Many wage-earning taxpayers with children believe that their tax-planning opportunities are limited because they are not in business or don’t own rental properties. While they don’t have anywhere near as many options, there are still a number of strategies they can employ to cut their tax liabilities. Here are a few of the bigger ones.
- Maximize your 401(k) contributions. This is one of the best tax-planning tools for wage earners. At a minimum, contribute the amount needed to receive the maximum employer match.
- Maximize the credit for the first four years of college. The American Opportunity Credit reduces your tax by up to $2,000. If your student just started this fall, consider paying spring tuition in December to maximize the deduction. Be aware that this credit phases out when your income reaches certain thresholds: $80,000 for single taxpayers and $160,000 for married taxpayers filing jointly. You can still qualify for the Lifetime Learning Credit if your student has already claimed the American Opportunity Credit for four years.
- In a low-income year, consider converting your regular IRA to a Roth IRA for very little tax cost. Future distributions from Roth IRAs will be non-taxable rather than taxable.
- Max out your contributions to your IRAs, 401(k)s, or self-employed retirement plans.
- If you itemize, clean up your garage, closets, and sheds and make a donation to Goodwill or a similar charitable organization. Donations must be in good or better condition. Get a receipt, and I would highly recommend taking pictures to support the deduction.
- An alternative to donating household goods is to sell them at a yard sale. Since items are usually sold below their original cost, the proceeds will be tax free.
- If you itemize, prepay medical expenses by December 31. This year you can only deduct the amount that exceeds 10 percent of your adjusted gross income (AGI). You can charge your medical expenses to a credit card and claim the deduction this year, even if you don’t pay the bill until next year.
- Track your medical and contribution mileage. You can deduct 23 cents per mile driven for medical purposes and 14 cents per mile driven in service of charitable organizations. The key to deducting mileage is maintaining proper records. Keep a log every time you drive.
- If you are falling short of the itemized deduction levels ($6,300 for singles and $12,600 for married couples) consider bunching your deductions so that you itemize in one year and use the standard deduction the following year.
You can do this by paying one year’s property tax in January and the next year’s in December of the same year. Then pay your medical expenses and donations in that same year.
- If you are thinking about buying a car in early 2017, consider buying it before the end of the year. You can deduct the sales tax on the auto in addition to the sales tax amount calculated from the IRS tables.
- Get a home equity loan and pay off personal loans where the interest is not deductible. You can deduct the interest on up to $100,000 of the home equity loan, regardless of how you use the borrowed funds.
- Consider selling stock investments with a large amount of unrealized gain. Check with your tax advisor so you can get advice about your particular situation.
- As long as it makes financial sense and fits with your financial goals, sell any stocks in a loss position to offset any capital gains you may have from the sale of other investments. But if you have losses from 2015 or prior years, consider selling stocks that have built-in gains to use the loss and shelter the gain. If you are replacing the sold stock, you must wait 30 days or consider buying a different company’s stock in the same industry.
- Invest in tax-free municipal bonds. These bonds are typically free from federal, state, and local taxes. This makes them an excellent tool to reduce taxable income, even for higher-income taxpayers.
- If you have taxable income from investments that you will not use to live on for a number of years, consider investing in an annuity to defer the taxes on this income until you use it in the future.
- Pay down your outstanding student loan interest.
- Review your Alternative Minimum Tax (AMT) liability exposure. You may be able to reduce it or eliminate the damage by postponing tax preference items until 2016. Check your 2015 tax return: If you paid an AMT, get with your tax advisor and explore ways you may be able to avoid it in the future.
- Keep good records to “audit-proof” your deductions. The IRS follows a simple rule—if it isn’t written down, it didn’t happen! Keep good records for every deduction and receipt of non-taxable income.
- If you and your siblings pay for more than 50 percent of your parents’ support, you should explore claiming them as an exemption. If you are single, this may allow you to claim the lower-rate head-of-household status.
- Make the most of health savings accounts (HSAs) for paying health care costs that are not covered by insurance. If your employer offers one, contribute the maximum allowed (or as much as you can afford). The limits are $3,350 for individuals and $6,650 for families.
- Beware of the new additional 0.9% Medicare tax. Under ObamaCare, taxpayers have had to pay this tax since 2013 on wages and self-employment income over $200,000 for single filers, $250,000 for married filing jointly, and $125,000 for married filing separately s.
If your income fluctuates, review timing strategies to avoid the tax. Perhaps you can defer a bonus, or defer stock and property sales into a year where the tax will not apply.
- Rent out all or a portion of your principal residence or second home for fewer than 15 days, and you don’t have to report the income.