Year-End Tax Planning: 4 Retirement Plan Steps You Can Take

November 9, 2022
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The end of the year is coming up soon. This is a critical time for tax planning. You need to take advantage of every tax deduction, credit and benefit you can before the 2022 tax year is complete. At the same time, you need to be thinking ahead to 2023 and beyond with strategic tax planning.

One critical area of business owner tax planning is your retirement savings plan. The good news is you still have time before December 31 to take important steps. Smart moves now can help fund your retirement—and the retirement plans of your employees—more effectively. You can also benefit from available tax savings. Here are four steps you can take before 2022 comes to an end:

1. Establish a Retirement Plan in 2022

If you don’t already have a good retirement plan in place for your business, now is the time to set one up. It can still be done before the end of the 2022 tax year if you act quickly. Set up a retirement plan and be eligible for a tax deduction in 2022.

For most defined contribution plans, such as 401(k) plans, you are both an employee and the employer. This is true whether you operate as a corporation or as a proprietorship. This allows you to make both employee and employer contributions to your plan. You can put away a good chunk of money with tax-deferred savings. Of course, any of your employees on the plan can also take advantage of contributions before the end of the year, thus reducing their own taxable income.

2. Claim the New Retirement Start-Up Tax Credit

By establishing a new qualified retirement plan (such as a 401(k), profit-sharing 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 tax law bases your retirement tax credit on your “qualified start-up costs.” Your qualified start-up costs are the ordinary and necessary expenses you pay or incur in connection with:

  • The establishment or administration of the plan, or
  • The retirement-related education of employees for such plan

3. Claim the New Automatic Enrollment Tax Credit

The SECURE Act added a non-refundable tax credit of $500 per year for up to three years. This begins with the first taxable year (2020 or later) in which you, as an eligible small employer, include an automatic contribution arrangement in a 401(k) or Simple IRA plan.

This new $500 auto-contribution tax credit can be claimed in addition to the start-up tax credit. It can be applied to both newly created and existing retirement plans. In addition, you don’t have to spend any money to trigger the credit. You simply need to add the auto-enrollment feature (which can include a provision that allows employees to opt out).

4. Convert to a Roth IRA

You may also want to converting your existing 401(k) plan or traditional IRA into a Roth IRA.

You will want to determine how much tax you will need to pay in order to convert your 401(k) into a Roth IRA. This will let you know how much cash is required to pay extra taxes caused by this conversion.

These additional taxes could easily be offset by the long-term benefits of a Roth IRA. Here are four reasons why you should consider this move:

  1. You can withdraw funds from your Roth IRA at any time—tax-free and penalty-free—because you already invested previously taxed money into the original account.
  2. You can withdraw money converted from the traditional plan to the Roth IRA at any time, tax-free. However, each conversion has its own five-year period. A conversion withdrawal within five years is subject to a 10% penalty.
  3. You pay no tax on qualified Roth IRA withdrawals after the age of 59 1/2, as long as you’ve had your plan for at least five years.
  4. Unlike with the traditional iRA, you don’t have to receive required minimum distributions from the account when you reach age 72. You can keep as much money as you want in your Roth IRA until you die. The IRA can continue to make money after your death, which can benefit your heir(s) who inherit the account.

For help with all your year-end business tax planning and personal retirement savings strategies, contact Illumination Wealth today.