Do you know anyone who likes to pay taxes? Me neither. So wouldn’t it be great if you knew how to legally lower your tax bill? I’m adding legally because I don’t want any of you risk takers to think I’m going to teach you how to cheat Uncle Sam.
So read on because there are a few quick, easy, and legal strategies to cut down on the amount you owe the IRS. Better yet, following these steps will also help you build your nest egg, get organized, and reduce clutter. So what are you waiting for?
If your company offers it, you can contribute to a 401(k) retirement program. The cash you put into this account will reduce your taxable income on a dollar for dollar basis. So if you put $5,000 in, it’s like you earned $5,000 less and your tax bill is adjusted accordingly.
The maximum amount you can put into your 401(k) is $16,500. Think about it, if you contribute the max and you’re in a 28% tax bracket, the reduction in your income could knock off more than $4,500 from your tax bill. When you retire, you’ll only pay taxes on what you withdraw from this account and by then, you should be in a lower tax bracket.
If you’re over the age of 50, the government allows you to add an additional $5,500 to your 401(k) for a grand total of $22,000 per year. And in case you didn’t know, most employers offer some sort of company match, which is basically free money, up to a certain percentage of your pay. So contributing to a 401(k) is one of those rare cases where you can reduce your taxes and earn free money.
It’s nice of the IRS to have allowed up to a $13,000 tax-free gift to your favorite person. And the tax-free status of your generosity doesn’t just apply to you, but also to the lucky sap you’ve chosen to give too. This could be a son, daughter, wife, mother, secret admirer, just about anyone.
If you happen to be 70.5 years old, you can transfer up to $100K to a charity, per year tax free. And that amount won’t mess with your adjusted gross income (AGI), because if it did, it would affect other deductions you were planning on claiming.
The best way to lower your taxes is to keep great records. Simply put, if you’re diligent, methodical and detailed, you’ll reduce your tax liability. Did you go on a business trip? Keep those receipts. Did you get a mortgage or refinance? Track the interest and points. Student loans got you down? At least the interest is deductible.
The government estimates the average person leaves $400 on Uncle Sam’s table because of a failure to properly track expenses. So invest in a file cabinet, marker, and bunch of folders and get that $400 back.
Municipal bonds are issued by local governments and the interest earned is exempt from IRS taxes. And if you buy one from the state you live in, the interest is also state tax free. The yields on munis are decent right now with many paying around 1.5%. The trick is to make sure these bonds are highly rated; AAA, AA, A and BBB are considered worthy of investment. Anything below that is considered junk and should be approached with caution and diligent research.
Another way to play the muni market is to invest in a solid municipal bond fund. Here, you’re paying a fund manager to make sure you’re invested in the best risk adjusted bonds. Just make sure that you’re paying low commissions, anything over .5% is too much. Also be sure that the fund manager has been with the fund for at least 5 – 10 years. Lastly, to get a good idea of its relative performance you should compare the fund to its benchmark and its peers.
Did you know you can go back 3 years to amend old tax returns and account for those blunders in your present one? This is important because a recent study of major metropolitan tax offices showed there were errors in every return. You heard it right, every single one. So there’s a good chance that if you take the time to look, you might find some lost money.
All you need to reduce your tax liability is good organization, decent insight, and some motivation. If you do nothing else on this list, be sure to contribute a significant chunk of your pay to your 401(k). But if you want to save more, tackle a couple of these strategies and save big time. Now that you’ve got these fancy tools, get out the proverbial pick and start chipping away at your tax bill.