Knowing and Understanding Tax Strategies

Taxes are and will always be a constant in your life. That doesn’t mean you have to be best friends with the IRS and give them more money than is required. Today I want to give you a few tips that you can use over your lifetime of paying taxes. The key is to build a strategy over the long term and not focus on paying the least amount of taxes in the short term(i.e., current year). Below are four tips to consider as you work to reduce taxation.

- Don’t build a tax time bomb – If you are doing the right thing and contributing large amounts of money into your Traditional 401K plan you are potentially building yourself a tax time bomb. When you retire, the government will make you take required minimum distributions (RMD) out of your account, and you will be taxed as ordinary income rates on that money when you do. Combine that RMD with income from social security or pension or even just interest earned in a taxable brokerage account, and you could be in an effective tax bracket that is much higher than you are in today.

- Understand what a Roth account is – The Roth option is available now in many workplace retirement plans including 401ks and IRAs. The Roth allows you to put money into the account after you have paid taxes on it. The beauty of this account is that once you put money in the Roth,that money is not taxed when you withdraw it, nor is any money earned on that money over time ever taxed again. So, if you can pay taxes now in the 22% tax bracket by putting it into a Roth and avoid being in the 32% tax bracket in retirement you may save in taxes over the long term.

- Understand Short Term vs. Long Term Capital Gains– In a taxable non-qualified account if you sell off an asset and make a gain you will most likely have to pay taxes. The kicker here is that if you have held that asset for longer than a year you get to pay long-term capital gains which will be either 0%, 15%, or 20% depending on your effective tax rate. If you sell before a year is up, you must pay short-term capital gains tax rates which are taxed at your ordinary income rate.

- Tax loss harvesting – The IRS generously allows you to sell assets in your taxable non-qualified accounts at a loss reducingyour tax liability. Your losses can be used to offset capital gains you have for the year, and if you don’t have any gains, you can even offset up to $3,000 dollars of your income. These losses carry forward so if you can’t use all your losses in one year you can save them and use them to offset gains and income in future years so be sure to keep good records.

This is a quick article meant to give you ideas to research to help you at tax time. Each of the tips above must be understood and applied to your specific situation. Using these tips correctly can have asignificant impact on the amount of tax your pay over your lifetime so it is worth it to do some research or hire a CPA or tax professional who can help. The rules around taxes can be hard to understand but when leveraged correctly, the benefits are well worth it.