On Nov. 8, voters elected Donald Trump to serve as the 45th president of the United States. He extolled comprehensive tax reform as one of his priorities, however, his ideas and proposal will not impact 2016 tax returns.
So we're going to cover some details of numerous year-end tax strategies for 2016. In this first article, we’ll discuss ways to make the most of your retirement savings plans. And remember—every situation is different and not all strategies will be appropriate for you. Please discuss all tax strategies with your tax preparer prior to making any final decisions. (For related reading, see: Year-End Tax Planning for Your Investments.)
Income Tax Rates for 2016
Tax brackets changed slightly for 2016. For example, for the 2015 tax year, the top of the 15% federal income tax bracket for married couples filing jointly was $74,900. In 2016, that figure increased to $75,300.
The Protecting Americans from Tax Hikes Act (PATH Act) passed in late 2015 changed, revised and also made permanent some tax breaks that were previously in need of extension. Despite all the uncertainty surrounding future tax rules, there are many year-end tax moves that focus on income and expenses you can make to lessen your tax liability. The extent to which income or expenses can be moved or recognized in either 2016 or 2017 can make a difference for many investors. Year-end tax planning is often about determining the best year to earn additional income or to incur more tax deductions. Now is the time to focus on how to optimize your situation between these two years.
Retirement Savings Options for 2016
If you have earned income or are working, retirement savers should consider contributing to retirement plans. This is an ideal time to make sure you maximize your intended use of retirement plans for 2016 and start thinking about your strategy for 2017. For many investors, retirement contributions represent one of the smarter tax moves that they can make. Here are some retirement plan highlights:
- Higher 401(k) contribution limits. The elective deferral (contribution) limit for employees under the age of 50 who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan is $18,000. The catch-up contribution limit for employees aged 50 and over who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan is an additional $6,000 ($24,000 total). As a reminder, these contributions must be made in 2016.
- IRA contribution limits unchanged. The limit on annual contributions to an Individual Retirement Account (IRA) remains unchanged at $5,500. The additional catch-up contribution limit for individuals aged 50 and over is not subject to an annual cost-of-living adjustment and remains $1,000 (for a total of $6,500). IRA contributions can be made all the way up to the April 17, 2017 filling deadline (April 15 is a Saturday).
- Higher IRA income limits. The deduction for taxpayers making contributions to a traditional IRA is phased out for singles and heads of household who are covered by a workplace retirement plan and have modified adjusted gross incomes (AGI) of $61,000 and $71,000 for 2016. For married couples filing jointly, in which the spouse who makes the IRA contribution is covered by a workplace retirement plan, the income phase-out range is 98,000 to $118,000 for 2016. For an IRA contributor who is not covered by a workplace retirement plan and is married to someone who is covered, the deduction is phased out in 2016 as the couple’s income reaches $184,000 and completely at $194,000 for 2016. For a married individual filing a separate return who is covered by a workplace retirement plan, the phase-out range is $0 to $10,000 for 2016. Please keep in mind, if your earned income is less than your eligible contribution amount, your maximum contribution amount equals your income.
- Increased Roth IRA income cutoffs. The AGI phase-out range for taxpayers making contributions to a Roth IRA is $184,000 to $194,000 for married couples filing jointly in 2016. For singles and heads of household, the income phase-out range is $117,000 to $132,000 in 2016. For a married individual filing a separate return, the phase-out range is $0 to $10,000 for 2016. Please keep in mind, if your earned income is less than your eligible contribution amount, your maximum contribution amount equals your income.
- Larger saver's credit threshold. The AGI limit for the saver’s credit (also known as the Retirement Savings Contribution Credit) for low- and moderate-income workers is $61,500 for married couples filing jointly in 2016, $46,125 for heads of household, $30,750 for all other filers.
- Be careful of the IRA one rollover rule. IRA investors were always limited to one rollover per year, per IRA. Investors are still limited to make only one rollover from all of their IRAs to another in any 12-month period. A second IRA-to-IRA rollover in a single year could result in income tax becoming due on the rollover, a 10% early withdrawal penalty, and a 6% per year excess contributions tax as long as that rollover remains in the IRA. Individuals can only make one IRA rollover during any one-year period, but there is no limit on trustee-to-trustee transfers. Multiple trustee-to-trustee transfers between IRAs and conversions from traditional IRAs to Roth IRAs are allowed in the same year.
Roth IRA Conversions
Some IRA owners may consider converting part or all of their traditional IRAs to a Roth IRA. This is never a simple and easy decision. Roth IRA conversions can be helpful, but they can also create immediate tax consequences and can bring additional rules and potential penalties. It is best to run the numbers with a qualified professional and calculate the most appropriate strategy for your situation.
Stay tuned for part two in this series, which will look at year-end tax planning for investments, Social Security and more. (For related reading, see: 3 Reasons to Convert Your IRA to a Roth IRA.)
Michael L. Schwartz, RFC, CWS, CFS, a registered principal offering securities and advisory services through Independent Financial Group, LLC Member FINRA-SIPC. Schwartz Financial and Independent Financial Group are unaffiliated entities. The views expressed are not necessarily the opinion of Independent Financial Group, LLC and should not be construed, directly or indirectly, as an offer to buy or sell any securities mentioned herein. This article is for informational purposes only. This information is not intended to be a substitute for specific individualized tax, legal or investment planning advice as individual situations will vary. For specific advice about your situation, please consult with a financial professional. Contents Provided By the Academy of Preferred Financial Advisors, Inc.