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2021 is ending, and as exciting as the get-togethers, champagne, and countdowns are, it also is a reminder that tax season is just around the corner. There were several important tax code changes in 2021 that need to be reviewed before we end the year.
Whether you have children, are retired and need to take distributions from your IRA, or are charitably inclined, there are significant changes for everyone to be aware of.
Child Tax Credit
The biggest tax code change for 2021 centered on the child tax credits. This was such a drastic shift from prior years, that we wrote a 3 part series that detailed What to Expect from the 2021 Child Tax Credit, How the New Credit will Impact your 2021 Return, and How to Make the Most of Your Child Tax Credit Payments.
The short explanation is that for taxpayers with qualifying incomes, the traditional $2,000 tax credit was increased from $3,000 for dependents age 6-17, and $3,600 for children 5 and under. Rather than claiming this amount on your tax return, half of your credit should have been paid out to you from July-December (assuming you did not opt out of the payments).
If you normally receive a $2,500 tax return in April, you need to understand that these payments will now get paid throughout the tax year. If you use your tax return as a savings vehicle (which we do not recommend!), your 2021 tax return is likely to give you an unpleasant surprise if you don’t proactively save the tax credits you begin receiving in July.
For more guidance on how the Child Tax Credit could affect your return, please read the above articles.
Recovery Rebate Credit
There has been a total of 3 stimulus checks issued since 2020. The third stimulus payment for $1,400 per person was issued in March of 2021. In the same way that the first two stimulus payments could be reclaimed on the 2020 tax return, the third stimulus check can be recaptured on the 2021 tax return if you did not receive it.
There are a few things to keep in mind when it comes to claiming the Recovery Rebate Credit (RRC) in 2021:
If you are within or above the AGI limits, your payment will be reduced or eliminated entirely. For the 2021 RRC, single filers with an AGI of $75,000-$80,000 phase out of any benefit, and if AGI is above $80,000 there will be not benefit. The AGI limited for Married, Filing Jointly taxpayers are $150,000-$160,000.
Claiming the RRC may increase the time the IRS takes to process your refund. Many individuals who claimed the RRC in 2020 reported longer delays.
Before you turn in your tax documents to your accountant, make sure that you know the amount of money you received for the third stimulus payment.
Return of Required Minimum Distributions
In 2020, Required Minimum Distributions (RMDs) for IRA owners older than 72 were suspended due to Covid-19. In 2021, RMDs resumed. With only a few weeks left in the year, completing your required distribution each year should be a top priority. Regardless of income level, the penalty for failing to complete your annual required minimum distribution is 50% of the amount that hadn’t been distributed.
For example, if you are 72 at the end of 2021, and your IRA balance as of 12/31/2020 was $500,000, you would need to distribution approximately $19,500 from your account. If you failed to do so, you would have a penalty of $9,750 due on your 2021 tax return.
Unemployment Compensation
In March of 2021, unemployment relief was passed through the American Rescue Plan. This allowed the first $10,200 of unemployment benefits per taxpayer to be excluded from income, if other income did not exceed $150,000.
This unemployment relief, like the suspension of RMDs, was temporarily in place for the 2020 tax year. As of December 2021, there has been no such legislation for the 2021 tax year, meaning that any unemployment benefits received this year will be fully taxable. For some households, the unemployment relief in 2020 saved them nearly $4,500 in taxes.
Charitable Donations
The final adjustment came to the expanded charitable contribution deduction. Since the 2018 Tax Cuts and Jobs Act, many charitable taxpayers were not receiving any tax benefit for their charitable giving.
In 2020, taxpayers that previously received no deduction for their charitable giving due to the large standard deduction were still able to deduct $300 of cash contributions from their tax return. In 2021, that deduction has been expanded to $300 for single and head of household filers, or $600 for married couples, meaning that married couples could see an additional $300 deduction on their tax return.
Even though this is an added benefit to charitable giving, it still may not be the most effective way to capture your charitable contributions. For additional tips and tools to maximize your charitable giving, read our guide on The Most Effective Charitable Giving Strategy.
Summary
With larger tax changes on the horizon, it can be easy to overlook several important changes on the 2021 tax return. Before the end of the year, keeping some of these points in mind may help you better plan for your tax return in the spring.
For more information about how to mitigate for your short-term and long-term tax liability, schedule a meeting with one of our planners below.
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