Though taxes are a necessary evil, most of us would rather keep as much money away from the IRS as possible. If you're looking to reduce your taxes, here are a few smart strategies to employ.
1. Max out your retirement plan contributions
One of the most effective ways to slash your tax bill is to fund a 401(k) or traditional IRA. With the former, your employer will automatically deduct whatever pre-tax amount you allocate and filter that money directly into retirement plan. With the latter, you'll need to proactively write out a check, but you'll get to deduct that amount on your tax return.
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Currently, workers under 50 can put up to $18,000 a year into a 401(k) and $5,500 a year into an IRA. If you're 50 or older, you can make catch-up contributions that bring these annual limits up to $24,000 and $6,500, respectively.
Keep in mind that your actual tax savings will be a function of how much you contribute to your account coupled with your effective tax rate. If, for example, you contribute $5,000 to either type of account this year and your effective tax rate is 25%, you'll owe $1,250 less in taxes next year when you file your return. Just as importantly, you'll be doing your part to build your retirement nest egg.
2. Be more charitable
Any time you donate money to a registered charity, you can deduct that amount in full on your tax return. Better yet, this rule applies to non-cash donations as well, so if you're deep in spring cleaning mode, now's a perfect opportunity to turn some unwanted items into a sizable tax break. Just be sure to keep a detailed record of the things you donate so that you have evidence available to back up your claim.
3. Be smart about selling investments
The investment decisions you make could impact the amount of tax you're required to pay, for better or worse. Holding investments for at least a year and a day, for example, will bump you into the more favorable long-term capital gains tax rate category should you ultimately sell at a profit. Similarly, if you have underperforming investments in your portfolio, selling them at a loss at any point during the current year will result in a lower tax bill come April 2018. Specifically, any investment losses you take can be used to offset capital gains, and if you're left with an excess loss, you can apply up to $3,000 of it to offset your regular income. Furthermore, if you're still facing a net loss after taking that $3,000 deduction, you can carry the remainder to the following tax year.
4. Go from renter to homeowner
Though buying a home isn't something you can snap your fingers and do overnight, if you're ready to take the plunge into homeownership, your taxes can benefit in a very big way. First, you'll get to deduct all of your mortgage interest on your upcoming tax return -- a tax break that can be particularly lucrative during the early stages of a home loan. You'll also be eligible to deduct property taxes, points on your mortgage, and private mortgage insurance (PMI) premiums, provided your earnings aren't too high.
5. Keep accurate medical spending records
You may not put much thought into what you spend on healthcare, but keeping detailed records could pay off when the time comes to file your next tax return. That's because you can take a deduction for out-of-pocket medical expenses that exceed 10% of your adjusted gross income (AGI). So if, for example, you spend $8,000 on healthcare this year and your AGI is $60,000, you'll snag a $2,000 deduction on your 2017 return. The key, however, is to retain copies of all receipts and expenses so that you know exactly what to claim.
6. Put money into an FSA
Flexible spending accounts (FSAs) are a great way to use pre-tax dollars to pay for medical and child care expenses. Currently, you can put up to $2,600 into a healthcare FSA and $5,000 a year into a dependent care FSA (unless you're married but file separately, in which case you can put in up to $2,500).
Though you typically can't fund an FSA midyear, if you experience a life change, such as getting married or having a child, you'll generally be allowed to change your contribution (or make one to begin with). So if you missed the boat during your company's enrollment period but have an opportunity to do so now, funding an FSA could shave some serious money off your tax bill.
The only thing to keep in mind is that FSAs work on a use-it-or-lose-it basis. If you overfund either type of FSA and don't incur enough eligible expenses to exhaust your balance by the end of your plan year (which may or may not coincide with the end of the calendar year), you'll forgo the remainder.
We all want to reduce our taxes, regardless of how much we earn. If you follow these simple tips, you could be well on your way to a lower tax bill next year.
