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Tax

7 tax planning strategies for an unpredictable world  By Aimee Bauman, CFP®, ChFC®, CLU® 

 

We live in a world constantly in flux … more so than ever it seems recently. The markets clearly demonstrate this, often on a daily basis, as do our tax laws, which appear poised for some significant changes in the coming years. 

Fortunately, that volatility and unpredictability can be used to your advantage when it comes to tax planning. By working with a qualified financial planner and tax accountant today, there are many ways to reduce your tax burden in both the near term and the long term. Below are seven strategies to explore with your advisor: 

 

Make use of your current tax bracket while it lasts: The current slate of income tax brackets – 10%, 12%, 22%, 24%, 32%, 35%, 37% – are scheduled to sunset on Jan. 1, 2026, and revert to the tax brackets of 2017, barring an act of Congress. For example the 12% tax rate will go back up to 15%, the 22% tax rate will revert to 25%, and the 24% tax rate will be 28%. 

So, it could be advantageous to take and report more income now while the tax brackets are relatively low and long, than risk paying more in taxes later. Regardless of whether the current tax brackets are able to remain in place until the sunset, or whether a bill is passed that accelerates the date, it can be wise to increase your reported income up to the precipice of the next income tax bracket. Your advisor can help you structure your income / tax return to make the most of your situation.
 

Convert your traditional IRA to a Roth IRA:  In volatile markets like this with an uncertain tax landscape going forward, it can make sense to convert a traditional IRA to a Roth IRA. The rationale being it might make more sense to take the hit now while tax rates are historically low and taxable value is lower due to a depressed market environment. By doing so, the assets you invest into a Roth can grow tax advantaged, avoiding any taxes at all once they are distributed. Speaking of distributions, unlike traditional IRAs, a Roth has no required minimum distribution, meaning a Roth can be an excellent solution to pass assets to the next generation, as they will also receive those dollars tax-free.
 

Take advantage of tax-loss harvesting: With volatile markets inevitably come periods of depressed asset valuations. The bright side is this also presents the opportunity for tax-loss harvesting, which is the selling of investments at a loss to offset taxes due on the sale of other securities that have generated capital gains. In other words, by working with your financial advisor, sell assets that have incurred a loss, but redeploy those funds right back into the market to hopefully capture the market upswing. Plus, in 31 days, you can buy back what you sold in the first place.  

 

Use (or potentially lose) your estate and gift tax exemptions: The current estate and gift tax exemption amounts – $12.06 million per individual / $24.12 million for married couples – are historically high. That might not last. There have been proposals to cut the current exemption amounts in half. Even if that doesn’t happen, the current exemption amounts will revert back to $5.49 million, inflation adjusted, on Jan. 1, 2026, unless Congress acts. Factor in current lower asset values and rising interest rates, and this can be an ideal time to make the most of existing estate and gift tax exemption thresholds by transferring assets to your beneficiaries.  

 

Explore GRATS and charitable lead trusts: Another strategy to explore is the creation of a grantor retained annuity trust (GRAT) or charitable lead trust (CLT). Both provide an opportunity to transfer appreciation of trust assets to desired family beneficiaries while assets have lower values and before more interest rates hikes. These strategies work well for appreciating assets.  

A GRAT can minimize taxes on large financial gifts to family members. A type of irrevocable trust, a GRAT is created for a certain period of time, with the individual forming the trust establishing a gift value when the trust is created. Assets are placed in the trust, and then each year an annuity payment is paid out. When the trust expires, the beneficiary receives the assets tax-free. 

A charitable lead trust is an irrevocable trust that provides financial support to one or more charities over a specific period of time, with the remaining assets eventually going to family members or other beneficiaries. At the time of trust funding, the donor receives an income tax deduction equal to the value of the stream of payments received by the charity.
 

Consider a donor-advised fund: Another philanthropic approach that can lower your tax exposure is to establish a donor-advised fund (DAF). A DAF can be relatively simple to set up and allows you to both consolidate and amplify your charitable gifting by channeling your contributions into an account that can be used like a checking account to donate to charities. Your upfront deposit into the account is the tax-deductible charitable gift. The account can be invested in an allocation providing prudent growth. Plus, you can choose when and where you want donations to go at your leisure, with the deduction being utilized in the year you deposited the money. In addition, you can donate appreciated stock if you want to remove taxable gains out of your portfolio.  

Based on the current structure of the federal tax code and availability to use itemized deductions (since standard deductions are higher), it may be beneficial to bunch or accelerate a few years of gifts into a DAF to maximum the opportunity to have the itemized deduction. You can then utilize the DAF to make grants to your favorite charities on your timeline.
 

Introducing a new tax deduction strategy for Minnesota business owners:  There is a new opportunity for business owners in Minnesota to increase the amount of deductions they can claim on their federal returns. Previously, the Tax Cuts and Jobs Act of 2017 limited the itemized deduction that individuals could claim for state taxes to $10,000. However, Minnesota state income taxes paid by an S corporation or partnership on its shareholders’ or partners’ income are now eligible to be treated as a business deduction. Essentially, this is a way to avoid the $10,000 limitation on itemized deductions for state and local taxes if you pay your Minnesota taxes from your business.  

 

To explore how the tax planning strategies above can complement your financial plan, contact Aimee Bauman.