Depending on where you live and how much money you earn, you may be required to pay taxes on your income. This can take a sizeable chunk from your paystubs – and even though taxes contribute to the running of our society, it can still hurt when you generate your W-2 form at the end of the year!
Thankfully, there are a few ways you can reduce your taxable income and keep more of your hard-earned money. These are completely legal and commonplace strategies, so don’t feel guilty about utilizing them. In fact, you may be able to employ more than one of these techniques in order to really reduce your tax bill.
Here are five strategies to get you started:
1. Start a Business
If you are in a position to start your own business, you could be at an advantage when it comes to tax. Small businesses can often deduct certain business expenses, which can lower their taxable income. This could include anything from office supplies to advertising costs.
Of course, starting a business is not always easy and there is some risk involved. But if you are already considering it, why not take the plunge and see if you can write off some of your start-up costs?
Here are some of the business-related tax exemptions you can make the most of:
- Self-employment tax deduction – this deduction applies to freelancers, independent contractors, and pretty much anyone who has to generate a 1099 form. It allows you to subtract some of your Social Security and Medicare taxes from your taxable income.
- Home office deduction – if you use a part of your home exclusively for business purposes, you may be able to deduct that amount from your taxable income. This could include a room in your house or even a garage.
- Meals deduction – if you are required to travel for work, you can often deduct your meal expenses.
- Travel and vehicle deduction – when work requires you to travel for longer than the average workday, you can deduct your travel expenses. This includes the cost of transportation, lodging, and meals. You can also deduct the use of a personal vehicle for business purposes (but be sure to keep track of your miles!).
These deductions will only be worth your while if you are able to generate a decent amount of income from your business, so make sure you are prepared for that. But if you do have a side hustle, be sure to take advantage of these tax breaks.
2. Contribute to a 401(k) Plan
If you want to reduce your taxable income, one of the best things you can do is contribute to a 401(k) plan. This plan is essentially an investment account that allows you to save for retirement. Contributions are made before taxes are deducted, so this can help reduce your taxable income for the year.
The great thing about a 401(k) plan is that your employer may also match your contributions. This means you are essentially getting free money from your company – and the contributions you make are typically not taxed until you withdraw them, which can be many years down the road.
If you don’t have a 401(k) plan through your employer, you may want to consider opening an individual retirement account (IRA). This is another way to save for retirement and also receive tax breaks.
3. Invest in Capital Assets
Another great option for reducing your taxable income is to invest in capital assets. This could include anything from stocks and bonds to real estate and precious metals. If you keep an asset for more than one year, you can enjoy a significantly lower tax rate.
This is known as the capital gains tax rate, and it varies depending on your income level and the type of asset you invest in. For example, the capital gains tax rate for stocks and mutual funds is usually lower than the capital gains tax rate for real estate.
Be sure to do your research to find the best investments for you. And remember that it is important to keep track of your capital gains and losses so you can accurately report them on your tax return.
4. Claim Your IRS Tax Credits
Have you heard of Earned Income Tax Credits? This is a type of IRS tax credit that is available to low- and moderate-income taxpayers. It essentially allows you to receive a refundable tax credit for certain types of income, and the amount also depends on the number of children you have.
There are a number of other IRS tax credits available as well, so be sure to explore all of your options. This could include the Child and Dependent Care Credit, the American Opportunity Tax Credit, or the Saver’s Credit.
You could potentially claim thousands of dollars with these tax credits, so it is definitely worth your time to investigate. Just be sure to keep track of the specific requirements so you can qualify.
5. Use Flexible Spending
Flexible spending is an arrangement with your employer that allows you to set aside money from your paycheck before taxes are deducted. This money can then be used for medical expenses, dependent care costs, or other qualified expenses.
The great thing about flexible spending is that it can help reduce your taxable income for the year. And if you don’t use all of the money you set aside, you can usually roll it over to the next year.
There are some restrictions on flexible spending, so be sure to check with your employer to see if you are eligible. But if you qualify, this could be a great way to save on your taxes.
Reducing your taxable income can be a great way to save money on your taxes. There are a number of different strategies you can use, so be sure to explore all of your options – and remember to keep track of your expenses and deductions so you can report them accurately on your tax return.