Nobody likes paying taxes, but they're a fact of life for most of us. However, there are strategies you can use to reduce your tax bill and keep more of your hard-earned money. In this article, we'll explore the 10 best ways to save on taxes, including our favorite (real estate), and provide a comprehensive analysis of the tradeoffs involved in balancing different factors.
1. Maximize your retirement contributions
One of the easiest ways to save on taxes is to maximize your retirement contributions. Contributions to retirement accounts like 401(k)s and IRAs are tax-deductible, and you won't have to pay taxes on the money until you withdraw it in retirement. Contributing to these accounts can significantly lower your taxable income and reduce your tax bill.
2. Deduct charitable donations
Charitable donations are tax-deductible, which means you can reduce your taxable income by deducting the amount of money you donated to a qualified charity. Keep accurate records of all donations throughout the year, and don't forget to deduct any out-of-pocket expenses related to volunteering.
3. Use a health savings account (HSA)
A health savings account (HSA) is a tax-advantaged account that allows you to save money for medical expenses. Contributions to an HSA are tax-deductible, and withdrawals are tax-free as long as they're used for qualified medical expenses. HSAs can be an effective way to reduce your taxable income and save on taxes.
4. Invest in real estate or crowdfunding platforms
Real estate can be a great investment for reducing your tax bill. Rental properties and even Real Estate syndications allow you to deduct passive losses and expenses like mortgage interest, property taxes, and repairs, to reduce your taxable income. When you hold the property for more than a year, you may qualify for lower long-term capital gains tax rates when you sell.
5. Take advantage of tax credits and a Flexible Spending Account
Tax credits can be a powerful tool for reducing your tax bill. For example, the Earned Income Tax Credit (EITC) is a credit designed to help low- to moderate-income workers. Other tax credits include the Child Tax Credit, the Adoption Tax Credit, and the American Opportunity Tax Credit for education expenses. Similarly, a dependent care Flexible Spending Account (FSA) is also an easy way to save on taxes if you pay towards daycare or nanny expenses.
6. Use tax-loss harvesting
Tax-loss harvesting is a strategy that involves selling investments that have lost value to offset gains in other areas of your portfolio. This can help you reduce your tax bill by lowering your overall taxable income. Just be aware that there are rules and limitations around tax-loss harvesting, so it's important to work with a qualified financial advisor.
7. Consider a 529 college savings plan
If you're saving for your child's education, a 529 college savings plan can be a tax-efficient way to do so. Contributions to these plans grow tax-free, and withdrawals are tax-free as long as they're used for qualified educational expenses. Be sure to check out each state's 529 program and if that state allows for deductions for the program.
8. Maximize your deductions
Deductions are expenses you can deduct from your taxable income, and they can significantly reduce your tax bill. Common deductions include mortgage interest, property taxes, state and local taxes, and medical expenses that exceed a certain threshold. Keep careful records of all deductions throughout the year.
9. Use a home office deduction
If you work from home, you may be eligible for a home office deduction. This deduction allows you to deduct expenses related to the portion of your home used for business purposes, such as rent or mortgage interest, utilities, and maintenance expenses.
10. Work with a tax professional
Finally, working with a qualified tax professional can help you identify strategies that are specific to your situation, and ensure that you're taking advantage of all available deductions and credits. They can also help you navigate the ever-changing and complex tax code and avoid costly mistakes.
In general, remember to think about the tax consequences before purchasing or selling assets and how it affects your overall Return on Investment (ROI). A 10% return on a long-term investment that you pay capital gains tax may not the same as a 10% return that will be treated as part of your taxable income based on your income bracket.