The year 2022 was a tumultuous one for investors and retirees. However, several measures might have a substantial beneficial and economic impact during December.
Here is a list of 4 things to consider before the end of the year
Harvesting of tax losses
The concept of harvesting losses in taxable accounts is basic. Losses can be deducted against profits, carried forward, and even used to offset a portion of regular income. In a taxable account, you can sell a loss-making investment, balance the loss against current or future profits, and deduct up to $3,000 from other income. Realized gains and losses are reported on Schedule D. There are short-term profits and losses on assets kept for less than a year and long-term gains and losses on assets kept for more than a year. Short-term profits are taxed like regular income, but long-term gains are taxed differently.
There is also a 3.8% Net Investment Income Tax (NIIT) imposed on net investment income exceeding specific amounts of Modified Adjusted Gross Income (MAGI):
It can be useful to harvest losses to circumvent the threshold. For example, if Meg and Jeff (filing jointly) have earned gains on their assets of $80,000, and their MAGI is $260,000, harvesting more than $10,000 in losses will save that 3.8% extra tax.
One can carry forward losses. In addition to loss carry-forward, you can deduct up to $3,000 a year of losses against ordinary income.
While it is possible to deduct losses on a given stock, wash sale regulations typically prohibit investors from instantly replacing that stock with an identical asset. For instance, if you incur a loss on XYZ stock and sell it on December 5 at a loss, you cannot instantly replace it (for 31 days) and deduct the losses under the “wash-sale” regulations. The wash sale rules disallow a loss if similar or nearly identical investments are acquired within 30 days before or after the sale. Therefore, if you have a loss on XYZ stock, you cannot purchase the stock within 30 days after the transaction to claim the loss. You can get a comparable but not identical product.
Consequently, if you sold tech equities at a loss in 2022, you might purchase a tech ETF. Similarly, you can replace losses on a mutual fund with another, but not an identical fund. This might be accomplished, for instance, by selling QQQ and purchasing TQQQTQQQ -4.5%.
Cryptos and Wash Sale. Note that Cryptocurrencies are exempt from wash-sale laws. You can sell BitcoinBTC -0.4% at a loss and purchase it again instantly. With the current decrease in Cryptos, harvesting losses and preserving the holding could be something you’d like to accomplish. You can exchange cryptocurrencies or replace them with the same holdings.
Conversions to the Roth 401(k) plan or a Roth IRA
It is possible to convert traditional IRA holdings to tax-free Roth IRA in a down market. To perform a conversion, you must pay taxes on the IRA’s taxable part. Suppose you have $8,000 invested in tech stocks in your IRA that you wish to retain. You could convert the IRA to a Roth. You would pay taxes on the conversion, but all further gains would be tax-free if you retained the Roth account for at least five years and did not take funds until age 59.5 or older. Roth accounts are also exempt from Required Minimum Distribution (RMD) requirements. The conversion of $8,000 might have a substantial impact, considering that $8,000 would rise by 6% to around $46,000 in thirty years. Roth IRAs can be bequeathed to children, grandchildren, and other heirs upon death, and they will be required to remove the Roth assets within ten years of your passing.
Roth Investments: In addition to Roth conversions, contributions can be made to a Roth IRA. This contribution can be made for yourself, a child or grandchild, or both (or to anyone else, for that matter). Roth contributions are restricted to individuals below $129,000 (phased out to $144,000) and couples below $204,000 (phased out to $214,000). If you have a kid or grandchild with earned income, they are eligible to contribute to a Roth IRA, subject to the income requirements and the amount of earned income. So, if your single college student-produced $6,000 or more of earned income in 2022 and less than $129,000, they or you may contribute to a Roth for them. If their salary was less than $6,000, they might still donate up to their income. Young folks benefit from a very long horizon of compounding. If a 20-year-old invested $6,000 in a Roth account in 2022, it would increase 6% to around $82,500 by age 65. Assuming the regulations remain unchanged, this would be exempt from taxation. Consider a Roth account for your children or grandkids who have earned income. Note that a married couple can make tax-free gifts of up to $32,000 per recipient each year. Also, note that you can make contributions to an IRA until the tax return is due – April 18, 2023, you might contribute for 2022. You may also donate to 2023 at the same time.
I Bonds are inflation-indexed savings bonds issued by the United States. 6.89% is the current rate for bonds issued between November 1, 2022, and April 30, 2023. I Bonds are free from state income taxes and have almost minimal risk of principal loss. You lose three months of income if you cash them in within five years of purchase, but they can continue to accrue interest for 30 years. You can buy $10,000 of I Bonds per Social Security number through Treasury Direct or $5,000 with an income tax refund, or both. You can also purchase I Bonds for another person.
Bottom Line: Inflation and volatile markets might present some chances. Harvesting losses saves taxes. Roth conversions and donations permit tax-free growth over the long term. I Bonds permit inflation-protected, risk-free growth. Consider including any or all of the following on your December to-do list.