000 for 2020 if single, $104,000 if MFJ). In such situations consider the “Back Door” Roth conversion strategy in 3 above.
  • Married taxpayers each can contribute to their own IRA For those filing joint returns, there is no earned income requirement for IRA contributions made by a non-working spouse if the earned income of the couple exceeds the combined IRA contribution amount.
  • From 2020 onwards, the age limit on IRA contributions is removed
Medical Expenses

With rising costs of health care, higher premiums, and deductibles, it’s good to understand ways to reduce the financial impact through these deductions and tax beneficial accounts.

  1. Deduct all possible medical costs and use a Health Savings Account
    Most medical costs often fail to be deducted because of the 10% AGI hurdle that applies under Schedule A – Itemized Deductions. Consider a Health Savings Account (HSA), contributions to which are tax deductible, above the line, as an adjustment to income. Can only be used in conjunction with a High Deductible Health Plan.

  2. Medical expenses of a Dependent
    May be deducted on Schedule A, including medical and LTC expenses of parents if they are not capable of self-care.

  3. Deduct Long-Term Care (LTC) Insurance
    Premiums paid are deductible under Schedule A up to $5,430 if over 70.5. Amounts received under the contract (other than dividends) are excludable in most cases from taxable income when used to fund care (Note: employer-paid contracts are taxable). Payments received do not count towards income for Medicare premium purposes.

  4. Use Achieving a Better Life Experience (ABLE or Disability) accounts
    With a $15,000 annual contribution limit and $12,490 from the beneficiary, these accounts grow tax free. Up to $100,000 value in the account won’t be considered for Supplement Security Income or Medicaid. Distributions are tax-free if used for a qualifying purpose, which is interpreted widely.

Education costs typically represent a major expenditure. And with the cost of education continually increasing, understanding ways to utilize available tax benefited accounts and tax credits is important.

  • Use 529 accounts
    With no income restrictions, these accounts allow tax deferred growth with no tax on distributions when used for qualifying purposes including tuition, fees, books, supplies and equipment as well as room and board. They can also be used to pay private school tuition K1 thru 12th grade, up to $10,000 per year for the beneficiary and most student loan debt up $10,000 a lifetime. New York and Connecticut provide state tax deductions of up to $10,000 (MFJ) per year on 529 contributions. There is no deduction in California.
  • Use American Opportunity Credit (AOC) and Lifetime Learning Credit (LLC) tax credits
    Creditable expenses include tuition, books and enrollment fees. Credit available up to $2,500 per student for AOC and $2,000 per return for LLC. The income limit with AOH is $160K (MFJ) and $118K (MFJ) with LLC.
  • Deduct student loan interest
    Up to $2,500 of student loan interest may be deducted – however, this deduction begins to be phased out where AGI exceeds $140,000 (MFJ) and disappears when AGI is above $170,000.
Permanent Life Insurance

You can borrow against your life insurance without any tax consequences during your lifetime. This won’t result in an increase in Medicare premiums as borrowing is not taxable. Returns within the policy grow tax-free. Life insurance proceeds are paid free of income tax and are estate tax-free if received by a person other than the decedent’s estate.

The new year brings new opportunities and new transitions to explore when it comes to individual/income tax strategies. Contact us if you’d like guidance to navigate through these complexities.

The opinions expressed in this commentary are those of the author and may not necessarily reflect those held by Baker Avenue Asset Management LP. This is for general information only and is not intended to provide specific investment advice or recommendations for any individual. All information is believed to be factual and up-to-date as of this writing and is subject to change. Before purchasing any investment, a prospective investor should consult with its own investment, accounting, legal and tax advisers to evaluate independently the risks, consequences and suitability of any investment.

Any suggestion of cause and effect or of the predictability of economic or investment cycles is unintentional. Past performance is never a guarantee of future performance. Baker Avenue Asset Management LP may currently own or have previously owned a specific stock or company referenced, and a list of our past holdings can be found at the SEC website. Click to view full disclosures.