Market Update and Final Year-end Checklist

2022 has so far been a difficult year in the markets. You are no doubt familiar with the list of reasons contributing to the malaise: inflation, China, COVID lockdowns, Russia-Ukraine War, the Fed, tech stocks, crypto, mid-term elections, and certainly others. The S&P 500 index of large-cap US stocks is down a bit over 15% YTD. US bonds are down 13% (Bloomberg US Agg). It is indeed rare, though not without precedent, that both stocks and bonds produce negative returns in a year. Typically, bonds provide the “buffer” from volatility in stocks, and we do expect them to eventually resume that role. Yields on bonds, and thus their expected returns, are very attractive compared to last year. But while we all look forward to putting 2022 behind us and eventually returning to growth, we remain focused on bigger picture of why we invest – because markets on average generate positive returns over longer term horizons and help us to achieve our financial goals.

We have had many client conversations this year about market risk and investment strategies. A core component of our investment strategy overall is that portfolios should be designed with market risk in mind, meaning we expect there to be down periods just as we expect there to be (more) up periods. Risk is always present. That is why our portfolio designs are structured to be durable enough to see you through both the ups and downs of the markets and “keep you in the game” for the long term and sleeping well at night.

But before we turn our attention to the holidays and the new year, there are still a few weeks left in 2022 to review the end of the year financial checklist and taxes and prepare you for changes in 2023.

• Required Minimum Distributions (RMDs). Each year we review our clients’ status regarding RMDs and will satisfy RMDs with prior years’ withholding and method of distribution information, unless recently changed. As the rules currently stand, you must take out your first required minimum distribution from your IRA by April 1st of the year after you turn 72. For all subsequent years, you must take the money out of your accounts by December 31st. The RMD (and subsequent taxes owed) amount is determined each year based on age in a RMD table that the IRS maintains. Inherited IRA’s have varying rules on distributions depending on the year you inherited the account. We will help you keep track and reach out before processing distributions.

• Roth Conversions. If 2022 is expected to be a lower-than-expected income year for you and/or you believe you will be in a much higher tax bracket in future years, this year may present an ideal opportunity to convert your traditional individual retirement accounts (IRAs) into Roth IRAs. With both stock and bond markets down, a conversion in 2022 could reduce the income tax paid on your future traditional IRA distributions. Also, tax rates are set to increase in 2026, so you could end up paying higher rates later on with future conversions. This may especially be the case as you approach age 72, the age at which the IRS requires you to being taking taxable distributions from your IRA. A Roth conversion involves transferring money in a traditional IRA to a Roth IRA. You pay taxes on the converted amount now, but the money will grow tax-free and can be withdrawn tax-free in the future by you (and your spouse, though your heirs will need to distribute the entire balance within 10 years of inheriting a Roth IRA). Roth IRAs are not subject to a required minimum distribution (RMD) for the life of the owner. 
• Charitable Giving. You can make your charitable contributions (securities or cash) before December 31st and get the tax benefit for the full 2022 tax year. Make sure that the charities cash your checks before December 31st to receive the deduction for this year.
  • Qualified Charitable Distributions (QCDs). If you have an IRA and are taking required minimum distributions (RMDs), you can elect to have a portion or all of your RMD (up to $100,000, or $200,000 if married) utilized as a Qualified Charitable Distribution (QCD) to be paid directly to charities. A QCD allows you to avoid the taxable income of an IRA distribution. The money you donate is not deductible, but it's not subject to federal taxes, qualifies towards your RMD for the year, and you can make one even if you don't itemize. QCDs are also allowable starting at age 70½, so you don't have to wait until you're 72 to take advantage of one.
  • Donor-Advised Funds (DAF). DAFs offer you a chance to earn an immediate tax write off by committing to a future series of planned charitable contributions. A DAF may be an ideal solution for people who have experienced an unusually large and taxable liquidity event or windfall (income from an inheritance, sale of a business, stock options, or legal settlement) during 2022.
•  The 2023 Social Security cost-of-living adjustment (COLA) is 8.7% — the largest COLA that has been seen for decades. For reference, the 2022 COLA was 5.9%.

•  The IRS has released tax bracket adjustments for 2023. With inflation running at record highs, the 7.1% adjustment to the brackets is one of the biggest in decades, and more than twice what it was in 2022. Similarly, the standard deduction will also rise. For married couples the increase is $1,800 to $27,700. For single filers, it's an increase of $900 to $13,850.

• Tax-advantaged contributions to workplace retirement plans. While you have until the tax filing deadline of April 18, 2023 to contribute to an IRA for the current year, you must make your final contributions to a 401(k) or 403(b) by December 31, 2022. You can contribute up to $20,500 before taxes in 2022. And if you're 50 or over, you can make additional catch-up contributions of $6,500. That money reduces your taxable income dollar for dollar.
  • For 2023 the employee contribution limit for 401(k) and similar workplace plans will jump $2,000 to $22,500 for 2023, the largest increase ever in terms of dollars and percentage, according to the WSJ.
  • The amount taxpayers can contribute to an individual retirement account will be $6,500 for 2023, up from $6,000. The limit hasn’t changed since 2019.
  • The 401(k) catch-up contribution amount allowed if you are 50 or older will rise $1,000 to $7,500 for 2023. The catch-up contribution limit for individual retirement accounts, which isn’t subject to inflation adjustments, remains at $1,000.
  • For those at companies that allow special after-tax contributions, and the self-employed who have individual 401(k)s or SEP retirement plans, there is a total $66,000 plan contribution limit for 2023, up $5,000 from 2022. That includes employee and employer contributions. Older savers can contribute up to $73,500 in 2023 to these plans with the catch-up contributions included.
  • Some workplaces offer health savings accounts (HSAs) if you have a high-deductible health plan. While you also have until the April tax filing deadline to contribute, you can put away up to $3,650 for an individual and $7,300 for a family. The money can help to lower your taxable income, and distributions are tax-free if they are used for qualified medical expenses, giving you the so-called “triple tax advantage” of tax deductibility on the contribution, tax-free growth, and tax-free withdrawals.
•  Estate and Gift Tax Exemptions. 
  • The annual gift tax exclusion increases from $16,000 in 2022 to $17,000 in 2023. These gifts can be made to any number of people each year and do not reduce the lifetime gift/estate exemption. These are always tax free.
  • Unlimited gifts for direct payments for tuition and medical expenses can be made to anyone, the amounts used are unlimited, and they do not reduce the gift/tax exemption.
  • Gifts may be made to family members to pay the tax on Roth conversions or to pay for life insurance and/or to help children or grandchildren pay down student loans. One area to watch is when you are gifting property other than cash. Appreciated assets currently receive a step-up in basis when the owner dies. The increase in basis would eliminate the income tax on any appreciation during the decedent’s life. Also, loans to the next generation, establishing trusts, and other strategies may be worth exploring with a tax attorney.

2022 has not been a great year in the markets. Identifying areas you can control (such as a sound financial plan, a well-diversified portfolio, tax-loss harvesting (TLH) in taxable accounts, and periodically checking to make sure that your plans are on-track to achieve your goals) can relieve some of the stress of a down year in the markets. Historically, investors have been rewarded for remaining in the markets for the long-term.

If you have questions on these strategies or wish to explore any of them in more detail, please contact us to discuss your particular situation.

Thanks for reading.