Tax Planning At the End of a Year Like No Other
As the end of 2020 approaches, we can all agree that this year is unlike any other. The coronavirus pandemic and natural disasters have had a significant impact on the tax situation for many taxpayers. In response to the health and economic impact of the coronavirus pandemic, Congress passed two major pieces of legislation – the Families First Coronavirus Response Act and the Coronavirus Aid, Relief, and Economic Security (CARES) Act. While we can’t tell for sure what the additional relief will entail or how tax law could change next year, we know for a fact taxes is one of the only two certainties in life, as the old adage goes. We may as well make plans for Tax Day now, taking into account the unique challenges and opportunities arisen this year, before it creeps up on us.
Economic Impact Payment (EIP)
As explained in our previous newsletter, the EIP is actually an “advance payment” of the Recovery Rebate Credit that is allowable on an eligible individual’s federal return for 2020. Expatriates who filed their federal returns and are eligible for the EIP should receive their payments automatically provided the IRS has the correct direct deposit account details or the current mailing address on file. Taxpayers can track the status of their EIP using the Get My Payment tool available on IRS.gov and should expect a Notice 1444, which is mailed by the IRS within 15 days of making the EIP to notify each taxpayer receiving the EIP of the amount paid and the method of payment; this notice should be retained as part of the tax records for tax year 2020.
Summarized below are a few scenarios of how the EIP you may or may not have received will reconcile with the Recovery Rebate Credit on your 2020 federal return:
- Non-filers who missed the November 21, 2020 extended registration deadline and taxpayers whose returns are not processed by the IRS before the end of 2020 for the EIP to be issued may have full entitlement of the Recovery Rebate Credit on their 2020 returns.1
- Taxpayers who received a larger EIP than the Recovery Rebate Credit to which they are entitled, based on the information reported on their 2020 returns, will not have to repay any excess2 unless they were not eligible to receive it in the first place, e.g. deceased individuals or non-resident aliens3.
- Taxpayers who received the EIP with respect to a joint return will each be treated as having been paid half of such amount.4
- An individual previously claimed as a qualifying child of another taxpayer in 2018 or 2019 may be eligible for the Recovery Rebate Credit if that individual can no longer be claimed as a dependent of another taxpayer in 2020 even though an EIP of $500 was paid to the taxpayer who claimed the individual as a qualifying child.5
The CARES Act provides that qualified individuals may treat distributions made between January 1, 2020 and December 30, 2020, of up to $100,000 in aggregate, from their eligible retirement plans (including IRAs) as coronavirus-related distributions. You may refer to our previous newsletter for options of ratable inclusion or tax-free repayment, which allow taxpayers to draw on retirement funds in times of financial difficulties but with some flexibility to “reinvest” such withdrawals into these plans at a later time. The IRS has since also issued Notice 2020-50 and expanded the definition of qualified individuals to an individual6:
- who or whose spouse or dependent7 is diagnosed with COVID-19 by a test approved by the Centers of Disease Control and Prevention;
- who experiences adverse financial consequences due to COVID-19 as a result of:
- the individual being quarantined, being furloughed or laid off, or having work hours reduced;
- the individual, the individual’s spouse, or the individual’s household member8 being unable to work due to lack of childcare;
- the individual, the individual’s spouse, or the individual’s household member having a reduction in pay (or self-employment income) or having a job offer rescinded or start date for a job delayed; or
- closing or reducing hours of a business owned or operated by the individual, the individual’s spouse, or the individual’s household member.
As a reminder, qualified individuals with allowable loans from a qualified employer plan may delay loan payments due between March 27, 2020 and December 31, 2020 for one year. Comes January 2021, at least those payments originally scheduled for 2021 must resume. When payments resume, your payments will be adjusted for interest that accrued on the loan during the suspension period.9 This effectively gives you up to six years (instead of five) to repay a typical plan loan.
There is also a temporary waiver of Required Minimum Distributions (RMDs) for IRAs and retirement plans, including for beneficiaries with inherited IRAs and accounts inherited in a retirement plan, during the 2020 calendar year. This provision allows taxpayers, without regard to whether they are affected by COVID-19, to conserve their assets without needing to liquidate them at a time when the value may have been negatively impacted due to the pandemic. You may refer to our previous newsletter for how the waiver applies to different taxpayers.
Additionally, you may like to review your IRA and beneficiary designation in light of recent changes made by the Setting Every Community Up for Retirement Enhancement (SECURE) Act of 2019:
- Repeal of the 70½ age limit for traditional IRA contributions made after December 31, 2019;10
- Increase in the age for RMD to 72 for retirement account distributions made after December 31, 2019;11 and
- Shortening of distribution period for non-spouse designated beneficiaries to 10 years, with limited exceptions.12
The Tax Cuts and Jobs Act (TCJA) largely reduced the number of taxpayers who itemize deductions to just slightly more than 11%, based on the latest figures published by the IRS. If you are among those who claim standard deduction, an above-the-line deduction of up to $300 for cash contributions is available starting 2020 under the CARES Act.13 It should be noted that this is a per return limit, which means spouses electing to file a joint return may deduct only up to $300.14 In case you do itemize deductions, the limit for itemized charitable deductions of cash contributions is increased to 100% of adjusted gross income but only for 2020.15
Taxpayers of the age of 70½ or older who plan to make a charitable contribution may like to consider the use of Qualified Charitable Distribution instead. Although the CARES Act eliminated the RMD for 2020, the SECURE Act provides that these taxpayers may still make a direct contribution to a charity through the trustee of their IRA of up to $100,000 in 2020 without including such a distribution in their adjusted gross income.16
As highlighted in our previous newsletter, expatriates should be aware that charitable contributions to foreign organizations do not generally qualify for deductions and should consult the Tax Exempt Organization Search to determine whether an organization is qualified for purposes of charitable deductions.
Foreign Earned Income and Housing Exclusion
Congress recognizes taxpayers may be required to leave the foreign country before meeting the minimum time requirements (under Bona Fide Residence Test or Physical Presence Test) for foreign earned income and housing exclusions due to war, civil unrest, or similar adverse conditions. The statute, therefore, provides that such taxpayers will still be treated as a “qualified individual” for purposes of foreign earned income and housing exclusions if certain conditions are satisfied. The Secretary of the Treasury, after consultation with the Secretary of State, has determined that the COVID-19 Emergency is an adverse condition that precluded the normal conduct of business and published a list of countries to which the waiver of minimum time requirements will apply. If you were required to leave your foreign tax home due to COVID-19, you may refer to our previous newsletter for the list of countries covered by the waiver and an explanation of how it operates.
Below is comparison of the amounts qualified individuals may exclude from gross income for 2020 and 2021:
|Tax Year 2020||Tax Year 202117|
|Foreign Earned Income||Up to $107,600||Up to $108,700|
|Housing Cost Amount||Up to $32,280 reduced by Base Housing Amount of $17,216||Up to $32,610 reduced by Base Housing Amount of $17,392|
While the housing cost amount is standard for most locations, the statute authorizes the Treasury Secretary to adjust the limitation for specific locations based on geographic differences in housing costs relative to those in the United States. We expect the update for 2021 to be published in the first quarter of next year. For a summary of the housing cost amounts for 2020, you may refer to our previous newsletter.
Taxpayers who have a Form 673 and/or a W-4 on file with their employers to exempt them from income tax withholding should also review their responsibility for actual and/or hypothetical taxes to avoid surprises. Depending on the terms of your employment/secondment agreement and/or your employer’s assignment policy, your share of the tax liability may not necessarily be determined by the actual amounts of income, deductions, and credits reflected on your returns.
Changes under the Tax Cuts and Jobs Act (TCJA), that were meant to simplify the application of the kiddie tax, had the unintended consequence of increasing the tax on the unearned income, such as military death benefits, of children in low-income families. As a result, the SECURE Act reverted the kiddie tax to the prior rules, using the parents’ tax rate for tax years after 2019. A taxpayer may also elect to apply the parent’s tax rate to 2018 and 2019 thereby providing an opportunity to amend a prior year’s return.18
Taxpayers might consider taking advantage of these tax benefits in 2020 before they expire. In some cases, these benefits were retroactively applied. In which case, it might be useful to amend prior year’s returns if the savings are significant enough.
- Exclusion from income for the forgiveness of debt on a principal residence: The exclusion now applies to discharges of qualified principal residence indebtedness occurring before January 1, 2021, or discharges that are subject to an arrangement that is entered into and evidenced in writing before January 1, 2021.
- Mortgage insurance premium deduction: Premiums paid or accrued after January 1, 2018, for qualified mortgage insurance in connection with acquisition indebtedness are deductible as home mortgage interest (qualified residence interest). The deduction is subject to the taxpayers adjusted gross income (AGI) limits.
- Above-the-line deduction for tuition and fees: The tuition and fees deduction may be claimed for qualified tuition and related expenses paid for the enrollment or attendance at an eligible education institution. The student may be the taxpayer, the taxpayer’s spouse, or the taxpayer’s dependent.
- Nonbusiness energy property credit: The nonrefundable nonbusiness energy property credit is available for qualified energy efficient improvements or property placed in service before January 1, 2021. Qualified energy efficiency improvements include energy-efficient exterior windows, doors and skylights; roofs (metal and asphalt) and roof products; and insulation. Residential energy property includes energy-efficient heating and air conditioning systems; water heaters (natural gas, propane or oil); and biomass stoves.
- Reduced 7.5 percent threshold for medical expense: If it is possible and the expenses are significant, accelerate the payment of medical expenses into 2020. The threshold rises to 10% of adjusted gross income in 2021.
Post-Election Tax Considerations
Joe Biden had indicated during his campaign that he intends to increase taxes on high-income individuals and corporations, including how Global Intangible Low-Tax Income (GILTI) will apply to U.S. shareholders of Controlled Foreign Corporations (CFCs). Notable items on his proposals include the restoration of the top rate of 39.6%, the repeal of step-up basis, an increase in the top rate on long-term capital gain for taxpayers earning more than $1 million, the restoration of the Pease limitation on itemized deductions for taxable incomes above $400,000, and various measures to increase taxes imposed on GILTI.19 The prospects of these proposals becoming law in the coming years may depend, to some extent, on the outcomes of the Georgia Senate runoff elections. In spite of these uncertainties, accelerating and deferring certain income or deductions remain the linchpin for year-end tax planning.
If you have any question about your year-end tax planning, please do not hesitate to call our office to schedule an appointment.
American Expatriate Tax is a part of Contexo Global Mobility Solutions & Tax Consulting Ltd. registered in Hong Kong. Together, we help companies and individuals navigate through the complexities of global mobility and related tax issues. Here is where you will find a blend of expertise from Big 4 accounting firms and Fortune Global 500 companies but the attention of a boutique consulting practice. The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.