The past year has been challenging to say the least. Hopefully the
COVID-19 crisis, which affected all of us in some ways, is nearing the end. While it has been difficult to focus attention on much other than the health and safety of our loved ones, tax planning can’t take a back seat forever.

In addition to normal mid-year planning ideas, legislation enacted by both the current and former administrations may provide opportunities to save a little tax and keep a little more money in your pocket. President Biden has released a plan, that if enacted, would result in higher tax rates for both individual and corporate taxpayers. Time will tell if this proposal ultimately becomes law, but there is certainly a possibility that the rates in effect today will increase in the near future. At this time, it’s too soon to say what the new rates will be or when they will be effective, if at all. As always, we are monitoring these developments and will alert you as soon as any legislation is signed into law. For now, it’s a good time to get a handle on what your 2021 income might look like, so that, if legislation is passed, we will be able to project how it affects you.

Individual Income Tax Opportunities

Here are some strategies that may lower your individual income tax bill for 2021.

• Consider Adjusting Your Tax Withholding or Estimated Payments. If you owed taxes for 2020, you may want to revise your Form W-4. To help you do this, consider using the IRS’s “Tax Withholding Estimator,” available at www.irs.gov/individuals/taxwithholding-estimator. If you make estimated tax payments throughout the year (which is likely the case if you are self-employed, for example), we can take a closer look at your tax situation for 2021 to make sure you’re not underpaying or overpaying.
• Take Advantage of Lower Tax Rates on Investment Income. Gains from the sale of an investment held for more than one year (as well as dividends on certain stocks) are generally taxed at preferential capital gains rates. Those rates are 0%, 15%, and 20% for most investments. The applicable rate depends on your taxable income. If your income is too high to benefit from the 0% or 15% rates, try gifting investments (like appreciated stock or mutual fund shares) to children, grandchildren, or other loved ones. If these individuals are in the 0% or 15% capital gains tax bracket when they later sell the investments, any gain will be taxed at the lower rates, if you and your loved one owned the investments for more than one year. Dividends from any gifted stock may also qualify for the lower rate. However, beware of the “Kiddie Tax,” which applies to all children under age 18 and most children age 18 or age 19–23 who are full-time students. It may limit your opportunity to take advantage of this strategy. Also beware of a potential increase in both long-term capital gain rates and ordinary income tax rates heading into 2022.
• Time Investment Gains and Losses. As you evaluate investments held in your brokerage accounts, consider the tax impact of selling appreciated securities before the end of the year. President Biden has proposed a plan that would increase long-term capital gain rates to 39.6% for taxpayers making over $1 million. Combined with the Net Investment Income Tax (NIIT) of 3.8%, affected taxpayers could see a 43.4% marginal long-term capital gain rate, which is quite an increase from the current combined rate of 23.8%. Selling securities that have declined in value may need to wait until 2022 to offset the potential higher tax rate. Losses realized will offset any gains you may have realized. Your capital loss is limited to $3,000 annually, but any excess carries over indefinitely.

Take Advantage of Expanded Credits for Kids

Signed into law on 3/11/21, The American Rescue Plan Act of 2021
(ARPA) ushered in several provisions that could help save taxes, including the expansion of two familiar credits.

Child Tax Credit

ARPA expands the Child Tax Credit for 2021, making it fully refundable for eligible taxpayers. The credit is increased from a maximum $2,000 per eligible child to $3,000 or $3,600 in 2021 depending on the child’s age. Children under 6 qualify for the $3,600 credit while those between 6 and 17 qualify for the $3,000 credit.

The increased credit amounts are subject to phase-out. Married filing joint taxpayers with AGI of $150,000 or less will be able to take advantage of the full amount of the credit, as will heads of household with AGI of $112,500 or less. Single and married filing separate taxpayers will receive the full credit until AGI exceeds $75,000. The credit phases out at a rate of $50 for every $1,000, or portion thereof, that AGI exceeds the threshold.

Not only is the child tax credit refundable for 2021, the IRS will issue advanced payments (50% of the credit) to qualifying taxpayers. Payments are set to be delivered over a six-month period beginning in July 2021 with the balance claimed on your 2021 return. Beware, while eligibility for these advanced payments is based on the income reported on your most recently filed tax return (either 2019 or 2020), your actual eligibility for the credit will be determined when you file your 2021 return. Therefore, if you receive advanced payments and are later determined to be ineligible due to an increase in your income, you will need to repay the advances by increasing your tax liability on your 2021 return. If you anticipate this, please let us know. The IRS is also supposed to establish a method to allow you to let them know about a change in eligibility. Go to https://www. irs.gov/credits-deductions/child-taxcredit-update-portal to stop/manage future advance payments.

Child and Dependent Care Credit.
ARPA also expanded the Child and Dependent Care Credit for 2021 making it fully refundable for eligible taxpayers. For 2021, the amount of expenses that can be considered when computing the credit is increased from $3,000 to $8,000 for taxpayers with one qualifying child or dependent and from $6,000 to $16,000 for taxpayers with 2 or more qualifying individuals. Like the Child Tax Credit, this will also be phased out based on your income. For taxpayers with AGI above $125,000, the percentage is reduced by 1% for each $2,000 increment above $125,000 until AGI reaches $183,000. For taxpayers with AGI between $183,001 and $400,000, the applicable percentage is 20%. The applicable percentage begins to phase out again for taxpayers with AGI above $400,000, dropping 1% for each $2,000 above $400,000. Therefore, the credit is completely phased out when AGI exceeds $438,000.

As you can see, your ability to take advantage of these provisions depends on your 2021 income. If you know that you will be near one of these income phase-out amounts, we should meet to discuss scenarios where deferring income to 2022 or accelerating deductions into 2021 might make sense for you.

Check Your Deduction Strategy. It’s generally best to itemize your
deductions if you have significant personal expenses. However, don’t rule out the standard deduction. For 2021, joint filers can enjoy a standard deduction of $25,100. The standard deduction for heads of household is $18,800, and single taxpayers (including married taxpayers filing separately) can claim a standard deduction of $12,550.

Unfortunately, the TCJA suspended or limited many of the itemized deductions. Although there have been talks of possible legislation that might repeal or relax some of these limitations, to date, no changes are expected for 2021. The most discussed limitation at the moment is the cap on the deduction for State and Local Taxes (SALT), which is currently $10,000 ($5,000 if married filing separately). Nothing has been passed yet, so the $10,000 limitation continues to apply.

Taxpayers, who have itemized deductions just under (or just over) the standard deduction, should consider bunching state and local taxes into alternating years by paying two years’ worth of taxes in a single calendar year. But, the effect of the $10,000 cap must be considered.

In addition to bunching state and local taxes, consider bunching charitable contributions. In addition to merely timing when you make charitable donations, consider donating to donor-advised funds. Also known as charitable gift funds or philanthropic funds, donor advised funds allow donors to make a charitable contribution to a specific public charity or community foundation that uses the assets to establish a separate fund. Taxpayers can claim the charitable tax deduction in the year they fund the donor-advised fund and schedule grants over the next two years or other multiyear periods. If you have questions or want more information on donor-advised funds, please give us a call.

On another note, COVID-19 legislation temporarily increased the limit on cash contributions to public charities and certain private foundations from 60% to 100% of adjusted gross income for contributions made in 2021. Note that the donation doesn’t have to go to a COVID-19-related cause. So, for taxpayers who itemize deductions, 2021 is a great time to make charitable contributions, especially if the AGI limit would otherwise come into play.

For those who won’t itemize in 2021, there is an “above the line” deduction for cash charitable contributions up to $300 ($600 for those married filing joint). For older taxpayers (over age 70½) who won’t be able to itemize, but still want to make contributions, a qualified charitable distribution from an IRA is a great way to give to charity.

Planning for Small Business

If you own a business, consider the following strategies to minimize your tax bill for 2021.

• Employee Retention Credits (ERCs). The CARES Act created an Employee Retention Credit (ERC) that provides a payroll tax credit for business owners who continue to pay employees during a calendar quarter while their business was fully or partially shut down due to COVID-19 related restrictions or whose business suffered a significant decline in gross receipts. For 2021, the credit is refundable and capped at 70% of qualified wages and certain health insurance coverage up to $10,000 per employee. The credit is capped at $7,000 per quarter per employee ($28,000 for the year). If your business participated in the Paycheck Protection Program (PPP) and used the proceeds of your PPP loan to pay eligible costs, you can still claim the ERC. But, if your PPP loan was forgiven, the wages paid with the proceeds are not qualified wages for purposes of the ERC.
• Excess Business Losses. To ease the burden on small business owners, the CARES Act temporarily removed the limit on Excess Business Losses (EBLs) that the TCJA implemented for 2018 through 2020. Sadly, the reprieve is over and beginning in 2021, taxpayers could see a limit on their ability to deduct business losses from sole proprietorships or pass-through entities, such as partnerships and S corporations if the combined loss exceeds $262,000 ($524,000 for joint fliers). The excess loss is converted to a net operating loss, which is carried forward, subject to limits. Keep this limit in mind when you are projecting your 2021 income for estimated tax payments as well as for determining how any future tax increases (which the President has said will be targeted toward taxpayers with taxable income over certain amounts) may affect you.
• Section 179 Expense and Bonus Depreciation. If your business plans to purchase new or used machinery or equipment prior to year-end, you may be able to expense the entire cost in 2021. Under Section 179, taxpayers can elect to expense up to $1,050,000 of qualified purchases, subject to taxable income limitations. Alternatively, your business can take advantage of 100% first-year bonus depreciation. Unlike the Section 179 deduction, claiming 100% bonus depreciation is not limited to taxable income, although the excess business loss limitation discussed earlier could apply. Many factors can affect this decision, including current and future tax rates. With the possibility of higher rates in 2022, the best choice may be to wait and see if you are going to be subject to a higher tax rate in the future before you acquire assets, if it is feasible to hold off. If you’re thinking of acquiring business property between now and the end of the year, we can help you navigate that decision.

Please Contact Us

We hope you found some useful ideas here. If there is anything here that piqued your interest, please let us know. Our goal is to get you thinking about tax planning ideas and potential moves we can make to minimize your taxes before the end of the year. We are continuously monitoring future developments and will keep you informed of the latest tax law changes. Please don’t hesitate to contact us if you want more details about any of the topics discussed or just have questions or concerns.

Senate Bill 5096 Passed

Washington State Legislature passed Senate Bill 5096 at the conclusion of the 2021 legislative session, enacting a state capital gains tax, which Governor Jay Inslee signed into law May 4, 2021. The tax is a 7% tax, applicable to net long-term gains on capital assets (stocks, bonds, business interests, and other investments / tangible assets) in excess of the standard deduction (of $250,000) and applicable exemptions each calendar year. It is set to take effect January 1, 2022, with the first tax payments due on or before April 17, 2023 (for calendar year 2022).

The tax is imposed specifically on long-term capital gains derived from the sale of capital assets. Other investment income, such as short-term gains, dividends, and interest are excluded. Taxpayers subject to the tax include individual persons and not business entities – however, gains from the sale of property held via a pass-through or disregarded entity are still deemed to be allocated to the individual owner(s). Nonresident taxpayers may also be subject to the tax on any capital gains derived from tangible property located within Washington, but only those domiciled in the state are subject to tax on gains from intangible assets.

Each individual or married couple are allowed an annual standard deduction of $250,000 per calendar year (indexed for inflation), while married taxpayers filing separately are eligible for a standard deduction of $125,000 each. Filing status for the Washington capital gains tax return must agree with how taxpayers filed for federal income tax purposes. A copy of your federal income tax return for the related calendar year must be included with the state capital gains return and taxpayers will be required to reconcile federal net long-term capital gains to Washington net long-term capital gains, by accounting for applicable exemptions & deductions.

There are several exemptions from the tax, most notably are exclusions for sales/exchanges of Real Estate (and interests in business entities to the extent gains/ losses relate to real estate), assets in retirement accounts, certain livestock related to farming/ ranching, assets used in a trade or business to the extent they are depreciable or qualify for expensing under internal revenue code, and timber/ timberlands.

In addition, there are also deductions and credits available (in addition to the $250,000 standard). The law also provides for an exemption for charitable donations in excess of $250,000 but limits the deduction to $100,000 per year per taxpayer. An additional deduction is available for long-term capital gains from the sale of ‘all or substantially all of a qualified family owned business,’ which has additional tests to determine eligibility. Credits are available for a) B&O taxes due & paid on the same sale/exchange subject to the capital gains tax and b) taxes paid to another jurisdiction on capital gains to the extent such gains are included in Washington capital gains.

As mentioned, the tax allows for a family-owned small business deduction but has numerous qualifiers to determine eligibility. The deduction does not apply to any business that had more than $10M (indexed for inflation) in gross receipts in the 12 months preceding the sale and only applies when ‘substantially all’ of the business assets and/or taxpayers interest in the business are sold. ‘Substantially all’ refers to 90% or more for purposes of this test. Certain characteristics must exist to be considered ‘family-owned,’ including a requirement to have held a ‘qualifying interest’ in the business for at least 5 years preceding the sale. A ‘qualifying interest’ includes a) ownership as a sole proprietor, b) ownership when the individual and family members own at least 50% of the business, or c) ownership when the individual and family members own at least 30% of the business and either i) 70% of the business is owned directly or indirectly by members of two families or ii) 90% of the business by three families. Additionally, family members claiming the deduction must have materially participated 5 of the 10 years preceding the sale, unless the sale is to another family member, in which case the material participation requirement is waived.

A state capital gains tax in Washington has been a topic of discussion for the past few years, ever since Governor Jay Inslee initially proposed the idea as part of his 2015 – 2017 budget proposal. The tax has been and remains a subject of controversy as those opposed continue to argue that it violates the Washington State Constitution, which does not permit a state income tax. According to the law, the tax is considered an excise tax imposed on the sale or exchange of capital assets, which some argue is attempting to circumvent to issue of constitutionality. Multiple lawsuits have been filed as to whether the tax is constitutional, but lawmakers are optimistic it will survive legal challenges.

Kevin Klinkman, CPA Manager

New mandatory payroll tax that will affect nearly all employees in the state of Washington. This long-term care (LTC) tax has not yet raised a lot of attention but is fast approaching. The Employment Security Department (ESD) created the WA Cares Fund that is administering this new payroll tax.

Guidance Is Not Yet Final, but Here Is What We Do Know So Far:

• Employees will pay this tax starting January 1, 2022.
• This is tax on your W-2 income that will cost $0.58 for every $100 earned, with no cap.
• You can purchase your own LTC insurance by November 1, 2021 and apply for exemption of state coverage between October 1, 2021 through December 31, 2022.
• If you don’t apply for an exemption, you will pay the tax for life as long as you have W-2 income.
• The state is still determining the rules for the exemption process.
• The state can increase this tax twice a year.
• LTC coverage is not portable, benefits will be lost if you leave the state.
• LTC benefits cannot be accessed until January 1, 2025 for eligible employees.
• The LTC benefit is up to $100 per day, lifetime of $36,500.
• Eligibility to receive LTC coverage by the state has strict rules.
• Employees will be required to have LTC coverage one way or another.
• Self-employed individuals must apply for exemption if they consider becoming a W-2 employee.
• Self-employed individuals can choose to opt in.

What Should You Do?

Determine if it makes more sense to purchase your own plan or use the state mandated plan. Generally, if you earn more than $100K it might be better to look at alternative options.

WA State Estimated Tax

Annual Compensation / Estimated Tax:

• $100,000 / $580/year
• $250,000 / $1,450/year
• $500,000 / $2,900/year

Comparable private LTC plans cost about $500-1,500 annually (depending on age and other factors) but typically provide shorter vesting periods and portability outside the State.

Who Should Consider Opting Out?

• Individuals who plan on or want to retire out of state.
• Individuals who plan on retiring before benefits become available on January 1, 2025.
• Higher income individuals who can purchase private LTC insurance for lower premiums.
• Employees who are new to the workforce. These individuals will be paying far more in tax than the benefits that will receive.
• Self-employed individuals who are considering becoming a W-2 employee.

If you want to purchase your own LTC insurance a list of insurance companies can be found here: www.insurance.wa.gov/long-term-care-insurance

For updated information from ESD, WA Cares Fund please visit www.wacaresfund.wa.gov

By Bridget Taylor, CPA Manager

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