Ask An Advisor: What Midyear Moves Will Cut Our Tax Bill
We gained additional income and didn’t withhold enough on our Form W-4. We are currently not putting money into a retirement account but have access to a 401 through our employer. Would we be able to correct our withholding deficit by putting money into a 401? How do we go about figuring out how much to put in it? Would we still have to adjust our Form W-4? And if so, by how much?
I get this type of question a lot as a certified public accountant , but often after it’s too late to do anything about it. I’m glad you asked this now instead of in December or next year.
Doing some midyear tax planning can be helpful when you’ve had a change in circumstances. Figuring things out when you still have plenty of time to take action will help you avoid tax-time anxiety and an unmanageable tax bill in April.
In your case, a two-pronged approach makes the most sense. You can take steps to both reduce your total tax bill and any unpaid balance due.
A financial advisor may help you understand the tax impacts of your investment and income decisions.
Dealing With Untaxed Income
Untaxed income not to be confused with nontaxable income lands a lot of people in hot water. This is income received with no taxes taken out and includes sources such as:
First, you can reduce your taxable income, meaning the amount of income on which you have to pay taxes. You can do this in a few different ways such as:
Use Your 401 to Reduce Taxable Income
Able Accounts: Tax Facts For People With Disabilities
ABLE accounts are tax-advantaged savings and investment accounts for eligible people with disabilities. An ABLE account can help the account owner save and pay for qualified disability expenses which enhance their health, independence and quality of life, without affecting eligibility for government assistance programs. Tax season is the perfect time to learn about ABLE accounts and taxes.
The 2022 tax season began January 24, 2022 when the IRS began accepting and processing 2021 tax year returns the deadline to file is April 18, 2022 for most taxpayers unless an extension was requested. ABLE account owners are not required to file income taxes simply because they have an ABLE account. A person may need to file taxes if they have employment income, SSDI, retirement income, investment earnings, or dividends. ABLE account owners, who are employed and those who are not employed may be eligible for tax deductions or credits which could result in an income tax refund. All account owners are encouraged to file their 2021 tax return electronically to claim tax credits or deductions which may result in a refund which may be saved. An income tax refund may be directly deposited and saved in an ABLE account without impacting public benefits.
What Is An Able Account
ABLE Accounts, which are tax-advantaged savings accounts for individuals with disabilities and their families, were created as a result of the passage of the Stephen Beck Jr. Achieving a Better Life Experience Act of 2014 or better known as the ABLE Act. The beneficiary of the account is the account owner, and income earned by the accounts will not be taxed. Contributions to the account, which can be made by any person , must be made using post-taxed dollars and will not be tax deductible for purposes of federal taxes however, some states may allow for state income tax deductions for contributions made to an ABLE account.
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An Introduction To Able Accounts
When Congress passed the Achieving a Better Life Experience Act in 2014, it was a game-changer for families with special needs. For the first time there was a tax-advantaged way to put money aside for dependents with disabilities without compromising their eligibility for government benefits. And, unlike a special needs trust, an ABLE account can be managed and controlled by the beneficiary.
Since this law was enacted, however, there has been some confusion about how ABLE accounts work, and the public has been slow to sign on. Here are answers to a few basic questions to help clarify what ABLE accounts can and cant accomplish for the special needs family.
Local Special Needs Planners in Your City
What is the ABLE Act, and what does it mean?
What can ABLE accounts pay for?
Money in an ABLE account is intended for the care and support of the person with special needs. Qualifying expenses include housing, transportation, assistive technology, health care, and employment support. Any amount withdrawn for non-qualifying expenses incurs a 10 percent penalty payable to the IRS and is subject to taxation on any gains or investment returns.
What are the advantages ABLE accounts?
Are there any drawbacks or limits to ABLE accounts?
Before setting up an ABLE account for your loved one, make sure you understand every aspect of the law, and consult your special needs planner.
For more on ABLE accounts, click here, here and here.
What Are Able Accounts Tax Benefits Explained
Achieving a Better Life Experience accounts allow the families of disabled young people to set aside money for their care in a way that earns special tax benefits. ABLE accounts work much like the so-called 529 accounts that families can use to save money for education in fact, an ABLE account is really a special kind of 529.
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Retirement Savings Eligible For The Credit
The Savers Credit can be taken for your contributions to a traditional or Roth IRA your 401, SIMPLE IRA, SARSEP, 403, 501 or governmental 457 plan and your voluntary after-tax employee contributions to your qualified retirement and 403 plans.
Rollover contributions arent eligible for the Savers Credit. Also, your eligible contributions may be reduced by any recent distributions you received from a retirement plan or IRA.
Example: Jill, who works at a retail store, is married and earned $38,000 in 2018. Jills husband was unemployed in 2018 and didnt have any earnings. Jill contributed $1,000 to her IRA in 2018. After deducting her IRA contribution, the adjusted gross income shown on her joint return is $36,000. Jill may claim a 50% credit, $500, for her $1,000 IRA contribution.
Forms ABLE programs use Form 1099-QA, Distributions from ABLE Accounts, and Form 5498-QA, ABLE Account Contribution Information, to report relevant account information annually to designated beneficiaries and the IRS. Instructions are available for both forms.
You may be able to take a tax credit for making eligible contributions to your IRA or employer-sponsored retirement plan. And, beginning in 2018, if youre the designated beneficiary you may be eligible for a credit for contributions to your ABLE account.
Compare ABLE programs on the websites of state governments to see which program is best suited for you. See ABLE Account , later.
Get forms and other information faster and easier at:
What Are The Tax Advantages Of An Ablenow Account
Earnings grow free from federal taxes. In addition, ABLE account beneficiaries may qualify for the federal Savers Credit for up to $2,000 in contributions they make to their ABLE accounts.
States may offer state tax incentives too. In Virginia, earnings grow free from federal and state taxes. Virginia also offers an annual state income tax deduction of up to $2,000 per contributor for contributions to an ABLEnow account.
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Whats The Difference Between An Able Account Vs Special Needs Trust
ABLE accounts and special needs trusts benefit people with disabilities but have different rules and guidelines. While the money you earn in an ABLE account is tax-free, the money in a special needs trust is taxable each year.
ABLE accounts are easier to set up. Trusts often need to be created with the help of a lawyer. But unlike ABLE accounts, special needs trusts dont have contribution limits. However, they do need designated trustees to manage their investments and tax liabilities.
Able Contributions Eligible For The Credit
Beginning in 2018, the Savers Credit can be taken for your contributions to an ABLE account if youre the designated beneficiary.
Rollover contributions account do not qualify for the credit. Also, your eligible contributions may be reduced by any recent distributions you received from your ABLE account. *Single, married filing separately, or qualifying widow
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How Does An Able Account Work
ABLE accounts offer tax-saving benefits for qualified expenses and allow a person with disabilities to accrue assets while remaining eligible for income-dependent benefits such as Supplemental Security Income and Medicaid. Like 529 plans for college savings, ABLE accounts are administered by the states.
Each beneficiary can have one ABLE account, although multiple people can contribute to that account. Contributions to an account aren’t federally tax deductible, but some states offer an income tax deduction for contributions. The money can grow in the account by earning interest on savings some state programs even allow you to invest the money.
Withdrawals from the account are tax-free if you use the money for qualified expenses, such as rent payments or durable medical equipment. The list of qualifying expenses is long and includes spending on things like education, housing, transportation, health, wellness, assistive technology, personal support and employment support.
While states set up and manage ABLE accounts and programs, you don’t necessarily need to establish an ABLE account where the beneficiary residesmany states accept out-of-state residents. Depending on where you live, the ABLE account you set up may have different total account fund limits, investment options, annual fees and benefits .
The ABLE National Resource Center, created by the nonprofit National Disability Institute, has a tool you can use to compare state programs side by side.
Able Account Vs Special Needs Trust
You might be wondering why you would want to establish an ABLE account instead of a special needs trust. This type of trust is often used to put money aside for a child or family member with special needs or a disability. There are a few differences, however.
First, the ABLE account affords the beneficiary much greater flexibility in how the funds in the account are used. It is generally easier to access the funds, and the investment strategies used in the account can be easily changed if the need arises in the future. The type of account that you ultimately use will depend on your specific personal situation. However, there is nothing that prevents you from having both types of accounts. In fact, many people find that a combination of an ABLE account and special needs trust ultimately accomplish the goal that they wish to achieve when it comes to financial planning.
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Why The Need For An Able Account
Millions of individuals with disabilities and their families depend on a wide variety of public benefits for income, health care, food and housing assistance. Eligibility for these public benefits requires meeting a means or resource test that limits eligibility to individuals who report having less than $2,000 in cash savings, retirement funds and other items of significant value. To remain eligible for these public benefits, an individual must remain poor. For the first time in public policy, the ABLE Act recognizes the extra and significant costs of living with a disability. These include costs related to raising a child with significant disabilities or a working-age adult with disabilities for accessible housing and transportation personal assistance services assistive technology and health care not covered by insurance, Medicaid or Medicare.
For the first time, eligible individuals and their families will be allowed to establish ABLE savings accounts that will not affect their eligibility for SSI, Medicaid and other public benefits. The legislation explains further that an ABLE account will, with private savings,secure funding for disability-related expenses on behalf of designated beneficiaries with disabilities that will supplement, but not supplant, benefits provided through private insurance, Medicaid, SSI, the beneficiarys employment and other sources.
What Does It Mean To Self
“Self-certification” requires an individual to certify and agree to the following statements during enrollment:
- The individual has a written, signed disability diagnosis from a qualified, licensed physician and
- The individual is either:
- blind, as defined by the Social Security Act , or
- has a medically determinable physical or mental impairment that results in “marked and severe functional limitations” lasting for a continuous period of 12 months or longer or which can be expected to result in death.
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Pennsylvania Residents: Open A Pa Able Account
- Deduct PA ABLE contributions up to $15,000 per year from Pennsylvania taxable income
- Protects eligibility for PA health and disability-related benefits
- Protects eligibility for PA student financial aid
- Contributions grow PA income tax free
- Entire account is exempt from PA inheritance tax
- Entire account is protected from creditors of the account owner, beneficiary or contributor
- Account not subject to Medical Assistance repayment
Who Qualifies For An Able Account
ABLE accounts have one designated beneficiary who owns the account. In order to own an ABLE account, one of the following must be true:
- Youre eligible for Supplemental Security Income due to a disability or blindness that began before age 26
- Youre eligible to receive disability insurance benefits, childhood disability benefits or disabled widows or widowers benefits based on disability or blindness that began before age 26
- Youve certified or had a parent or guardian certify that you met the criteria for disability certified before age 26
Parents can establish ABLE accounts on behalf of disabled children or adults can do so for themselves. Any distributions from the account are intended to be used only for the benefit of the designated beneficiary. If the designated beneficiary is unable to make withdrawals on their own behalf or is a minor, someone with signature authority can assume control of the account for them.
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Are There Limits To How Much Money Can Be Put In An Able Account
An employed ABLE account owner who does not participate in an employer sponsored retirement account make an additional contribution up to the lesser of: the ABLE account owners compensation for the tax year, or the poverty line amount of $12,880 in the continental U.S., $14,820 in Hawaii and $16,090 in Alaska. The ABLE TO WORK ACT Fact Sheet provides more details.
Example: ABLE account owner who has not had contributions made to a retirement account within the calendar year, who works and earns $5,000, may save: $16,000 + $5,000, for a total of $21,000 for this calendar year.
Are There Fees Associated With Maintaining An Ablenow Account
There are minimal costs associated with maintaining your account, and ABLEnow offers some of the lowest fees in the country among ABLE programs.
The monthly account service fee is $3.25. If the Account Owner or Authorized Representative chooses to invest some of the funds in the ABLEnow account, there are also asset-based fees between 0.36% and 0.39%, depending on investment selections.
There may be other fees based upon account activity. See the Account Fee Schedule for details.
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Tax Advantages Of An Able Savings Account
Living with a disability can come with additional expenses. The tax benefits offered by ABLE savings accounts can appeal to eligible individuals who are looking to achieve greater financial security, without impacting certain disability benefits, such as Medicaid and Supplemental Security Income .
Here are four ways ABLEnow can help you make the most of your money.
Who Is Eligible For An Able Account
There are several ways eligibility criteria can be met, but ABLE accounts have an age of disability onset requirement that must be met by every beneficiary: They must have been blinded or disabled before turning 26. Beneficiaries can be older than 26 to open an account as long as their disability began before their 26th birthday.
In addition to age of onset requirement, the beneficiary must meet one of the following:
- Eligible for SSI or SSDI: Receive or be eligible for Supplemental Security Income or Social Security Disability Insurance .
- Have a Compassionate Allowance Condition: The Social Security Administration publishes a list of conditions that may qualify the beneficiary.
- Self-certify: Alternatively, the beneficiary can self-certify their disability with a signed diagnosis from a licensed physician. To self-certify, the beneficiary has to be blind or have an impairment that leads to marked and severe functional limitations, as defined by the SSA.
The ABLE account’s beneficiary can open and will own the account. If necessary, however, a parent, legal guardian or someone with power of attorney can open and manage an account for them on their behalf.
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Tips On Using Your Able Account
In addition to the general guidelines issued by the IRS and SSA, there are also some important factors to keep in mind when it comes to working with your ABLE account.
- If an expense clearly fits into a QDE category, it doesnt need to be related to a disability. For instance, housing expenses are QDE categories that do not need a connection to the disability.
- If in doubt, use non-ABLE money for things you are not sure about and save your ABLE money for things that are clearly covered. You could use your ABLE money to pay rent, for instance, which might free up non-ABLE funds to pay for other expenses.
- Use public funds where you can. For example, Medicaid may be able to pay for transportation costs to a health care provider, special educational programs, specially adapted computer equipment, and many other things. If public benefits can pay for something, you should use them rather than your ABLE funds, which can be used for things that public benefits cannot.
- Lastly, make sure you keep records of any expense that you are unsure about. If you use your ABLE account for a noneligible expense, you will likely hear from the IRS. You should be prepared to explain why you thought a particular expense was a QDE and if you keep records, that will be a lot easier.