Tax Increases Look Likely: Here are 5 Defensive Steps to Avoid

October 04 20:24 2021

Taxes are inevitable. Each new administration attempts to raise or lower them, depending on what they promise during their election campaign. With a two-party system, like the one we have in the United States, taxes are a cyclical issue. We can expect taxes to go up next year, but at some point, there will be a turn of the wheel and they’ll come back down.

Over the next few months, the web will be filled with “tips” on how to offset higher taxes. They’re short-term strategies. Investors and business owners need to look beyond this cycle to the future. Consumers should try to stick to debt payoff plans they made with their snowball debt calculators or other tools. Avoid drastic action. It’s not worth it. Here are some examples.

1. Selling appreciated stock and crypto by year’s end

Selling your stock now to take advantage of lower tax rates on capital gains is essentially ransoming your future. Tax increases don’t affect the market long-term. Those appreciating stocks and crypto holdings that have yet to mature are valuable assets. Don’t sell them. Keep them to secure your retirement. If you sell now, you’ll need to start over in the future.

2. Offering incentives for clients to pay in 2021

You could simply ask clients to pay early so you can avoid higher tax rates in 2022, or you could offer incentives for them to pay early. The problem with either of those is that you’re cutting into your profit margin for next year. Lower revenue numbers in 2022 will not make your shareholders happy, nor will they benefit you. You’ll pay more taxes on less money.

3. Boosting contributions to your 401(k)

This is obviously a moot point if you’ve already maxed out your annual IRS contribution limit. If not, think about what increasing your 401(k) contributions will do to your personal bottom line. You’ll already be faced with a decreased net income due to the tax increase. Now you want to take more away from that and put it into your retirement fund? Good luck with that.

4. Performing a Roth conversion on your traditional IRA

On the surface, this strategy seems to have a dual benefit. The amount converted is taxable, so you can pay that at this year’s lower rate. In the future, when you take retirement distributions, your tax liability will be eliminated. On the flip side of that, your after-tax contribution to a Roth IRA will be lower because your net income will go down. Do the math. It’s not beneficial to you.

5. Increasing your charitable giving in 2022

Philanthropy is an admirable trait if you have the disposable income to afford it. You can avoid paying taxes on money you give to others, but you’re still spending that money. Sites that recommend “giving more to charity” never seem to caution against leaving yourself short. Inflation still is rising. You need to prepare for that by protecting your take-home income.

The bottom line: Sometimes doing nothing is the best action

When taxes go up, you will take some short-term losses. Don’t allow that to alter your long-term financial plans. Leave your retirement accounts and stock portfolio intact, don’t offer discounts for clients to pay early, and keep your charitable donations at their current level. Ride it out and wait for the next tax cycle. It always comes at some point.

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