With age comes wisdom, as well as some great tax breaks that younger people don’t get. If you’ve already turned 50, take advantage of these perks aimed at older taxpayers.
You can contribute more to retirement accounts
If you fell behind on your retirement savings, tax law gives you a chance to catch up, provided you can afford it.
If you were 50 or older by the end of 2020, you can contribute an additional $1,000 to your individual retirement account — a tax perk known as a catch-up contribution — for total of $7,000 for the 2020 tax year. The deadline for a 2020 IRA contribution is May 17, 2021. The IRA regular contribution ($6,000) and 50-plus catch-up contribution ($1,000) limits remain the same for 2021.
You can also contribute more to employer-sponsored 401(k) savings plans if you’re 50 or older. The contribution limit for 401(k) plans is $19,500 in 2021. Those 50 or older can chip in an additional $6,500 in 2021, for a total contribution of $26,000.
“Hopefully, the kids are out of college by then,” says Henry Grzes, lead manager for tax practice and ethics at the American Institute of Certified Public Accountants. The additional contributions to company plans can give a big boost to your retirement, he adds. “Assuming you worked another 20 years, to 70, and there was no increase in your retirement account, that’s another $130,000 in your retirement account.”
Contributions to a 401(k) are generally due by year’s end, so it’s too late to make additional contributions for 2020.
Those retirement contributions can lower your tax bill
Contributions are made to a traditional 401(k) plan on a pretax basis, which lowers the amount of taxable income reported to the IRS. The ability to contribute an extra $6,500 means you can lower your taxable income by that much more and reap the benefit when you file your return.
Contributions to a traditional IRA are tax-deductible as long as you meet IRS rules, including income limits. IRA contributions are fully deductible if you (and your spouse) aren’t covered by a retirement plan at work. However, the deduction may be limited if you are (or your spouse is) covered by a workplace retirement plan and your income exceeds certain limits. For 2021, IRA deductions for singles covered by a retirement plan at work aren’t allowed after modified adjusted gross income hits $76,000; the deduction disappears for married couples filing jointly when MAGI hits $125,000.
Note that retirement contributions made to a Roth IRA or Roth 401(k) are done on an after-tax basis. While there is no upfront tax break for these contributions, withdrawals taken from Roths in retirement are tax-free. The pretax money in traditional IRAs and 401(k)s grows tax-free, but you’ll eventually pay taxes when you start making withdrawals in retirement.
Throughout tax season, check for the latest updates and resources
You can wait until 72 to start your RMDs
Speaking of which, there’s also good news on required minimum distributions, the minimum amount you must withdraw from a tax-deferred retirement plan, such as a traditional IRA. (Roth IRAs don’t require distributions while the owner is alive.)
Under new rules that kicked in in 2020, you can wait until the year in which you reach age 72 before having to start taking RMDs. Previously, the age was 70 ½. If you don’t need the RMD, consider donating it to charity. If you donate your RMD to a qualified charity directly from your retirement account, up to $100,000, you won’t owe income tax on the distribution.
You get a bigger standard deduction at 65
The standard deduction on your tax return, which reduces your taxable income and, in turn, lowers your tax bill, gets better with age. For married filers under 65 in the 2020 tax year, the standard deduction is $24,800, and for single filers under 65 and those who are married filing separately, it’s $12,400. Heads of household get $18,650.
Taxpayers who are 65 and older, however, get a bump up in their 2020 standard deduction, lowering their taxes further. Married couples filing jointly get to add $1,300 per person to their standard deduction, to a maximum $2,600 if both are older than 65. It’s $1,300 if only one of the spouses is 65-plus but the other is younger than 65. Unmarried taxpayers 65 and older get an additional $1,650, for a total of $14,050.
A simplified example: Consider Mr. and Mrs. Calabash, who had income of $50,000 in 2020. Both are 67. They would have a standard deduction of $27,400, which includes $2,600 for being 65 or older. Assuming they had no other tax credits or exemptions, their taxable income would be $22,600. The $2,600 addition to their standard deduction would reduce their taxes by about $300.
The only drawback for some taxpayers with the higher standard deduction is that it sets a very high bar for itemizing deductions. It doesn’t make sense to itemize if your deductions aren’t higher than the standard deduction. Nevertheless, a deduction is a deduction, and getting a larger standard deduction is something to cheer about.
Bonus: If you’re 65 and up and have a straightforward return, you might be able to use the new simplified Form 1040-SR for seniors. It has larger type for those who still file taxes by paper, there are places to enter such things as Social Security benefits and retirement distributions, and there’s a handy chart that shows the bigger standard deductions.