Nobody expected the Spanish Inquisition. With tax season just around the corner, you should know what to expect to avoid moments of shock later on. With so many tax changes set to take effect in 2021, if you plan now – you can save the most money further down the road.
Consolidated Appropriation Act
While the Corona AId, Relief, and Economic Security (CARES) Act (2020) implemented a variety of programs that offered fast and direct economic assistance to millions of Americans and businesses, the Consolidated Appropriation (CA) Act (2021) was able to continue that relief.
The CA Act provided extensions for many programs by adding new phases, new allocations, and new guidance to address issues related to the onset lockdown cost of the pandemic. The CA Act includes several tax provisions providing many extensions for expiring deductions and credits, extensions, and expansions of certain tax relief provisions. The CA Act allows for the following:
- Receive $600 advance payment of a tax credit per taxpayer ($1,2000 for married filing jointly), plus $600 for each qualifying child. The credit, like the first stimulus checks, phases out starting at $75,000 of modified adjusted gross income ($112,500 for heads of household and $150,00 for married filing jointly).
- An extension of the ability for businesses to deduct 100% of certain meal expenses.
- A clarification that personal protective equipment is deductible expenses for qualified teachers as part of the $250 qualified education tax deduction.
- An extension of the $300 deductions for cash charitable deductions if you claim the standard deduction. For 2021, the deduction is increased to $600 for joint filers.
- A classification that gross income will not include an amount equal to any forgiven amount of a Paycheck Protection Program (PPP) loan and that expenses paid with forgiven PPP loans are fully deductible.
Adjustments for inflation
It’s routine to adjust for rates of inflation, which determine Income tax brackets eligibility for certain tax deductions and credits. This year, however, there is a change regarding how the tax code calculates for inflation. Normally, inflation is tied to the consumer price index, tax reform now measures inflation using something called “chained CPI.”
As a result of adjusting for rates of inflation, you will see a change in income tax brackets, eligibility for certain deductions and credits, and the standard deduction has also increased. For tax players, this could more easily get pushed into a higher marginal tax bracket than tax reform because of cost-of-living paycheck increases or annual raises that outpace the chained CPI.
|Rate||For Single Individuals||For Married Individuals Filing Joint Returns||For Heads of Households|
|10%||Up to $9,950||Up to $19,900||Up to $14,200|
|12%||$9,951 to $40,525||$19,901 to $81,050||$14,201 to $54,200|
|22%||$40,526 to $86,375||$81,051 to $172,750||$54,201 to $86,350|
|24%||$86,376 to $164,925||$172,751 to $329,850||$86,351 to $164,900|
|32%||$164,926 to $209,425||$329,851 to $418,850||$164,901 to $209,400|
|35%||$209,426 to $523,600||$418,851 to $628,300||$209,401 to $523,600|
|37%||$523,601 or more||$628,301 or more||$523,601 or more|
|Source: Internal Revenue Service|
Some of the overall changes are described below.
- For most married couples filing jointly, their standard deduction will rise to $25,100 to $300 from the prior year.
- For most single taxpayers and married individuals filing separately, the standard deduction rises to $12,550, or half that for married filers.
- Most taxpayers filing as head of household will see their standard deductions increase to $18,000.
- The maximum amount of the earned income tax credit (for taxpayers with 3-or-more children) will increase to $6,728, up from $6,600 for 2020.
- The maximum amount of adoption credit will increase to $14,400, up from $14,300 for 2020.
- The qualified business income threshold under Sec. 199A(e)(2) will increase to $329,800 for married individuals filing joint returns and to $164,925 for married individuals filing single individuals and heads of household, all increased from 2020.
- The Sec. 911 foreign earned income exclusion amount will increase to $108,700 up from $107,6000 in 2020.
- And more.
Deductions and credits adjustment.
Phaseout changes to note:
- Earned Income Tax Credit: The maximum credit for filing jointly as a married couple and claiming three or more qualifying dependents amounts to $6,660 in 2021, with a phaseout for credit beginning at $56,844 of adjusted gross income (AGI). If you are single with no dependents, you can receive a maximum credit of $538 with your phaseout beginning at $15,820 of AGI.
- The Alternative Minimum Tax: AMT is intended to keep wealthy taxpayers in check, by preventing them from using too many tax credits, deductions, and other loopholes to avoid paying taxes. Higher exemptions and income phaseouts will occur in 2021.
- Changes to retirement plan distributions:
- The CARES Act allows individuals impacted by COVID-19 to take up to $100,000 of retirement funds without incurring the customary 10% early withdrawal penalty. IRA contribution amounts remain the same in 2021, but phaseout levels for taking deductions for certain types of contributions have increased for those with retirement plans.
- Contributing to your health savings plan or retirement plan now can actually help lower your taxes and save you some money.
Start Planning Now
While no amount of planning perfectly prepares you for what lies ahead, it can certainly give you the flexibility to respond. With so many tax changes set to take effect in 2021, you can take advantage of beginning planning now. To learn more, reach out to Herman & Company – Accounting & Consulting with any questions. We are trained tax professionals who can help you navigate state and federal tax laws.