Tax Moves to Take Now to Save on 2022 Taxes

The 2023 tax filing season (starting in five months) for filing 2022 federal income returns may seem a long way off. But the last three months of 2022 is an ideal time for federal employees to perform some tax moves in order to hopefully save on 2022 federal income taxes. With the stock market in particular having a down year (in which some stock indices are down as much as 20 to 25 percent year-to-date) making some tax-oriented stock moves may result in tax savings for 2022. Also, now be the time for employees to consider whether the end of 2022 is the best time to increase charitable giving.

This column presents some investment and charitable tax moves that could result in 2022 federal income tax savings.

1. Sell investment assets (for example, individual stocks, bonds, stock or bond mutual funds) that are “underwater” (worth less than what was paid for them) resulting in capital losses.

This is especially a wise move if an investor is selling these assets for not only tax reasons but for investment reasons such as balancing or diversifying a portfolio.

The year 2022 has not been a good year for the stock market. For those investors who sell their investment assets (in particular – stocks, and stock mutual funds) and receive less than their “cost basis” in the investment asset (that is, what they paid for the investment asset including reinvested dividends) could incur a capital loss. A capital loss can be used to offset dollar-for-dollar any capital gains the investor has incurred (and potentially taxable) during the year, most probably resulting in tax savings. Many individual investors may incur a larger amount of capital losses than capital gains during 2022.

Those investors who do incur an excess amount of capital losses in any year can offset as much as $3,000 of these recognized losses (actual losses, not “paper losses”) against “ordinary income” including salary income, interest income, pension income and rental income. The $3,000 limit applies to married couples filing jointly, to single tax filers, and to head of household tax filers. The limit is $1,500 for individuals who are married and filing as married filing separately. Any recognized net losses in excess of $3,000 ($1,500) are carried into the next year and can be used to offset capital gains in that year.

Those investors who own any investment assets (in a brokerage account and not within a retirement account such as an IRA) that have decreased in value during 2022 and want to continue owning these rather than selling them at a loss may want to consider selling those assets at a capital loss and then repurchasing these assets shortly thereafter. In so doing, the investor will benefit from a recognized capital loss that can be applied dollar-for-dollar against any 2022 capital gains, resulting in possible tax savings. In addition, the investor will then repurchase the recently sold investment asset at a reduced price.

However, the individual investor must take care not to violate the IRS’ “wash-sale” rule. A “wash-sale” occurs when an individual sells a stock or other security at a loss and then buys the same or “substantially similar” security within 30 days before or after the sale. When the purchase of the same stock or other security that was sold at a loss is repurchased within 30 days before or after the original sale, the IRS will disallow the loss due to violation of the IRS “wash-sale” rule. A “wash-sale” violation will, however, allow the individual to add the amount of the disallowed loss to the cost of the identical securities purchased.

2. Consider which year is the best year is to make charitable contributions.

Many individuals do not start thinking about making their annual charitable contributions until later in the year, usually late November and December when the end-of-year holiday season starts. But it is probably wiser to start thinking now in early fall with respect to charitable giving in order to determine whether the current year or the following year will be a better year for tax purposes with respect to charitable giving. In particular, whether to “bunch” charitable contributions and other itemized deductions into the current year or to delay making these contributions into the new year.

The following example illustrates:

Example. Helen is a single individual who plans to take the standard deduction when she files her 2022 federal income tax return. She is renting during most of 2022 and will be settling on a house she just purchased in early September 2022. Since Helen will have a limited amount of mortgage interest to include as an itemized deduction on her 2022 federal tax return, she will likely be taking the standard deduction on 2022 federal income tax return. She will be itemizing her 2023 federal income tax return. Helen is advised to delay making her charitable contributions into 2023 in order to include them as itemized deductions on her 2023 federal income tax return.

A recommendation for individuals to consider with respect to increasing the amount of their charitable contributions is to donate highly appreciated stocks and other securities to charities. In order to make this tax savings opportunity work, an individual would have to itemize (rather than taking the standard deduction) on his or her federal income tax return.

The stock or other security to be donated to a qualified charitable organization must have been owned for at least one year. Donors of appreciated stock and other securities can deduct the fair market value of their donations (there is a limit on the amount of these types of donations equal to 30 percent of the donor’s adjusted gross income in the year of donation) and avoid owing tax on any appreciation of the stock or other security that has accrued over the years had the donor sold the appreciated stock or other security.

On the other hand, if an individual owns a stock or other security that has decreased in value over time and the investor itemizes on his or her federal taxes, the individual is advised to sell the stock or other security, thereby incurring a capital loss.

The resulting capital loss can then be used to offset any capital gains the investor may have incurred that same year. If there is an insufficient amount or no capital gain to offset the entire capital loss, then up to $3,000 of the capital loss can be applied towards other income. Also, with the cash proceeds resulting from the sale of the stock or other security, the cash proceeds can be donated to a charitable organization. In short, the recognized capital loss and the cash donation to a qualified charitable organization potentially can possibly result in a double tax benefit in the same tax year.

3. Check out when mutual fund payouts will made before the end of the calendar year in order to avoid “buying a dividend”.

Individuals who are considering at this time of the year the purchase of mutual funds (especially stock mutual funds) in a taxable account are advised to be aware of being subject to federal income tax that could have been avoided. Because stock mutual funds typically make their dividend and capital gain distributions to their shareholders towards the end of the year, it is important for a potential mutual fund purchaser to check if the fund is planning to make a sizable year-end dividend and/or capital gains distribution in November and December.

These distributions are taxable in the year received assuming the individual invested in the fund prior to the dividend record date. Also, when a mutual fund makes a dividend and/or capital gain distribution, the share price of the fund decreases.

The ultimate result is that an investor who purchases a mutual fund at the end of the year just prior to the record date will be paying federal income tax on an investment that has immediately decreased in value. This is called “buying a dividend” and applies only to taxable accounts and not to retirement accounts such as IRAs.

There are ways to avoid “buying a dividend” including delaying the purchase of a mutual fund into a new calendar year, after the year-end dividend and capital gain distribution. Another way is to invest in a mutual fund within a retirement account such as an IRA in which are there are no current year tax consequences.

Before engaging in any of these year-end tax moves in order to lower their 2022 federal income liability, employees are highly encouraged to speak with their tax advisors to make sure that the tax moves are appropriate to them as well as the impact of these moves on an employee’s current and future financial goals.