#EnhanceAptitude

Who loves filing taxes? The answer for many is nobody. However, whether you file on your own or use a CPA, being aware of things to do before filing can maximize every dollar for long-term financial success. Before filing your taxes, here are five things that will enhance your aptitude during tax season.

| Review Traditional IRA and Roth IRA Contributions for the 2021 Tax Year

For 2021, the contribution limit is $6,000 unless you are age 50 or over. If you are 50 or above, the contribution limit is $7,000.[1] These contribution limits do have a few qualifying factors that are vital to understand. First, the $6,000 (or $7,000 for age 50 and above) contribution limit is aggregated between both Traditional and Roth IRA. Second, you and/or your spouse, must have earned income. Third, the IRS has different Adjusted Gross Income (AGI) thresholds based on filing status for contribution eligibility to a Traditional IRA and Roth IRA. Consult with your financial advisor or tax professional to verify your AGI meets or exceeds these thresholds. According to IRS rules, up until April 18^th, 2022, you are allowed to contribute to a Traditional IRA and Roth IRA and have it credited as 2021 tax year contribution. If you have not met the contribution limit for 2021 and you meet the three qualifying factors, you are eligible to make a Traditional IRA or Roth IRA contribution before April 18^th and have it apply to your 2021 contribution bucket without filling up your 2022 contribution bucket.

| Check Health Savings Account (HSA) Contributions for the 2021 Tax Year.

This tip applies if you were covered by a High Deductible Health Plan (HDHP) at your employer. Per IRS rules, you cannot open or contribute to an HSA unless you are covered by a HDHP.[2] HSA’s are known for their triple-tax benefit and utilizing them are a great way to maximize tax efficiency with healthcare expenses if you are covered by a HDHP. HSA’s are broken out into two types: Individual and Family. For 2021, the Individual max contribution is $3,600 and the Family max contribution is $7,200.[3] Similar to the rules with IRA’s, up until April 18^th, 2022, the IRS allows you to contribute your HSA and have it credited as a 2021 tax year contribution. If you have not met the contribution limit for 2021 and you meet the HDHP requirement, you are eligible to make a HSA contribution before April 18^th and have it apply to your 2021 contribution bucket without filling up your 2022 contribution bucket.

| Understand Education Tax Credits and Education Related Deductions.

Education Tax Credits and Education Related Deductions reduce your overall tax liability. These can apply whether you were enrolled and paid for college classes or a qualified dependent enrolled and paid for college classes. Knowing them can also assist in tax planning for future years. The two Education Tax Credits are the American Opportunity Tax Credit (AOTC) and the Lifetime Learning Tax Credit (LLC).

• The AOTC is a tax credit for the higher education expenses used for the first four years of a student’s college education. The maximum AOTC credit is $2,500 per year per eligible student. If the student is a qualified dependent, that student must be between 19 and 24 years of age. The IRS’ AOTC tax credit formula is 100% of the first $2,000 spent on undergraduate expenses and 25% of the next $2,000.[4] This means there must be a minimum of $4,000 of undergraduate expenses to receive the maximum $2,500 tax credit. The AOTC is an important credit to take because it’s a partially refundable credit. A partially refundable credit means that even if the credit brings your taxes owed to $0, you can still receive a portion of the credit as a refund from the IRS.
• The LLC is another tax credit for higher education expenses. Unlike the AOTC, the LLC does not have the restriction of only the first four years of college education, and the LLC is not a refundable credit. The LLC can be applied any year a student, whether that’s yourself or qualified dependent, were enrolled in an eligible educational institution and paid for those classes. The classes can be for undergraduate, graduate, or professional degree. However, the LLC cannot be combined with the AOTC in the same tax year. The LLC credit is worth up to $2,000 per year. The IRS’ formula for calculating the credit is 20% of the first $10,000 of qualified educational expenses.[5] To claim the full LLC credit, your AGI as a Single filer must be under $80,000 and as Married Filing Jointly filer under $160,000.
• If you are a K-12 educator, an Education Related Deduction can also apply. A K-12 educator often pays for classroom related expenses. The IRS recognizes that and allows a maximum $250 deduction for a K-12 educator. To reach the $250 max deduction, a K-12 educator must have $250 worth of classroom related expenses.[6] The deduction increases to $500 if a married, filing jointly couple are both K-12 educators and have $500 worth of classroom related expenses.

| Verify Filing Status

 Except for some nuanced differences, your filing status is key to selecting whether the standard deduction or itemizing deductions is the right decision for your tax situation. Itemized deductions include charitable giving, state and local taxes (up to $10,000), mortgage interest, and unreimbursed medical expenses above 7.5% of your AGI.[7] Now the Tax Cuts and Jobs Act of 2017 raised the Standard Deduction amounts significantly to where a predominate number of taxpayers elect the Standard Deduction with their filing status. However, that’s not the case for everyone. The four primary filing statuses are Single, Married Filing Jointly, Married Filing Separate, and Head of Household.[8]

Single. A Single filer is unmarried and does not have a qualified dependent. In 2021, the standard deduction is $12,550.[9] If you have itemized deductions above $12,550, itemizing your deductions lowers tax liability more than a standard deduction. Because of the lower standard deduction level, itemized deductions can make more sense for Single filers.

Married Filing Jointly (MFJ). MFJ can apply to married taxpayers with or without qualified dependent(s). In 2021, the standard deduction is double a Single filer at $25,100.[10] Itemized deductions must eclipse $25,100 for it to be the right decision to itemize.

Married Filing Separate (MFS). MFS applies to married individuals who do not want to use the MFJ status. Both individuals must use the MFS status. One individual cannot file MFJ if the other files MFS. In 2021, the standard deduction matches Single filers of $12,550.[11] Although MFS has this lower standard deduction, it does have negative drawbacks such as greatly reduced income thresholds for IRA and Roth IRA contributions. Despite the reduced thresholds, there are certain situations where this status can significantly reduce your tax bill. Coordinate with your financial advisor or tax professional to see if MFS is the right path forward for you.

Head of Household (HOH). HOH filer is unmarried, has a qualified dependent and pays for over 50% of the household’s expenses. In 2021, the standard deduction for a HOH filer is $18,800.[12] The standard deduction is higher than a Single filer but lower than MFJ filers because the IRS considers the increased financial burden of paying over 50% of the household’s expenses as a single person. Itemized deductions must eclipse $25,100 for it to be the right decision to itemize.

| Prepare for Delays with the IRS

Due to the pandemic, budget cuts, and staffing shortages at the IRS, there is a backlog on processing both individual and business tax returns. The IRS and Department of the Treasury already announced in March that millions of taxpayers are awaiting processing and receipt of refunds.[13]The IRS did not set a timetable on when they expect to have the backlog of returns taken care of so expect a delay of more than a few weeks. To expedite your return, submit your filing as quickly as possible and file electronically.

Even if you have already filed your 2021 taxes, these are tips you can carry forward in the 2022 tax filing season. If this article has sparked ideas or questions on your financial situation, reach out to me or another Embark Financial Partners Wealth Advisor. We want to partner with you in pursuing your financial goals.

This information is not intended to be a substitute for individualized tax advice. We suggest that you discuss your specific tax situation with a qualified tax advisor.

References

“Retirement Topics - IRA Contribution Limits.” Internal Revenue Service, IRS, 27 Nov. 2021, https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-ira-contribution-limits.

“Publication 969 (2021), Health Savings Accounts and Other Tax-Favored Health Plans.” Internal Revenue Service, IRS, 7 Feb. 2022, https://www.irs.gov/publications/p969.

“AOTC: Internal Revenue Service.” AOTC | Internal Revenue Service, IRS, 29 Dec. 2021, https://www.irs.gov/credits-deductions/individuals/aotc.

“LLC: Internal Revenue Service.” LLC | Internal Revenue Service, IRS, 29 Dec. 2021, https://www.irs.gov/credits-deductions/individuals/llc.

“Teachers Can Deduct out-of-Pocket Classroom Expenses Including COVID-19 Protective Items.” Internal Revenue Service, IRS, 24 Feb. 2022, https://www.irs.gov/newsroom/teachers-can-deduct-out-of-pocket-classroom-expenses-including-covid-19-protective-items.

“Topic No. 501 Should I Itemize?” Internal Revenue Service, IRS, 17 Feb. 2022, https://www.irs.gov/taxtopics/tc501.

“Why It's Important That Taxpayers Know and Understand Their Correct Filing Status.” Internal Revenue Service, IRS, 24 Feb. 2022, https://www.irs.gov/newsroom/why-its-important-that-taxpayers-know-and-understand-their-correct-filing-status.

“IRS Provides Tax Inflation Adjustments for Tax Year 2022.” Internal Revenue Service, IRS, 15 Dec. 2021, https://www.irs.gov/newsroom/irs-provides-tax-inflation-adjustments-for-tax-year-2022.

“Treasury and IRS Announce Aggressive Plan to End Pandemic Inventory Backlog This Year.” U.S. Department of the Treasury, Dept. of the Treasury, 10 Mar. 2022, https://home.treasury.gov/news/press-releases/jy0648.