When it comes to taxes, everyone wants to find ways to help reduce how much they have to pay to Uncle Sam every year. With all the social media outlets like Tiktok and Youtube, proclaimed financial gurus are posting videos telling everyone how they can save or not pay any taxes. While there may be some truth to what these so-called social media experts are saying, they usually aren’t as cut and dry as they make it sound. Let’s look at some practical strategies that the everyday average person can use to help lower the amount of taxes they pay each year.
Before we get started discussing taxes, I want to make a quick point. A lot of people want to find ways to get more money back on their taxes. That is not what we are discussing in this article. The goal should be to pay as little as possible on your taxes by utilizing the tax code to best fit your situation. When people get money back on their taxes, they have basically been loaning the IRS their money interest free for the better part of a year. We want to focus on implementing the tax code to reduce our tax liability.
PRO TIP: If you do typically get money back on your taxes each year, you may want to consider changing your withholding amount from your employer so you get more money on your paycheck throughout the year instead of getting a refund at tax time.
Standard vs. Itemized Deductions
When we start talking about deductions, we need to understand there are two scenarios to consider. There are standard deductions and then there are itemized deductions. Basically, if you itemize, your total itemized deductions must total more than the standard deduction. If they do not total more than the standard deduction, then it is best to just utilize the standard deduction because it will reduce your taxable income by more than the itemized deductions. Some people talk about itemizing their deductions and never realize if they aren’t more than the standard deductions, then they’re basically useless for tax purposes.
Prior to 2018, itemizing your deductions was a possibility for a lot of people. However, in the Tax Cuts and Jobs Act, the standard deductions almost doubled for single filers and heads of households. Married filing jointly standard deductions didn’t quite double but were close to it. This has made it more difficult for people to itemize since the act has passed, but it has actually helped a lot of people get a better deduction than they would have previously, especially if they couldn’t’ itemize.
Let’s look at some of the deductions that you may be able to itemize.
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- Mortgage Interest – You can deduct the interest you pay on your mortgage up to a $750,000 balance. You usually received a 1098 each year from your mortgage company that will tell you how much interest you paid.
- State and local taxes – You can deduct for property taxes, state income taxes, and vehicle registration fees up to $10,000.
- Charitable contributions – There are some stipulations on how much can be deducted depending on what type of organization was the recipient of your donation. If donated to a qualified charitable organization you would get to deduct 100% of it.
- Medical and health care costs – You may also deduct unreimbursed expensed that are over 7.5% of your adjusted gross income. This one is kind of difficult for a lot of people to get due to the amount you would have had to spend on healthcare. If you’ve had a bad year with healthcare costs, then this may help you.
- Other line items you may be able to deduct could be tax preparation fees, business expenses, casualty, disaster, and theft losses, and certain investment interest. These typically don’t apply to most people, but if you think you may qualify for some of these items, then you should ask your tax professional to make sure.
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If you can total all these up, and the total of your itemized deductions are greater than your standard deductions, then you would benefit more from itemizing. If not, then you should just utilize the standard deduction. That’s the main difference between taking itemized deductions or choosing the standard deduction.
Retirement Contributions
There are other ways that you can still lower your taxable income outside of the standard deductions or itemized deductions. The most advantageous way to do so for most people is to contribute to a company sponsored retirement plan that goes in pre-tax. This may be a 401K, 403b, Simple IRA, or SEP IRA if you’re self employed. Each of these plans have fairly good limits you can contribute to get a reduction on your taxable income. If you contributed $10,000 before tax to one of these plans, then you’re taxable income would be reduced by $10,000. If you do not have access to an employer sponsored retirement plan, you could set up a traditional IRA to contribute. The limits aren’t quite as high as the employer sponsored plans, but they still allow you to get some deduction for making the contributions. Please note that Roth elections on retirement plans or Roth IRA’s do not give you any deduction for tax purposes because they are made after tax.
Health Savings Accounts
HSAs are another way you can help reduce your tax liability. If your health insurance plan is considered a high deductible health plan, then you should qualify for an HSA. Some health plans do offer an HSA through the same health care provider, but you can usually find an option through companies like Fidelity that will allow you to set up your HSA and invest your contributions into mutual funds or index funds. HSA’s can be a very powerful tool because your contributions are tax deductible, they grow tax deferred, and if you use the funds for qualified medical expenses, you can withdraw them tax free.
Other Deductions Available
There are a lot more deductions that could apply to help you reduce your tax liability. Most of those deductions are going to revolve around business owners with business expenses, real estate investors, and oil and gas investors. Those types of deductions can be much more involved and are more specific to individual situations. If you think you may qualify for them, you should consult with your tax professional to explore those possibilities.
Hopefully, I’ve outlined several things for you to consider to help with your taxes. Please remember this is not tax advice and you should consult with your tax professional before implementing anything listed here.