The 1099 and W-2 statements are starting to arrive in your mailbox. And that can mean only one thing. It’s time to file your 2013 taxes. It’s also time to start thinking about your 2014 taxes.
To help ease the pain, we asked experts what you should consider as you start to empty out your shoebox or enter numbers into spreadsheets. Here’s what they had to say.
Earned income before full retirement age
According to Mark Luscombe, a principal analyst with CCH Tax & Accounting North America, there’s no difference, from a tax perspective, whether the Social Security payments are received before the full retirement age or after.
The full retirement age, he said, affects the amount of income that can be earned without reducing Social Security benefits. “Benefits can be reduced because of income before full retirement age but not after,” said Luscombe.
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How does that work? Well, according to Jerry Love, a CPA in Abilene, Texas, if a person is under the full retirement age, then their primary concern is did they have “too much” earned income.
In 2013, you were allowed to have up to $15,120 of earned income with no reduction to your Social Security retirement benefit. However, if your earned income exceeds $15,120, your retirement benefits were reduced $1 for every $2 over $15,120, Love said.
Here’s Love’s example: If a person was getting $800 a month or $9,600 for the year in Social Security benefits and they work and earn $24,720 (which is $9,600 over the $15,120 limit) during the year, their Social Security benefits would be reduced by $4,800 ($1 for every $2 they earned over the limit), but they would still receive $4,800 of their $9,600 in benefits for the year. ($9,600 – $4,800 = $4,800)
“If the person worked for someone else, there is not much they can do,” said Love. “If, however, the person is self-employed then they should consider maximizing their deductions such as first-year depreciation on assets purchased.” Read about Section 179 property in Form 4562, Depreciation and Amortization .
Of note, Love said, there is a higher limit for the earned income for the year a person reaches the FRA. For 2013 it was $40,080 and the reduction was $1 for every $3 over the earned income limit.
Love said it’s important to note that this is earned income, “not total income that might include retirement income or interest and dividends.”
Earned income after full retirement age
If you over the FRA, then you don’t have a limit on your earned income, said Love. However, a portion of your Social Security benefits may be subject to tax if your provisional income is high enough after full retirement age, said Luscombe. Provisional income includes adjusted gross income plus one-half of Social Security benefits plus tax-exempt income.
So, depending of the level of provisional income, either 0%, 50% or 85% of Social Security benefits may be subject to income tax.
So what’s the tax trap?
“Recent retirees receiving Social Security benefits for the first time may find that they have to worry about estimated tax payments during the year or face an underpayment of estimated tax penalty on April 15,” he said. “This can happen because not only are Social Security benefits being received for the first time but also tax-exempt income that had not been subject to tax before are considered in calculating the portion of Social Security benefits subject to tax.”
Another tax item that trips up retirees has to do with required minimum distributions, or RMDs, which start at age 70½. RMDs, said Luscombe, apply to 401(k) plans and traditional IRAs but not to Roth IRAs, which are generally not subject to required minimum distributions nor subject to tax on distribution. RMDs, Luscombe noted, are based on one of the IRS’ life expectancy tables. And distributions from IRAs and 401(k)s are subject to tax at ordinary income-tax rates.
Tax trimming for 2013?
Retirees working on their 2013 tax bill need to consider the following too.
According to Luscombe, the medical expense deduction remained at expenses in excess of 7.5% of adjusted gross income in 2013 for taxpayers age 65 or older. But for taxpayers under age 65 the threshold went up to 10%. Of note: It is scheduled to go up to 10% for taxpayers age 65 or older in 2017.
Beware the new taxes that went into effect in 2013. According to Luscombe, these include a new top ordinary income-tax rate of 39.6%, a new top capital gain rate of 20% (both apply to taxable income in excess of $400,000 for single filers and $450,000 for joint filers), a return of the phase out of itemized deductions and exemptions for taxpayers with adjusted gross incomes in excess of $250,000 for single filers and $300,000 for joint filers, and a new 3.8% tax on net investment income applying to the lesser of net investment income or adjusted gross income in excess of $200,000 for single filers and $250,000 for joint filers. “If not anticipated, all of these could result in higher taxes for 2013 and a penalty for failure to pay sufficient estimated taxes during the course of 2013,” he said.
In 2013, Luscombe said IRA account holders had the ability to contribute their required minimum distributions directly to charity and avoid counting the RMD as income. “This might help keep adjusted gross income low enough to qualify for other tax benefits that phase out as income goes up,” he said. (Unfortunately, this provision expired at the end of 2013.)
Read New CCH Tax Briefing Reviews Major Tax Developments of 2013.
Tax planning for 2014
So, what sort of tax planning — be it on the income or expense side of the ledger — might retirees do now in anticipation of filing their 2014 taxes next year?
Well, according to Luscombe, the higher taxes in 2013 continue into 2014. “If taxpayers underpaid their estimated taxes in 2013, they can plan better for 2014 based on their 2013 experience,” he said.
What’s more, there is now a phaseout of itemized deductions and personal exemptions when your income is greater than $305,050 if married filing joint, or $254,200 if single, Love said.
And with the medical-expense threshold going up to 10% in 2017, Luscombe said, “retirees may want to get as many elective medical procedures as possible done in a year before 2017 to maximize the medical expense deduction if the taxpayer itemizes deductions.” Read Changes to Itemized Deduction for 2013 Medical Expenses .
If you have a home office, Love said, you can take a standard deduction of $5 per square foot used exclusively for business up to a maximum of $1,500 (300 square feet at $5). To take this deduction, however, “you must meet the criteria of having a home office, primarily those who are self-employed,” said Love.
And speaking of the self-employed, Love said one of the biggest changes is the drop in the amount you can claim the Section 179 depreciation (first-year depreciation) which dropped from $500,000 down to $25,000.
Teachers, meanwhile, should note that the $250 deduction that they have been allowed in the past was not extended to 2014, Love said.
Another item that expired and has not yet been extended, Love said, is the deduction for sales tax for states that do not have an income tax.
As noted, the ability to distribute required minimum distributions directly to charity expired at the end of 2013 so, Luscombe said, retirees should not assume that it will be available for 2014. “It may get renewed retroactively toward the end of the year or it may be eliminated as part of tax reform,” he said.
And finally, if you’re subject to the net investment income tax in 2013, Luscombe said there may be ways to reduce the portion of investment income subject to tax by shifting some investments to tax-exempt investments.
“Doing a conversion from a traditional IRA to a Roth IRA could also help in future years but would add to tax in the year of conversion,” he noted. Read New CCH Tax Briefing Examines Final Net Investment Income, Additional Medicare Tax Regulations .