You don’t keep the money you earn. The average American contributes 29.8 percent of their earnings to income taxes, Medicare, and Social Security. That number doesn’t take into account state and local taxes.
Many financial advisors say that they have the best way to reduce taxes. In reality, there are several ways to reduce tax bill.
How should you organize your taxes? What are deductions and credits? What accounts can you open up to save pre-tax money?
Answer these questions and you can keep thousands of dollars inside your bank account. Here are five ways you can reduce taxes.
1. Get Organized
Check your tax code to see how much your employer deducts from your salary. As you earn more money, you will be expected to pay more. Track where your salary is at so you have an estimate of what you have to pay.
Store all of your records related to financial transactions. This includes proof of your medical expenses and child care provisions.
You should not throw anything away. The IRS may inspect your forms dating from years ago. Organize things by year and find places where you can store everything.
Tax Day occurs in April. But filing your taxes is a difficult process.
Strategize throughout the year and talk to a tax professional. They can find ways to reduce tax payments.
The tax code changes constantly. Read about how to reduce tax liabilities. Follow the news, including podcasts like WealthAbility where analysts talk about taxes.
2. Find Deductions and Credits
Deductions reduce the amount of your taxable income. A 1,000 dollar deduction when you are taxed at 24 percent means you save 240 dollars. There are several deductions you should take advantage of.
The standard deduction is substantial in and of itself. Single taxpayers have a deduction of 12,550 dollars, while heads of households have one of 18,800 dollars.
The state and local taxes (SALT) deduction is one of the biggest tax breaks. You can deduct up to 10,000 dollars of these taxes. You must itemize your taxes, showing how much each expense costs.
The medical expense deduction covers expenses that cost more than 7.5 percent of a person’s income. But only certain expenses like payments to doctors count. Paying for over-the-counter medicines is not deductible.
Credits reduce your taxable income dollar for dollar. A 1,000 dollar credit saves you 1,000 dollars. The Child Tax Credit gives you 2,000 dollars for every child under the age of 17.
The Earned Income Tax Credit applies to people with low incomes. A taxpayer without children can claim more than 500 dollars.
3. Value Charitable Contributions
Donating to charity can net you a substantial tax credit. The IRS can match you dollar for dollar, though you must meet some requirements.
The organization you donate to must be a registered body. They must qualify as a Section 501(c)(3) charity. This means that donations to political groups and social clubs do not count.
For substantial donations, you need to show a bank record or statement from the charity. In particular, you must demonstrate that you received no goods in exchange for the donation.
The IRS will not match the values of goods you received. If you donated ten dollars and got a one-dollar gift, you can deduct nine dollars.
The IRS will match the value of donated stocks or bonds. You do need to show the exact amount of your donations, so have that information on hand.
4. Contribute to Retirement
A retirement account helps you reduce taxes in several ways. If you have an IRA or 401(k), you can put in pre-tax money. This reduces your taxable income for that year at a dollar-for-dollar rate.
Your money grows in the account. When you withdraw it, you get taxed at an ordinary tax rate. This keeps you from having to pay extra.
You can also contribute post-tax money. When you withdraw your money in retirement, you will not need to pay any additional taxes.
Your 401(k) may have matching funds from your employer. Make sure you take advantage of this. You may need to meet a minimum amount.
5. Use Different Accounts
Many employers offer Flexible Savings Accounts (FSAs). An FSA lets you save pre-tax dollars for healthcare and expenses for your children.
The money never gets taxed. But you must spend most of your contribution every year, and you can only contribute a small amount.
You can use an FSA for medical expenses. But a Health Savings Account (HSA) is specifically for those costs. As with an FSA, you put pre-tax money into an HSA.
But there is no ultimatum requiring you to spend most of your contribution. The money lasts over many years, and you can invest your account in something. When you turn 65, you can withdraw the money for any purpose.
HSAs are limited to people with qualifying insurance plans. You must have a high deductible.
If you have children, you can contribute to a 529 plan. This helps you save for college tuition and similar expenses.
Contribution limits run well into the six figures. Money can grow in your account, and you don’t need to pay taxes on it. You can also get a tax credit for having one.
Five Ways You Can Reduce Taxes
You can reduce taxes without extreme measures. Keep track of what you are earning and paying. Avoid a costly audit by keeping records from years ago.
Get as many deductions and credits as you can. The IRS will give you a credit for your contributions to qualifying charities.
Put money in an IRA or 401(k). If you have high healthcare expenses, open up an FSA or HSA. Cover the costs of your child’s expenses with a 529 plan.
Learning how to reduce property tax can be difficult. Follow our coverage for more tax guides.