Many people only think about their taxes when April comes around each year. But long before the filing deadline, smart taxpayers look at ways to reduce how much they have to pay to Uncle Sam. If you're unhappy with how big your tax bill was this year, focusing on three simple areas of tax planning can put you in a much better position to pay as little as legally possible to the IRS next year.
1. Start planning to use tax breaks now
Too many people scurry to find ways to reduce their taxes at the last minute. But the most effective ways to cut your tax bill require advance planning, and now's a great time to get things in motion to take full advantage of the many tax breaks available in 2017.
For instance, one easy way to reduce your potential tax bill is to boost your contributions to an employer-sponsored retirement plan, like a 401(k). Money you set aside in a 401(k) doesn't get included in your taxable income, and most people find that when they boost the amount they have taken out of their paychecks to go toward a 401(k), their take-home pay drops by a smaller amount -- reflecting their tax savings immediately. But money has to be in the 401(k) by Dec. 31 to qualify, and the simple solution is to make regular contributions throughout the year. So the sooner you start, the more you'll save.
If you don't have a 401(k), then you can achieve the same result by making more contributions to a traditional IRA. Those contributions are usually fully deductible regardless of income if you don't have access to a 401(k) or other retirement plan at work.
Retirement contributions are just one area where advance planning will pay off. Whether you're looking at charitable donations, stock sales to harvest tax losses, or other deductible expenses, being aware of timing can have a beneficial impact in reducing your tax bill.
2. Defer taxes in as many ways as you can
Most taxpayers understand that retirement accounts offer a great way to put off paying tax. But there are other ways the tax laws let you gain valuable tax deferral, and it's important to know about them ito take full advantage of the benefits.
To help pay for college and other educational costs, 529 plans and Coverdell Education Savings Accounts act a lot like Roth retirement accounts, going a step beyond tax deferral to offer tax-free growth as long as the money is eventually used for qualifying educational expenses. Meanwhile, with healthcare costs, health savings accounts are available to those who use high-deductible health plans for their insurance coverage. HSAs are one of the best deals available, offering an upfront tax deduction for contributions but still allowing for expenses to be paid using tax-free withdrawals.
Moreover, many investments offer tax deferral in and of themselves. Non-dividend-paying stocks don't result in any taxes until you sell shares and reap the capital gains. On the fixed-income side, government savings bonds accrue interest tax-deferred until you cash them in, at which time the taxes come due. By putting off paying the IRS as long as possible, your money will work for you longer, letting you keep more of the profits.
3. Keep an eye on Washington
Now more than ever, tax laws are in flux. Lawmakers have promised a true attempt at tax reform, and control of both houses of Congress and the White House should result in at least some changes to existing tax law taking effect. What isn't clear, though, is when those changes will happen or when they'll become effective.
Sometimes, mid-year tax changes offer big opportunities for those who jump on them. That requires diligence in keeping watch over what your elected officials decide to do with the tax system. However, it might pay off with big tax savings if you can respond quickly to whatever new tax breaks become available.
It's never too early to start planning your taxes, and taking action now is smarter than leaving things to the last minute. By focusing on these three areas, you can put yourself in the best possible position to reduce your tax bill in the coming year.