It’s that time of year again! Tax documents are arriving by mail and the race towards April 18th is on. While 2010 is over and gone, there are still things we can do to reduce our tax liability for last year. Here’s a list of a few things you can do now that might reduce your tax bill for 2010.
1. Take full advantage of available tax credits.
The government offers taxpayers an array of credits for items and services purchased last year. Remember that credits are a dollar for dollar reduction in tax liability as compared to a tax deduction, which will reduce your taxable income. In short, tax credits are preferable to tax deductions. While some credits are phased out by income, such as the child tax credit, other credits are not phased out by income, such as the residential energy credit.[See Troy’s tips on Finding The Right Tax Preparer]
Below is a list of popular credits that often get overlooked:
- Residential Energy Credit. Taxpayers can use this credit for improvements to a principle residence that creates an increase in energy efficiency: i.e. Installation of a tankless hot water heater.
- Alternative Motor Vehicle Credit. The government may give you a tax credit if you purchased an alternative fuel vehicle, such as a hybrid automobile. Speak with your preparer about the applicable restrictions and rules.
- First Time Homebuyers Credit. This credit certainly made the headlines last year. If you purchased a home in 2010, you may be eligible for a tax credit that could save you tax dollars.
- American Education Opportunity Tax Credit. This credit extends the credit formerly known as the Hope credit. If you sent a child to college in 2010, this credit might be for you!
- Dependent and Child Care Credit. This credit is available for working tax payers with dependents that require care during working hours. There are several requirements and regulations with this credit, but it is certainly worth the effort, if applicable.
The above list is only a portion of available credits. It is beyond the scope of this article to explore the entire list. It is important to discuss the applicability of tax credits with your tax professional for items applicable to your 2010 return. It could save you big bucks!
2. Maximize Retirement Contributions.
Did you know that the government will subsidize your retirement? That’s right, through tax deductions the government effectively is subsidizing your retirement. Many personal retirement accounts allow contributions up until April 18th, and those contributions can apply to 2010.
Contributions into tax-deferred retirement accounts, such as IRAs, SEPs, and SIMPLE IRAs reduce current taxable income; therefore reducing tax liability. For example, a couple in the 25% tax bracket who can make an allowable Traditional IRA contribution of $10,000 could save $2500 or more. That’s a 25% return on investment before this money is even invested! Best of all, this contribution can be made as late as April 18th.
There are a multitude of rules and regulations regarding allowable retirement contributions and deadlines, so it’s imperative to speak with a tax professional before making a decision.
3. Review Itemized Deductions
Schedule A (Itemized Deductions) is a common area for mistakes and omissions. In my experience, I have seen mistakes and omissions on this form due to a lack of effort from the taxpayer. For example, many people leave tax dollars on the table when it comes to charitable deductions. Charitable deductions can help reduce taxable income and ultimately decrease your tax bill.
Here are a few other areas that are often overlooked.
- Charitable Mileage. A deduction is allowable for qualifying charitable mileage. For example, if you drive to a local Goodwill to drop off items, the mileage to and from is deductible.
- Sales Taxes. For your 2010 return, you may deduct sales taxes paid for automobile purchases. Depending on the state in which you live, this deduction can save you several hundred dollars or more. Let your tax preparer know if you purchased a vehicle in 2010.
- Non-cash Charitable Contributions. Organizations such as Goodwill perform a great service to our communities. It’s important to properly substantiate non-cash contributions to maximize deductibility. Make sure to always get a receipt from the organization, create an itemized list of items being donated, and do not forget to properly value the items being donated to fully substantiate these types of donations. There are several documents available to assist taxpayers in determining the donated value of each item, including one on Goodwill’s website. It’s worth the additional effort.This is another area where a good tax preparer can come in handy. Don’t be afraid to ask for assistance from your preparer when it comes to properly valuing your donated items. Also, make sure to keep up with your mileage as well!
- Utilize Miscellaneous Items Deductions. Miscellaneous itemized deductions are subject to a 2% floor of adjusted gross income. This means in order to get a deduction you must present allowable deductions greater than 2% of your adjusted gross income. The number of employees working from home has increased in the past few years. An office in the home of an employed taxpayer is a fine example of a miscellaneous itemized deduction. Tax preparation fees, financial planning, unreimbursed employee expenses, and investment expenses are a few more examples of miscellaneous itemized deductions.
Most Taxpayers don’t have the time and energy to fully understand all the available deductions, credits, and retirement contribution options available. The key to properly handling one of the largest recurring expenses (taxes) in anyone’s financial world is by implementing a proactive tax strategy. But, even with good tax planning, numbers can change and life can get in the way. When that occurs, the above options allow taxpayers another chance to reduce their tax liability.
I utilize integral tax planning for my clients. I feel this area is one of the most important (if not the most important) part of the financial planning puzzle. Taxes can touch and impact (both positively and negatively) many aspects of our financial world, so it’s important to manage our tax liability. It’s important that taxpayers work closely with tax preparers.