Special 2021 Deduction For Non-Itemizers Giving To Charity

Giving Tuesday is coming up at the end of November, so here’s a special reminder about this year’s “bonus” charitable deduction. As part of the CARES Act in 2020, Congress authorized a special charitable deduction for 2020 only for people who aren’t able to itemize due to the standard deduction being higher than their itemized deductions. The limit was $300, and that was the case whether Single, Head-Of-Household, or Married Filing Jointly. The Taxpayer Certainty and Disaster Tax Relief Act of 2020, passed late last year extended this deduction into 2021 and doubles it to $600 for joint filers.

As with last year, to qualify, the donation must be in cash, it must be to a qualifying organization (which is the same as for charitable donations as itemized deductions), it must be made by 12/31 (2021 this year), and appropriate records must be kept. As with itemized deductions, you can check whether the organization qualifies using the IRS’s Tax Exempt Organization Search. A $300 or $600 deduction may not sound like a lot, but many people have already made, or are about to make, some cash contributions for friends, colleagues, or family members that are raising money for various organizations. If you’re going to make the contribution regardless of the tax benefit, you might as well take the tax benefits that are available. In most cases, substantiation simply requires an acknowledgement from the organization (including stating that you received no benefits for your donation) and a cancelled check or credit card statement. (For detailed record keeping requirements and special cases, see Charitable Contributions – Deductions & Recordkeeping in the blog archives.) So save those “thanks for your contribution” acknowledgement emails and keep a running list of your cash donations this year, whether you itemize or not. They will come in handy to the tune of up to $300 or $600 in deductions at tax prep time.

Updated 2022 Tax Numbers

The IRS has released the key tax numbers that are updated annually for inflation, including tax brackets, phaseouts, standard deduction, and contribution limits.  Due to rounding limitations, not all numbers have changed from last year, but tax bracket thresholds have increased by just over 3%.  The notices containing this information are available on the IRS website here and here.  Some notable callouts for those who don’t want to read all the way through the update:

  • Max contributions to 401k, 403b, and 457 retirement accounts will increase by $1,00 to $20,500 (+$6,500 catch-up, which remains constant, if you’re at least age 50).
  • Max contribution to a SIMPLE retirement account will increase by $500 to $14,000 (+$3,000 catch-up if you’re at least age 50).
  • Max total contribution to most employer retirement plans (employee + employer contributions) increases from $58,000 to $61,000 (+$6,500 catch-up, again for those 50 or over).
  • Max contribution to an IRA remains at $6,000 (+$1,000 catch-up if you’re at least age 50).
  • The phase out for being able to make a Roth IRA contribution is $214k (married) and $144k (single). Phase out begins at $204k (married) and $129k (single).
  • The standard deduction increases by $800 to $25,900 (married) and by $400 to $12,950 (single) +$1,750 if you’re at least age 65 and single or $1,400 each if you’re married and at least 65.
  • The personal exemption remains $0 (the Tax Cuts & Jobs Act eliminated the personal exemption in favor of a higher standard deduction and child tax credits).
  • The child tax credit reverts back to pre-2021 rules at $2,000 per child, phasing out between $400-440k (married) and $200-220k (single).  Note: it’s possible that 2021 tax treatment may be extended to 2022 or beyond, if the Build Back Better plan passes Congress.  Stay tuned.
  • The maximum contribution to a Health Savings Account (HSA) will increase to $7,300 (married) and $3,650 (single).
  • The annual gift tax exemption increases by $1,000 to $16,000 per giver per receiver.
  • The lifetime gift / estate tax exemption increases to $12,060,000.
  • Social Security benefits will rise 5.9% in 2020.  The wage base for Social Security taxes will rise to $147,000 in 2022 from $142,800.

You can find all of the key tax numbers, updated upon release, on the PWA website, under Resources.

Tax Increases & Retirement Funding Limits Incoming

The House Ways and Means Committee released a tax plan designed to pay for (part of?) the bi-partisan Infrastructure Bill and the larger spending bill that Democrats are trying to pass through a process known as “reconciliation”.  The House tax plan contains fewer tax hikes and fewer changes to the tax code overall than President Biden’s initial plan released earlier this year.  While the President’s plan always seemed unlikely to garner enough support, the House plan has the makings of a real starting point for negotiation.  The Senate is moving forward with its own legislation and eventually, both Chambers will need to pass a bill, then reconcile into one bill which is re-passed.  With the Democrats having slim margins in both the House and Senate (courtesy of the VP tie-breaker there), it will be difficult to get enough support from the progressive and more moderate side of the party at the same time.  They’ll either need to do that or bring some Republicans on board in order to get enough votes to pass the broad package.  In summary, there are bound to be a lot of changes to the details here, but we’re close enough to actual proposed legislation, that I thought it would be a good idea to lay out the key portions of the current proposal.  As a side note, there is a fair shot that some/all of the changes will wind up being last minute, end-of-year, potentially retroactive to this year changes.  The timing of enactment and the effective date of each change are going to determine whether or not any action can/should be taken to minimize the impact of tax hikes, or take advantage of temporary opportunities for deductions, credits, etc.  December is going to be a fun month tax-wise, as it has been for the past several years.  Stay tuned.

Currently Included in the House Plan:

  • An increase in the top marginal income tax rate from 37%, back to where it was pre-TCJA at 39.6%.  In addition, the 32% and 35% brackets would be compressed so that the top bracket begins at $400K Single / $450K Joint.
  • A 3% “surtax” on those earning more than $5M in a given year.  A surtax is just a fancy way of adding to the income tax rate, effectively creating a new top bracket of 42.6% for those earning > $5M.
  • An increase in the tax rate on long-term capital gains (LTCG) tax for upper-income taxpayers (in the top tax bracket for LTCG which starts at ~$450K single / 500K joint) from the current 20% to 25%.  Note: this provision would become effective as of 9/13 if I’m reading it correctly (i.e. sales prior to that date would be taxed at the existing rate, sales on or after would be taxed at the new rate).  If true, there’s no ability to sell in advance, though since the rate is only going up 5%, and that might change in a future administration, I can’t see why anyone would sell anything other than for a short-term need anyway.
  • A decrease in the corporate tax rate from the current 21% to 18% for low-income (up to $400K) corporations and an increase to 26.5% for high-income (over $5M) corporations.
  • Limits on the 199A “20% small business deduction” to a max of $400K Single / $500K Joint.  Those aren’t income limits to take the deduction…  they’re limits on the max amount of the deduction.  There had been an alternate proposal (Wyden plan) to eliminate the Specified Services Trade or Business provisions as well as the W-2 income and unadjusted basis of assets provisions, and instead just institute income limits.  That’s not included in the House plan.  (Of course it’s not…  it would have simplified something!)
  • Contributions to IRAs / Roth IRAs would be prohibited if their value (in aggregate in case there are multiple accounts) exceeds $10M in value and income for the year exceeds $400k single / $450k joint.
  • Add a new Required Minimum Distribution (RMD) to IRA, Roth IRA, and defined contribution (e.g. 401k) accounts (in aggregate) that exceed $10M in value if income for the year exceeds $400k single / $450k joint.  The RMD would be 50% of the amount that exceeds $10M.  Additionally, if the balance of those accounts exceeds $20M, a 100% distribution is required from the Roth portions until the total balance is less than $20M or the Roth accounts are exhausted.
  • Roth IRA conversions and 401k Roth Conversions would be prohibited for those with income over $400k single / $450k joint.  Additionally, after-tax contributions to 401k and the conversion of after-tax contributions to Traditional IRAs would be prohibited regardless of income (i.e. the end of the “backdoor Roth” and the “mega backdoor Roth”).
  • IRAs would not be able to hold 1) private investments that can only be offered to “accredited investors”, 2) securities in which the owner has a >= 50% interest (10% if not tradable on an established securities market), and 3) the securities of an entity in which the IRA owner is an officer.
  • Lifetime gift / estate tax exclusion is reset to its 2010 level of $5M per individual (adjusted for inflation) instead of that happening after 2025 as scheduled by TCJA.
  • Changes to bring most Grantor Trusts back into the estate of the grantor and to eliminate the valuation discount frequently used when gifting portions of family limited partnerships (FLPs) to the next generation.
  • More money for the IRS to boost its audit programs.  Everyone hates and audit, but this is sorely needed.  The IRS lacks the resources to keep up with tax cheats.

Notably Not Currently Included:

  • Increase in the State And Local Tax (SALT) maximum deduction.  This is the cap put in place as part of the TCJA that limits both single and joint filers to a maximum Federal deduction of $10k for taxes paid to states and localities.  Several high-tax state representatives in the House have said they will not vote for any tax and spend package that doesn’t relax the current SALT limit, and House leadership has implied that a change to the SALT deduction is still on the table and may be added to the bill at a later date.
  • Loss of Basis “Step-Up” at death.  This feature of the current tax code allows those who inherit property (real estate, securities, farms, businesses, etc.) to have the cost basis of the property reset to its value on the date of death of the owner.  This allows substantial gains to go untaxed if the property is held until death.  The President’s tax plan would curb basis step up, but such curbs were not included in the recent draft from the House.  The head of the Senate Finance Committee has indicated that this may wind up in the Senate bill, so it’s not dead yet either.
  • Elimination of tax-free loans from securities portfolios.  The current tax code allows owners of brokerage accounts to use the account as collateral to take out loans.  The proceeds from the loans can then be used to support expenses, rather than selling assets and potentially paying capital gains tax on those sales.  This practice helps to avoid selling assets such that basis can be stepped up at death (see bullet above) and capital gains tax is never collected.

American Rescue Plan Act (ARPA) of 2021

With the latest covid relief / stimulus bill now signed into law, I wanted to give the usual summary of the key financial planning / tax-related elements that may impact clients. Another round of stimulus checks has gotten most of the press to date about the $1.9 trillion legislation, but there are quite a few provisions, including those stimulus checks, in here that are worth noting:

  • Direct Payments (Stimulus Checks) – $1400 per eligible individual, $2800 for joint filers, and $1400 per qualifying dependent (which include full-time students under 24 and adult dependents this time). The payment begins phasing out at $75k per individual filer and $150k per joint filer, and is completely phased out at $80k individual and $160k joint, regardless of the size of the payment (different that in previous rounds of stimulus). See the graphic from the Tax Foundation below for a visual depiction of the phaseouts. The IRS will use 2020 income if available, otherwise 2019 to determine the payments. These will be reconciled on 2021 tax forms so that anyone who should have received a payment based on 2021 income and didn’t, will get a credit for the missing amount. Anyone who received a payment and shouldn’t have based on 2021 income will not have to pay it back. Payments are set to start going out the weekend of 3/13/21.
  • Unemployment Benefits:
    • Extension to the first week of September of the additional $300/week of Federal unemployment benefits which is added on to existing state benefits.
    • New provision that exempts the first $10,200 per person of unemployment benefits from tax for 2020. Limited to those with AGI < $150k single or joint (all filers, no phaseouts). The IRS is expected to provide guidance in the coming weeks for those who already filed their 2020 returns and treated the unemployment benefits as taxable. Note that this is for 2020 only. It currently does not include 2021 benefits. The IRS has released guidance on how this should be reported for tax purposes for those who have not filed yet. Tax software will need to be updated over the next few weeks to reflect the change and make sure everything passes through to state returns correctly.
  • Child Tax Credit – formerly $2k per child under age 17, now raised to $3k per child for children age 6-17 and $3600 for those under age 6. Lower income phaseouts apply to the expanded credit through (starting at $150k married, 75k single and reducing the enhancement portion of the credit by $50 for each $1k of income over the threshold). The law also instructs the IRS to pay the Child Tax Credit periodically (monthly?) for the 2nd half of 2021, meaning additional periodic checks to be received by qualifying taxpayers. Keep an eye on this. While we don’t know yet how it will be implemented, if you start receiving checks for the credit through the year and you have withholding set to take the credit into account, then you’ll need to adjust withholding or you’ll wind up owing the credit back in April. When the IRS sets this up, they’re supposed to provide a website which will allow you to opt out. Keep in mind that the IRS hasn’t even opened some mail from mid-2020 yet, so they have a bit on their plate. A good article from Kiplinger in available with more details.
  • Dependent Care Credit – For 2021 only the credit will be worth up to 50% (was 35%) of eligible expenses up to $8k for one child or $16k for more than one (was $3k/$6k) with a sliding scale % based on income. It is reduced at income levels over $125k and reduced below the previous lower bound of 20% at income levels over $400k (i.e. this is a reduction in credit available at those levels vs. previous years).
  • Dependent Care Flexible Spending Accounts (DCFSA) – for 2021 only, you can contribute a max of $10,500 (instead of the usual $5k) toward a DCFSA. But, your employer’s plan has to enact this change and they are not forced to do so. They’d also have to allow mid-year changes in contribution level (which was authorized under the last covid bill). Note that because of the enhancement to the Dependent Care Credit (see above), and the fact that any contributions to a DCFSA reduce the amount of expenses that qualify for the Dependent Care Credit, many taxpayers (generally AGI< mid $100,000’s) would be better off foregoing a DCFSA and using the Dependent Care Credit instead. Again, just for 2021.
  • Affordable Care Act (ACA) – increases subsidies for plans purchased through the ACA exchanges. This includes the level of subsidy for a given income level and the eligibility for any subsidy for a given income level (now > 400% of the Federal poverty level). Total cost after subsidy, regardless of income cannot exceed 8.5% of income. Effective for 2021 and 2022. Also, big change, excess subsidies received for 2020 only will not need to be paid back. And, (even bigger!) if you have any unemployment benefits in 2021, you’re subsidy for 2021 only is 100% of the cost of the second highest Silver plan available to you, regardless of your actual income.
  • COBRA Subsidies – covers 100% (!!!) of COBRA premiums for eligible individuals who are unemployed (lost job or reduced hours, not voluntary termination), and their families, Effective from enactment through 9/30/2021.
  • Earned Income Tax Credit (EITC) – for 2021:
    • raises the maximum credit for those without children to ~$1500
    • makes 19-24 year old workers eligible if they are students
    • makes those over age 65 eligible
    • can use 2019 income to determine EITC instead of 2021.
  • Student Loan Forgiveness – will not be taxable for 2021-2025 (normally debt forgiveness is taxable as income). Note that the new law does not actually forgive any student loans.
  • Employee Retention Credit (ERC) – extended to 12/31/2021, adds new clauses that allow newly formed businesses post 2/15/20 to claim (which wouldn’t be able to claim the credit because they don’t have the required decline in revenue), and adds special benefits to “severely financially distressed employers” with revenue down 90%+ to the same quarter of 2019.
  • Paid Leave Credits – credits for employers that provide paid leave under certain situations (which is no longer mandated). For 4/1/21 – 9/30/21, eligible wages climb to $12k per employee (from $10k), includes vaccination leave as qualified, and increases the leave for self-employed individuals to 60 days (from 50).
  • Executive Compensation Limits – Businesses currently can’t deduct compensation > $1M for CEO, CFO, and the next three highest paid employees. This legislation increases that to the next eight highest paid employees starting in 2027.
  • $15B for new Economic Injury Disaster Loans (EIDL) grants and clarification that EIDL grants are non-taxable and the expenses the money is used to pay are still deductible.
  • $22B toward emergency rental assistance for individuals and families struggling to pay rent and utilities. Renters must meet several conditions to receive the assistance.
  • $10B toward assistance for homeowners struggling to pay their mortgage, utilities and other housing costs.
  • $86B toward rescuing multiple soon-to-fail-without-help union pension plans. The plans that will receive the money cover approximately 11 million people in various unionized trades.
  • $25B Restaurant Revitalization Fund to be administered by the SBA. These are non-taxable grants for qualified businesses.
  • $7B additional funding for Paycheck Protection Program (PPP), mostly under the same rules as before.
  • $350 Billion for state and local government support, which could create more state/local level tax changes or stimulus actions.
  • Various other spending allocations for K-12 schools, vaccines, testing, etc., that are beyond the scope of the financial planning discussions so I won’t dive into the details here. You can read the table of contents of the actual bill/law and dive into those areas if you’re interested. The non-tax provisions are mostly written in English rather than legalese/financialese.

Dec 2020 COVID Relief

This one hasn’t gotten a fancy name yet (that I know of) like the CARES Act since it is attached to the 2021 Consolidated Appropriations Act (the “2021 spending bill” that funds the government), so I’m just referring to it as the Dec 2020 COVID Relief Bill. It was signed into law on 12/27/2020 and consists of ~$900B of funding, not to be confused with the $1.4T in general “keep the lights on” type funding in the rest of the Act. The full Consolidated Appropriations Act is 5,593 pages. I cannot claim to have read the whole thing. However, I’ve skimmed through it and read enough summaries now to feel comfortable calling out the top line virus-related items and the key tax and personal financial planning items for you. This list below includes the COVID Relief Bill portions, the relevant tax and financial planning-related items from the rest of the Act, and a few other callouts. Here goes:

  • Direct Payments (“stimulus checks”) – ~$170B for direct payments to taxpayers. $600 per individual earning $75k or less, or $1200 per couple earning $150k or less, +$600 per dependent child under age 17 (e.g. $2400 for a family of 4 earning $150k or less). Above the $75k/150k threshold, the payment amount drops by $5 for every $100 of income until it is completely phased out. Income used is the lower of 2019 or 2020. Payments will be sent out by direct deposit or check based on 2019 income, but can be trued up on the 2020 tax return if income was lower or more children were born. For more details, see this fantastic article from Forbes, and this nifty chart from the Tax Foundation
  • Unemployment Benefits – $120B. extends emergency Federally funded benefits (including that for self-employed) for 11 weeks and provides a $300/week Federal amount in addition to existing state-provided benefits.
  • Paycheck Protection Program (“PPP”) – $284B extends PPP v 1.0 and issues a new round of funding for PPP v2.0 Additionally, reverses the IRS interpretation that business expenses used to qualify for PPP forgiveness were not deductible. They clarified that those expenses are deductible. It also broadens the list of qualifying expenses for forgiveness to include operating expenses, supplier costs, property damage costs, and PPE expenses, still subject to the limitation that non-payroll expenses cannot exceed 40% of the forgiven loan amount. Not exactly auto-forgiveness for small loans (many were calling for this), but the Act does tell SBA to create a one-page form to apply for auto-forgiveness (*smacks my head*) for loans < $150k. Side note: Auto-forgiveness = Ease of use as the main course, but with a large side of increased fraud. I think this auto-forgiveness means that an applicant would get forgiveness even if payroll was reduced during the covered period, so long as the PPP money wasn’t used improperly and no fraud was involved. PPP v 2.0 is for businesses w/ < 300 employees (<500 if accommodation or food service) and that had at least one quarter of 2020 with revenue at least 25% lower than the same quarter in 2019. Max loan is $2M or 2.5x avg monthly payroll whichever is less, (3.5x for accommodation or food service).
  • Vaccines, Testing, Health – $63 billion for vaccine distribution, testing and tracing, and other health-care initiatives, most of which will be administered by the states.
  • Transportation – $45 billion for transit agencies, airlines ($15B specifically allocated for airline payroll support), airports, state departments of transportation, and rail service.
  • Education & Childcare & Broadband Support – $82B in funding for colleges and schools, including support for HVAC upgrades to mitigate virus transmission + $10 billion for child care assistance + $7B for enhanced broadband access.
  • Nutrition & Agriculture – $26B for food stamps, food banks, school/daycare feeding programs, and payments, purchases, and loans to farmers and ranchers impacted by covid-related losses.
  • Rental Assistance – the eviction moratorium is extended through 1/31/2021 (for now). $25B is authorized to help troubled renters and landlords by paying future rent and utilities as well as back rent owed or existing utility bills.
  • SBA Loan Relief – The CARES Act authorized SBA to pay up to six months of principal and interest on existing Section 7 SBA Loans for impacted borrowers. This Act extends that by another three months.
  • Economic Injury Disaster Loans (EIDL) – $20B in additional funding for businesses in low-income communities + $15B of dedicated funding is set aside for live venues, independent movie theatres, and cultural institutions.
  • Credit for Paid Sick + Family Leave – this was created by the Families First Act and is now extended through 3/31/2021 (was 12/31/2020).
  • Employee Retention Tax Credit – created under the CARES Act, is extended through 6/30/2021 and improved. It’s now up to 70% of wages capped at $10k of wages per employee per quarter, instead of 50% capped at $10k in total. Business qualifies if revenue for the quarter was down at least 20% from the same quarter in 2019. Important: it appears this credit is now allowed along with a PPP Loan (under the CARES Act, it was one or the other), though you still can’t double count the same wages for the credit and PPP forgiveness.
  • Payroll Tax Deferral – the president signed an executive order in September allowing employers to opt in to a payroll tax deferral for employees. Almost no one did (except the government) because it was too risky on the employer and deferral for a few months was pretty meaningless. Those that did were supposed to repay the deferral by 4/30/2021. That has now been extended to 12/31/2021, giving more time to spread out the payback.
  • Lookback for Earned Income Tax Credit and Refundable Child Care Credit – taxpayers can, but don’t have to, use 2019 income instead of 2020 income to qualify for these in 2020.
  • Residential Solar Tax Credit – this was reduced to 26% of the cost of the project in 2020, scheduled to drop to 22% in 2021, and then eliminated after 2021. The Act extends the 26% credit for 2021 and 2022, dropping to 22% for 2023. It is now eliminated in 2024, unless additional legislation is passed.
  • Employer Paid Student Loans – Employers can continue to give up to $5250 per year tax-free to employees for student loan principal and interest repayment (either direct to the loan or to the employee to pay the loan). This is extended through 2025 (was set to expire at the end of 2020).
  • Tuition Deduction / Lifetime Learning Credit – The tuition deduction, unless extended in other legislation, is gone. Instead, there is now a higher income threshold for the Lifetime Learning Credit, now sync’d up with the American Opportunity Credit phaseout ($80-90k single / $160-180k married).
  • Student Loan Payment Forbearance – this WAS NOT extended in the Act. Student loan payments resume 1/1/2021.
  • Retirement Plan Distributions / Loans – The CARES Act allowed up to $100k of distributions from retirement plans for covid-impacted individuals, waiving the 10% penalty, and allowing the amounts to be repaid over 3 years such that no net tax would be owed. It also raised the 401k loan amount to the minimum of $100k or 100% of the balance (from $50k or 50%). These were effective through 12/30/2020. This treatment is now extended to non-covid-related Federally declared disaster areas between 1/1/2020 and 2/25/2021 where the individual has their principal place of residence and is economically impacted by the disaster.
  • Retirement Plan Required Minimum Distributions – these were waived by the CARES Act for 2020. This WAS NOT extended by the new Act. RMDs will be required for 2021 unless additional legislation is passed.
  • Medical Expenses Deduction – the deduction for medical expenses has been bouncing back and forth between a 7.5% AGI floor and a 10% AGI floor for years. It’s 7.5% for 2020 and was supposed to revert back to 10% for 2021. The Act sets this to 7.5% PERMANENTLY. One thing I can stop writing about every year!
  • Mortgage insurance premiums – remain deductible for another year through 2021.
  • The taxability of forgiven housing debt (foreclosure/short-sale) – is extended to 2025, but the amount is reduced to $375k single / $750k married.
  • Charitable Giving – The $300 charitable contribution deduction for those who don’t itemize is sticking around for 2021 now and joint filers will get $600 instead of $300 for 2021. Remember this is for cash donations only and donations to a Donor Advised Fund don’t count. And, the cap on the portion of your income you can give via a cash donation (other than to a Donor Advised Fund) and deduct stays at 100% for 2021.
  • Healthcare & Dependent Care Flexible Spending Account (FSA) flexibility – The Act allows plans to allow 2020 unused amounts can carryover to 2021 and 2021 can carryover to 2022. Additionally, the Act allows 2021 elections to be modified even though benefits enrollment is now closed for most employees. However, this only updates what the law will allow employer plans to do. The plans themselves would have to adopt the change in order for employees to be able to use the increased flexibility. Check with your benefits rep to see if your plan is adopting / has adopted the change.
  • Educator’s Deduction – this is the $250 per year that teachers get to deduct for money spent on school supplies for their classrooms (as if that’s all teacher’s spend on their classrooms). PPE and cleaning supplies now qualify for that $250.
  • Business Meals – for business owners, restaurant meals are 100% deductible for 2021 and 2022 (formerly only 50% deductible) as long as they meet the requirements of the previous 50% deduction (i.e. non-lavish, taxpayer is present, etc.). Note that this still does not include employee expenses, only schedule C filers. Applies to dine-in or take-out.
  • Surprise Billing Fix – an attempt to reduce the amount of “surprise billing”, which typically occurs when a patient goes to an in-network facility and uses an in-network doctor, but is provided services by an out-of-network provider along the way (e.g. anesthesiology, transportation, etc.). There are lots of carve outs and exceptions, so I’m skeptical of how much this really fixes, but it’s a start at least, going into effect in 2022. I’m sure much more will be written on the implications here soon.
  • Financial Aid Changes – Student Loan Application (FAFSA) simplification – lots of changes here, but they don’t go into effect until 2023. In the interest of time, I’ll table this one for now. Just know there are changes coming. Additionally, the number of Pell Grants will be increased.

In order to reach a bipartisan agreement, both of the following WERE NOT INCLUDED in the Act:

  • Business liability protection (i.e. can’t sue if you get covid at a business as long as they were following CDC guidelines), which Republicans wanted
  • State and Local Aid above and beyond that specifically budgeted for the items in the Act, which Democrats wanted.

I suspect there will be more to come, though the type of relief/stimulus likely depends on the outcome of the GA Senate run-offs. There is already a proposal to increase the $600 direct payments to $2000, supported by the House and the President, but that will have a difficult time in the Senate. We’ll have to wait and see what happens.

Special 2020 Deduction For Non-Itemizers Giving To Charity

It’s Giving Tuesday, so here’s a special reminder about this year’s “bonus” charitable deduction. As part of the CARES Act, Congress authorized a special charitable deduction for 2020 for people who aren’t able to itemize due to the standard deduction being higher than their itemized deductions. The limit is $300, and that’s the case whether your Single, Head-Of-Household, or Married Filing Jointly. To qualify, the donation must be in cash, it must be to a qualifying organization (which is the same as for charitable donations as itemized deductions), it must be made in 2020, and appropriate records must be kept. As with itemized deductions, you can check whether the organization qualifies using the IRS’s Tax Exempt Organization Search. A $300 deduction may not sound like a lot, but many people have already made, or are about to make, some cash contributions for friends, colleagues, or family members that are raising money for various organizations. If you’re going to make the contribution regardless of the tax benefit, you might as well take the tax benefits that are available. In most cases, substantiation simply requires an acknowledgement from the organization (including stating that you received no benefits for your donation) and a cancelled check or credit card statement. (For detailed record keeping requirements and special cases, see Charitable Contributions – Deductions & Recordkeeping in the blog archives.) So save those “thanks for your contribution” acknowledgement emails and keep a running list of your cash donations this year, whether you itemize or not. They will come in handy to the tune of up to $300 in deductions at tax prep time.

Election Blues (And Reds)

Given the market volatility around the 2016 election results and election day tomorrow, I thought it would be a good idea to do a Q&A-style post about the election and its potential impacts.

Q: Who’s going to win the presidential election?

A: There’s no way to know for sure at this point, and it’s pretty likely that we won’t know tomorrow night either. But, if you believe the polls and the work of statisticians such as Nate Silver (fivethirtyeight), Biden has about a 90% chance of winning. If you believe the betting markets, Biden has about a 60% chance of winning. These are two very different ways of analyzing the election probabilities. Analyzing the polls is essentially using the estimated margin of error in each poll and weighting the polls by their likely accuracy to determine the mathematical chance of the overall margin of error being big enough for Biden to lose and Trump to win despite the polling averages showing a lead for Biden on average. The betting markets on the other hand are showing the odds that a bettor on Biden would be willing to take (betting $3 for a chance to win $2 more) vs. what a Trump better would be willing to take (betting $2 for a chance to win $3 more). The betting is purely opinion-based and is an average of what all bettors think is going to happen in aggregate. It’s possible that both are somewhat skewed. I don’t really believe the hype around Trump supporters lying to polls, but it’s possible that they’re harder to reach to poll. It’s also well known that the betting markets are male-dominated and that Biden’s lead over Trump is much lower among men than women. Since people often bet in a way that favors what they’d like to see happen, that could skew the odds toward Trump’s side. If I had to guess, I would go somewhere in between and say that Trump has about a 30% chance of winning. That means I’d be willing to bet $3 to win at least $7 on him, or be willing to bet no more than $7 to win at least $3 on Biden. 30% is not zero. The favorite doesn’t always win, as we saw in 2016. A good baseball hitter gets a hit about 30% of the time. There are lots of hits in baseball. There are more outs though.

Q: What about the Senate?

A: 538 gives the Democrats about a 75% chance of taking control of the Senate (including a 50-50 split with a Democratic president), with the most likely scenario being 51-49. Betting markets. again, have the race closer with Democrats having a 60-65% chance of winning. The closest races are in GA (2), NC, IA, ME, and MT. Interestingly, the second GA senate seat is a special election to fill a vacant seat and has multiple candidates from both parties. If a majority isn’t reached, a runoff will take place on January 5, 2021. That could be the seat that decides control of the Senate and a runoff has a decent chance of happening at this point.

Q: What impact will the election results have on the stock market?

A: I don’t think that answer would be clear even if we knew today exactly how every race would turn out. That’s because there are so many potentially offsetting impacts. Here are some of the possible scenarios:

  • Biden wins, the Democrats take control of the Senate by several seats, and the Democrats keep decisive control of the House – corporate tax rates likely increase (clearly bad for stocks), taxes on higher income individuals likely increase (probably bad for stocks, at least short-term), higher regulation (probably bad for stocks, at least short-term), large stimulus package gets passed (probably good for stocks, at least short-term), more certainty (probably good for stocks), less pressure on global trade (probably good for stocks) less political angst (impeachment, oversight inquiries, etc… probably good for stocks).
  • Biden wins and the Democrats control the Senate and the House by a small margin – tax picture a little more blurry, regulation still likely to increase, still likely to get a large stimulus package, but allocation to state/local may be a bit smaller, still a boost to global trade, a little less certainty, still less political angst.
  • Biden wins and the Dems & Republicans each control one chamber – tax changes are unlikely (probably good for stocks as a relief to the alternative), smaller stimulus likely (probably bad or less good for stocks at least short-term), still a boost to global trade, more political angst.
  • Trump wins and the Dems control both chambers – tax changes very unlikely, large stimulus likely, much more political angst, and global trade challenges continue (worsen?).
  • Trump wins, the Republicans hold the Senate, and Democrats hold the House (status quo) – tax changes unlikely, stimulus likely smaller with less support for state/local and maybe a big battle to get it done at all, political angst steady, and global trade challenges continue (worsen?).

Longer-term, I really don’t think it matters who wins. Take a look at the chart below from Capital Group:

Sure, there are some dips in that chart, but for the most part it’s a steady upsloping line for 87 years regardless of party. By the way, I don’t think one can make any conclusions about which party is better for the market from that chart because the market prices in election results prior to the election and certainly prices in likely policy changes between election and inauguration. The takeaway should be that from a purely stock market perspective, if you zoom out far enough, it doesn’t really matter who wins a single presidential election.

Q: You said that we probably won’t know the result of the election tomorrow. Why not? When will we know?

A: Each state has their own method of counting ballots. The NY Times recently attempted to summarize those methods. The battleground states have some significant differences. Florida, for example, has already counted many ballots received by mail and will release those counts along with in-person early voting by 8:30pm eastern. Election Day ballots will be counted through the night, but no additional mail-in ballots are allowed after 11/3. So we’ll know who won FL by 11/4 morning barring a 2000-like “hanging-chad” incident. Ohio also plans to release pre-election day votes 11/3 evening (by 8pm) and will count election day votes through the night. But, in stark contrast to FL, they will allow ballots postmarked by 11/3 and received by 11/13 to count, and then won’t provide updated results as those ballots come in. As of 11/2, officials say that full statewide results may not be known until the election is certified by the state on 11/28. Since the state knows how many mail-in ballots were sent out, it will know the maximum that could be received, but if neither candidate leads by enough to make it statistically impossible for the mail-in ballots to swing the results, it sounds like Ohio can’t be called until 11/28! 538 recently published a graphic with their opinion of the state-by-state portion of the vote that should be counted on election night:

There is a chance that one of the candidates will have enough of a lead in battleground states, that that ballots received and counted after 11/3 won’t matter and the election results could be known on 11/3 or 11/4. Again, we can rely somewhat on betting markets to gauge opinion of the probability. PredictIt has a wager on when the election will be “called” by both CNN and Fox News. That wager shows the odds of being called on:

  • Election Day = ~23%
  • November 4th = ~31%
  • November 5th = ~7%
  • November 6th or 7th = ~6%
  • Later in November = ~18%
  • December or later = ~15%

Personally, if I were a betting man, I like the combination of after 11/4 for better than even odds. Maybe that’s more of an emotional hedge though. I certainly hope for a result by the 4th!

Q: What’s the market going to do if we don’t know who won or if the election is contested?

A: We know the stock market didn’t like the 2000 election result process (the FL “hanging chad” election), but it wasn’t exactly catastrophic, as the chart of the S&P 500 shows. It also wasn’t long-lasting.

A contested election that results in not only recounts, but lawsuits that potential swing a result from one candidate to another, etc., could be temporarily much worse. But it’s unlikely that an election with a large margin of victory would be contested and even lower chance that it would reverse the result. So, a very close election with no clear result, that leads to social unrest could certainly hurt financial markets temporarily. Some unrest is likely no matter what the result given current political polarization. The less clear the result is and the more it seems to change, the higher the risk of extreme volatility. I have a high degree of confidence that the next president will be inaugurated on January 20th, regardless of how the election goes. With all of that said, the stock market does a very good job of factoring-in event probabilities and their impacts (including support by the Federal Reserve if things really go off the rails). That means the market is likely to respond very positively, all else being equal, to a clear winner. There’s no way to game the system without a crystal ball or time machine.

Q: Give it to me straight, all-in-all is tomorrow night going to be a mess for the stock market?

A: If you define mess as volatile (bouncing sharply in either/both directions), I’d say that’s much more likely than on an average night. If you define mess as the market falling sharply, I don’t think anyone knows in advance. The better question though is whether what happens tomorrow night matters. I made this short post at about 11pm on election night 2016. Stock futures were down 4.5% at the time and got slightly worse as the result became clear. By 8am, futures were barely down. By the close on 11/9, stocks closed up a little over 1% from the election day close, completely reversing the overnight pullback. By the end of 2016, they were up almost 10% from the day of the election and even now, mid-pandemic, they’re still up over 50% (S&P500) from that election. People are on edge over the election for reasons that far outweigh finance. I get it. The moral of the story here is that there’s little/no reason to let predictions of, or even actual, stock market volatility add to your anxiety.

To summarize:

  • For the markets, the election is all about probabilities. While Biden is favored to win and the Democrats are favored to narrowly take the Senate, neither is anywhere near a sure thing.
  • There are dramatic, offsetting impacts to the economy and financial markets, at least short-term, in every possible scenario. Each is currently priced in, probability-weighted.
  • It may take a while for election results to unfold with certainty.
  • It may be chaotic in the markets for a while and that could include big down or up moves as a clearer picture of the future arrives.
  • Long-term, the 2020 election barely matters from a financial point of view. If you’re feeling anxious, try to zoom out for perspective. Stick to your plan. Things are going to be ok.

Note: Many of the links in this post are being updated periodically with new information as election information evolves (538, NY Times, etc.).

Coronavirus Aid, Relief, and Economic Security (“CARES”) Act

This week Congress passed and the president signed into law the CARES Act. This 335-page (840 under bill format), $2 trillion dollar piece of legislation contains a LOT of complicated provisions. I’ve skimmed through it and read multiple commentaries in detail to try to create a summary of the financial pieces that are most important to PWA clients. As always, there will be a lot of interpretations, details, and guidance that will follow from the IRS, the Dept. of Labor, the Treasury, SBA, etc. Here’s what I understand at this point:

· Direct Payments to Individuals – $1200 for individuals ($2400 for joint taxpayers) that are not dependents of another taxpayer + $500 for each child under age 17. The payments are reduced if income exceeds $75k (single), $112,500 (head of household), or $150k (joint), by $5 for every $1k in excess of the threshold (see the Tax Foundation’s excellent graphic on how this will work). For threshold income, the IRS will use 2019 adjusted gross income (AGI) for the initial payment. If you haven’t filed your 2019 return by the time the payment is calculated, they’ll use 2018 instead. The amounts you receive with then be reconciled against income on your 2020 tax return. If you should have received a payment based on 2020 income but did not, you’ll get the excess as a credit on your 2020 return. If you received more than you should have based on 2020 income, my understanding is that you will not have to repay the difference. Because of this, it may be best to make sure you get your 2019 tax return in ASAP if you’d qualify based on 2019 income, but not 2018 income, or to delay 2019 if you’d qualify based on 2018 but not 2019. These direct payments will be made by 4/6/2020 via direct deposit on file with the IRS as of the latest filed tax returns, or along with Social Security payments if you receive Social Security, or by check if you don’t receive Social Security and there is no direct deposit information on file or if the direct deposit information cannot be used for some other reason. The IRS is going to provide a phone number for issues around payments that aren’t received but should have been received. If you just cringed/laughed at the idea of millions of people potentially calling one IRS number and sitting on hold for days, so did I. It is what it is.

· Expanded Unemployment Benefits – $600 / week increase in benefits + 13 more weeks of benefit available + an expansion of benefits to those who normally don’t qualify (self-employed, independent contractors, and those with limited work history) + elimination of the one-week waiting period. Note that the average unemployment compensation amount prior to this expansion was only $372 / week nationwide, so an additional $600 / week is significant. For some workers, it may even be more than they were earning while working.

· Partially Forgivable Small Business Loans – The “Paycheck Protection Program”. $350 billion authorized. Businesses (including sole-proprietors and independent contractors) with 500 employees (full or part-time) or less, can borrow up to the lower of $10M or 2.5x monthly payroll (avg of the last year), excluding any amount over $100k per year for each individual. Self-employment income supposedly counts as payroll. I would venture to guess that S-Corp profits do not, since they don’t pay payroll taxes. Loan proceeds can be used for payroll support, employee salaries, mortgage payments, rent, utilities, and any other debt obligations incurred before the covered period. Loans are non-recourse (no personal guarantee or collateral needed) unless the proceeds are used for a non-approved purpose. Interest can’t exceed 4%. Loans can be for up to 10 years. Borrowers will be eligible for loan forgiveness for an amount equaling payroll (max $100k per employee) and operating costs for the first 8 weeks after the loan is issued. However, the loan forgiveness is subject to maintaining the same number of employee equivalents (FTEs) from 2/15/2020 to 6/30/2020 as it had in 2019 or from 1/1/2020 to 2/15/2020 and not cutting salaries/wages for those earning $100k or less by more than 25%. If you don’t maintain payroll, loan forgiveness is reduced / eliminated by a very complicated formula that isn’t clear to me. Please see this brochure produced by the Chamber of Commerce with more details on these loans. More great information is available in this Forbes article from 3/28, including some of the unanswered questions, specifically around how all of this works for businesses with no employees (like independent contractors). There are lots of open questions. If you own a small business, stay tuned for more info soon from the SBA, along with a list of eligible lenders that will facilitate the loan. These loans are going to be administered by the SBA which currently has nowhere near the manpower to handle what’s being asked of them (my opinion). The CARES Act recommends that SBA direct lenders to “prioritize small business concerns and entities in underserved and rural markets, including veterans and members of the military community, small business concerns owned and controlled by socially and economically disadvantaged individuals, women, and businesses in operation for less than 2 years.” I suspect there will be a lot of “first-come-first-served” prioritization as well, so getting to the front of the line once lenders are ready to accept applications could mean a lot if your business is dependent on this program for survival. You must apply by 6/30/2020 to be eligible for one of these loans. Keep in mind that there is an existing program via the SBA that has nothing to do with the CARES Act which is already available to provide loans up to $2M to small businesses impacted by covid-19. You can find more information at https://www.sba.gov/page/coronavirus-covid-19-small-business-guidance-loan-resources, under the topic for Economic Injury Disaster Loan Program. The CARES Act also provides funding to lenders who agree to forbearance on existing SBA loans during the covid-19 emergency.

· Larger Business Loans – $500 billion authorized. Direct loans to corporations or via purchase in primary or secondary markets. Directed by Treasury with oversight from a bipartisan congressional oversight committee. A limited portion is made available for airlines, air cargo carriers and businesses critical to maintaining national security. Borrowers must be created, organized and have a significant presence in the United States. All loans are supposed to be secured and are intended for businesses that don’t have reasonable access to other credit. Borrowers can’t buy back their own stock, issue dividends, or reduce their workforce during the term of the loans. There are also compensation caps for highly-paid employees during the term of the loan. While the terms of the loan are at the discretion of Treasury, they must come along with a warrant (long-term term right to purchase stock at a fixed price), equity interest, or senior debt instrument. These are intended to compensate the government for the loan. Proceeds pay for the program, with any excess going to Social Security. Any company where a controlling interest (defined as over 20 percent of controlling stock) is held by president, the vice president, executive department head, or Member of Congress or their families is rendered ineligible for financial assistance in the form of loans or investments provided under the CARES Act.

· Employee Retention Tax Credit – Credit for businesses that were impacted by covid-19 (government stay-at-home orders, restrictions on operations, or at least a 50% decline in year-over-year revenue for at least one quarter). The credit is for 50% of the first $10k of qualified wages paid to employees between 3/12/2020 and 12/31/2020. For businesses with more than 100 employees, qualifying wages are those paid to employees while they’re unable to do their job. For those with 100 employees or less, qualifying wages are all wages paid. Employers who receive a loan under the “Paycheck Protection Program” are not eligible for this credit.

· Employer Payroll Tax Delay – employers can delay paying their half of payroll tax on wages for the remainder of 2020 to 2021 and 2022 (half each). Does not apply if the employer receives forgiveness of any loan made under the “Paycheck Protection Program” provisions described above.

· Retirement Plan Early Distributions – new hardship withdrawals up to $100k allowed for those with covid-19-related needs. The 10% penalty is waived. Tax is still due, but it can be spread over three years (it will be spread over three years by default, unless you elect out). You can also recontribute the amounts that were withdrawn within three years and face no additional tax. The re-contributions are not subject to the IRS contribution limits for any given year. To qualify, you have to get the virus, a spouse or dependent does, or you have to have virus-related financial difficulty which is pretty liberally defined (laid off, furloughed, hours reduced, income reduced, can’t work due to childcare needs, etc.).

· Retirement Plan Loans – increases the size of allowed loan to 100% or $100k, whichever is less from the current 50% or $50k, whichever is less. Loan payments due between 3/27/2020 and 12/31/2020 can be delayed for up to a year.

· Retirement Plan Required Minimum Distributions – these are suspended for all retirement plans and inherited retirement plans for 2020.

· Employer Payments For Student Loans – Up to $5250 of employer payments toward employee student loans would not be considered taxable to the employee.

· Individual Student Loan Payments – Federal student loan payments can be suspended, interest-free, through Sep 2020. Borrowers may need to take action though to stop any scheduled recurring payments (if desired). They may not be stopped automatically. No credit reporting impact.

· Mortgage Forbearance – individuals/families impacted by covid-19, with Federally-backed mortgages (FHA, Fannie, Freddie, VA, etc.) can request forbearance (no payments) for up to 180-days. If necessary, this can be extended by an additional 180-days. No penalties apply during forbearance, though interest continues to apply as scheduled.

· HSA/HRA/FSA Qualified Expenses – modified to allow over-the-counter drugs, not just prescription drugs, as qualified medical expenses. Also adds various feminine products to the allowed list of eligible expenses. I’m not sure that the broad inclusion of over-the-counter drugs was intended, but based on the changes made to the tax code by the CARES Act, it seems like that’s what happened. More to come on this as clarification emerges.

· Charitable Contributions – previously only allowed for those who itemize, a new, seemingly permanent tax deduction has been added for up to $300 of charitable contributions for those who don’t itemize. It’s what is known as an “above the line” deduction.

· Net Operating Loss (NOL) – losses in 2018, 2019, or 2020 can be carried back 5 years (have to elect out of that treatment if you don’t want it). TCJA previously eliminated carrybacks of two years so that all losses had to be carried forward. For individuals, losses can offset up to 100% of income vs. TCJA’s 80% limitation.

There are many other provisions providing funding for and modifying regulations dealing with health (including requiring that insurers cover all covid-19 treatments and vaccine and make all testing free to individuals, funding for hospitals, telehealth, drug development and access, the CDC, the VA and the building/rebuilding of the strategic national stockpile of medical supplies), education, state & local government, the arts, and banking.

The SECURE Act & Tax Extenders

Over the last week, Congress passed its Appropriations Act, designed to continue to fund the government. To it, they attached the SECURE Act (Setting Every Community Up for Retirement Enhancement) and the extension of multiple expired/expiring tax provisions, known as the “Tax Extenders”. The president is expected to sign the entire bill before departing for the holidays.

The SECURE Act modifies a number of qualified plan (401k, SIMPLE, SEP, etc.) and IRA/Roth IRA rules, along with a couple of 529 plan rules and the treatment of the “kiddie tax”. Below, I highlight the changes along with their likely impact on PWA clients. Virtually all of these changes take place as of 1/1/2020, but unlike the last few tax changes that passed in late December, there is no action that you need to take immediately. If you’re having trouble sleeping, you can read the Secure Act in its entirety on pages 1532-1656 of the Appropriations Act. There are only a few tax extenders that are likely to impact PWA clients. I’ve highlighted those below as well. For the full list, see pages 3-26 of the Division Q amendment to the Appropriations Act.

Secure Act Summary

First a little editorial… the name of the Act (Setting Every Community Up for Retirement Enhancement) and a lot of the press around it is completely misleading in my opinion. The Act’s changes to the retirement system are mostly minor positive tweaks with one somewhat concerning opening of Pandora’s high-cost-annuities-in-a-401k Box (more on that below). It is a far cry from the type of changes that would give everyone access to and the incentive to participate in a tax-advantaged retirement plan. The Act has been sold as “the”, or at least “an” answer to modern retirement issues, but it really doesn’t change a whole lot other than opening a new way for insurers to profit. Call me skeptical, but the insurance industry’s lobby game was strong on this one and when lobbyists step up to the plate in Washington, a home run is rarely a good thing for anyone other than their interest group. So, rather than reading this to see the multiple amazing ways that the Act will help you, please read it to get a sense for the minor positive changes and the couple of things to cautiously look out for in the future. Without further ado, the Secure Act:

· Eliminates a roadblock to Multiple Employer Plans (MEPs) that would allow two or more employers to join a pooled retirement plan, ideally expanding access to plans and reducing costs due to plan size. Pretty self-explanatory and nothing but positives here. Theoretically, this could allow anyone who works for a small business to have a 401k plan available, or a better 401k plan available in the future. Whether or not employers do band together to do this remains to be seen.

· Allows more part-time workers to participate in 401k plans. Specifically those who work 500-1000 hours per year, who were previously excluded from participation, will now be able to participate in the plans. That’s a clear positive for part-time workers and a slight negative for other workers who may see the increased costs to employers as a result of this change passed down to them in some form.

· Increases the business tax credit for new employer retirement plans to $5000 from $500 and adds a $500 credit for auto-enrollment feature. All good incentives that help motivate employers to create retirement plans and get their employees to participate. When compared to the cost of maintaining these plans though (esp. with any sort of matching or profit sharing), it’s honestly still chump change.

· Tweaks the Safe Harbor 401k rules to allow for a higher default employee contribution % while removing notification requirements for plans that make non-elective contributions. Employers can now auto-enroll employees with as much as a 15% contribution level (up from 10%) or with an automatic annual escalation to 15% max. Employees can still opt out though.

· Allows a new exception from the 10% early distribution penalty from a retirement plan for childbirth/adoption within one year after birth, up to a max of $5k per parent. Repayment is allowed to certain types of plans, though the rules are unclear. The increased flexibility is great and maybe more people will participate in employer retirement plans if they can get money back out of them for events like this. But generally, giving people the ability to raid retirement savings for non-retirement reasons isn’t setting anyone up for retirement.

· Eliminates the use of 401k loan “credit card” arrangements. Did you know that some plans adopted provisions that let an employee take out a 401k loan credit card that they could use for any purpose up to the loan limit? That’s not setting anyone up for success in retirement. There are already well-established reasons that loans can be permitted and formal arrangements to make sure participants are taking loans for those reasons only, and are aware of the terrible tax and penalty implications of defaulting on those loans.

· Requires plan administrators to include on quarterly statements an estimate of lifetime income that could be produced at retirement age based on current 401k balance. In other words, if you used your lump sum 401k balance to purchase a straight annuity (series of monthly payments for your life), how much could you expect each month in retirement? I think framing the question in this way is helpful in leading people to realize they may need to save more (or less) based on where they stand.

· Extends the date by which a retirement plan needs to be in place for a tax year from 12/31 of that tax year to the filing deadline of the tax return (plus extensions). This is helpful if you started self-employment or a small business and don’t realize you could benefit from setting up a retirement plan until you prepare your taxes, only to find out that you previously had to open most retirement plans by 12/31 to make a difference. Now you can see the benefit in real numbers and make the decision to open and fund the plan at tax time.

· Allows for portability of lifetime income options in a retirement plan. If the plan decides to eliminate a lifetime income option that was offered, employees enrolled in that option would be allowed to take an in-service withdrawal either by a direct rollover to an IRA or retirement plan or by a distribution to the employee. This is a necessary precursor for the next bullet.

· Provides a fiduciary safe harbor for including lifetime income options using annuities. As long as the cost is “reasonable” and the insurer is thought to be financially capable of satisfying its obligations, the plan sponsor will not be held to the same standards as they are with the selection of other investments in the plan as set forth by the Employee Retirement Income Security Act of 1974 (ERISA). This is the provision that drove the insurance industry lobbying for the SECURE Act. It essentially allows employers (and those they hire to select 401k options) to include annuities in the plan. This is not inherently bad. Some annuities, especially annuities that convert a lump sum into an immediate or future monthly cash flow stream for life, make a lot of sense from some people. But there are also terrible annuity products with monstrous fees that take advantage of consumers with overcomplicated promises dressed up as “guaranteed lifetime income” that really make no sense for anyone, especially not inside an already tax-deferred retirement plan. Now, plan sponsors can be talked into including these options by insurers (who kick back commissions to the plan administrator) and will no longer be held to the same standard as they are for selecting mutual funds. For PWA clients, this isn’t an issue. If you have a new fabulous “guaranteed lifetime income” option in your 401k at some point in the future, we’ll evaluate it like any other option and will likely come to the conclusion that it doesn’t make sense. For those who don’t have an advisor looking out for them as a fiduciary, I fear this new ERISA exclusion is opening up Pandora’s Box just when we’re really starting to get plan fees and mutual fund fees down to something reasonable. I hope I’m wrong.

· Eliminates the maximum age for making an IRA contribution (which used to be 70). This is great as people are generally working longer and if they want to keep saving for retirement past 70, it allows them to do so. But, generally speaking, those who are working past 70 and contributing to their retirement past age 70 aren’t the people who have a retirement savings issue. So, it’s a nice provision, but not sure it really helps a whole lot.

· Changes the Required Minimum Distribution (RMD) starting age to 72 from 70.5 for pre-tax retirement plans (401ks, IRAs, etc.). A nice add, with people living longer, to not have to start withdrawing from their pre-tax money and therefore paying tax for an extra 1-2 years. Not a huge change, but it will have some impact for those that can rely on other sources of money from retirement to age 72 and can use that timeframe to tax-optimize their withdrawals over life (Roth conversions, gain harvesting, minimizing tax on social security income, minimizing Medicare IRMAA surcharges, etc.).

· Ends the stretch IRA. This provision will force inherited IRAs to be liquidated over 10 years in most circumstances, rather than over the lifetime of the person who inherits the account. No RMDs during the first 9 years. You just need to liquidate by end of year 10. Exceptions: surviving spouse, disabled, chronically ill, not more than 10 years younger than the deceased owner, and minor children of the deceased (until they reach the Age of Majority). This is a big negative for most who stand to inherit a 401k or IRA, and that’s intended since this provision is the primary “pay-for” of the bill in its ability to raise tax revenue. It stinks, but it’s hard to argue with it. Deceased people don’t need retirement accounts and therefore the tax benefits that go along with them don’t make a ton of sense for those who inherit them. I’m in the minority of advisors in admitting this, but the change seems fair to me… maybe even generous in giving 10 years. This one has major estate planning implications. If one leaves their retirement accounts to a trust that is directed to pay out only the RMD each year to the trust beneficiary (to minimize tax over their lifetime under the old rules), that trust won’t pay anything out for 9 years and then will pay the entire lump sum in year 10, or worse, will retain it and pay tax at trust rates. Estate plans and the wording of such trusts need to be re-evaluated and potentially re-written. If you have such a trust, or have one that will be created at your death by your will (testamentary trust), and your estate attorney doesn’t contact you shortly, you’ll need to reach out to him or her and evaluate if any changes are necessary.

· Add a new provision that up to $10k (lifetime) can be used from a 529 to pay off student debt without Federal tax / penalty. Another $10k to pay off a sibling’s student debt. State rules differ and will likely follow the same path as they followed on the addition of K-12 private school tuition. Sounds wonderful, but are there really a lot of people who have extra 529 money lying around to pay down their or a sibling’s student loans? It also doesn’t make sense to set up a 529 for this purpose (unless it allows you to game the state tax deduction rules). It would make more sense to just pay down the debt, not contribute to a 529 and hope it grows while the student loans continue to accrue interest at the same time.

· Reverses the Kiddie Tax changes made by TCJA which taxed investment income of minors at estate & trusts tax rates instead of parent rates. Back to parent rates now. This one has nothing to do with retirement. There was just a lot of pushback especially when people realized the Kiddie Tax applies to Military Survivor’s Benefits and the TCJA exposed much more of that to higher tax. Now it’s “fixed” back to the old rules.

Relevant Tax Extenders

· The deduction for mortgage insurance (PMI) expenses returns for those who itemize.

· The threshold to deduct medical expenses for those who itemize is 7.5% of adjusted gross income (down from 10% without the extenders).

· The qualified tuition deduction, which doesn’t require itemizing, is back (max $4k, income restrictions apply as before).

All of the above tax extenders apply for tax years 2019 and 2020. They expire again for 2021 unless further extended by future legislation.

Updated 2020 Tax Numbers

The IRS has released the key tax numbers that are updated annually for inflation, including tax brackets, phaseouts, standard deduction, and contribution limits.  Due to rounding limitations, not all numbers have changed from last year, but tax bracket thresholds have increased by just under 1.6%.  The notices containing this information are available on the IRS website here and here.  Some notable callouts for those who don’t want to read all the way through the update:

  • Max contributions to 401k, 403b, and 457 retirement accounts will increase by $500 to $19,500 (+$6,500 catch-up, up from $6,000, if you’re at least age 50).
  • Max contribution to a SIMPLE retirement account will increase by $500 to $13,500 (+$3,000 catch-up if you’re at least age 50).
  • Max total contribution to most employer retirement plans (employee + employer contributions) increases from $56,000 to $57,000.
  • Max contribution to an IRA remains at $6,000 (+$1,000 catch-up if you’re at least age 50).
  • The phase out for being able to make a Roth IRA contribution is $206k (married) and $139k (single). Phase out begins at $196k (married) and $124k (single).
  • The standard deduction increases by $400 to $24,800 (married) and by $200 to $12,400 (single) +$1,300 if you’re at least age 65.
  • The personal exemption remains $0 (the Tax Cuts & Jobs Act eliminated the personal exemption in favor of a higher standard deduction and child tax credits).
  • The child tax credit is not inflation-adjusted and remains at $2,000, phasing out between $400-440k (married) and $200-220k (single).
  • The maximum contribution to a Health Savings Account (HSA) will increase to $7,100 (married) and $3,550 (single).
  • The annual gift tax exemption remains at $15,000 per giver per receiver.
  • Social Security benefits will rise 1.6% in 2020.  The wage base for Social Security taxes will rise to $137,700 in 2019 from $132,900.

You can find all of the key tax numbers, updated upon release, on the PWA website, under Resources.