Did your parents and teachers forget to teach you how to save money on your taxes? My teachers definitely forgot, but thankfully I was raised by a lawyer (mom) and a Certified Public Accountant (dad), so that was helpful.
I am also one of those rare people who loves listening to books and podcasts about taxes and reading the dreaded IRA tax code (*gasp*).
I’m not 100% certain, but I think my interest in taxes stemmed from a realization that the financially free folks I know love talking about taxes.
In contrast, the people I know who are struggling to make ends meet treat taxes like a taboo subject and usually submit their taxes with either a few clicks of their mouse (using tax software) or a rushed visit to their local accountant right around April 15th.
How to Save Money On Taxes (If Only They Taught Us This in School!)
Did you know that taxpayers receive an average tax refund of $3,039? If you’re unlucky, though, you may have ended up receiving much less than this or even owing more in taxes.
In any case, it’s to your advantage to look into ways to save on taxes this year so that you can maximize your refund; or at least you can avoid owing when the time comes.
The key to reducing your taxes lies in lowering your taxable income that the IRS uses to calculate them. You can often do this by taking advantage of various savings accounts along with credits and deductions that apply to you.
Below are seven savvy tips on how to save money on taxes this April.
1. Take Advantage of Tax Credits
Looking into potential tax credits is one of the best ways to save on taxes.
If you earn a low income, you can look into the Earned Income Tax Credit. Not only can this help you save money on taxes, but you may even get a refund.
If you’ve got children, you can look into the Child and Dependent Care Credit to deduct some of your childcare costs from your taxable income. There is also a credit available if you adopted a child.
Are you or your spouse attending an accredited university? If so, you may be eligible for the American Opportunity Credit or Lifetime Learning Credit. In either case, you could deduct some of your tuition costs to reduce the federal income tax owed.
You can also look into more specialized tax credits. For example, if you’ve invested in energy-efficient improvements to your home or are a low-income homeowner, credit options are available to you.
Work with a tax preparer to maximize the use of the credits that apply to your situation.
2. Deduct All the Expenses You Can
Whether you’re an employer, business owner, or contractor, you likely have a huge array of expenses you can deduct so that you can save money on taxes.
If you donated items or money to charity, you can deduct an estimated value of those items. You can also deduct medical expenses as long as they’re more than 10 percent of your adjusted gross income.
If you’re paying off student loans, the interest you pay is tax-deductible.
You can also benefit as a homeowner. Not only can you deduct your mortgage interest, but you can also deduct local property taxes.
Freelancers and business owners can also deduct eligible business expenses. These include taking the home office deduction and accounting for travel, supplies, education, and utilities.
Aside from deducting business expenses, keep in mind that you’ll need to itemize to take advantage of many common deductions. So, you’ll want to check with a tax professional to find out whether itemizing will actually save you money in the end.
3. Save Money Towards Education
Whether you plan to have kids or already have some, you could consider putting money into a 529 plan. You can use these funds later for your children’s college education or even for you and your spouse.
While your contributions won’t help you cut your federal taxes, many states let you take a deduction for 529 contributions so that you’ll have less in state income tax due.
You’ll also benefit from tax-free growth on your contributions and won’t have to worry about paying taxes on them when you make withdrawals.
Having said that, 529 plans severely limit your investment choices. I know this because I did extensive research into them when my niece and nephew were born.
Other issues include that many high paying careers today no longer require a college degree and self-education has never been easier at any point in history. Plus, it’s estimated that up to up to 85% of the jobs that today’s college students will have in 11 years haven’t been invented yet, so I consider the future value of college to be in a precarious state.
Instead, I’d recommend that you put a small amount of money down to buy a rental property when your child is young. Unless you’ve completely mismanaged the rental, by the time they turn 18 you’ll be able to sell it for a large gain. For example, if you used $10K down to buy a $100K rental unit today, it would be completely reasonable to assume that you could sell that property for $200K in 18 years.
That means you would have earned $100K on only $10K down, which represents a 10X multiple on your money! Best of all, that calculation doesn’t even include the debt pay, tax advantages, or cash flow that you collected along the way.
And that leads us into my favorite way to save money on taxes…
4. Real Estate
Simply put, real estate is one of the single best vehicles for protecting your earned income from taxes.
This is because you can write off things like:
- Mortgage interest
- Property taxes
- Maintenance and repair expenses on rental properties
- Property depreciation – You can depreciate the entire property for rentals or the area used exclusively for business in your primary residence.
Many investors refer to property depreciation as a “ghost” expense, because you don’t actually have to spend money to qualify for it. It’s just the IRS allowing you to take a tax deduction based on the perception that rental property will decline with time as a result of wear and tear. In reality, properties nearly always increase in price over time, so it is a rather ironic deduction.
If you have a home-based business, you may also be able to take a home office deduction on your primary residence, which can save you another good chunk in taxes owed.
Additionally, if the real estate is used as your primary residence and you sell if for a profit (called a “capital gain”), you will likely not have to pay taxes on the first $250,000 gain for a single filer or $500,000 for couples filing jointly. Best of all, you can benefit from this exemption once every two years, so you can invoke this capital gains exemption a nearly limitless number of times during your lifetime. You can thank the Taxpayer Relief Act of 1997 for this gem.
In my opinion, all there really is to say about real estate tax deductions is that they are incredible.
Commit to learning about real estate tax deductions. If these tax breaks don’t apply to you now, then start thinking about how you could apply them to your situation in the future as you save money and prepare to invest.
You’ll quickly find that common investment choices, such as stocks, bonds, and certificates of deposit (CDs), are not treated nearly as generously by the U.S. tax code.
5. Invest in Health-Related Savings Accounts
You can place funds in a health savings account (HSA) and flexible spending account (FSA) to help cover your regular medical expenses. You can deduct the contributions on your taxes and usually won’t have to worry about paying taxes on withdrawals you make.
The key is that you need to be eligible for these accounts to benefit.
You’ll need to have a high-deductible health insurance plan to make HSA contributions. You also will have to use the funds for qualified medical expenses only. The limit for a single person in 2019 is $3,500, while a family can save up to $7,000.
Your employer will need to offer an FSA for you to bank away money from your paychecks for everyday costs like medication. You can contribute up to $2,700 for the 2019 tax year.
6. Contribute to Your Retirement Accounts
I have extremely mixed feelings about this suggestion, because most wealthy people that I know do not use government supported retirement plans, such as 401(k)s and IRAs.
The reasons that wealthy people generally don’t use government supported retirement accounts are that they:
- Tie up your money until you’re 59.5 years old – Do you really want to wait that long to be financially free?
- Severely limit the investments you can place your money into
- Place the responsibility for your money management into someone else’s hands (Wall Street’s), instead of your own
- Don’t pay you monthly income, so you are speculating that your investments will increase in price and stay at that elevated price at the exact point in time that you want to retire – Personally, I don’t define something as an investment unless it pays me money.
However, contributing to retirement accounts will allow you to reduce your taxable income, which is the only reason that I have included it here. (If this article was about how to get financially free, contributing to retirement accounts would not be on my list of recommendations.)
Here’s how you use this approach: If your company offers you a 401(k) plan, you can contribute up to the maximum limit you’re allowed each year and take advantage of any matching your job offers. You won’t pay taxes on this money right now but will defer them until you make withdrawals during retirement. The 2019 401(k) savings limit is $19,000.
You can also put money in a traditional individual retirement account (IRA) that you open yourself. Like with a 401(k), these IRA contributions are considered tax-deferred and reduce your taxable income now.
Those under 50 can save $6,000 this year, and this goes up to $7,000 for those who are older.
7. Pay Your Taxes on Time
When you’re thinking of how to save on taxes, you probably mainly think of ways to reduce your income and use credits. But you also need to consider the consequences of not paying your taxes on time.
When you pay your taxes late, you’ll end up paying penalties and interest that make your tax bill even higher. Even if you could save with credits and deductions, paying late might undo the benefits for you.
So, when you file your taxes, pay any owed amount at the same time. While you can work out a payment plan with the IRS, you can expect to pay fees, so this should be a last resort.
If you’re self-employed, you also need to be paying enough in estimated quarterly taxes throughout the year.
Now You Know How to Save Money on Taxes This April
You’ve explored several options on how to save money on taxes, so it’s time to start planning ahead. Begin investing in any retirement, education, and medical savings accounts you can. And, when it’s time to file, don’t forget to pay your taxes on time.
Since it can be easy to miss credits and deductions you’re eligible for, consider meeting with a tax professional who can help you plan. When you’re ready to file your taxes, a professional may be able to help you maximize your refund and minimize mistakes.
Finally, I’m not an accountant or tax professional, so my tips should not be construed as financial advice. Please conduct your own due diligence and consult a licensed financial adviser or CPA before making any decisions.
Check back soon for more posts that will teach what your parents and teachers forgot to teach you (or didn’t know themselves).