Updated: Oct 31, 2022
The summer is over and cooler weather is here. You've filed and paid your taxes and there's nothing left to do but sit back with you Pumpkin Spice Latte and enjoy watching Postseason Baseball (Go Stros'!!). As much as you might be trying to avoid thinking about taxes, now is the perfect time to take a closer look at your businesses taxes and implement tax planning strategies to owe less tax come April.
You may be thinking "Where do I start?". There are many list on the internet with year end tax planning strategies, most seemingly copied and pasted from the next. The past few year's have been... well... unprecedented and that is reflected in the numerous tax laws passed over the last few years. All of this to say, if you owned and operated a business the last few years, taking a second look is highly recommended. Here are some year end tax planning strategies we are thinking about as we head into the final months of 2022.
1. Repayment of 2020 Pandemic Early Withdraw
The CARES act, passed in 2020, allowed for a penalty free withdraw of funds from an IRA and for the tax to be paid over a three year period. If you opted to pay the tax over a three year period, 2022 is the final year to claim 1/3 of the income from the 2020 withdraw. The CARES act allows for a repayment of the original withdraw up until the final days of 2022. Repaying the amount results in not having to claim the distribution as income. This means if you put the funds back into an IRA, you do not have to claim 1/3 of the original withdraw on your 2022 taxes. On top of not having to claim the extra income, you may qualify to amend your returns for the 2020 & 2021 tax years and receive a refund for taxes paid related to the 2020 withdraw.
2. Dealing With New Operating Losses
First of all, what's a Net Operating Loss (NOL)? When a business has more expenses then revenue, you have a loss. When that loss is large enough to offset all other income on your return, you have a NOL. Normally, you would be able to carry forward an NOL to the next year and apply the amounts against that years income. However, under the 2017 Tax Cuts & Jobs Act, NOLs are limited in years where you would have a loss in back to back years. This limit on losses can wipe out an entire year's of losses that normally would be carried forward and applied against years with income. Fortunately, the CARES act allows for a Carry back of Net Operating Losses for the 2018, 2019 and 2020 tax years. The carry back allows you to offset income in previous years starting in 2015 and claim a refund.
So how does this relate to 2022? If your business had a Net Operating Loss in 2020 and in 2021, you can avoid having the 2021 NOL limited by carrying back the 2020 NOL. This frees up the 2021 NOL to be carried forward to 2022 without losing any of the benefit of the NOLs created from 2020 or 2021.
3. IRA Conversion to Offset Net Operating Loss
This is such an important quirk in the tax code, it's worth explaining again. Net Operating Losses (NOL) carried forward to a year that also has a Net Operating Loss will result in the NOL being limited. If you had a NOL in 2021 that carried to 2022 and you also will have an NOL in 2022, you could potentially avoid having the NOL limited by converting traditional IRA and 401K funds to a Roth IRA.
Normally, converting funds to a Roth results in taxable income but because we are looking for tax effective ways to use up the NOL, converting as mush as you can to a Roth all of a sudden makes a ton of sense. The "use it or lose it" situation, thanks to the TCJA, results in no taxes paid on the conversion while also using up the NOL that would be limited anyways. The best thing about this conversion is that the funds are now in a Roth and will be tax free when withdrawn in retirement.
4. Roth Conversions
This one has less to do with any specific law and more to do with the situation we find ourselves in. As I write this blog, the stock market is still down by quite a bit. This makes for a historically great time (Which I have already written about) to convert funds in traditional IRAs to a Roth. While you will still pay taxes on the amount converted, the conversion is tax efficient due to the asset's in the account being valued less.
Let's do some quick math to explain why this could be a great strategy. Let's say you have a stock that is currently worth $80 that historically is valued at $100. The same asset would be taxed less now than it would be historically. Assuming a 20% tax, you would pay $16 tax on the asset now compared to $20 if it were taxed while valued at $100. You can see why now is a great time make a conversion, especially if you have the funds on hand to pay the tax without having to withhold any from the converted amounts.
5. Estimate Tax Payments
Ok, this one is not exactly unique to 2022 but its important non the less. Keeping up with estimate payments is one of the easiest ways to avoid paying unnecessary penalties and interest. The easiest way to avoid penalties and interest is to pay either 100% of the tax owed last year or 90% of the current tax before the due date. A tax professional can help you calculate estimated tax payments so you don't have to worry about over or underpaying the amount.
The last few years have been a wild ride, this has resulted in many unique scenarios. There are plenty of opportunities for tax planning thanks to a combination of tax law changes and market conditions. Regardless if you have had a good year or struggled, there are ways to take advantage of the tax code. A tax professional can help guide you through the tax code and help you avoid costly mistakes along the way.
If you would like to learn more about we can help your business owe less in taxes, schedule a complementary consultation by clicking the link below.
This is non intended to be tax advice. Seek the advice of a tax professional before relying on any advice in this article.