2020 Tax Software is Live

The 2020 edition of FreeTaxUsa is now live (link). Despite the scammy name, it’s a great piece of software that I’ve used since 2016. They give the federal software away for free and charge a modest fee for state tax filings. Since I’m cheap (understatement of the century), I do my state filings on my own for free on my state’s website, though I use FreeTaxUSA to check the numbers but not submit the state return.

It took 30 minutes to enter my info (at least my best estimates in the absence of W2’s, 1099’s, etc). FreeTaxUSA conveniently carries over prior year info (birthdays, socials, employers, financial institution addresses, etc). Thank goodness I don’t have to consult Google Calendar to remind me of my children’s names or birthdays (I wish I were kidding)!!! It also has a really nice comparison tool to the prior year to ensure you’re not missing anything obvious.

Going through the exercise reiterated the following for 2020:

  • The coronavirus rebate is real if your 2020 AGI is less than your 2019 AGI and you were in the phase-out region with 2019 AGI.
    • This creates an implicit extra 5% marginal tax rate on 2020 income. This is especially relevant for those timing Roth conversions (making it less desirable to do so this year).
      • Speaking of Roth conversions, I made a smallish blunder this year and this 5% implicit marginal tax rate augmented the size of the blunder.(details below).
  • The $300 above-the-line rebate is real, and it has to be in cash (no stocks by my reading, though someone please correct me if I’m wrong). FreeTaxUSA also clarified that donations to Donor Advised Funds are also disqualified (though a $300 contribution to a DAF is kind of hilarious anyway).
    • This Finance Buff post (link) taught me that the $300/year above-the-line charitable contribution deduction is here to stay for future years. It’s not a life-changing magnitude, but I’ll take it! (TFB issues a correction).

My AGI went down about $30k this year because of a reduction in summer bonuses. This reduction was anticipated and clearly communicated to me in my offer letter many years ago so it was not a big surprise.

This pay drop caused me to make a strategic blunder because I mistakenly assumed both my wife and I would have to do backdoor Roths this year (same as prior years). It turns out that the pay drop put my wife (but not me) under the Trad IRA deductibility limit, meaning she could have deducted the full $6k Trad IRA contribution because she is not covered by a workplace retirement plan (IRS link on limits). Our federal marginal tax rate of 22% + the implicit coronavirus stimulus marginal tax rate of 5% + our state marginal tax rate of 7% put our combined marginal tax rate at 34% for the year. Consequently, the unnecessary Roth conversion created a $2,030 (=$6k*34%) higher fed + state tax burden this year than we could have achieved had we not converted. Bummer.

In prior years (pre Trump tax cuts), I would have been able to recharacterize the Roth conversion to fix this blunder. Unfortunately, I can’t do that anymore. Oh well.

That’s the beauty of really geeking out about this stuff. By getting your hands dirty and actually understanding each and every number on a tax return, you can identify opportunities for improvement. We’ll unambiguously transition Mrs FP’s IRA contributions to Traditional next year as a result of this discovery. We’re about 50 days away from making that contribution so the discovery of this blunder was pretty timely. Had I waited to file taxes until April, I surely would have replicated the mistake on Jan 1st.

Here’s a last suggestion for those that are crazy enough to still be reading. Turn off dividend reinvestment in your taxable brokerage accounts as we close out the year. Vanguard’s last dividend is paid out in the final days of 2020. By turning off dividend reinvestment at the end of the year, you can use those dividends to get a jump start on filling up the tax-advantaged buckets beginning Jan 1 of 2021 (HSA, IRA, 401k, 529, etc). Once all tax-advantaged buckets are full, you are free to turn dividend reinvesting back on. By the same logic, if you happen to have investment losses, Dec 31 2020 would be a perfect time to realize those losses. You get the tax benefit of the loss when you file your 2020 taxes and can put the money to better use by filling up the tax-advantaged space starting Jan 1 2021.

Happy filing?

24 thoughts on “2020 Tax Software is Live”

    • Kind of convoluted. If the following conditions are met, then one’s marginal tax rate is implicitly 5% higher this year because every $1 of AGI reduction this year causes a $0.05 increase in coronavirus stimulus to be paid in April of 2021 when you file your 2020 taxes:
      * In the phase-out 5% region for original stimulus based on 2018/2019 AGI (whichever you used)
      * AND 2020 AGI is less than above AGI

      The idea is to make you “whole” by paying you the remainder of the stimulus you were entitled to. Given that stuff hit the fan in 2020, the law was passed to give the stimulus based on 2020 AGI. Since 2020 AGI isn’t figured out until April of 2021, the next best guess was 2019 AGI (for those who’d already filed their taxes when stuff hit the fan), or 2018 AGI for those that hadn’t already filed when stuff hit the fan.

      In other words, it’s a pretty interesting situation for those of us with 2020 AGI < 2019 AGI AND who were in the phase-out region of the early 2020 coronavirus stimulus.

      • Thanks for this detailed response and explanation. Now I’m understanding what you were referring to. Way to lay that out in writing. I would struggle to articulate it anywhere near that well!

        Always fun following your posts. I check-in a couple times per month, though I’ve never commented in the past. I enjoy your writing style and the practical nature of your posts.

        All the best to you and your family!

  1. What’s the advantage of maxing out the tax advantaged accounts earlier in the year? (Assuming that they would get maxed out either way) Thanks for writing this blog btw, I ran across it recently and enjoy it a lot.

    • Taxable brokerage accounts are inferior to tax-advantaged accounts for two reasons:
      1.) Dividend tax drag (eats about 0.6%/year (=MTR*dividend yield) of investment returns for me.
      2.) Capital gains taxes.

      Consequently, it’s best to prioritize the tax-advantaged spaces first. Why? To accelerate the superior (tax-free) returns. If you contribute to Trad early, you accelerate the fed & state tax deductions as well, so from an NPV standpoint you’re lowering the present value of your taxes. Alternatively, one could simply be more intentional about tax withholdings through the year.

      Brokerage accounts are superior on one major dimension: you can tax loss harvest in a bear market.

      The above logic is the foundation for the following related posts:
      * https://frugalprofessor.com/paying-out-of-pocket-for-healthcare-rather-than-raiding-your-hsa/
      * https://frugalprofessor.com/hierarchy-of-savings/

      My “book” in the top of the menu also describes this logic well.

  2. Does FreeTaxUSA habdle Roth Conversions and Health Savings account contributions easily ? I have been using TurboTax but am thinking of switching.

    • Yes. FreeTaxUSA is the real deal. I’ll never go back to TT.

      The first year will suck (because you have to enter socials, bdays, etc), but the second year is great.

      With backdoor roths, be sure to report the contribution before the conversion (same as with TT). Otherwise things get a little wonky.

      • I am no longer contributing, just converting traditional IRA money to Roth each year to fill lower brackets. Thanks for the info.

    • The “blunder” cost me $2k of taxes this year.

      I’m sympathetic to your argument that this “blunder” could offset taxes in the future. However, if I go full-on Go-Curry-Cracker mode in the future (0% marginal rate on conversions), then it’s a true $2k blunder with the downstream consequences equal to $2k*(1+R)*N. With a big enough N, that’s a pretty big blunder.

  3. Unfortunately, (or rather, fortunately) my 2020 AGI will be higher than 2019, just like my 2019 AGI was higher than 2018. So no CARES bonus for me. I really wish I’d waited to file my return last March by just a couple weeks as my stimulus checks used the higher 2019 numbers. Cost me several hundred $ for being too early.

    I haven’t used FreeTaxUSA and will have to check it out. I used to use TaxAct until they neutered their free version. Nowadays I use FreeFillableForms after computing things in a custom spreadsheet and checking my numbers using TurboTax online (but not actually filing with them). Yes, it takes time to remember my kids birthdays, but it gives me a good understanding of what’s going on in my return and more confidence that I haven’t missed something. Yeah, I’m cheap too! (Note: the SSL cert on FreeFileFillableForms used to be under Intuit, which I found … fascinating).

    • 2020 AGI > 2019 AGI is indeed a great “problem” to have! It’s weird how the stimulus actually works.

      On the other hand, given that you pay tithing, you could use the coronavirus phase-out to accomplish a 5% discount on charitable contributions for any donation that gets your 2020 AGI < 2019 AGI. Remember that you still have full control over 2020 AGI. In a 0% interest rate environment, a 5% discount on tithing is not something to trifle with. I'd consider pre-paying several years of tithing to exploit this if you had the cash flow. A DAF would be a good resource to use for a huge contribution if you wanted to enjoy the tax benefit now and continued tax-free investment growth (for your church) in the future. The counterargument for the above is that Biden & the democrats will raise taxes, so you'd be better off waiting to contribute until your tax rates go up. The thing about the stimulus is that it imposes a 5% implicit higher marginal tax rate for this year only. Not dissimilar to where tax rates in the future might go. I'd at least play around with some calculators/spreadsheets/FreeTaxUSA so you can see the above effects with your own eyes.

      Regarding FreeFillableForms, I’ve heard good things about them in the past as well. I’m glad it’s working for you. Weird that TT is behind them!?!?!?

      • Wait. Isn’t the CARES stimulus computed on AGI, which is pre-itemized deductions? Seems like prepaying a contribution like tithing would have no affect on the actual AGI number. Am I missing something?

        • Sorry about the weird spacing of my comment. It had paragraphs but wordpress is ignoring them.

          This is the first time I’d really heard that AGI was computed pre-itemized deductions for purposes of the CARES act. I’ll run it through FreeTaxUSA to confirm. Sorry about the misinformation. Perhaps I need Twitter executives to start flagging my posts as unsubstantiated and potentially harmful.

          Edit; I ran it through FreeTaxUSA and you’re right (of course). That’s really good to know!!!!!

          • Phew! Had me worried I was missing something there!

            On another note, like you, I did a small Roth conversion, only increasing my AGI for 2020. There’s pretty much no chance of my AGI getting lower. I’m just glad that they won’t ask me to pay it back since my AGI was higher than 2019.

  4. I have been using TurboTax. Can FreeTax USA accept import of TT file into it so we don’t have to manually enter data the first time? Thanks

    • I’m not sure. I’m a fast typer so manually importing stuff takes about 5 minutes.

      I don’t think FreeTaxUSA has as sophisticated of support for things like automatic importing of stock transactions from brokerages. However, for a boring buy-and-hold investor like myself who simply reports dividends on VTSAX every year, it’s a non issue.

  5. I’m in a similar situation like yours but have just one kid. Based on my reading of the IRS link on limits and your October update, wouldn’t you be in the 5th box under “And Your Modified AGI Is…?” I thought having less summer support would still put you > $206,000.

    • My AGI is less than the limits because of massive pre-tax deductions: $19.5k 403b, $19.5k 457, $33.3k 401a (employee + employer), $7.1k HSA, and $300 above-the-line charitable contribution deduction. Combined, that’s $80k of tax deferral, which certainly puts me below that limit this year. Had I not screwed up the IRA, we’d have another $6k of my wife’s Trad IRA further pushing down AGI this year.

      It’s absurd to me that public employees are allowed to triple-dip across retirement accounts, whereas private sector employees are constrained to the modest 401k limits.

      With uncapped reitrement contributions, the US tax system is essentially transformed from an income-based taxation system to a consumption-based taxation system. Havard Economist Greg Mankiw wrote about this 8 years ago in a NYT article I’ll never forget: https://www.nytimes.com/2012/01/22/business/four-keys-to-a-better-tax-system-economic-view.html

      Moving to a consumption tax might seem to require wholesale reform of our current system. But such a politically difficult step isn’t necessary. In fact, as our tax system has evolved over many years, legislators have come to appreciate the logic of taxing consumption, if only implicitly.

      The United States now has an income tax, or at least that is what it is called. But because many Americans do most of their saving through tax-preferred accounts, such as I.R.A.’s and 401(k) plans, they in effect pay taxes based on how much they consume. Tax reform could expand and simplify the availability of such tax-preferred savings accounts. In this way, our progressive income tax could further evolve toward a progressive consumption tax.

      The whole article is pure gold and worth reading.

      • That is an interesting read. It would be interesting to see Mankiw’s update on this. While I didn’t necessarily benefit from the Trump tax cuts, I did like it from a design point of view in that the larger standard deduction, and caps on S&L taxes do make sense to me. However, I would love the quote: “the nation should have a tax system that looks like someone designed it on purpose.”

  6. I was one of the crazy ones who read to the end. And I don’t even understand all of this. I’m hoping that by reading your posts over the course of years, something will sink in.


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