How to Lower Income Taxes

Following a few simple tax planning tips can reduce your income tax as well as save you big money when it comes to long-term wealth building.

Following a few simple tax planning tips can reduce your income tax as well as save you big money when it comes to long-term wealth building. Maxing out your retirement accounts, revisiting some old tax forms and augmenting your investment plan are just a few of the ways you can save thousands each year.

Instructions

1. Contribute as much as possible to your 401k program. 401k contributions are made on a pretax basis, so reducing your after tax salary has the net effect of reducing your income taxes.

2. Maximize your traditional IRA or Roth IRA contributions. This will not have an immediate effect of reducing your income taxes, but it will eliminate the capital gains on any investment related profits made from IRA related investments.

3. Reinvest any dividends originating from stocks, mutual funds or index funds. By purchasing additional company stocks or shares of the mutual funds from which the dividends came, you avoid paying capital gains on those dividends. You will pay taxes on your profits when you sell your shares, but this reduces your annual capital gains taxes.

4. Review your W-4 form and consider making adjustments to the number of deductions you are currently claiming. By claiming the least amount of deductions, you receive more money back on your tax returns. However, by doing this you are also giving Uncle Sam a zero interest loan where you could be using or investing that money for your own personal gain.

5. Give donations to eligible charities, but make sure that you itemize your deductions when filing your tax returns; otherwise, the deductions are null and void. Typical charitable donations involve cash gifts, but can also include personal property (e.g. real estate, cars, etc.).

6. Sell any investments that have decreased in value (e.g. tax loss harvesting). You may claim a deduction up to $3,000 for any current tax year, plus any additional losses forward into future tax returns until that loss goes back to zero.

7. Incorporate your business or form an LLC. If you're self-employed, you will almost certainly pay more in taxes unless you form an LLC or incorporate yourself. Self-employment taxes can take a serious bite out of any profits you made during the year.

Tips & Warnings

• Consider bringing up this question to your accountant or tax preparation agent if you do not do your own tax returns. They might have specific advice for your situation after reviewing your documentation.

• Make a budget to identify exactly how much additional income you can contribute to your retirement accounts. You don't want to contribute so much that you're checking account is running on fumes.

• If you do not know much about income tax returns or adjusting your deductions, don't make any huge alterations without considering the ramifications. Ask your human resources department or make a call to an accountant.

• If you are claiming charitable deductions, make sure they qualify for the deduction and also collect as much documentation as possible.

Resources

• Tax Loss Harvesting Advice