There is something really unnerving about realizing that you owe Uncle Sam money during tax season. Chances are you might not be prepared to deal with a significant tax bill. While you may not be able to change what you owe this year, you can potentially prepare yourself for the next year.
Here are some of the steps that you can take that can potentially lower your tax bill for next year.
Getting to know your W-4
The W-4 IRS form is the employee withholding certificate. The W-4 is where you can decide how much you want to have withheld from your paycheck. The new W-4 has some changes. This time, instead of making specific allowances, you can set exact dollar amounts that you want to have withheld from your paycheck.
By determining precisely what you want to have withheld from your paycheck, you can potentially lower your chances of being surprised with a large tax bill.
Calculating the amount of allowance to take
With your W-4, you will want to carefully consider how much you want to have withheld. If you have been hit with tax bills in the past, you might want to play it on the safe side and pay a little more in each paycheck than you have in previous years. Doing this might lessen your chance of potentially dealing with a high tax bill.
Organize your records
Good organization might not cut your taxes, but there can still other benefits. Many people struggle to get all their tax documentation together. Some of these documents include the previous year's tax return. Here are some tips to get organized for next year's tax time.
- Print out a tax checklist of all the necessary tax documents for the year.
- Start a tax folder or binder to keep potential tax documents and deductions, even if you are not sure you need them.
- If you run your own business, keep a separate filing system.
What about Self-Employment?
If you are self-employed, then you may have to deal with a different approach. As a self-employed individual and depending on the structure of your company, you might not have money withheld from your check. If you're paying quarterly or annually, you will want to make sure that you have funds set aside for paying your full taxes before the filing deadline arrives. Of course, you can defer or schedule a payment plan, but in the long term you end up paying more in deferred interest.
Make Sure You Keep Up to Date with Tax Credits
When you have major life events, you may be able to take advantage of tax credits. Be sure to update your W-4 to ensure that you are able to take advantage of all the potentially allowable tax credits.
Here is a look at the potential tax credits that you may be able to take:
- New child
- New dependent
- Child adoption
- New home
- New filing status
Reducing your tax liability can significantly impact the amount of tax you owe. There are a number of ways to reduce your adjusted gross income, this list certainly isn't all-inclusive, but it's a great start with common deductions:
- Medical expenses in excess of 7.5% of your adjusted gross income
- Charitable contributions, legitimate charitable organizations will provide a form to record the donation
- Student loan interest deduction
- Child and dependent care tax credit
- Adoption credit
- Earned income tax credit
- Mortgage interest deduction
- Energy credits
Open a Health Savings Account
One way to potentially lower your tax bill is to reduce your taxable income. That means that you may be able to take advantage of a pre-tax health account. With a pre-tax health account, your employer will be able to divert some of your money into a tax-free health account.
With a health account, you should use these funds to handle co-pays or any medications or procedures that are not fully covered by your insurance company. Be sure to talk to your employer about available tax-free health accounts.
Yes, You Can Write Off Your Self-Employed Health Insurance
If you are self-employed, then you know that you are on the hook for self-employment tax. On the good side, you can write off a portion of your health insurance expenses for yourself, your spouse, and your dependents.
You may also be able to take advantage of self-employed health insurance deductions if you are a partner or a 2% S Corporation shareholder.
Contribute to Your Retirement Account
One of the smartest ways to potentially lower your taxable income is to make the maximum contribution to your retirement account. Currently, you can make contributions to an IRA or a Roth IRA account. Here's a look at how each retirement account can potentially affect your overall tax liability.
- 401(k) – With a 401k, you are able to contribute a portion of your income to a company-sponsored retirement account. This contribution lowers your taxable income.
- IRA (Individual Retirement Account) - With an IRA, you are able to write off the money you place into your retirement account. All the capital gains that you accrue in your IRA will not have to be paid until you withdraw your funds.
- Roth IRA - With a ROTH IRA, your money is already taxed. However, you do not have to pay the capital gains on your investment profits when you withdraw your money from the account.
Make Sure You Harvest Your Investment Losses
If you are an active investor, then you know that you may have to pay capital gains tax on your profitable trades. However, you can also write off a certain amount on your tax losses. Therefore, you will want to make sure that you can harvest your losses.
You can harvest your losses by selling your losing trades before the end of the tax year. Make sure that your losses do not exceed the amount allowed for the tax year. If your investment losses exceed the maximum deductions allowed, then you can carry over those losses to the next tax year.
Charitable Contributions Can Also Potentially Lower Your Tax Bill
Instead of paying a tax liability prior to the end of the year, you can donate money or your unwanted items to charity. Most charities allow for tax-deductible contributions. That includes both money as well as a number of items in your home.
Be Sure to Talk to a Tax Professional
Tax laws change each year. Therefore, you will want to talk to a tax professional and find out all the possible ways that you can lower your taxable income. Make sure that you talk to a tax professional that has experience in your area.
For instance, if you are self-employed, you will want to hire a tax professional dealing with self-employed individuals. If you are a small business owner, you will want to deal with a tax professional specializing in small businesses.
Avoiding Tax Bill Surprises
No one wants to deal with surprising tax bills. Be sure to check all the tax changes for next year, carefully manage your withholding amount, and take advantage of all the potential deductions. With the right planning, you can be in better control of your taxes.