Tax season is officially here and it may be a bit different for many Americans due to economic uncertainty and changes amidst the COVID-19 pandemic. If you haven't already, now is the time to get prepared. Whether you meet with a tax professional or prepare your taxes yourself, proper planning helps the process go smoother and may reduce the risk of costly errors. Here are ten planning tips designed to help save money and avoid surprises when filing this year.
Tip #1: Start Preparing Early
There were some major financial changes we experienced in 2020 thanks to the coronavirus. The IRS issued approximately 160 million Economic Impact Payments which totaled over $270 billion, some small businesses received Paycheck Protection Program loans to stay afloat and millions of Americans filed for unemployment.1
With all of this economic uncertainty, you should work with your tax preparer to determine how government assistance received in 2020 will be reflected when filing in 2021. By starting early, you have time to adjust and make changes to address an increase or decrease in your tax obligations this season.
Tip #2: Gather Your Tax Forms and Receipts
If you have your own business or plan on itemizing your deductions you will need to gather receipts so that you can take advantage of any available write-offs. Receipts can be physical receipts or bank and credit card statements that show payments for these items.
In January you likely started to receive the forms you need to properly complete your tax return. Some of the forms you will need to watch out for include:
- W-2s from your job
- SSA-1099 for Social Security benefits
- 1099s for additional income, interest, gains and losses
- 1095-A for government marketplace health coverage
- 1098s for reporting interest and tuition payments
- W-2Gs for any gambling winnings
- Schedule K-1s for company ownership
Organize all the receipts for business expenses, medical expenses and other expenses that can be listed on your Schedule A or Schedule C, so they are easy to find when you begin filing.
Tip #3: Stimulus Checks & Tax Credits
Millions of Americans received (or should have received) stimulus checks during 2020 and early 2021 - the first for $1,200 and the second for $600. These stimulus checks were also referred to as Economic Impact Payments or Recovery Rebate Credit. According to the IRS, if you did not receive these payments (and were eligible to do so) then you may be able to deduct them from your 2020 taxes.2 There are a few requirements you must meet before filing for this reduction.
- Be a U.S. citizen or resident alien during 2020
- Must not be claimed as a dependent during 2020
- Have a Social Security number for employment before your 2020 tax return is due
Tip #4: Retirement Account Withdrawals Under the CARES Act
The CARES Act allowed individuals with a 401(k), 403(b), 457(b) and Thrift Savings Plan to withdraw their funds without incurring the standard 10 percent penalty tax rate from an early distribution.3 Instead, these withdrawals were considered COVID-19 related distributions.
If you chose to take a withdrawal during 2020, your taxes may be impacted in a few ways:3
- They will count as income tax over a three (or one-year period), depending on your election.
- They can be repaid before the end of the three-year period to receive a tax refund.
Tip #5: Unemployment Benefits are Taxable
There are a variety of unemployment options for those that lost their jobs. All unemployment benefits are considered taxable income for 2020, but whether they are taxed will depend entirely on the type of program.4 Make sure to check with your unemployment benefits provider to determine whether or not you will need to pay taxes on your unemployment.
Tip #6: Cares Act Benefits for Business Owners
Business owners received two main benefits through the CARES Act, the Credit for Sick and Family Leave and the Employee Retention Credit.5 When filing taxes consider whether the year’s changes allow you to benefit from other tax breaks beyond the CARES Act.
For example, many small business owners may have been forced to close down their physical location, opting for more remote work. Depending on the circumstances, these business owners may be able to claim their home as a home office, gaining a home office deduction on their 2020 taxes. Similarly, consider whether the changes created by 2020 make you eligible for other deductions and tax changes.
Tip #7: Choose Between Standard Deduction Versus Itemizing
The IRS allows a standard deduction amount for those who wish to simplify filing. Standard deductions for the 2020 tax year are as follows:6
- $12,400 for individuals
- $24,800 for joint filers
- $18,650 for heads of household
Itemizing your deductions may enable you to reduce your taxable amount even more. Some commonly used deductions include:
- State and local taxes
- Charitable contributions
- Casualty loss
- Business expenses for which you weren’t reimbursed
- Medical expenses
- Mortgage interest
If you’re already an itemizer, you should be sure to note how the most recent changes in the tax code may have (or may not have) affected certain deductions.
Tip #8: Charitable Contribution for Standard Filers
Throughout the year, you may have made donations to a tax-exempt organization. These donations can provide you with a charitable contribution write-off. Traditionally, this could only be done if you chose to itemize your deduction. However, the CARES Act provides filers who elect a standard deduction may be eligible to write-off up to $300 in charitable contributions.7
Other donation types will still require an itemized deduction and documentation. And most organizations, from churches to fundraisers, can provide a record of your tax-deductible contributions.
Tip #9: Catch up on Retirement Savings
If you have an IRA or 401(k), you can still make adjustments for the prior year up until you file your tax return. If you have not maxed out your contribution limits for 2020, you and your advisor may find it advantageous to post your retirement contributions to the 2020 tax year, even if it is the beginning of 2021. You may contribute up to $6,000 for those under 50 and $7,000 for those 50 and older to your IRA.8 This may help reduce your taxable income for 2020.
Tip #10: Get a Copy of Last Year’s Tax Return
If you are using the same preparer as the previous year, they should have a copy of your tax return. If not, find your old copy and have it ready with your other tax items. Being able to reference your previous return can help you see what you filed last year, so you don't overlook something this year.
Don't let tax preparation leave you feeling overwhelmed. If you have any questions, be sure to speak with a CPA or other trusted tax professional regarding your situation. The tax code is complicated, and an experienced professional can answer your questions and empower you to start the tax season off with confidence.