5 Tax Planning Strategies Before Tax Time

5 Tax Planning Strategies Optometry Wealth Advisors

Ah, it’s that magical time of year. There’s excitement in the air, a joyous feeling in all.

The time we all wait for with eager anticipation.

It’s tax season!

You spent the last year carefully planning to make the best tax decisions possible. Since the New Year passed, all opportunities went with it, right?

Not quite – there are still tax planning opportunities to take advantage of for 2021 after the New Year.

There’s a lot to consider this time around. Congress passed some major COVID-related aid last year through the ARP Act (increased Child Tax Credit, flexible spending account rules, another round of Recovery Rebate Credits, etc.). With income phaseouts built-in, controlling your income can have major benefits. Even modest deductions can help.

Without further ado, here are 5 Tax Planning Strategies you can still take after the New Year.

1. Traditional and Roth IRA Contributions

Deadline: Contributions can be made for 2021 to both Traditional and Roth IRAs by April’s tax filing deadline (no extensions).

You can make up to a max $6,000 contribution ($7,000 if age 50+) to the pre-tax Traditional or the after-tax Roth for the year. While Roth IRAs don’t technically help you this tax season, they can be a huge help with tax planning in retirement. Good tax planning is a lifelong endeavor, after all.

There are some limitations here for optometrists. The deduction of the Traditional IRA contribution may be limited. If you or your spouse are covered by a workplace retirement plan, your ability to deduct starts to phase out once your modified adjusted gross income (MAGI) hits $105,000 and is gone completely at $125,000 ($66k-76k for single).

For Roth IRAs – it’s possible you make too much to contribute. There are income limits for making contributions directly to Roth IRAs.

If you’re married and your MAGI is over $198,000, the amount you can contribute is reduced. At $208,000, you’re phased out completely ($125k – $140k for single).

Which leads to….

2. Backdoor Roth IRA Contributions

Wait, these still exist? Didn’t Congress kill them off?

They huffed and puffed and tried their hardest, but Backdoor Roth IRA contributions still live on.

Congress didn’t pass the Build Back Better Act, and current law allows for back-door Roth IRA contributions. Is it possible they pass a law that stops this strategy? Sure. When making financial planning decisions, we have to use the current law as it we know it.

So, use this strategy while you can.

What is a back-door Roth IRA contribution?

When your income is too high to contribute directly to a Roth IRA, you can take a few steps to accomplish the same thing.

1) make a nondeductible contribution to a Traditional IRA, then

2) complete a Roth conversion to transfer those funds into a Roth IRA account.

BUT, it’s important to have no other pre-tax IRA funds in any other account by the end of the year of conversion.

If you’re doing it after the new year, that means 12/31/2022. This includes Traditional IRAs, rollover IRAs, and SIMPLE or SEP IRAs.

The IRS will count them all as one “account” for taxes, and may lead to a portion of the conversion to be taxable.

If you’re going to do this regularly and have a 401k at work, it may make sense to roll any pre-tax IRA funds into the 401k if you can.

It can get tricky. Work closely with your financial advisor to make sure it’s done right.

If you do this after the new year, make sure your tax preparer is aware of it. There won’t be a 1099 or any tax documents to give him/her, and you’ll want to make sure it’s tracked correctly in your form 8606 (in your tax return).

It’s also a great time to make 2022’s contribution! If your employer’s retirement plan allows for it, also consider mega Roth conversions in your 401(k).

3. Health Savings Accounts (HSA) Contributions

Deadline: April tax filing deadline (no extensions).

HSAs are awesome. Your HSA deposits are income tax-deductible – even from FICA taxes if done through payroll as an employee. The funds stay in the account and aren’t lost like a flexible spending account.

You can invest the funds and earnings grow tax-deferred. And if you withdraw funds to pay for qualified medical expenses, it all comes out tax-free. A triple-play tax benefit! Not even the Roth can claim that.

You can contribute to an HSA if you are on a high-deductible health plan that meets certain criteria. You can deposit up to $3,600 for 2021, or to a $7,200 family limit if married.

Keep in mind that if your employer contributes on your behalf or matches your contributions, their dollars also count against the max.

4. SEP-IRA Contributions

Deadlines: You can contribute up to your business’s filing deadline, including an extension into October. You also have up to the filing deadline to set one up!

Contributions are pre-tax and made only by the employer on behalf of the employees (including the owner). The amount is based on a set formula.

It’s a simplified profit-sharing plan. The employees get a nice benefit and the business gets a deduction for the amount contributed. The max amount you can contribute is the lesser of 25% of employee compensation, or $58,000.

SEP IRAs are especially helpful for self-employed optometrists. You can even use a SEP if you do contract work in addition to your regular work – potentially taking advantage of two retirement plans at once (up to aggregate limits).

The calculation changes a bit for self-employed ODs taxed as a sole-proprietor. The max ends up closer to 20% of net income.

Work with your tax preparer and/or advisor to calculate the amount you can contribute. This should be clear once you determine your net earnings from self-employment.

5. Solo and Traditional 401(k) Profit Sharing

Deadline: Employer contributions can be made up to the filing deadline for the business (including extension). Thanks to the SECURE Act, you have until the business’s tax filing deadline to establish a Solo or Traditional plan and make employer-only profit-sharing contributions (not including safe-harbor 401k plans).

401k plans can provide a substantial opportunity to put money away for retirement on a pre-tax (or after-tax Roth) basis, both for the owner and employees. At this point in the year, the only opportunity is for profit-sharing by the employer based on a set formula.

Solo-401(k) plans are nice tools for solo, self-employed optometrists with no employees. They allow you to make contributions both as an employee and the employer, while SEP IRAs are limited to the employer profit sharing.

At this point in the year, you’re technically limited to the employer’s profit-sharing portion identical to the SEP-IRA.

These can get pretty complicated. Work closely with your plan’s administrator, your tax pro, and your advisor to get the details right and determine an appropriate strategy.

Honorable Mention

Itemizing Deductions – The 2021 standard deduction is $25,100 for joint filers and $12,550 for single. It’s likely you take the standard deduction on your tax return, but if you are self-employed, own a home, made large donations to charity or had unusually high medical expenses, you may have enough expenses stacked up save more money by itemizing deductions.

Home Office deduction – In the world of virtual work, it’s quite possible you worked at home this year. If you used a space at home exclusively for work, you might be able to take home office deductions for your practice. Chat with your tax pro to see if this makes sense.

Happy Tax Season!

Do you have questions on these strategies or want to know how we work with optometrists to prepare for tax time? Schedule a time for a free consultation or shoot me an email at evon@optometrywealth.com.