By Laura Saunders
The arrival of 2021, as welcome as it was, put a hard stop on
most moves by Americans to lower their 2020 tax bills. The window
for things like making charitable donations or taking capital
losses to offset gains slammed shut on December 31.
But there are still a few things people can do now to cut last
year's taxes. Several involve contributions to retirement accounts,
with deadlines as late as Oct. 15. Another could reduce penalties
for filers behind on last year's tax payments.
Of course, it isn't so clear when 2020 taxes will be due, which
affects some of these deadlines. Internal Revenue Service
Commissioner Charles Rettig has said he wants to stick with April
15, but some in Congress and professional groups such as the
American Institute of CPAs are calling for a delay due to pandemic
disruptions. For Texas and Oklahoma residents and business owners,
the April date has already been pushed back to June 15 due to
February's fierce storms.
Clarification will likely come soon. Whether the April due date
is delayed or not, here are steps filers can still take to reduce
2020 bills to Uncle Sam.
Contribute to a Traditional IRA
Many taxpayers can contribute up to $6,000 to a traditional
individual retirement account or a Roth IRA for 2020 -- but only a
contribution to a traditional IRA will cut 2020 taxes. The maximum
is $7,000 for people age 50 and older, and there's no age limit on
who can contribute.
For now the deadline for making 2020 traditional and Roth IRA
contributions is April 15 -- except for people in Texas and
Oklahoma, where it's June 15. If the IRS delays the April deadline
for more taxpayers, the IRA deadline will follow suit.
Contributions to traditional IRAs are tax-deductible up front,
which is why they cut 2020 taxes, while withdrawals in retirement
are typically taxable. The reverse is usually true for Roth IRAs:
no upfront deduction, but withdrawals in retirement are typically
tax-free. (Within both types of accounts, growth and income are
tax-free.)
To contribute to either type of IRA, a taxpayer must have
"earned" income -- as from wages, self-employment, or taxable
alimony -- up to the amount of the contribution. So if a teenager
earns $4,000 from a part-time job and $2,000 of investment income
from day trading, he could put up to $4,000 into a traditional or
Roth IRA -- not $6,000. (This young person may want to opt for a
Roth IRA because total earnings are too small to trigger income
tax.)
Married couples have advantages with IRAs. If one spouse has
earned income but the other has little or none, a contribution can
often be made to a traditional or Roth IRA for the low-earning
spouse.
If you're considering this move, be aware of income limits that
cap deductions for traditional IRAs. They apply if a single filer
or either spouse of a married couple is covered by a retirement
plan at work, such as a 401(k). To check, see Box 13 of the W-2
form.
For 2020, the deduction begins to phase out at $65,000 of
adjusted gross income for most single filers and $104,000 for most
joint filers if both partners are covered by retirement plans. But
here's another boon for married couples: If only one spouse is
covered by a retirement plan, the income-phase out for a
traditional IRA deduction for the uncovered spouse begins far
higher: $196,000.
While deductions are great, savers should consider whether to
forgo the upfront tax write-off of a traditional IRA and opt for a
Roth IRA because of its tax-free withdrawals.
Contribute to a SEP IRA or Solo 401(k)
Many taxpayers with self-employment income can make
tax-deductible contributions to these plans. Often they have more
generous contribution limits and deadlines than traditional IRAs or
Roth IRAs.
With a Simplified Employee Pension IRA, or a SEP IRA, a taxpayer
can still make a tax-deductible contribution for 2020 of up to
$57,000. These accounts can be set up and funded until Sept. 15 or
Oct. 15, depending on the type of entity, if the taxpayer has filed
for a six-month extension to file the 2020 tax return, according to
Ian Berger, an attorney specializing in this area.
A Solo 401(k) is more complex to set up but can bring greater
benefits. For 2020, a business owner and spouse who both have
earnings from the business can each make annual tax-deductible
contributions up to $57,000, plus an additional $6,500 each if
they're age 50 or older, as long as the business has no other
employees.
The deadlines for setting up new Solo 401(k)s for 2020 in 2021
have been clouded by a recent law change. Mr. Berger thinks that
unless part of the Solo 401(k) was set up in 2020, the additional
contributions of $6,500 aren't allowed. But the remainder of the
plan can be set up and funded as late as Sept. 15 or Oct. 15,
depending on the entity, if the taxpayer has a six-month filing
extension.
Contribute to a Health Savings Account
Taxpayers covered by approved high-deductible healthcare plans
for 2020 have until April 15 to make tax-deductible contributions
to Health Savings Accounts for 2020, or June 15 if they're in Texas
or Oklahoma. If the IRS extends the tax-due date, this deadline
will be extended too.
For HSAs covering one person, the 2020 deduction can be up to
$3,550, plus $1,000 for those age 55 and older. For a family, the
limit is $7,100, plus $1,000 if the HSA owner is 55 or older. There
are no income limits.
Withdrawals from HSAs are tax free if used for a wide range of
medical expenses that are broader than what insurance reimburses.
(For a list, see IRS Publication 502.) Upon reaching age 65, an HSA
owner can make penalty-free withdrawals for nonmedical expenses,
although these payouts are taxable.
What if a worker with a company-funded HSA and high-deductible
plan was laid off in 2020? Sarah Brenner, an attorney and HSA
specialist, says the worker can likely take deductions for making
remaining contributions to the HSA if he or she had high-deductible
health coverage after leaving the job.
Make a Payment to Lower Tax Penalties
More people than usual could owe penalties for tax underpayments
in 2020 due to unemployment benefits and other pandemic issues.
This penalty is assessed daily based on current interest rates and
recently came to about 3% annually.
Despite requests from tax professionals, the IRS hasn't said if
it will provide relief from these penalties for 2020.
Taxpayers who can't file a return right now can make a payment
of part or all of the overdue tax to stop the penalty or lessen it.
There are multiple ways to pay, including IRS Direct Pay.
Write to Laura Saunders at laura.saunders@wsj.com
(END) Dow Jones Newswires
March 05, 2021 05:44 ET (10:44 GMT)
Copyright (c) 2021 Dow Jones & Company, Inc.