Last Minute Retirement Steps for 2020

Dear Client:

The clock continues to tick. Your retirement is one year closer.

You have time before December 31 to take steps that will help you fund the retirement you desire. Here are four things to consider:

1. Establish Your 2020 Retirement Plan

First, a question: As you read this, do you have your (or your corporation’s) retirement plan in place?

If not, and if you have some cash you can put into a retirement plan, get busy and put that retirement plan in place so you can obtain a tax deduction for 2020.

For most defined contribution plans, such as 401(k) plans, you (the owner-employee) are both an employee and the employer, whether you operate as a corporation or as a proprietorship. And that’s good because you can make both the employer and the employee contributions, allowing you to put a good chunk of money away.

2. Claim the New, Improved Retirement Plan Start-Up Tax Credit of Up to $15,000

By establishing a new qualified retirement plan (such as a profit-sharing plan, 401(k) plan, or defined benefit pension plan), a SIMPLE IRA plan, or a SEP, you can qualify for a non-refundable tax credit that’s the greater of

  • $500 or
  • the lesser of (a) $250 multiplied by the number of your non-highly compensated employees who are eligible to participate in the plan, or (b) $5,000.

The credit is based on your “qualified start-up costs,” which means any ordinary and necessary expenses of an eligible employer that are paid or incurred in connection with

  • the establishment or administration of an eligible employer plan, or
  • the retirement-related education of employees with respect to such plan.

3. Claim the New Automatic Enrollment $500 Tax Credit for Each of Three Years ($1,500 Total)

The SECURE Act added a nonrefundable credit of $500 per year for up to three years beginning with the first taxable year beginning in 2020 or later in which you, as an eligible small employer, include an automatic contribution arrangement in a 401(k) or SIMPLE plan.

The new $500 auto contribution tax credit is in addition to the start-up credit and can apply to both newly created and existing retirement plans. Further, you don’t have to spend any money to trigger the credit. You simply need to add the auto-enrollment feature.

4. Convert to a Roth IRA

Consider converting your 401(k) or traditional IRA to a Roth IRA.

If you make good money on your IRA investments and you won’t need your IRA money during the next five years, the Roth IRA over its lifetime can produce financial results far superior to the traditional retirement plan.

You first need to answer this question: How much tax will I have to pay now to convert my existing plan to a Roth IRA? With the answer to this, you know how much cash you need on hand to pay the extra taxes caused by the conversion to a Roth IRA.

Here are four reasons you should consider converting your retirement plan to a Roth IRA:

  1. You can withdraw the monies you put into your Roth IRA (the contributions) at any time, both tax-free and penalty-free, because you invested previously taxed money into the Roth account.
  2. You can withdraw the money you converted from the traditional plan to the Roth IRA at any time, tax-free. (If you make that conversion withdrawal within five years, however, you pay a 10 percent penalty. Each conversion has its own five-year period.)
  3. When you have your money in a Roth IRA, you pay no tax on qualified withdrawals (earnings), which are distributions taken after age 59 1/2, provided you’ve had your Roth IRA open for at least five years.
  4. Unlike with the traditional IRA, you don’t have to receive required minimum distributions from a Roth IRA when you reach age 72—or to put this another way, you can keep your Roth IRA intact and earning money until you die. (After your death, the Roth IRA can continue to earn money, but someone else will be making the investment decisions and enjoying your cash.)

If you would like my help with any of the above, please give me a call on my direct line at (828) 351-7205.

Considerations When Moving to a “Low Cost” State

Dear Client:

If you’re considering moving to a different state, taxes in the new state may be the deciding factor – especially if you expect them to be lower.

Consider All Applicable State and Local Taxes

If your objective is to move to a lower-tax state, it may seem like a no-brainer to move to one that has no personal income tax. But that’s not a no-brainer!

You must consider all the taxes that can potentially apply to local residents – including property taxes and death taxes.

One Case Study

Texas is “famous” for having no personal state income tax, while Colorado has a flat 4.63% personal state income tax rate. So, you might reasonably think it would be much cheaper taxwise to live in Texas than Colorado if you have a healthy income. Not necessarily! Here’s why.

The property tax rate on a home in some Colorado Springs locales is about 0.49% of the property’s actual value, as determined by the county assessor. Say you move to one of these areas and buy a $500,000 home. Your annual property tax bill would be about $2,450.

Say your taxable income is $200,000. Your Colorado state income tax bill would be $9,260. Your combined property tax bill and state income tax bill would be about $11,710 ($2,450 + $9,260).

According to the Dallas Central Appraisal District’s online property tax estimator, the annual property tax bill on a $500,000 home in some Dallas locales would be about $21,200, or about $17,800 if you’re over 65 or a surviving spouse. You would have no state income tax bill.

In most areas within both Colorado Springs and Dallas, the combined state and local sales tax rate is 8.25%, so no difference there.

So the relevant comparison for property and income taxes is $11,710 in Colorado Springs and about $21,200 (or $17,800 if you’re over 65 or a surviving spouse) in Dallas.

But if your income is really high, it could be the other way around – assuming you don’t buy a really expensive home in Dallas.

Finally, it’s important to know that the restaurants are better in Dallas. True!

Defang the State Tax Domicile Issue

If you decide to make a permanent move to a lower-tax state, it’s important to establish legal domicile there in order to decouple yourself from taxes in the state you came from.

The exact definition of “legal domicile” varies from state to state.

In general, your domicile is your fixed and permanent home location and the place where you plan to return, even after periods of residing elsewhere.

Because each state has its own rules regarding your domicile, you could wind up in the worst-case scenario – with two states claiming that you owe state taxes because you established domicile in the new state but did not successfully terminate domicile in the old state.

Finally, if you die without clearly establishing domicile in just one state, both the old and the new states may claim that state death taxes are owed. Not good!

If you are thinking of moving to another state, please don’t hesitate to ask me for help. My direct line is 828-424-1645.


James G. Mackey

Don’t Let Section 179 Recapture Hurt You

Dear Client:

Okay, so you took the big Section 179 expensing deduction on your vehicle.

How do you keep it?

You might wonder: What do we mean by “keep it”?

In tax law, there’s no free lunch. The Section 179 deduction comes with “recapture strings” attached.

When you claim your Section 179 deduction, you make a deal with the government to keep your business use above 50 percent during the “designated” depreciation periods (five years for vehicles).

One Sad Story

In 2018, Jerry Jackson claimed a $53,000 Section 179 deduction on a qualifying pickup truck. In 2020, Jerry’s wife drives the truck and Jerry’s business use drops to zero.

Jerry violated his 50 percent business-use agreement with the government. Now he has phantom income to report (called “recapture”), and he’s going to pay the price for breaking his tax promise on the Section 179 deal.

The pickup truck is listed property. This means that Jerry must recompute his allowable deductions using the ADS straight-line depreciation tables, which will result in the following:

  • $5,300 deduction (10 percent of $53,000) in 2018
  • $10,600 deduction (20 percent of $53,000) in 2019

In 2018, Jerry deducted his 90 percent business cost ($53,000) using Section 179. But now, with recapture, his ADS straight-line depreciation for 2018 and 2019 totals only $15,900 ($5,300 + $10,600).

So in 2020, the year of violation, tax law recaptures $37,100 ($53,000 – $15,900). Jerry must report the 2020 recapture income on the same form or line on which he (or his corporation) claimed the original $53,000 deduction in 2018.

For example, say Jerry operates as a proprietor who claimed his 2018 Section 179 deduction on Schedule C. In 2020, he reports the recapture income as other income on Schedule C.

Holy smokes! On Schedule C, that means the Section 179 recapture is going to create self-employment taxes. Correct! The original Section 179 deduction reduced self-employment taxes.

On his recapture income, Jerry gets the double whammy: increased income and self-employment taxes.

Traps to Consider

Retirement. Are you going to retire? Will retirement bring your business use to zero?

Children. Do your children drive your business vehicle(s)? Will their driving bring your business use to 50 percent or less?

Spouse. Does your spouse drive your business vehicle for personal purposes? Will your spouse’s mileage drop your business use to 50 percent or less?

Personal use. Are you converting Section 179 assets, such as a vehicle, to personal use? Does the conversion to personal use occur during the recapture period?

You need to consider recapture when doing your tax planning. If you would like my help with this, please don’t hesitate to call me on my direct line at 828-351-7205.


James G. Mackey