Year-End Tax Planning: The Current Landscape

It’s been relatively quiet on the tax front. While there appears to be bipartisan support for several tax-related provisions, both for individuals and for businesses, no major changes have been enacted. The IRS is directing its attention on refining audits of “higher-income” individuals and complex business entities. Nevertheless, year-end tax planning for 2023 has some unique nuances.

Employee Retention Credit: A key focal point is the intensified scrutiny surrounding fraudulent Employee Retention Credit claims. Processing of new claims has been temporarily suspended; however, it is crucial to submit legitimate claims before the expiration of the statute of limitations. New procedures to withdraw claims are now in place to address situations for those who have reconsidered their position and their eligibility for the ERC, potentially averting penalties or criminal prosecution.

Sunsetting of Tax Provisions: The Tax Cuts and Jobs Act of 2017 introduced changes set to expire at the close of 2025. This looming deadline presents an opportunity to leverage existing laws before their potential expiration in 2026, although there remains the possibility of Congress extending certain provisions. Notable provisions affected include the 20 percent deduction for qualified business income, the top individual tax rate of 39.6 percent (likely applicable to income exceeding approximately $550,000 for a married couple filing jointly), the doubled standard deduction for individuals, and the increased child tax credit. So, high-income individuals may want to do some advance planning to accelerate income into 2025 and defer deductions into later years. The SALT deduction limitation on state and local taxes, which is currently capped at $10,000 for most individual tax returns, is slated for elimination. While this change would be beneficial for many individuals, recent SALT Parity provisions in many states offer relief to businesses allowing them to elect to pay the state taxes and alleviate limitations on individual deductions related to their state taxes on business income.

Depreciation: Businesses face a substantial change in 2023 regarding deductions for asset purchases. We have become accustomed to bonus depreciation, which allows a business to fully expense many asset purchases in the year of purchase. However, the bonus-depreciation provision begins to phase out, and for 2023, only 80 percent of the cost can be expensed, with the remaining 20 percent subject to the normal depreciation rules. While there is hope for a retroactive extension, businesses should factor this change into their year-end asset purchase decisions and related tax planning.

R&D Expenses: The capitalization of research and development expenses, effective since 2022, remains in force. This may impact businesses with higher taxes related to R&D expenses, irrespective of whether the business utilizes the R&D credit. While this provision is a timing difference in the tax treatment of R&D costs since the deductions will be available in later years, it requires businesses to fund those expenses currently without getting an immediate tax deduction. Though there is speculation about a retroactive reversal, businesses should prepare for higher taxes again in 2023.

Capital Gains: For individuals, capital gains continue to receive preferential tax treatment. A review of investment portfolios should be undertaken to assess whether any capital gains should be recognized or any capital losses should be harvested before the end of the year. This may be a time to rebalance portfolios. 

IRA Planning: Given the potential increase in the highest tax rate in 2026, consideration should be given to whether some or all IRAs or 401(k)s should be converted to Roth IRAs or Roth 401(k)s. Despite taxes incurred during the conversion year, qualified withdrawals from Roth accounts are entirely tax-free. Additionally, there are no required minimum distributions from Roth IRAs or Roth 401(k)s, facilitating tax-free growth over time.

Charity: Charitably inclined individuals have several important strategies to consider before year-end. First, for individuals who are at least 70-1/2 making qualified charitable distributions allows the use of pre-tax funds for charitable contributions. With a QCD, up to $100,000 annually can be distributed directly from an IRA to a 501(c)(3) charity with no federal tax consequences. The IRA distribution is not taxed, and the individual does not need to itemize deductions to benefit from this provision. It is essential to note that making a deductible traditional IRA contribution after reaching age 70-1/2 will reduce the QCD amount. Second, donating appreciated property to charity can produce substantial tax savings. Appreciated property might include art, antiques, real estate, and stock. Generally, to take full advantage of this tax benefit, the property must have been owned for more than one year before the donation is made. Third, contributing to a donor-advised fund allows “bunching” of charitable contributions into a given year. The tax deduction is available for the year of the DAF contribution, providing flexibility to determine when and which charities will eventually receive the gifts. Additionally, appreciated property can be used for DAF contributions to take advantage of more benefits.

Year-end tax planning can be challenging and requires flexible planning and strategic foresight. Taking proactive steps now can significantly impact one’s tax situation. For personalized guidance on minimizing tax liability for 2023, consider consulting with your tax adviser.