As the year draws to a close, individuals and businesses alike are gearing up for the holiday season and reflecting on the year gone by. Amidst the festivities, it is crucial not to overlook the significance of year-end tax planning. Strategic tax planning can have a meaningful impact on financial well-being, and taking proactive steps before the end of the year could lead to substantial savings. At Schultz Financial Group (SFG), we incorporate tax planning throughout the year as well as focus on tax planning strategies in the fourth quarter of every year. We consider each client’s tax situation from the prior year and what has occurred in the present year to inform planning decisions. The coordination of custom tax strategies with overall financial planning helps ensure that each decision aligns with one’s broader financial picture.
Data is at the center of our financial planning analysis. Once we receive a tax return, we review it to confirm the strategies we helped implement in the prior year were appropriately reported, and we can refer to this document throughout the year to help make decisions. The prior year’s tax return is the foundation for tax planning in the current year, and we use tax planning software to adjust the pieces that are known or expected to be different, compared to the prior year. For example, investment income or capital gains could differ from year to year, depending on the types of investments held in a portfolio. There may be life changes that were planned, such as retirement, or unexpected changes like the loss of a spouse or employment. Additionally, we stay informed about tax law changes that would affect our clients. In addition to deriving strategies to minimize a client’s annual tax liability, we also ensure key annual items are completed each year for our clients, such as Required Minimum Distributions (RMDs), charitable giving, and 529 Plan contributions or reimbursements.
SFG’s proactive tax planning involves not only strategies designed to minimize current tax liabilities but also structuring financial decisions to help optimize long-term tax efficiency. We use projections to analyze our clients’ future income and tax liabilities and recommend and implement tax-efficient strategies that align with their financial goals. For example, pre-tax retirement account contributions may save taxes today, but the eventual withdrawals will be taxable, while Roth contributions have already been taxed so future withdrawals will be tax-free. While in a lower tax bracket it may make sense to accelerate income into that year by executing strategies like Roth contributions or Roth conversions. When recognizing taxable income in a given year, it is important to be mindful of various income-based thresholds such as marginal tax brackets, Medicare premium adjustment brackets, and phaseout limits for tax advantages like deductions and credits. For high net worth and ultra-high net worth clients, we also consider wealth transfer strategies to help manage potential estate taxes.
There are a few strategies that are top-of-mind as we conduct planning for 2024. The Tax Cuts and Jobs Act (TCJA) that was enacted in 2017 is scheduled to sunset at the end of 2025. This means that in 2026, tax brackets and estate exemption amounts will revert back to their pre-TCJA levels. For high-income earners and high net worth individuals, the impact of this may be significant. The highest federal tax bracket will go from 37% in 2025 to 39.6% in 2026. The estate exemption amount will reduce from inflation-adjusted $10 million ($13.61 million in 2024) to inflation-adjusted $5 million in 2026. As 2024 draws to a close, we are cognizant of planning for both this year and for 2025 to ensure our clients can get the maximum benefit from the current lower tax brackets and higher estate exemption amounts.
Once we have a sense of one’s estimated tax liability for the current year, we evaluate what has been paid in income taxes so far this year through withholding and estimated tax payments and work with each client’s CPA to determine if there is any additional amount one should pay. You may be familiar with the saying, “pay as you go, so you don’t owe.” The U.S. tax system operates on a pay-as-you-go basis, meaning taxpayers need to pay most of their tax during the year, as income is earned or received. The “Safe Harbor Rule” provides that if the total tax paid throughout the year is at least 90% of the current year’s tax liability or 100% (110% for high-income earners) of the previous year’s tax liability, and payments are made on time, there is no penalty. If not, they may owe an estimated tax penalty when they file their tax return. [1] The penalty rate is determined by the IRS and is typically tied to the federal short-term interest rate, which is announced quarterly. The penalty is calculated separately for each quarter, and the IRS looks at the shortfall between the required payments and the actual payments made during each quarter.
Withholding tax from income provides a consistent and predictable method of meeting tax obligations, reducing the likelihood of facing a significant tax bill, and penalties, when filing one’s tax return. For employees, tax withholding is integrated into the payroll process. Adjusting the amount of tax withheld from paychecks may be necessary to help ensure enough taxes are withheld throughout the year, especially if a high-income earner’s compensation includes bonuses or equity compensation, such as stock options or restricted stock units. Taxes may also be withheld from Social Security, pension benefits, or retirement account distributions. Taxes paid via withholding are always considered to have happened over the course of the year, even if the actual distribution and tax withholding happened at one time. For individuals and businesses with income not subject to withholding, such as self-employed individuals or small business owners, or if withholding adjustments are not feasible or preferred, estimated tax payments can be made. Tax preparers may provide suggested amounts to pay on a quarterly basis, and these amounts may need to be recalculated if income changes during the year. Strategic year-end tax planning usually involves a combination of estimated tax payments and optimizing tax withholding from income. We often collaborate with clients’ CPAs to determine an appropriate amount of tax withholding and estimated payments for the year.
As a part of Schultz Financial Group’s services, we collaborate with our clients’ other professionals throughout the year. We prepare an annual letter to assist CPAs with the completion of a client’s tax return, provide them with updated income projections throughout the year, and work together to decide on tax planning strategies. When it comes to tax planning, the only constant is change; tax planning is a complex, dynamic process and requires knowledge and expertise to plan for today’s tax liability and for years to come.
Tax planning can be complicated and there is no “one size fits all” model. At Schultz Financial Group, we consider your personal circumstances and financial goals in order to make appropriate recommendations. Contact us today so we can discuss your goals and how to help achieve them with year-end tax planning.
[1] Basics of estimated taxes for individuals | Internal Revenue Service (irs.gov)