December is a timely occasion to review your tax liabilities, portfolio and finances.

There is still an opportunity to take actions that can impact both current-year and future-year tax liabilities. You can also adjust retirement allocations and ensure your portfolio is on track to meet your goals. At the same time, reviewing your overall financial picture now allows you to plan for the year ahead and make any needed adjustments. For more details on the current tax rules, see our annual Tax Guide.

General Financial and Estate Planning

Let’s start with a few things that should be done at the end of each year regardless of age and wealth.

1. Review Beneficiary Information and Estate Documents

Check the beneficiary information on all your accounts to ensure that it is current and correct. Also review wills, powers of attorney and any related documents. If there has been a change in status for either you or one of your beneficiaries, be sure to update the documents accordingly. It may make sense to have an attorney review your estate documents to ensure they reflect current law if you have moved to a different state or it has been several years since they were written or last reviewed.

At the same time, ask the financial institutions you work with if it is possible to list a trusted contact. A trusted contact is a person your advisers can contact if they have reason to suspect your cognitive abilities have been impaired. It is particularly valuable for older adults as protection against potential elder fraud. After you are done, fill out the key estate planning information worksheet that is part of AAII’s Individual Investor Wealth-Building Process. Doing so will enable your spouse and heirs to quickly step in on your behalf.

2. Review and Freeze Your Credit Reports

Once a year, review your credit reports from the three major bureaus to identify any suspicious activity or incorrect information. Credit reports can be accessed, for free, through www.annualcreditreport.com.

For added protection, freeze your credit files. All three bureaus allow you to freeze and unfreeze your reports for free. Freezing your credit reports makes it harder for fraudsters to commit identity theft. While under a freeze, your personal data cannot be reported to creditors and lenders except those you already have relationships with. See the box below for more details.

Checking and Freezing Your Credit Report

Check your credit report with all three of the major credit bureaus once a year to ensure the information is correct and no accounts have been opened without your consent. Consumer Reports suggests using www.annualcreditreport.com to do so.

Freezing your credit report prevents it from being pulled when an application for a loan, a credit card or any other transaction requiring a credit check is made. The Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018 required credit bureaus to allow consumers to freeze their credit reports at no cost.

	Equifax: www.equifax.com/personal/credit-report-services
	Experian: www.experian.com/freeze/center.html
	Transunion: www.transunion.com/credit-freeze

 

When freezing a credit report, you will be asked to set up a username and a password and potentially may be given a PIN number. You will need these to unfreeze your credit report when applying for new credit. When applying, you can ask which credit bureau the report will be pulled from so that only that report is unfrozen. After the report has been pulled, refreeze the report.

3. Review Spending and Budgets

Keeping track of where your money is going will help you take better control of it. This information will also assist with planning, such as determining how much you can realistically save and what you might need once in retirement.

Assess Your Tax Liabilities

Your tax picture may have changed this year because of the coronavirus. This would certainly be the case if your income was adversely impacted. Those who are retired may instead find that their tax liability has changed due the suspension of required minimum distributions (RMDs) for 2020. An added incentive to review your tax status is the stimulus checks.

4. Recalculate With Your Stimulus Payment

The economic recovery credit rebate (aka, the stimulus check) is based on your 2020 adjusted gross income (AGI). The checks were initially issued based on your reported 2019 or 2018 AGI (if you had yet to file your 2019 returns). If your 2020 AGI is lower than the amount used to determine your stimulus, you will be able to claim the additional amount on your tax return.

No penalty will be assessed nor will any repayment be required if your 2020 AGI is higher than the number used to calculate your stimulus check.

5. Check Your Paycheck Withholdings

If you receive large refunds or are finding yourself facing large tax bills, you may need to adjust your withholdings. The Internal Revenue Service’s (IRS) withholding calculator may help you to determine what adjustments you should make. The combination of the Tax Cuts and Jobs Act’s (TCJA) altered tax brackets, the higher standard deduction and the repeal of the personal exemption changed how much tax individuals will owe.

If a change to your withholding is warranted, file a new W-4 with your employer to prevent a recurrence of the under/overpayment in 2021.

6. Review Estimated Payments

Those who make estimated tax payments should review their tax liabilities. The suspension of RMDs for 2020 may lead to retirees having lower tax bills this year than last year. Roth IRA conversions may offset the reduction or even warrant a larger estimated tax payment.

7. Match Expenses Against the Standard Deduction

The standard deduction is $12,400 for an individual and $24,800 for a married couple for the 2020 tax year. This high cap eliminates the ability for many taxpayers to itemize, but if you think you may be close, run the numbers. You may be able to accelerate the timing of certain deductible expenses into this calendar year.

8. Accelerate the Timing of Planned Medical Expenses

The minimum threshold for deducting medical expenses is 7.5% of adjusted gross income (AGI) in 2020; it will revert back to 10% of AGI in 2021 and thereafter without the passage of new legislation. The lower threshold can make it advantageous to accelerate expenses whose timing is voluntary. Examples include prescription eyeglasses, hearing aids, dental work, prescription medicine and medical devices. See IRS Publication 502 for details on what can and cannot be deducted.

9. Plan for Charitable Donations

The CARES Act allows taxpayers who take the standard deduction to claim up to $300 in additional deductions for qualified charitable contributions. The limit stays at $300 for couples filing joint returns. Qualified charitable donations (QCDs) do not qualify for this deduction.

For those who itemize, the cap on deducting cash charitable donations has been removed. Previously, individuals were limited to deducting cash contributions equivalent to 60% of their contribution base (typically adjusted gross income). Now they can deduct up to their contribution base for 2020. This can be a benefit for those who seek to bundle contributions, given the TCJA’s higher standard deduction.

An alternative strategy would be to establish a donor-advised fund. These funds allow the contribution to be made in the current year, but the distribution of the funds to be made in future years. Such funds can help those who desire to continue providing a charity with a steady stream of donations.

10. Determine Fund Distributions

During the final few months of each year, mutual funds, closed-end funds and exchange-traded funds (ETFs) may make distributions to their shareholders. These are realized capital gains, dividend income and interest income realized by the fund. Though realized capital gains can be offset by realized capital losses, a fund may not have enough losses to fully offset the gains.

When a distribution is received for fund shares held in a taxable account, the dollar value of the distribution is taxable even if the distribution is automatically reinvested and/or the shares have only been held for a short period.

Finding out what these distributions are before the end of the calendar year allows you to plan for the tax liability and potentially take other actions to limit their impact.

11. Plan for Revised RMD Rules

The CARES Act waived required minimum distributions for 2020. No RMDs have to be taken from a traditional IRA, 401(k), Roth 401(k), SEP IRA or similar type of account. Inherited IRAs are also exempt.

RMDs for 2021 will be determined by the balance of an eligible account [e.g., traditional IRAs, 401(k)s, etc.] at the end of 2020 and your age. To the extent that money is not withdrawn from your tax-deferred retirement accounts this year, the dollar amount for determining your 2021 RMD will increase. Fluctuations in the value of your investments will also have an impact—potentially a bigger one depending on your account balance.

Impacting your RMDs for 2022 and beyond will be revised life expectancy tables. These changes may mean a small reduction relative to RMDs based on the older tables.

The starting age for taking RMDs was raised to 72 from 70½. The change in age applies to those who turned 70½ on or after January 1, 2020.

A new 10-year limit on withdrawals for inherited IRAs was instituted by the SECURE Act. IRAs inherited on or after January 1, 2020, must be liquidated by the end of the 10th calendar year following the account owner’s year of death. For IRAs inherited this calendar year, the deadline for doing so is December 31, 2030.

12. Make Qualified Charitable Donations

QCDs are still allowed for those who are age 70½ and older. (A QCD is a donation made to a qualified charity directly from an IRA.) Because there are no RMDs, qualified charitable donations made in 2020 will not have a tax impact this year. They will, however, affect future years’ taxes by reducing the size of the IRA and thereby future RMDs. The limit on QCDs is $100,000 per year.

13. Calculate Medicare MAGI

Medicare premiums are based on modified adjusted gross income (MAGI) from two calendar years prior. In this case, MAGI is defined as your adjusted gross income from your tax statement plus tax-exempt interest.

Many married and single retirees will fall under the threshold for paying an additional charge above the standard premium. The initial breakpoints for 2021 are 2019 MAGI of $176,000 for married couples filing joint returns and $88,000 for single filers. Those close to the thresholds may be able reduce their 2022 and 2023 premiums (based on 2020 and 2021 MAGI, respectively) by realizing additional deductions and/or delaying Roth IRA conversions.

14. Calculate Withdrawals for Next Year

Those using a systematic approach to withdrawals, such as the 4% rule, should determine how much they plan to withdraw next year. This calculation involves increasing the amount taken out last year by the rate of inflation. The Bureau of Labor Statistics publishes inflation data monthly (www.bls.gov/cpi). The year-over-year change in the consumer price index as of the end of October 2020 was 1.2%.

When determining withdrawal rates, take the health of the overall stock market and the returns realized by your portfolio into consideration. A study by Vanguard found that the ability to reduce withdrawals following down years in the market can improve portfolio survivability. It can also help to take withdrawals out of a cash allocation instead of stocks following a down year.

15. Retirees and Those Near Retirement: Manage Shorter-Term Spending Bucket

Having up to four or five years of cash and cash equivalents set aside can provide a buffer against downturns like this year’s bear market. These shorter-term savings will help you avoid selling stocks when their prices are depressed and give your portfolio more time to recover.

These buckets should be replenished annually when the market is near its high. Those nearing retirement should start to fund these buckets in advance, even four to five years in advance, in case a bear market strikes very early in retirement.

Saving and Investing

Assessing where you are at financially now gives you time to act and to set up planned actions before the new year starts.

16. Maximize Retirement Contributions

Total up the 2020 contributions made to your retirement accounts. These accounts may include traditional IRAs, Roth IRAs and 401(k) plans. Your goal, when financially possible, is to maximize the contributions to each account. If this is not possible, ensure the amount contributed to an employer-sponsored plan [e.g., a 401(k) plan, a 403(b) plan, etc.] is at least large enough to maximize any matching contribution offered.

Next, plan out how much you will contribute next year. When doing so, think in terms of pay periods, not total amounts. Saving an extra $1,000 for retirement, for instance, may sound like a big hurdle, but it’s not as intimidating when viewed as an additional $41.67 contribution per pay period for someone who is paid twice a month (24 pay periods) and $38.46 for someone who is paid every other week (26 pay periods). These numbers are pretax; the out-of-pocket cost for such contributions made to a traditional 401(k) plan will be reduced by your marginal tax rate.

Once the amount is determined, take advantage of automatic contributions. Let your human resources department know your planned 401(k) contribution for 2021 as soon as you receive your final paycheck for 2020. If contributing to a traditional or Roth IRA, set up automatic deposits to coincide with when you get paid.

How much can you set aside into a retirement account? For the 2020 tax year, up to $6,000 can be contributed to a traditional IRA and a Roth IRA. Those age 50 and older can contribute up to $1,000 extra in catch-up contributions. The maximum for 401(k) plan/Roth 401(k) plan or a similar type of employer-sponsored plan is $19,500 with an additional $6,500 catch-up contribution for those age 50 or older.

17. Convert to a Roth IRA

Converting a traditional IRA or 401(k) assets to a Roth IRA is generally a taxable event in the calendar year it occurs. Roth IRA conversions increase ordinary income and are taxed at the account owner’s marginal rate. This year’s waiver of RMDs plus the TCJA’s reduced marginal tax rates make it cheaper to do a Roth IRA conversion in 2020.

By converting to a Roth IRA, the tax is paid upfront instead of later when withdrawals are taken. Roth IRAs also are not subject to the RMD rules. This means the dollars converted (or contributed) do not have to be withdrawn until the account owner chooses to do so (distributions are allowed following a five-year window and after the account owner has reached age 59½).

There are a few considerations to keep in mind. If you are certain you will fall into a lower tax bracket in the future, it can make sense to hold off on converting. A general rule of thumb is to ensure conversions are not so large that they bump you into a higher tax bracket. Those in or near retirement should calculate the impact that a conversion will have on future Medicare premiums. The “Roth Versus Traditional IRA” chart in the December 2019 AAII Journal walks you through some of the key considerations. 

General Financial and Estate Planning
	1. Review Beneficiary Information and Estate Documents Check the beneficiary information on all your accounts to ensure that it is current and correct. Also review wills, powers of attorney and any related documents.
	2. Review and Freeze Your Credit Reports Once a year, review your credit reports from the three major bureaus to identify any suspicious activity or incorrect information. For added protection, freeze your credit files.
	3. Review Spending and Budgets Keeping track of where your money is going will help you take better control of it.
Assess Your Tax Liabilities
	4. Recalculate With Your Stimulus Payment If your 2020 adjusted gross income (AGI) is lower than the amount used to determine the stimulus check you received earlier in the year, you will be able to claim the additional amount on your tax return. No penalty will be assessed nor will any repayment be required if your 2020 AGI is higher than the number used to calculate your stimulus check.
	5. Check Your Paycheck Withholdings If you receive large refunds or find yourself facing large tax bills, you may need to adjust your withholdings.
	6. Review Estimated Payments The suspension of required minimum distributions (RMDs) for 2020 may lead to retirees having lower tax bills this year than last year.
	7. Match Expenses Against the Standard Deduction The standard deduction is $12,400 for an individual and $24,800 for a married couple for the 2020 tax year. If you think you may be close, run the numbers. You may be able to accelerate the timing of certain deductible expenses into this calendar year.
	8. Accelerate the Timing of Planned Medical Expenses The minimum threshold for deducting medical expenses is 7.5% of AGI in 2020; it will revert back to 10% of AGI in 2021 and thereafter without new legislation.
	9. Plan for Charitable Donations The CARES Act allows taxpayers who take the standard deduction to claim up to $300 in additional deductions for qualified charitable contributions. For those who itemize, the cap on deducting cash charitable donations has been raised up to the contribution base for 2020 (which is typically AGI).
	10. Determine Fund Distributions Find out what these distributions are before the end of the calendar year to plan for the tax liability and potentially take other actions to limit their impact.
	11. Plan for Revised RMD Rules The CARES Act waived required minimum distributions for 2020; it applies to traditional IRAs, 401(k)s, Roth 401(k)s, SEP IRAs or similar types of accounts. Inherited IRAs are also exempt. Revised life expectancy tables will impact RMDs for 2022 and beyond.
	12. Make Qualified Charitable Distribution From IRA QCDs are still allowed for those aged 70½ and older. They will not have a tax impact this year, but will affect future years’ taxes by reducing the IRA size and thereby future RMDs.
	13. Calculate Medicare MAGI Those close to the thresholds for incurring additional charges may be able reduce their 2022 and 2023 Medicare premiums (based on 2020 and 2021 modified adjusted gross income, respectively) by realizing additional deductions and/or delaying Roth IRA conversions.
	14. Calculate Withdrawals for Next Year Those using a systematic approach to withdrawals, such as the 4% rule, should determine how much they plan to withdraw next year. The year-over-year change in the consumer price index as of the end of October 2020 was 1.2%.
	15. Retirees and Those Near Retirement: Manage Shorter-Term Spending Bucket Having up to four or five years of cash and cash equivalents set aside can provide a buffer against downturns like this year’s bear market.
Saving and Investing
	16. Maximize Retirement Contributions Total up the 2020 contributions made to your retirement accounts. Your goal, when possible, is to maximize the contributions to each account.
	17. Convert to a Roth IRA This year’s waiver of RMDs plus the reduced marginal tax rates make it cheaper to do a Roth IRA conversion in 2020.

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