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Baby boomers retired in much greater numbers over the last year than in years past, according to the Pew Research Center. The number of boomers–those born between 1946-1964–retiring annually had grown steadily by about 2 million per year since 2011, which was the year that the oldest boomer turned 65. Over the last year, however, that number grew to 3.2 million more boomers retiring compared to the year before.
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Whether you’re in retirement or you’re on the verge of retiring, your golden years are no time to make unforced errors during tax season. Older Americans have to take special care to learn about tax laws that apply specifically to them or that are applied differently to them than to younger taxpayers. This knowledge is the best way to avoid the most common pitfalls that can cost them money or even get them in legal trouble with the IRS.
Here are the five biggest tax mistakes made by baby boomers. As you file your 2020 tax return, take care to avoid them.
1. Not Checking the Preparer’s Work
No matter who prepares your taxes, it’s you who is ultimately responsible for what’s on your return–and it’s you who will have to deal with an audit, pay the fines, and deal with the legal consequences if there are any errors. Not your CPA, not an enrolled agent, not your tax attorney, not whoever you spoke to on the phone at TurboTax or TaxSlayer — you. That’s why you have to verify that your tax preparer, or even your tax software, got everything right on your returns — but it’s also important to communicate with any financial professionals you hire.
Baby boomer taxpayers with accountants should tell their financial professionals about major life changes that might affect their tax situation, said Crystal Stranger, enrolled agent and president of 1st Tax. Trusting the tax preparer to know it all “can lead to both unreported income and not taking advantage of tax deductions they are legally entitled to,” she said.
To avoid overpaying your taxes or filing an inaccurate return, you must gain a basic understanding of the IRS tax law. Here’s how to make sure not to pay Uncle Sam more than you owe:
- Every year, examine the IRS changes.
- Understand the basic IRS tax preparation forms that apply to your situation and how taxes are calculated.
- Check your accountant or tax preparer’s work to make certain the inputs are accurate. For example, did they put a $5,000 deduction for office supplies on schedule C when it should have been $500?
- Review your online tax return before submitting to make sure it’s correct and that you didn’t make any inputting errors.
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2. Not Maxing Out Retirement Investing Opportunities
For working baby boomers, now is your last chance to shore up your retirement nest egg. Not contributing the maximum to your tax-advantaged retirement accounts can cost you unnecessary tax payments today and lost spendingmoney in retirement. If it’s a choice between helping out your older children or saving for your own retirement — choose retirement.
With so many people not saving enough money early enough in their careers, the government allows older workers to pad qualifying retirement accounts with extra contributions beyond the threshold set for younger workers. It’s called “catch-up” contributions.
Make Your Money Work For You
If you’re age 50 or older, you’re eligible to contribute $19,500 to your workplace 401k or 403b plus an additional catch-up sum of $6,500, for a total of $26,000 in tax years 2020-21. You might also have an individual retirement account (IRA), which is similar to a 401(k), or a Roth IRA, which invests after-tax income instead of pre-tax income like the others. In tax years 2020-21, the maximum contribution and catch-up limit for both IRAs and Roth IRAs is $6,000 and $1,000. For SIMPLE Plans, the maximum contribution is $13,500 and the catch-up limit is $3,000.
Consider this scenario: Invest $1,000 per month beginning at age 50, and by age 68 you might have a retirement account worth over $430,000. That assumes your investments yield an annual 7 percent return from securities like index funds. Not only will saving in a tax-advantaged account save you thousands on your tax bill, but it will also keep you stable in retirement.
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3. Making a Mess of Your Small Business Tax Reporting
With vaccines being rolled out and light on the horizon, many baby boomers whose income was disrupted by the pandemic might start their own businesses instead of re-entering the traditional workforce or retiring in 2021. Boomers who branch out on their own, however, can’t make the mistake of treating tax season the same way they did back when they were someone else’s employees.
If you’re starting a new business and racking up expenses, you might not be aware that any expenses incurred before the first sale are considered start-up costs and can’t be deducted until the first sale, saidGail Rosen, CPA, PC. After the first sale, the start-up costs can be deducted over 15 years. You can deduct up to $5,000 in startup costs and another $5,000 in organizational costs, but those deductions are only available if total startup costs were $50,000 or less. At $50,001, the deductions get smaller, and at $55,000, they disappear altogether.
Make Your Money Work For You
Another baby boomer tax mistake is failing to mention fairly insignificant small business sales. Many might think the income is so small that it’s not worth reporting. “If it is a real sale, at a bona fide sales price, you should report your business sales and deduct your business expenses,” said Rosen.
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4. Taking an Early Withdrawal From a Retirement Account
Some younger boomers who are going through a difficult time might tap their retirement accounts for extra cash. This a big tax mistake, according to Anil Melwani of 212 Tax and Accounting Services. If taxpayers withdraw money from most retirement accounts before age 59½, they will be taxed on the withdrawal amount and also be slapped with an additional 10 percent tax on the amount they took out.
For example, if a 55-year-old woman takes out $10,000 from her IRA, she’ll owe tax on the withdrawal, plus the $1,000 (10 percent of $10,000) penalty. Even in difficult times, tapping a retirement account early will almost always incur this penalty, with permanent and total disability being among the only rare exceptions.
Unlike 401(k)s and traditional IRAs, contributions to Roth IRAs can be withdrawn at any time, although the early withdrawal of earnings might trigger a penalty.
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5. Thinking Your Hobby Is a Business
If you have a business that never makes any money, watch out for this mistake. Boomers are frequently guilty of running afoul of IRS “hobby loss” rules. Several tax pros, including Stranger and Dan Henn, CPA, see this baby boomer tax mistake regularly in their practices.
Make Your Money Work For You
If you take a loss on a business for more than three years, the IRS considers your enterprise a hobby, which makes it ineligible for preferential tax treatment. The tax authority assumes that if an activity is intended to be profitable and isn’t so during at least three of the prior five tax years, including the current year, then you can’t use the losses from that “business” to offset other income. So the struggling entrepreneur can keep struggling after year three, but don’t expect Uncle Sam to give you the OK to use your losses to offset your income.
Baby boomers, take a few hours to understand the IRS tax forms. Keep the doors of communication open with your accountant. And finally, learn to take responsibility for your own tax preparation to avoid unpleasant and expensive tax mistakes.
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Andrew Lisa contributed to the reporting for this article.
Last updated: Feb. 12, 2021
