Tuesday, December 13, 2016

Year-end and 2017 planning by the numbers

While tax and financial planning may not be high on anyone's to-do list this time of year, carving out some time to evaluate year-end tax saving opportunities and to establish next-year's targets for retirement savings can be a nice gift to yourself for the holidays.

This year, with the prospect of meaningful tax reform on the table for 2017, the right year-end tax moves may look a bit different than in the past and there is some risk incorrect choices will be made depending upon whether President-elect Trump's tax plan eventually makes its way through Congress. However, we do have some solid numbers to work from for 2017 with regard to retirement savings contribution and income limits. Let's start with what we know.


Each year, the IRS adjusts the contribution limits for employer-sponsored retirement plans and IRAs based upon the prior-year's inflation rate. Because low inflation continued in 2016, retirement savers will be stuck with the same contribution limits for 2017 that applied in the prior three years. IRA and Roth IRA contributions will remain capped at $5,500, with an additional $1,000 "catch-up" contribution allowed for anyone age 50 or older. For 401(k) and 403(b) plans, the salary deferral limit will remain at $18,000 ($24,000 for persons who have turned 50). Self-employed individuals, however, will be able to take advantage of a small, $1,000, increase in the contribution limit for SEP IRA and Solo 401(k) plans which will rise to $54,000 for 2017.

The income limits for determining eligibility to make Roth IRA contributions and eligibility to deduct traditional IRA contributions, however, will be higher for 2017. Single tax filers with modified adjusted gross income (MAGI) below $118,000 will be able to make a full Roth IRA contribution, and joint tax filers will be allowed a full $6,500 Roth contribution if their MAGI falls below $186,000.

Income limits for determining whether a traditional IRA contribution can be used to reduce 2017 taxable income will also rise slightly. For single tax filers eligible to participate in a workplace retirement plan, a full IRA deduction will be allowed as long as MAGI is $62,000 or less, with a partial deduction allowed for incomes between $62,000 and $72,000. For joint tax filers, a full deduction will be available if income is $99,000 or less, with the deduction being reduced for incomes between $99,000 and $119,000.

There is no indication that these contribution and income limits are up for debate after the new administration moves in, but we don't know what tax rates will apply to income in 2017 and beyond. The president-elect has proposed reducing the number of tax brackets from seven to three, with a top rate of 33 percent. For joint filers, a 12 percent rate would apply on taxable income up to $75,000, with income between $75,000 and $225,000 taxed at 25 percent, and income beyond that taxed at a 33 percent rate. The standard deduction would rise from $12,600 to $30,000 ($15,000 for single taxpayers) and itemized deductions would be capped at $200,000 ($100,000 for single filers).

Under current tax rules, year-end planning often involves deferring income and loading up on deductions in the current year, but if you are confident that tax rates are going down in 2017, the best strategy is to flip this approach on its head. Delaying income to 2017 still makes sense, but you would want to pull as many tax deductions and losses as possible into the current year. Pre-paying property taxes and loading up on charitable deductions before the end of 2016 could offer significant tax savings.

If you were planning on converting some of your traditional IRA to a Roth IRA before year-end, or have already done so, this strategy may prove less advantageous if tax rates fall in 2017 because you would have paid tax on the conversion at today's higher rates. The nice thing about Roth conversions, however, is that you can change your mind if the tax result is unfavorable. Conversions can be un-done, or re-characterized, up until Oct. 15 of the year following the year of conversion. If lower tax rates do materialize, it may pay handsomely to begin or continue converting traditional IRA funds to Roth since the tax cuts may prove to be temporary, leaving you paying higher taxes on unconverted IRA funds when they are ultimately needed to fund retirement.