Overview of Year-End Tax Planning
Whether you had a stellar year or you’re still rebounding from recent losses, having a solid year-end plan can help you save a bundle on your taxes. Use our guide to learn some of the best tips you can use to ensure you don’t pay more than you need to this year.
- Maximizing your deductions is a terrific way to reduce your tax liability.
- Contributions can help manage your annual tax debt.
- Tax-loss harvesting may be a beneficial strategy to lower your current federal taxes by deliberately incurring capital losses.
- Start planning early to prevent any surprises on your year-end tax return.
Why It’s Important To Plan Ahead
Planning ahead for the upcoming tax season will help you maximize your refund or minimize how much you’ll have to pay the IRS this year. It’s also a terrific way to ensure you’re filing an accurate return, as errors can delay processing and your refund — if you get one. Thankfully, you don’t need to be a CPA to prepare for tax season. By following a few easy strategies, you’ll be ready for that April deadline in no time.
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Tax Planning Tips
Whether you had a good year or your finances are rebounding from the pandemic, there are many ways you can save on your taxes. Start tax planning today with these easy-to-follow tips:
Maximize Your Deductions
One of the best ways to plan for year-end taxes is by maximizing your deductions. There are many ways to accomplish this feat, including:
Review Your Withholdings
Your employer uses Form W-4 to determine how much money to take out of your earnings for taxes. If this amount is too high, you’re giving Uncle Sam a free loan. Likewise, if it’s too low, you’ll end up owing at the end of the year — and you could even face underpayment penalties. Therefore, we recommend aiming for a zero-dollar tax bill. The key to achieving this mission and paying the right tax amount throughout the year is to update your W-4 annually or whenever you experience life changes, like:
- Getting married or divorced.
- Having a baby.
- Securing a second job.
- Earning a raise.
- Starting a business.
- Buying a home.
Itemize Your Deductions
Another sound tax planning practice that can help you reduce your end-of-year liabilities for 2022 is to take advantage of any itemized deductions. The standard deduction for a married couple filing jointly rose $800 for 2022, up to $25,900. According to the IRS, 70% of Americans take the easy route and use this figure on their returns. However, you could be leaving money on the table with this approach. If your qualifying expenses exceed the standard deduction, you should definitely consider itemizing. Typical costs you can consider itemizing are:
- Mortgage interest.
- State income tax.
- Local sales tax.
- Qualifying medical and dental expenses.
Consider a Home Office Deduction
If you work from home and your office meets the requirements, consider using it for a tax deduction. The post-pandemic work culture has changed for good, and many people earn the bulk of their paychecks from home. If you’re among this group, your home must be your principal place of business.
An employed telecommuter may not qualify. However, if you’re self-employed or a 1099 contractor and use your home office exclusively and regularly for work, you can save big with this deduction. Some taxpayers opt for the simplified method, which equates to $5 per square foot, or they use the regular method and calculate all qualified expenses, such as the business-only portion of the homes:
- Real Estate Taxes.
- Mortgage Interest.
- Maintenance and repairs.
- Casualty losses.
Take Advantage of Tax Credits
The government offers several tax credits that can offset the amount you owe. A credit works differently than a dedication in that you can subtract this amount from your final tax bill. It directly offsets what you owe, dollar for dollar, as opposed to reducing the amount of your taxable income the way a deduction does. The value of the credit varies, and some are even refundable if they are higher than your debt, like the Earned Income Credit that’s so beneficial to many low- to moderate-income families. The IRS offers numerous credits, including:
- Child and Dependent Care Credit.
- Lifetime Learning Credit.
- Retirement Savings Contributions Credit.
- Adoption Credit.
- Mortgage Interest Credit.
- Residential Energy Credit.
- Work Opportunity Credit.
Make End-of-Year Contributions
Year-end contributions are another way to manage your annual tax liability. Consider making one or all of the following:
Contribute to Retirement Accounts
Most financial planning studies suggest contributing between 15% and 20% of your gross income into a retirement account. The IRS allows you to contribute $6,500 (or $7,500 if you’re 50 or older) to your traditional or Roth IRAs for 2023. This represents an increase over 2021’s limit of $6,000 and $7,000, respectively.
If you have a 401(k) instead of an IRA, those contributions were made pre-tax and aren’t included in your taxable revenue. That’s the core of their appeal: deferred income. That means you don’t have to report any 401(k) income on your return until you start taking a distribution — usually after retirement. As a result, your taxable income is less for the current year, which lowers your IRS bill.
Make Charitable Donations
There are many reasons to donate to your favorite charity, from personal to financial. When you contribute to a qualifying organization, it’s a great way to reduce your tax bill, and you control the timing. You have until Dec. 31 to make your gift and take advantage of this saving strategy, and there’s even more good news. The IRS has temporarily suspended its limits on charitable donations. Previously you could only contribute up to 60% of your adjusted gross income, but now you can donate it all. Yes, even 100%.
Pay Off Medical Bills
Paying off your unreimbursed medical bills at the end of the year also has tax advantages. The IRS allows you to deduct out-of-pocket payments for healthcare-related expenses that exceed 7.5% of your 2022 adjusted gross income. However, you must itemize rather than take the standard deduction. In addition, you can claim costs that weren’t fully covered by your insurance company, like:
- Preventative care.
- Dental and vision care.
- Psychologist and psychiatrist visits.
- Prescription medications.
- Glasses and contacts
- False teeth.
- Hearing aids.
- All unreimbursed COVID-19 expenses.
- Travel expenses for qualified care, like mileage.
Consider Tax-Loss Harvesting
If you have an underperforming investment and lose money, you can turn this into a year-end tax advantage. Here’s how:
What Is Tax-loss Harvesting?
Not every investment is a winner. Fortunately, there is a silver lining when it comes to year-end tax planning. Your loss may lower your overall liability while putting your portfolio in a better position going into the new year. This strategy is called tax-loss harvesting, and it’s one tip you should consider when planning for next year.
How Does It Work?
The principle behind tax-loss harvesting is relatively straightforward and generally works like this:
- You sell securities that are underperforming and losing money.
- Then, use that loss to reduce your taxable income (or capital gains) up to $3,000 or $1,500 per person if you’re married and filing separately.
- Next, you reinvest the money from the sale and replace that security with one that meets your investment strategy.
Benefits of Tax-Loss Harvesting
Tax loss harvesting is a strategic approach that makes the most out of capital losses. By timing your sale at a loss, you may find it quite favorable at tax time, and you can tax-loss harvest both short and long-term losses. You can also carry the loss over to offset future gains because there’s no expiration date.
Taking this proactive tax-planning move results in less of your money going to taxes and more of it working for you on Wall Street. However, there is no benefit from tax-loss-harvesting within a retirement account because these transactions aren’t taxable events. If you lose more than the $3,000 cap, consider carrying over the excess amount to help offset capital gains on 2023’s return.
Recap of Year-End Tax Planning Tips
Start planning for tax season early. This habit allows you to make adjustments over the year that will improve your financial situation. Whether it’s maximizing your deductions, making contributions, or tax-loss harvesting, we recommend approaching the situation proactively.
Consult With a Tax Advisor
Remember to consult with a tax advisor at Anderson before tax day. We understand the changing landscape and will help you avoid a surprise on your next return.
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