Important Changes for 2021 Tax Returns. Are You Ready?
Economic Impact Payments and Recovery Rebate Credit
Child Tax Credit
Adjustments for Inflation
Repeal of Maximum Age for Traditional IRA Contributions
Electric Vehicle Credit Phaseout
Personal Protective Equipment Deductions
Finalization of State and Local Tax Deduction Limitation
Federal Penalty for Not Being Insured Eliminated & New California Tax Penalty Added
As the end of the year approaches, now is a good time to review the various changes that impact 2021 tax returns. Some of the changes are likely to apply to your tax situation. In addition, be aware that various tax-related bills currently in Congress may or may not pass this year. If any of them do pass, we will quickly get the details to you.
Economic Impact Payments and Recovery Rebate Credit - A third round of economic impacts payments/Recovery Rebate Credits are available, up to $1,400 per taxpayer ($2,800 MFJ), plus $1,400 per dependent. For this round, dependents do not need to be under the age of 17 as long as they can be claimed as a dependent on the tax return.
The credit begins to phase-out for AGI that exceeds $150,000 for MFJ and QW, $112,500 for HOH, and $75,000 for Single and Married, Filing Separately (MFS). The end of the full phase-out applies at $160,000 for MFJ and QW, $120,000 for HOH, and $80,000 for Single and Married, Filing Separately (MFS).
If the payment received was less than the allowable credit, the difference is claimed as a refundable credit. If the payment was more, the difference does not have to be paid back. The economic impact payments are not included in the taxpayer’s gross income.
Child Tax Credit - (For the 2021 tax year only.) The Child Tax Credit is increased to $3,000 per qualifying child ($3,600 for those under 6 at the close of the calendar year). The age limitation has increased from age 16 to 17 (any child who has not reached 18 at the close of the calendar year).
The full amount of the Child Tax Credit is refundable. The increased portion of the credit begins to phase-out for AGI that exceeds $150,000 for MFJ and QW, $112,500 for HOH, and $75,000 for Single and Married, Filing Separately (MFS), after which the $400,000/$200,000 beginning phase-out applies to the rest of the credit.
The IRS will estimate the Child Tax Credit based on previous year return information and pay 50% of that amount in the form of monthly payments. Any advance payments received during 2021 will reduce the credit claimed when filing the 2021 tax return.
Please note, Advance Child Tax Credit letters formally known as IRS Letter 6419 will be mailed to taxpayers and must be included with the 2021 tax returns. For married couples, both spouses must submit their individual letters.
Charitable Contributions - Donations are deductible up to $300 for individuals and $600 for those Married, Filing Jointly. The contributions are deductible after Adjusted Gross Income (AGI) and the previous 60% AGI limitation is increased to 100%.
Adjustments for Inflation - As an adjustment for inflation, the MFJ standard deduction is increased $300 to $25,100. The Single and MFS standard deduction is now $12,550 and most HOH taxpayers will see the standard education increase to $18,800.
Medical Threshold – Medical expenses are deductible as itemized deductions only if the total medical expenses for the tax year exceed a specified percentage of a taxpayer’s income. After dropping to 7.5% for 2017 and 2018, this threshold reverts to 10%. As a result, any medical expenses from 2021 are deductible only to the extent that they exceed 10% of a taxpayer’s adjusted gross income for the year.
Repeal of Maximum Age for Traditional IRA Contributions - The age 70.5 maximum age limitation for making deductible traditional IRA contributions no longer applies.
Business Meals - For 2021 and 2022 only, a taxpayer can deduct 100% of the cost of a business meal that is purchased in a restaurant rather than 50% as was allowed in prior years. Restaurant is defined here as a business that prepares and sells food and beverages for immediate consumption. A restaurant does not include a business that primarily sells pre-packaged food and beverages not meant for immediate consumption, such as a grocery or convenience store.
Electric Vehicle Credit Phaseout – As an incentive to get taxpayers to move away from conventional-fuel (gasoline or diesel) vehicles, Congress has provided tax credits of up to $7,500 for the purchase of plug-in electric vehicles. However, Congress’s rules limit the full credit to the first 200,000 vehicles sold by a given manufacturer. Once a company sells 200,000 qualifying vehicles, the credit begins to phase out for that company. Tesla, Chevrolet, and Cadillac have all reached the phaseout point. The table below shows the credits available depending upon the quarter when the vehicle is purchased. There are many automakers that still have not reached the 200,000 vehicles sold point. Large tax credits of up to $7,500 are still available on a wide variety of both electric vehicles and plug-in hybrid electric vehicles. Please call ProTax Service at (310) 869-0038 to find out more about specific vehicles that still qualify for the electric vehicle credit in 2021.
Personal Protective Equipment Deductions - PPE is considered a write-off for teachers and teachers only. Those with PPE for home office use are not allowed to use receipts as a write-off on their taxes.
Alimony – One delayed effect of the 2017 tax reform is that, the treatment of alimony changes for some individuals starting in 2019.
For divorces or separations entered into before 2019, alimony payments continue to be deductible for the payer and taxable for the recipient; such payments also still qualify as earned income for purposes of the recipient’s qualification for an IRA deduction. For divorces or separations executed after December 31, 2018, alimony payments are no longer deductible for the payer. In addition, for the recipient, they are no longer taxable income and do not count as earned income for the purposes of IRA deduction.
Divorces or separations entered into before 2019 continue to follow the pre-2019 rules unless they have been modified after December 31, 2018; in that case, the alimony payments are subject to the post-2018 rules if the modification expressly provides for this.
Finalization of State and Local Tax Deduction Limitation – The 2017 tax reform limited the itemized deduction for state and local taxes (SALT) to $10,000 (or $5,000 for married individuals filing separately). This has adversely impacted taxpayers in high-tax states such as California, Connecticut, New Jersey, and New York. Elected officials in several states have attempted to work around this restriction by establishing (or proposing to establish) state charities. The idea is that taxpayers would make deductible contributions that, in return, would give them tax credits against their SALT equal to most of the value of the charitable contributions. Unfortunately, these officials have overlooked the 1986 U.S. Supreme Court ruling that, if a taxpayer receives something in return for a contribution (i.e., a quid pro quo), the contribution is not deductible.
The final regulations generally reduce the charitable-contribution deduction by the amount of any SALT credit received. However, as an exception, if the credit does not exceed 15% of the contribution, the entire contribution is deductible.
Penalty for Not Being Insured – The Tax Cuts and Jobs Act (tax-reform) that was enacted at the end of 2017 eliminated the Obamacare shared-responsibility payment, effective starting in 2019. Congress didn’t actually repeal this penalty; instead, it effectively repealed it by tweaking by setting zero values for both the percentage of household income used in the calculation and the flat dollar amount of the penalty. As a result, the amount of the penalty is always zero. While the Federal penalty for being uninsured has been eliminated for 2019, beginning in 2020 and continuing last year for 2021, the State of California now charges a new tax penalty to residents without qualified health insurance coverage.
If you have questions related to any of the topics discussed in this article, please call the tax professionals at ProTax Service in Playa Vista at (310) 869-0038. We specialize in filing taxes for self-employed individuals, families, and small business tax preparation in Culver City, Playa del Rey, Westchester, Santa Monica and Marina del Rey.