Dear Tax Constituent:
The end of the tax year is almost upon us, so it’s a good time to think about steps you can take to reduce your 2026 federal taxes. Much of the tax law for 2026 is settled, but there are still some changes from 2025 that may impact your year-end tax decisions. We have divided our commentary between business and individual considerations below:
BUSINESS
Our general 2026 year-end tax planning guidance for businesses mirrors our 2025 year-end tax planning guidance for the most part. We encourage you to review last year’s Year-End Tax Planning letter for a refresher of our key topics:
Establish a tax-favored retirement plan
By now, all California businesses with at least one employee are required to have an acceptable retirement plan, or be registered with CalSavers. CalSavers operates as a ROTH IRA plan, and many business owners will not qualify to participate due to income limits. A separate tax-favored retirement plan can allow for more participation, larger contributions, and - if paired to the business’ payroll provider - could reduce the administrative burden of withholding and remitting employee contributions. Please contact us if you want a referral to our payroll and retirement plan provider network.
Invest in fixed assets or improvements for generous first year deductions on capital expenditures
When it is a question of making a fixed asset investment before yearend or shortly after yearend, consider placing the asset in service in the year that will have the higher income, or bringing the purchase forward into 2026 if both years will have similar income.
Time business income and deductions for tax savings by bunching income and deductions to smooth net income across years when allowable
Prepay the California Pass-through Entity Elective Tax (PEET) on personal income passed through from a partnership or S-corporation
Maximize the Qualified Business Income (QBI) deduction
Depending on the level and nature of business income, the QBI deduction may be subject to phaseouts. Planning for adequate W-2 compensation, capital expenditures, and timing of income and deductions can help maximize this deduction.
Confirm W-2 reporting for business health plans
S-corporation owners generally need to include the premiums paid for their health insurance in their W-2 before yearend.
Consider advance purchase of necessary business software before the California sales tax on digital products and services goes into effect on January 1, 2027.
INDIVIDUAL
Check Your Tax Withholding and Estimated Payments
If the Federal Income Tax (FIT) withheld from your paychecks or retirement plan distributions plus any estimated tax payments for 2026 aren’t at least equal to your 2025 tax liability [110% of that amount if your 2025 AGI was more than $150,000 ($75,000 if you file MFS)] or, if less 90% of your 2026 tax liability, you will be subject to an underpayment penalty for 2026. Making an estimated tax payment reduces any underpayment from the time the payment is made. However, FIT withheld from wages and retirement plan distributions is considered paid ratably over the year. So, if it turns out you had unexpected income or gains early this year and haven’t made sufficient estimated tax payments to avoid the penalty, you can increase your withholding for the rest of the year to reduce or eliminate your underpayment from earlier quarters. We can help you project your 2026 tax and adjust your withholding to eliminate (to the extent possible) an underpayment penalty. We can also help you see what your remaining 2026 tax bill next April will look like.
Consider Bunching Itemized Deductions
Each year, you can deduct the greater of your itemized deductions (mortgage interest, charitable contributions, medical expenses, and state and local taxes) or the standard deduction. The 2026 standard deduction is $16,100 for singles and married individuals filing separately (MFS), $32,200 for married couples filing jointly (MFJ), and $24,150 for Heads of Household (HOH). If your total itemized deductions for 2026 will be close to your standard deduction, consider “bunching” your itemized deductions, so they exceed your standard deduction every other year. Paying enough itemized deductions in 2026 to exceed your standard deduction will lower this year’s tax bill. Next year, you can always claim the standard deduction, which will be increased for inflation.
For example, if you file a joint return and your itemized deductions are steady at around $32,200 per year, you will end up claiming the standard deduction for 2026. But, if you can bunch expenditures so that you have itemized deductions exceeding $32,200 in 2026, you could itemize in 2026 and get a larger itemized deduction versus a $32,200 standard deduction. In 2027, your itemized deductions may be below the standard deduction (which adjusted for inflation will be at least $33,000, dependent on inflation adjustment factors). So, for 2027, you would claim the standard deduction. If you manage to exceed the standard deduction every other year, you’ll be better off than if you just settle for the standard deduction each year.
Note: For 2026, itemizers in the 37% bracket, deductions may be reduced by 5.4% of the lesser of total itemized deductions or taxable income above the applicable 37% bracket threshold, after other itemized deduction limitations are considered.
For home acquisition debt acquired after 12/15/17, deductible mortgage interest is limited to the interest up to $750,000 of qualified acquisition indebtedness ($375,000 if married filing separately). Higher limits may apply for certain grandfathered debt incurred before 12/16/17. Interest on home equity debt is deductible only to the extent the proceeds are used to buy, build, or substantially improve the home securing the debt.
To a certain extent, you can also choose the year you pay state and local income and property taxes. Taxes that are due in early 2027 (such as fourth quarter estimated income tax payments in many states) can be paid in 2026. Likewise, property tax bills are often sent out before year-end but not due until the following year. However, note that the deduction cap for state and local taxes increased to $40,400 ($20,200 if you file MFS) (phase out floor is $10,000 ($5,000 if you file MFS)). So, if your state and local tax bill is close to or over that limit, prepaying taxes may not affect your total itemized deductions. The deduction is reduced (but not below $10,000) by 30% of Modified Adjusted Gross Income (MAGI) in excess of $505,000 ($252,500 MFS).
Warning: Prepaying state and local taxes can be a bad idea if you owe Alternative Minimum Tax (AMT), since those taxes aren’t deductible under the AMT rules. If you are subject to AMT in 2026 and think you won’t be in 2027, it’s better to pay the taxes in 2027, when you have a chance of deducting them.
Finally, consider accelerating elective medical procedures, dental work, and vision care into 2026. For 2026, medical expenses can be claimed as an itemized deduction to the extent they exceed 7.5% of your Adjusted Gross Income (AGI).
Seniors Age 65 or Older? The 2025 Act provides a temporary deduction for seniors age 65 or older of $6,000 ($12,000 MFJ if both spouses qualify), effective for tax years 2025–2028. This deduction is in addition to the standard deduction and is available to both itemizers and non-itemizers. The deduction is subject to limitations based on MAGI (the deduction amount is reduced, but not below zero, by 6% as income exceeds $75,000 ($150,000 MFJ)).
Qualified Passenger Vehicle Loan Interest Deduction
Beginning with automobile purchases in 2025–2028, if you purchased a new vehicle on financing, you may be eligible for the qualified vehicle loan interest deduction. Individuals, decedent’s estates, and Nongrantor trusts may deduct the Qualified Passenger Vehicle Loan Interest deduction (QPVLI). If, at the time the loan is taken out, you plan to use the vehicle for personal purposes for more than 50% of the time, a deduction of up to $10,000 in annual interest may be deducted, regardless of status as an itemizer or nonitemizer.
The deduction is phased out $200 for each $1,000 or portion thereof of MAGI above $100,000, or $200,000 for joint filers.
QPVLI does not include any amount paid or incurred on—
leases;
loans to finance fleet sales, the purchase of vehicles with salvage title, or the purchase of vehicles intended to be used for scrap or parts;
indebtedness to repay “negative equity” on a trade-in vehicle, or to purchase collision and liability insurance; or
any cash proceeds the borrower receives from the lender.
Note: Used or pre-owned vehicles do not qualify.
Schedule 1-A, Qualified Tips and Overtime Pay Deductions
Starting in 2025–2028, you may be eligible for additional deductions for qualified tips and qualified overtime compensation. These deductions are available whether you itemize your deductions or take the standard deduction. Keep Forms W-2, Forms 1099, pay stubs, and tip records to take advantage of these valuable deductions. To qualify for the tips deduction, tips must be received in an occupation that regularly and customarily received tips before 2025.
Before considering any phase-out based on income (phase out begins at $150,000 (single filers) $300,000 (joint filers) of wages), the tip deduction is the lesser of $25,000 or the qualified tips that are included on certain statements furnished to workers (such as a Form W-2 or a Form 1099-NEC, 1099-MISC, or 1099-K and attached statements) as required. Qualified tips also include tips that the individual reports on Form 4137 (Social Security and Medicare Tax on Unreported Tip Income).
You may deduct up to $12,500 per year in qualified overtime compensation ($25,000 MFJ). The deduction phases out by $100 for every $1,000 of modified adjusted gross income (MAGI) above $150,000 (single filers) or $300,000 (joint filers). This is also an above-the-line deduction available to taxpayers regardless of whether they itemize deductions or take the standard deduction. The overtime deduction does not apply to amounts already deducted as qualified tips, discussed above.
Note: Only the portion of overtime pay required under the Federal Labor Standards Act that exceeds the regular rate of pay generally qualifies. For example, the “half” portion of time-and-a-half pay.
Take a Look at Your Investment Portfolio
It’s a good idea to look at your investment portfolio with an eye to selling before year-end to save taxes. Note that selling investments to generate a tax gain or loss doesn’t apply to investments held in a retirement account [such as a 401(k)] or IRA, where the gains and losses are not currently taxed.
If you are looking to sell appreciated securities, it’s usually best to wait until they have been held for over 12 months, so they will generate a long-term, versus short-term, capital gain. The maximum long-term capital gain tax rate is 20%, but for many individuals, a 15% rate applies. The 3.8% Net Investment Income Tax (NIIT) can also apply at higher income levels. Even so, the highest tax rate on long-term capital gains (23.8%) is still far less than the 37% maximum tax rate on ordinary income and short-term capital gains. And, to the extent you have capital losses that were recognized earlier this year or capital loss carryovers from earlier years, those losses can offset any capital gains if you decide to sell stocks at a gain this year.
You should also consider selling stocks that are worth less than your tax basis in them (typically, the amount you paid for them). Taking the resulting capital losses this year will shelter capital gains, including short-term capital gains, resulting from other sales this year. But consider the wash sale rules. If the wash-sale rules apply, any loss is disallowed currently and generally added to the basis of the replacement securities, which can defer recognition of the loss until the replacement securities are disposed of.
If you sell enough loss stock that capital losses exceed your capital gains, the resulting net capital loss for the year can be used to shelter up to $3,000 ($1,500 if MFS) of 2026 ordinary income from salaries, self-employment income, interest, etc. Any excess net capital loss from this year is carried forward to next year and beyond. Having a capital loss carryover into next year and beyond could be a tax advantage. The carryover can be used to shelter both short-term and long-term gains. This can give you some investing flexibility in future years because you won’t have to hold appreciated securities for over a year to get a lower tax rate on any gains you trigger by selling, to the extent those gains will be sheltered by the capital loss carryforward.
Planning Tip: Nontax issues must be considered when deciding to sell or hold a security. If you have stock that has fallen in value, but you think will recover, you might want to keep it rather than trigger the capital loss. If, after considering all factors, you decide to take some capital gains and/or losses to minimize your 2026 taxes, make sure your investment portfolio is still allocated to the types of investments you want based on your investment objectives. You may have to rebalance your portfolio. When you do, be sure to consider investment assets held in taxable brokerage accounts as well as those held in tax-advantaged accounts, such as IRAs and 401(k) plans.
Strategize Charitable Giving Plans
You can reduce your 2026 taxable income by making charitable donations. Nonitemizers can deduct up to $1,000/$2,000 (MFJ) for cash contributions to eligible charitable organizations beginning in 2026. Itemizers can deduct contributions exceeding 0.5% of their Adjusted Gross Income (AGI) where all itemized deductions exceed the standard deduction. If you are close to the itemized deduction point, consider bunching future 2027 donations into 2026 to take advantage of a larger itemized deduction.
If you don’t have a charity or charities that you are comfortable making large donations to, you can contribute to a donor-advised fund (also known as charitable gift funds or philanthropic funds) instead. This is a public charity or community foundation that uses the assets to establish a separate fund to receive grant requests from charities seeking distributions from the advised fund. Donors can suggest (but not dictate) which grant requests should be honored. You claim the charitable tax deduction in the year you contribute to the donor-advised fund but retain the ability to recommend which charities will benefit for several years.
Another tax-advantaged way to support your charitable causes is to donate appreciated assets that were held for over a year. If you give such assets to a public charity, you can deduct the donated asset’s fair market value and avoid the tax you would have paid had you sold the asset and donated the cash to the charity. Charitable gifts of appreciated property to a private nonoperating foundation are generally only deductible to the extent of your basis in the asset. But qualified appreciated stock (generally, publicly traded stock) donated to a private nonoperating foundation can qualify for a deduction equal to its fair market value.
If you are age 70½ or older, consider a direct transfer from your IRA to a qualified charity [known as a Qualified Charitable Distribution (QCD)]. While you can’t claim a charitable donation for the amount transferred to the charity, the QCD does count toward your Required Minimum Distribution (RMD). If you don’t itemize, that’s clearly better than taking a fully taxable RMD and then donating the amount to charity with no corresponding deduction. Even if you do itemize and would be able to deduct the full amount transferred to the charity, the QCD does not increase your Adjusted Gross Income (AGI), while a RMD would. Keeping your AGI low can decrease the amount of your taxable Social Security benefits and minimize the phaseout of other favorable tax provisions based on AGI.
Caution: If you are over age 70½ and still working in 2026, you can contribute to a traditional IRA. But, if you’re considering a QCD for 2026 (or a later year), making a deductible IRA contribution for years you are age 70½ or older will affect your ability to exclude future QCDs from your income.
Planning Tip: To get a QCD completed by year-end, you should initiate the transfer before December 31. Talk to your IRA custodian about making the transfer no later than December 2026. The QCD limit for 2026 is $111,000 per IRA owner.
Convert Traditional IRAs into Roth Accounts
Since you are required to pay tax on the conversion of a traditional IRA as if it had been distributed to you, converting makes the most sense when you expect to be in the same or higher tax bracket during your retirement years. If that turns out to be true, the current tax cost from a conversion this year could be a relatively small price to pay for completely avoiding potentially higher future tax rates on the account’s post-conversion earnings. In effect, a Roth IRA can insure part or all of your retirement savings against future tax rate increases.
Planning Tip: If the conversion triggers a lot of income, it could push you into a higher tax bracket than expected. One way to avoid that is to convert smaller portions of the traditional IRA over several years. Of course, that delays getting funds into the Roth IRA where they can be potentially earning tax-free income. There is no one answer here. But keep in mind that you do not have to convert a traditional IRA into a Roth all at once. The best time to convert a traditional IRA to a ROTH IRA is generally in a relatively low income year, or when the stock market has taken a significant dive.
A ROTH IRA is also a better asset to inherit, as it will not be subject to tax when distributed to an heir. Conversely, a regular IRA distribution to an heir will be considered ordinary income taxed at the heir’s marginal tax rate. Consider your tax rate today versus what your heir’s tax rates might be at inheritance when planning ROTH IRA conversions if you won’t use up all of your retirement accounts before death.
Spend any Remaining Funds in Your Flexible Spending Accounts
If you participate in an employer-sponsored medical or dependent care flexible spending plan, be sure to look at your plan closely. Generally, funds not spent before the plan’s year-end are forfeited (the use-it-or-lose-it rule). There are a few exceptions. Employers can allow their employees to carry over up to $680 from their 2026 medical FSA into their 2027 account. FSA plans can offer a grace period (up to 2 ½ months after the plan’s year-end) during which employees can incur new claims and expenses and be reimbursed. Plans can (but don’t have to) have either a carryover or a grace period, but not both.
FSAs can also have a run-out period (a specific period after the end of the plan year during which participants can submit claims for eligible expenses incurred during the plan year). The run-out period can be in addition to a carryover or a grace period. The runout period differs from a grace period because a runout period only extends the time for submitting claims. A grace period, in effect, extends the plan year so that expenses incurred during the grace period are treated as incurred before the plan year-end. It’s important to know how your FSA(s) work so that you can make sure you don’t lose any funds. If there is no grace period, be sure you incur qualified expenses before year-end and submit eligible claims by their due date.
Take Advantage of the Annual Gift Tax Exclusion
The basic credit amount for estate tax in 2026 is $5,945,800, which offsets tax on cumulative transfers of $15 million ($30 million for married couples) in 2026. The 2025 Act permanently increased the estate and gift tax applicable exclusion amount and the generation-skipping transfer tax exemption. If you think your estate may be taxable, annual exclusion gifts (perhaps to children or grandchildren) are an easy way to reduce your taxable estate. The annual gift exclusion allows for tax-free gifts that don’t count toward your lifetime exclusion amount. For 2026, you can make annual exclusion gifts up to $19,000 per donee, with no limit on the number of donees.
In addition to potentially reducing your taxable estate, gifting income-producing assets to children (or other loved ones) can shift the income from those assets to someone in a lower tax bracket. But, if you give assets to someone who is under age 24, the Kiddie Tax rules could cause some of the investment income from those assets to be taxed at your higher marginal federal income tax rate. The Kiddie Tax can apply to a child’s unearned income if the child is under age 18, is age 18 with earned income not exceeding one-half of support, or is a full-time student age 19–23 with earned income not exceeding one-half of support.
If you gift investment assets, avoid gifting assets worth less than what you paid for them. The donee’s basis for recognizing a loss is the lower of your basis or the property’s FMV at the date of the gift. So, in many cases, the loss that occurred while you held the asset may go unrecognized. Instead, you should sell the securities, take the resulting tax loss, and then give the cash to your intended donee.
Remember, estate planning involves more than avoiding the Federal estate tax. Sound estate planning ensures that your assets go where you want them, considering your desires, family members’ needs, and charitable giving, among other things. Please contact us if you would like to discuss your estate plan.
Trump Account—Child Born in 2025/2026
The 2025 Act introduced a new type of tax-deferred investment custodial savings account, similar to a 529 plan or IRA, for minors called the Trump Account. Beginning in 2026, parents and guardians can open a new tax-deferred account for each eligible child and contribute up to $5,000 (indexed for inflation) per year in after-tax dollars for each child until they reach the age of 18. For children born between 2025–2028, the federal government will contribute a one-time deposit of $1,000 to each account, which does not count against that year’s $5,000 limit. Contributions to Trump Accounts begin on 7/4/26. Parents should plan to open the account and secure the government benefit for children born in 2025 and 2026.
Children born in 2025–2028 must have a social security number, which can be obtained when filling out the child’s birth certificate if the child is born in a hospital, and can claim the $1,000 contribution by filing an election with the IRS.
Note: Employers can contribute up to $2,500 per employee per year for an employee’s dependent under the age of 18. However, the employer’s contribution counts against the maximum $5,000 annual limit per child.
Caution: During a child’s “growth period,” Trump account assets may be invested only in a narrow class of eligible mutual funds or Exchange Traded Funds (ETFs), creating significant new responsibilities for account fiduciaries.
The Trump Account operates like a regular (non-ROTH) IRA. Since contributions to Trump accounts are not deductible, you will need to track contribution basis for the life of the Trump account.
If you would like our assistance with your specific year-end tax planning, or more information on these or other tax topics of interest to you, please contact our office.
—McAvoy + Co, CPA