The past few years have seen many changes to the tax codes that could impact not just your tax filing, but your long-term financial plan. Some tax changes have been extended from 2020, while other changes have been enhanced for 2021 and others have been eliminated. Find out what has changed and what hasn’t, and what you need to do to strategize your 2021 tax filing.
One of the biggest tax changes in 2021 was to the Child Tax Credit. In prior years, you would claim the Child Tax Credit when you file your taxes; however, the additional Child Tax Credit is a refundable credit and applied only for 2021. With the American Rescue Plan Act (ARPA), the IRS sent one half of the anticipated child tax credit as a monthly payment from July 2021 through December 2021. These payments were sent via direct deposit into a bank account the IRS has on file or in the form of a check. The remaining half of the credit will be processed as a credit on your 2021 federal income tax return.
These payments are an advance on the recovery premium credit (like the 2020 Pandemic Tax Relief). Therefore, taxpayers who did not qualify for the advanced payment can claim the credit on their 2021 federal income tax return. Like last year, these advance payments are not taxable even if your income in 2021 is too high for the credit.
As a reminder, the IRS used your most recent tax return to calculate how much you receive as an advanced payment. The payments were reduced once income reached $150,000 for joint filers and $75,000 for single. The income thresholds were phased out once income reached $160,000 for joint filers and $80,000 for single filers.
Just before Christmas, President Biden announced the fourth extension on student loan forbearance – or a freeze on payments and interest rate accruals for federally held student loans (these are loans held by the U.S. Department of Education). Payments will resume on May 1, 2022. It’s important to note that this relief only applies to federal student loans. If you have private student loans, you should contact your loan provider to discuss options. While the relief is automatically applied, some details, such as accounts paid by automatic debit, have not yet been confirmed and may vary by loan servicer.
Another provision of the ARPA impacts student loans. Borrowers will not be responsible for paying federal taxes on their forgiven student loan debt from 2021 to 2025. Typically, debt forgiven is considered taxable income, but this has been eliminated until 2025, so borrowers will be able to reap the full benefits until then.
Employers can also support their workers when it comes to student loans. Until 2025, employers can pay up to $5,250 in student loan payments for an employee tax free—meaning this amount won’t count as income for the employee. Note that this $5,250 limit can be used either for education expenses or student debt. On the flip side, the tuition and fees deduction were repealed in 2021. This deduction allowed up to $4,000 of tuition and fees to be deducted before calculating your adjusted gross income (“above the line”).
Each year, there are changes due to inflationary increases. Here are few of interest:
Starting in 2022, the RMD formula is changing, making RMD amounts smaller and allowing your money to grow tax-deferred even longer. The new RMD life expectancy tables issued by the IRS took effect January 1, 2022, and apply to all IRA, 401(k) and other retirement accounts. The new rules acknowledge that retired workers need to conserve their retirement assets in the event they live longer than anticipated.
Here’s an example of how the new formula will lower required distributions, assuming you have an IRA worth $300,000:
If you collected unemployment payments in 2021, don’t forget that they count as taxable income and must be accounted for when withholding taxes.
Here are some other tax provisions that are being extended into 2022:
While this list of changes is not exhaustive and all-inclusive, you can see that there were many significant tax changes. We cannot stress enough how important it is to have a holistic approach to financial planning that includes income tax planning. Given the changes we’ve seen with the pandemic, now may be a good time to talk with your advisor and tax professional regarding your 2021 and 2022 tax planning.
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