This year’s U.S. tax season has shaped up to look a lot like the broader pandemic-era economy: Bits of good news pocked with some bad, some weird and lots of unexpected changes all around.
First, the good. Most Americans have three more days than usual to fill out their returns: until April 18. Taxes would usually need to be in by April 15 (the day after my birthday, very appropriate for a personal-finance reporter) but laggards got a bit of a reprieve because the District of Columbia has a holiday on that day.
Next: Refund sizes have been looking pretty healthy so far. The IRS publishes that data weekly during tax season, and returns in some cases have been up by nearly 25% compared with last year. Bloomberg Opinion’s Alexis Leondis offers some interesting reasons why that might be happening. Pandemic relief programs and rising wages have a lot to do with it.
But don’t let your guard down.
“A lot of people are rebounding from 2020 and having better income years,” Dan Herron, a financial adviser at Elemental Wealth Advisors, told me. “Add on top the advance child tax credit and the continuation of day trading, and you get unexpected tax bills. Be prepared to owe if you didn’t make the necessary adjustments prior to preparing your 2021 taxes.”
Which leads me to some bad news: Even if you do get a larger-than-expected refund check this year, record inflation will eat into it. The average refund for the week ending March 25 was $3,263. New estimates from Bloomberg Economics show that inflation will force the average U.S. household to spend an extra $5,200 this year compared with last year for the same consumption basket. That’s $433 per month.
The IRS managed to bring Democrats and Republicans together on an issue at long last. Politicians from both parties in Congress complained that the IRS hadn’t processed returns fast enough for taxpayers, and some were still waiting on refunds from years past. Following the critiques, the agency added “surge teams” to deal with backlogs. The agency has millions of unprocessed tax forms, a delay it attributes to closures of facilities during the coronavirus pandemic, budget cuts and outdated computer systems.
And here’s what’s emerging as an important new theme: Those who don’t know that they are required to pay taxes on cryptocurrency gains ought to read this piece now. Filing taxes on crypto can be a serious headache, especially for those who conduct multiple transactions each year. Tax obligations can pop up in surprising places. People who use digital currencies to pay for things — like, say, a Tesla, or a pizza — are supposed to pay taxes on any increase in value of the crypto they spend. It’s a key difference between using digital “currencies” and actual, fiat currencies such as the U.S. dollar to conduct commerce. Things get even stranger with NFT taxation.
New reporting rules should make managing your crypto tax obligations easier starting in 2023, but that’s no solace for anyone staring at a TurboTax screen now trying to figure it all out at the last minute.
If that’s you, here’s a potential solution from Elliot Pepper, a financial planner and director of tax at Northbrook Financial in Baltimore: Ask for an extension. You can get one until Oct. 15.
“However, this does not extend the time to pay taxes. So if you are going to go on extension, you must pay any amounts that are going to be due by April 18 or face potential penalties,” he said. “In order to know if you will owe anything, at the very least, have copies of any W2s and 1099s, ready to hand your CPA or load into your tax prep software. Even if you overpay at extension, you will get the money back as a refund when you do have time to file.”
And don’t miss these insightful stories fresh this week on taxes:
- A fly-on-the-wall view of elite tax attorneys in the U.S. plotting out how to outsmart the IRS.
- And for our British readers, a reminder of the expensive tax consequences of draining a pension early. — Charlie Wells
Send us questions about your own financial dilemmas to firstname.lastname@example.org.
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- Elon Musk is already having a little fun joking about Twitter’s next board meeting with this tweet.
- Employees are returning to the office, just to sit on Zoom calls…
- …while Google’s ex-HR chief says hybrid work won’t last.
- Russia’s effort to avoid default is undermined by a new U.S. sanction.
- The pause on student-loan payments has transformed many Americans’ financial lives.
- Americans don’t want to talk about generational wealth.
- We updated our guide to SOL.
- Used Teslas and Audis are going for bargains as expats leave Hong Kong.
Retirement is a uniquely difficult thing for people to think about. When they’re young and stand to benefit most from the power of compounded returns, they tend to put off saving — not because they’re irresponsible, but because the future seems very far away or too uncertain, or because they have too little income. And they find the task of managing retirement accounts daunting, with countless potential combinations of contributions and investments. Throughout their working lives, they often fail to take full advantage of employer matching funds — effectively passing up free money.
Read their full argument here.
You Ask, We Answer
Should I scale back my Roth contributions in favor of my traditional retirement accounts? My contributions are: a 200% match into my traditional 403(b), up to 5% of my pay. I max out the rest of my 403(b) using my Roth. I can also contribute to a 457(b), but am not right now. I also max out my HSA contributions. I plan on retiring early. My current top marginal tax bracket will be 22-24%, depending on amount of overtime I work. I plan on being married, so filing jointly in retirement. I am more than content to live on $40,000 per year. So I could convert that much from my traditional into Roth per year and pay only 12%. I am aware tax laws will change by then, but I am not too concerned. Any thoughts on making this move and how much I should change from Roth to traditional? — Tanner Crick, 23, Lexington, Kentucky
The Roth vs. traditional decision does not just involve comparing your marginal tax rate now with your expected effective tax rate in retirement. Other factors include the ability to do Roth conversions before claiming Social Security and the size of your expected required minimum distributions (RMDs) from your traditional accounts starting at age 72. Taking advantage of use-it-or-lose-it low tax brackets is a great idea. But the amount you may be able to convert to a Roth before you start claiming Social Security may not be enough to offset the tax damage done by RMDs later in retirement. RMDs can push you into higher tax brackets and even make Social Security taxable. Given the possible value of your traditional accounts in retirement (employer contributions are always traditional) and that your income and standard of living may rise as you age, I would err on the side of using the Roths. At the most, I would make traditional contributions to get out of the 22% bracket. And assuming the company match is maxed, Roth IRAs provide more flexibility than Roth 401(k)s. — Mark Struthers, Financial Planner at Sona Wealth in Minnesota