Tax planning is an important aspect of your overall financial planning, as it helps you make the most of your money by minimizing the amount of taxes you pay.
Begin by reviewing your tax bracket. It’s important to understand which tax bracket you fall into, as this will determine what tax rate you will pay on your income. By understanding your tax bracket, you can make strategic decisions about how to manage your income and deductions in order to minimize your tax liability. Also make sure to review your tax withholdings with your tax accountant or preparer to ensure that you are having the right amount of tax withheld from any paychecks. If you are having too little tax withheld, you may owe money at tax time; on the other hand, if you are having too much withheld, you may be entitled to a refund. Here are some tax planning tips to consider as you start the new year.
Review your taxable income and work to create an income tax projection. This will give you an idea of what will be coming when tax season arrives. The projection will allow you to make adjustments to help lower your tax burden.
Work to reduce your income tax liability by lowering or eliminating your taxable income. You can do this through qualifying contributions to various accounts and plans. Contributions to certain types of retirement accounts—such as a 401(k), 403(b), or traditional IRA—can be tax-deductible; this means that you can lower your taxable income by contributing to these accounts.
Health savings accounts (HSAs) provide not only tax-deductible contributions but also tax-free earnings and tax-free withdrawals for certain qualifying medical expenses. Flexible spending accounts (FSAs) and dependent care FSAs (DCFSAs) allow you to reduce taxes while you set aside money for healthcare and care for dependents to be used within the calendar year (or early in the following year, depending on your plan).
A 529 plan lets you contribute tax-free income and make subsequent withdrawals for qualifying educational expenses for yourself or a designated beneficiary; funds can be used to pay for college, K-12 tuition, qualifying apprenticeship programs, and student loan repayments. If you’re already contributing to one or more of these types of accounts or plans, consider how you can increase your contributions (if you can do so) to further reduce your tax burden.
Review Deductions, Credits, and Expenses
Make sure to claim deductions and credits when appropriate. There are many deductions and credits available that can help lower your tax bill. For example, if you donate to charity or have children who are dependents, you may be able to claim deductions or credits on your tax return.
It’s also important to keep your receipts for charitable contributions and other expenses. With the standard deduction being rather high and a cap on state and local tax deductions that remains at $10,000, not nearly as many taxpayers are itemizing. Keep in mind that taxpayers who are age 65 and over or are blind can claim the additional standard deduction in addition to the regular standard deduction for their filing status.
If you own a business, make sure to keep track of all your business expenses. These can be deducted from your business income, which can further lower your tax liability.
Capital Gains and Losses
Plan ahead for capital gains and losses, and work to minimize your capital gains tax. If you sell investments or property for a profit, you may have to pay capital gains tax. However, if you sell investments or property for a loss, you may be able to offset some of your capital gains with these losses. By planning your investment sales carefully, you can potentially reduce your capital gains tax liability. If you’re selling appreciated assets and it works for you financially to do so, spread the sale across more than one tax year by only selling a portion of your appreciated assets this year and then waiting to sell the remainder until the following year.
You may also want to transfer appreciated assets to your child or children. If you have a child who is not your dependent and happens to be in a lower tax bracket, your child may owe less tax for the capital gains than you would. Another strategy would be to transfer appreciated assets to charity, which would help you avoid the capital gains tax and possibly claim a deduction for the assets’ fair market value.
Consider taking advantage of tax-loss harvesting as well. If you have investments that have decreased in value, you may be able to sell them and use the losses to offset other gains you have made elsewhere in your portfolio within the year. This strategy is known as tax-loss harvesting and can be a useful way to reduce your tax bill.
Take Advantage of Tax Benefits and Exemptions
If you are paying for education expenses for yourself or dependents, be sure to take advantage of any applicable education-related tax benefits, as you may be able to claim education tax credits or deductions. For example, the American Opportunity Tax Credit allows you to claim a credit for tuition, fees, and other education-related expenses for the first four years of higher education.
The IRS recently increased the federal estate tax exemption for 2023 to $12.92 million (up from $12.06 million in 2022). For any taxpayer intending to leave an estate to their family, any amount below the $12.92 million (including previously taxable gifts) is exempt from federal estate tax at the federal level. The exemption for married couples with combined estate plans is now $25.84 million for 2023. As of this year, the annual federal gift tax exemption also increased from $16,000 in 2022 to $17,000 per person for 2023.
Ask the Experts
As always, it’s a good idea to consult with experts for personalized advice based on your own specific circumstances. Lancaster Law Firm can help you formulate your tax planning strategies. For more information, contact us today for a consultation with our estate planning experts.