In the grand scheme of things, the most minor actions can significantly impact your finances and tax situation. To avoid a penalty, you must file your 2022 taxes by April 18th, 2023. But you can take action now while you wait, which can substantially impact your tax liability. Here are some of them.
Donate To Charity
Help those in need and lower your tax bill by donating to charity before the end of the year. Typically, you can only deduct charitable donations if you itemize your tax deductions. If your itemized deductions are more than the amount of the standard deduction, you can claim them. According to Levon Galstyan, a certified public accountant at Oak View Law Group, the IRS allows you to lower your tax liability by a fixed amount, known as a standard deduction. For the 2022 tax year (returns due in 2023), the standard deduction amounts are as follows:
- $25,900 for taxpayers who are married filing jointly or who are qualified widow(er)
- $12,950 for taxpayers who are single or married and file separately
- $19,400 for taxpayers who are head of household
Galstyan advises checking using The IRS's Tax Exempt Organization Search Tool to see if your preferred charity accepts tax-deductible donations before you donate.
Contribute More To Your 401(k)
Pretax contributions to retirement accounts have the benefit of lowering your current-year income tax obligation. Before you pay taxes, you can put money into a retirement plan at work, like a traditional 401(k). Consider contributing to your 401(k) with your final paycheck in 2022. If you are 50 years or older, you may contribute an additional $6,500 to surpass the $27,000 contribution limit since employer contributions are not subject to contribution limits.
This works perfectly because, in 2022, the combined total of your and your employer's contributions can be at most $61,000. If you're self-employed, consider establishing a self-employed retirement plan and making the maximum contribution to reduce your tax obligation in 2023.
Verify Tax Withholding
Ensure you're withholding the right amount of tax from your pay. Incorrect withholding could place you on the hook for a big tax bill or snag a refund. According to Galstyan, not withholding enough tax may result in owing money when filing your income taxes and receiving unexpected bills. Alternatively, if you withhold too much and receive a sizable tax refund, you may choose to adjust your taxes to receive more money in each paycheck.
It's good practice to review the amount of taxes withheld from your pay, especially if your job or family dynamics have changed recently. Use the IRS tax withholding estimator, a self-service tool, to see if you've taken out the right amount of money from your pay.
You can delay getting paid to pay less in taxes this year if your company has a policy of paying year-end bonuses the following year. As Galstyan points out, if you work for yourself, are a freelancer, or offer consulting services, you have more freedom. For instance, delaying billings until the end of December can ensure that you won't be paid until the following year. Whether employed or self-employed, you can delay income by taking capital gains in 2023 rather than in 2022. However, this strategy is only worthwhile if you expect to be in the same or a lower tax band the following year.
You want to avoid paying more in taxes the following year if you could be subject to a higher tax rate due to increased income. “If you think that's likely,” Galstyan says, “you might try to advance your income into 2022, so you can pay taxes on it sooner rather than later at a lower bracket.”
Contribute To A 529 Plan
If you stash money in a 529 plan before year-end, it may lower your state tax tab. Most states allow you to deduct at least a portion of your 529 plan contributions from state income taxes. In such states, you must contribute to your own state's plan to get the tax deduction, but several states allow you to deduct contributions to any state's plan.
You can deduct up to $10,000 ($20,000 if filing jointly) from your federal income tax return and avoid state income tax on qualified higher education expenses. Rollovers from other states' 529 plans can be deductible (but not earnings). Only donations made in a given year by December 31st are tax-deductible.
Tax loss Harvesting
An investment loss can be used to offset income or capital gains, and a tax offset can lower your gains tax. If you have more losses than gains, you can only deduct $3,000 in excess losses to offset other ordinary income and carry the balance over to the following year. Year-end is the most typical time, primarily because of the December 31 deadline for claiming capital losses to offset capital gains. However, Tax-loss harvesting can be done throughout the year.
Beware of The Alternative Minimum Tax
Accelerating tax deductions can cost you money if you've unknowingly triggered the AMT or are subject to it. “This is a problem at the end of the year because some expenses that are deductible under the regular rules but not under the AMT can be paid quickly,” says Galstyan. “For example, under the AMT, you can't deduct state and local income taxes or property taxes.”
Consequently, Galstyan cautions that if you expect to have to pay the AMT in 2022, don't pay the installments due in January 2023 on December 2022. Doing so triggers or increases AMT liability for next year.
Buy Mutual Funds In A Tax-Advantage Account Or Wait
Mutual funds distribute their owners' capital gains at the end of each year. Most funds distribute in December, so if you own the fund in a taxable account, you will immediately have a taxable gain. This suggests that you are getting a taxable return on your principal and not keeping all the distribution because you are giving up a portion for taxes.
Purchase the fund in a tax-advantaged account, such as an IRA, instead of a taxable account to prevent distribution costs from costing you money. With a tax-advantage account, you can purchase at any time because the account protects you from capital gains tax. Otherwise, there would be no reason to buy shares before the distribution. Essentially, you are paying taxes on income that you haven't earned.
Maximize Child Tax Credit And Others
Tax credits lower your tax bill by the same amount as the credit. With the Child Tax Credit program, you can get a $1,000 discount on your federal tax bill for each qualifying child under the age of 17. Families can get $3,600 for each child under the age of 6 and $3,000 for each child between the ages of 6 and 17.
If a family's annual income is less than $150,000, or if one parent earns less than $112,500, the entire family is eligible for the credit. You should investigate all potential tax deductions right now. Tax credits are preferable to deductions because they directly reduce your taxable bill. Other IRS tax breaks include:
- Education credit
- Child and dependent care credit
- Adoption credit
- Retirement savings contributions credit
- Earned income tax credit (EITC)
- First-time homebuyer credit
Empty FSA Accounts
When an employee has a flexible spending account (FSA), they can put money away for various expenses, from child care to medical costs. Contributions to an FSA are tax deductible for income and Social Security purposes, but any money still in the account at the end of the year may be forfeited. To find out if your plan's deadline can be extended till early next year, check your balance and get in touch with the administrator. With an FSA, your money is only good if you spend it. Employers normally keep any contributions that remain unused. According to an analysis by Money, American workers lose about $3 billion in FSA contributions they didn't use every year.
Make Your Final Tax Preparations
It's getting late in the year, and time is running out on several excellent tax-saving moves you can make. Identifying what you need to do and what can wait is a crucial task at the moment. Tax preparation is best approached in a proactive manner rather than a reactive one. Since everyone's financial and tax circumstances are different, it's essential to consult with professionals before deciding how to minimize your tax liability.
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This article was produced by Play Louder ! and syndicated by Wealth of Geeks.