(updated 12-29-2019 for 2019 and 2020)
The year is coming to a close. Time to get your financial house in order before we pop the bubbly and ring in the new year.
Here are some tips to optimize your finances before it’s too late:
1. Max out your 401k.
The 2019 IRS limit on 401k contributions is $19,000. If you are 50 or over, you can contribute up to $25,000 thanks to a $6,000 catch up contribution.
For 2020, the IRS limit on 401k contributions is $19,500. If you are 50 or over, you can contribute up to $26,000 in 2020 thanks to a $6,500 catch up contribution.
While working, we paid almost zero tax on a six figure income by maxing out deferred savings plans like the 401k. You can save on taxes too!
2. Max out your IRA.
In 2019, you can contribute up to $6,000 if you are under 50, $7,000 if you’re age 50 or older. If you can’t quite make the contributions by December 31, you can make IRA contributions for 2019 as late as April 15, 2020. But max out the IRA now so you don’t procrastinate!
In 2020, IRS limits for IRA contributions remains the same at $6,000 if you are under 50 and $7,000 if you are age 50 or older.
3. Take advantage of tax breaks on 529 college savings accounts.
If you have kids and want to save for college, then don’t miss out on your 2019 tax savings. Most states that have an income tax will allow a deduction for contributions to 529 college savings plans. Every state has different rules governing how much you can deduct (ranging from $250 to an unlimited amount). A few states, most notably California, Massachusetts, New Jersey, and Tennessee, don’t allow deductions of 529 contributions. Where we live in North Carolina, the state income tax deduction for 529’s disappeared after 2013. At least we saved $350 for our $5,000 contribution each year while the deduction was in effect!
4. Rebalance investments.
A helpful tool is Personal Capital. It will do 90% of the asset class tabulation work for you (review of Personal Capital). As far as timing of rebalancing, you can choose to buy and sell investments before year end if you want any gains or losses to fall in the current tax year, or wait until January to push tax implications into next year. Be strategic!
5. “Tax loss harvest” your investment account for a $3,000 tax write off.
If you aren’t currently tax loss harvesting your investments each year, you should start right now. You can generate a $3,000 deduction every year that will save you $500-$1,000 in taxes each year (depending on your tax bracket and your state income tax situation).
What is “tax loss harvesting“? The quick and dirty explanation: sell investments that have lost money during the year to generate a loss. This loss is what you deduct on your taxes. You can deduct up to $3,000 per year. If you generate more than $3,000 in losses, you can carry over those losses to future years forever (until you use up those losses).
After you sell your losing investments, immediately buy back something similar to replace it. That way you aren’t really changing your portfolio’s investments, but you still generate the money-saving loss (for tax purposes). The IRS says you can’t buy a “substantially similar” replacement investment, but poorly defines what that means exactly. Most have interpreted “substantially similar” as nearly identical. In other words, a Vanguard 500 Index Investor Class mutual fund is substantially similar to the same fund in the Admiral Class since it holds the exact same thing (with slightly different expenses). Instead, buy iShares’ similar 500 Index fund (ticker: IVV ) for example, and you can still own something very similar and take your tax loss without angering the IRS audit computers. In this example, you can later flip back to the Vanguard fund you originally owned if you want (and possibly generate even more tax losses!).
6. Spend your Flexible Spending Account (FSA) funds.
If you participate in the healthcare Flexible Spending Account offered by your employer, don’t forget to spend all the funds in your account. If you didn’t incur reimbursable expenses by December 31, you may forfeit most of the remaining balance. Most employers allow you to submit reimbursement requests for a couple months after the year ends, so make sure to get those receipts submitted ASAP! Only $500 balance in your FSA to be carried over to the next year in general.
Suggested ways to deplete your FSA balance: preventative medical and dental visits, eye exams, glasses, and contacts, and any medical or dental treatments you have been putting off.
7. Use up vacation time.
This one is a little silly, but don’t forget your employer’s policy on vacation time, comp time, and holiday time. Most employers let you roll over some unused vacation time, but usually there is a limit. Why not take off a few extra days around the holidays if they are going to expire anyway? Check your time off balances to see if any expire soon or will be forfeited at year end.
At one previous employer, my comp time expired after 12 months and I often forgot to keep track of this time. I lost a few hours occasionally just because I didn’t keep track of it. That’s almost like throwing money away, since leave time is part of your total compensation package.
8. Pregnant? Have the baby now.
This was Mrs. RootofGood’s suggestion, so hate mail can be directed at her. I’m expecting (get it?!) that this tip won’t be helpful to the vast majority of you.
But for those that have a baby due around the end of the year AND have some control over the timing of their new arrival, pop it out before the clock strikes twelve on December 31. I’m not advising calling up your OB right now and asking for a pre-emptive strike C-section on the 30th.
But if you are overdue and have to make a choice about inducing labor sooner or later, or you have to deliver by C-section anyway, ask your doctor if doing so on or before December 31 is healthy for all involved. Just don’t tell them some guy on the internet advised you to do so.
If the baby makes its debut before January 1, you’ll qualify for a tax credit for the current tax year. That means $2,000 or more tax savings for most taxpayers.
9. Plan for your annual bonus.
Every company is different, but most employers tend to pay any bonuses around the end of the year or the first few months of the new year. Think about what you want to do with the bonus. Reasonable options might be: debt reduction, funding your IRA or 529, diverting a big chunk of it to a 401k, or funding a project at your house that might save you money long term (energy efficiency upgrades for example).
If you want to defer a lot of your bonus to your 401k to avoid a big tax bite, you may have to designate the additional withholding well before the bonus paycheck arrives.
There is no problem spending some of the bonus money frivolously, but you’ll grow much wealthier if you use it to fuel your net worth growth.
10. Donate junk to charity.
Take a look around and see if you want to purge some possessions. Nobody wants to be a hoarder. It is financially and psychologically expensive. Removing clutter from your house will make your domestic environment more enjoyable. Craigslist or ebay anything really valuable.
Consider donating the rest of your stuff. Lots of charities accept clothes, appliances, electronics, household goods, and sports equipment. They convert your donated junk into good for the community.
If you itemize deductions, you can also benefit from donating stuff. You get a tax deduction! With a donation of $1,000 worth of stuff, a typical taxpayer will save $200-300. That’s a win win win situation. Just make sure to cart your stuff to the donation site by December 31 to lock in a tax deduction for the current tax year.
11. Donate cash to charity.
Consider donating to charity. Find a cause that is near and dear to you. One charity I particularly like is Wine to Water. I met the founder, Doc Hendley, at an engineering conference in Raleigh a few years ago. He was the keynote speaker at the conference. After his speech, I had a chance to chat with him for 15 minutes or so. We talked about his charity’s amazing work and about general philosophy on the most optimal way to improve the world. The thing that impressed me the most was Mr. Hendley’s desire to maximize the efficiency of whatever charitable resources he can muster.
I’m probably getting ahead of myself a bit. Let me tell you what they do. They bring clean drinking water to some fairly depressed and impoverished communities in off the beaten path places like Uganda, Sudan, Cambodia, Peru, and Haiti. I don’t mean they literally truck in clean drinking water to these communities. That would be grossly inefficient. Wine to Water provides the technical guidance and some basic financial resources to let the local community build a sustainable clean water supply.
Many times, they use local parts and local technicians to build a well or water filter. The benefit of this approach is the long term functionality of the clean water source. If the local community knows how to maintain the equipment and can acquire local parts to fix the well or filter, the odds of that particular clean water source surviving far into the future increase greatly. They also get emergency family-sized water filters into crisis situations such as post-earthquake Haiti and war torn parts of Syria.
Mr. Hendley and his Wine to Water crew are very efficient at getting clean water to those who need it. Like my other spending choices, I like my charity dollars to go as far as possible, and Wine to Water is a great organization that mirrors my thoughts on spending money efficiently.
I also have to give Wine to Water applause for not spamming me with follow up donation requests. When I was chatting with Doc Hendley at that engineering conference a few years ago, I specifically mentioned how I don’t like some other charities we supported in the past. We have received so many letters and other correspondence from one of these charities that I am certain they have spent more on marketing to me than the sum total of all we have donated to them.
After grabbing all the money in my wallet (only $40) and handing it over to Doc on the spot, I kindly asked Doc to not send me any additional solicitations for donations because it would be a waste of money. Success! These guys are smart, reliable and efficient. The kind of organization I feel comfortable supporting and recommending to the 10,000 or so of you readers that will visit Root of Good this month.
Most of us in the developed world don’t think about clean drinking water very often. It’s a fact of life for us. Unfortunately, millions of people (mostly kids) die every year from totally preventable water-borne illnesses. It’s the 21st century and kids are still dying from something as simple as severe dehydration caused by diarrhea. What a shame.
Pro tip to maximize benefits of charitable giving: If you don’t itemize taxes every year, you might be able to “lump” all your charitable donations of cash and stuff into one tax year, then skip the next year. Then repeat in the lumping in the following year. We have lumped donations and other itemized deductions in this manner and squeezed out a few hundred extra dollars from the tax man every other year.
I hope these tips help you finish the year on a strong financial note! What else can you do to tighten up your finances before year end?
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