The goal for taxpayers is to pay no more than the least possible tax owed. Avoiding taxes through legal tax strategies is not to be confused with illegal tax evasion. Legally avoiding taxes means using effective financial record-keeping, decision making, and planning strategies to reduce your total income tax. One example of good tax management is adjusting the amount of federal income tax withheld from your paycheck. If you receive a big income tax refund (over $500) each year, you are giving the federal government an interest-free loan. Evaluate the amount you have withheld and determine if you could use this money more effectively throughout the year to manage cash flow or invest for financial goals.
Tax laws continue to dictate how we structure our financial plans. As laws favor or disallow certain strategies, we need to make adjustments. Two examples of this phenomenon are Individual Retirement Accounts (IRAs) and home equity credit-line loans. When everyone was allowed a tax deduction for a Traditional IRA, this strategy was widely encouraged and used. Since tax laws restricted IRA deductions, many people automatically either turn to Roth IRAs or eliminate IRAs completely as a viable alternative. Now that tax deductions for non-mortgage consumer interest are not allowed, many people have turned to home equity credit-line loans to finance large purchases and deduct the resulting interest.
As tax laws change, adjust your financial plans to use strategies which are most favorable to your situation. Most of us are aware of the tax advantages of tax-deferred savings. The idea, of course, is to put off paying income taxes on money until you withdraw it in retirement when, possibly, your tax bracket may be lower. However, you have no guarantee that this will happen, especially if you are very successful at saving for retirement and accumulating assets. In addition, the tax laws are constantly changing. You should seek the advice of a Certified Public Accountant (CPA), Certified Financial Planner (CFP), or tax professional to gain insight into how tax laws will affect you.
Action Steps Tax Management Tax Management
- Learn about tax laws and use related strategies to reduce total taxes owed.
- Check your income tax withholding level and adjust, if indicated.
- Explore the advantages of different tax strategies.
- Utilize tax-advantaged and tax-deferred options when appropriate, i.e. IRAs, 401(k), 403(b).
- Maximize tax deductions (e.g., using home equity credit-line loans versus non-deductible consumer interest.
Other articles of interest:
Smart Uses for Your Tax Refund