“There’s one for you, nineteen for me,” wrote George Harrison of The Beatles. He was talking about the taxman.
If you’re a single person with no dependents, you might feel the same way come April 15, 2010. Because single people with no dependents don’t get to take advantage of some of the richest deductions and credits that help lower your overall tax bill.
Unless you work for yourself, most of the taxes you pay to the federal government come right out of your paycheck. Some people think the IRS does them a favor when the government sends that big tax refund check every year. What they don’t realize is that a refund is just another way of the government telling you they collected too much. That’s like going to the grocery store and giving the checkout guy a $20 bill for $10 worth of stuff and having him tell you he’ll send you the change next year.
Whether you get a refund or end up owing in April is irrelevant. Go back to last year’s 1040 and get a good look at what you ended up paying to the government. And follow the steps below to try to take a smarter approach in your dealings with Uncle Sam.
Sign up for a Flexible Spending Account at work
If you work for a company that offers a Flexible Spending Account (FSA) you should sign up for it. An FSA allows you to set aside a portion of your income tax-free to pay for qualified medical expenses such as deductibles, co-payments and coinsurance for your health plan. It also includes medical expenses not covered by the health plan, such as dental and vision expenses and over-the-counter drugs and medical supplies like contact lens solution. So how much can you save? Check out the calculator at the Federal Flexible Spending Account Website. It will give you a good idea as to how much money in tax savings an FSA will put in your wallet.
Resume your retirement plan contributions
2008 was a nightmare for the stock market. How bad? If you lost 30% of your 401(k) then you did better than a lot of people.
So many people scrapped their retirement savings like that old used car they kept pumping money into. If you did, that’s a shame. 2009 gave us some big gains in the market and if you bought in during the lows of 2008, you made a pretty nice return through the end of this year. You might not be back to even yet, but this isn’t money you’re going to spend in the next five years. For most of us, this is money we’re going to spend decades from now. And a diversified portfolio of stock and bond funds still gives us the best chance for the kind of growth we need to outpace the rising cost of goods.
Those short-term losses also don’t look so bad in light of the fact that a good bit of that money would have gone to the IRS anyway. (When you put it that way, it almost makes you feel good.) If you have a 401(k) at work, your contributions come out of your gross pay. So it ultimately lowers your income for federal tax purposes. It’s the easiest, smartest way to lower your tax bill.
If you don’t have a 401(k) at work, look into a traditional IRA. If you qualify, contributions are tax deductible
Consider buying a home
In case you haven’t noticed, the federal government still wants you to own a house. Here are a few of the incentives they’re offering:
* Generally, the interest you pay on your mortgage is tax deductible.
* The local real estate taxes you pay are tax deductible.
* They’ve extended the $8,000 first-time home buyers tax credit until April 1, 2010. And they’re giving a $6,500 tax credit to current owners if they buy a new home by April 1, 2010.
Now don’t go out and buy a home just to lower your taxes. But if you have some money saved for a down payment, you’re tired of renting and you’re getting killed in taxes, then buying makes sense.
It’s also a good buyer’s market. Don’t get spooked by the nightmare foreclosure stories over the past few years. Remember, the vast majority of people in our country continue to pay their mortgages on time. (And most of the ones who didn’t were in Florida, California, Nevada, and Arizona.) A good home in a good neighborhood will hold its value.
Take a second look at the home office deduction
It used to be a little-used deduction that was designed for self-employed people. In the past, many people were reluctant to take it as it was often viewed as a “red flag” for an audit.
But new technologies mean more and more people are working from home. So even if you work for a big company and your primary office is in your home, then you could be eligible for this deduction. And changes to the rules in recent years mean it isn’t looked on as the audit trigger it used to be.
You’re eligible for the deduction whether you are an owner or a renter. But keep in mind, you can’t just set up a computer in a corner of your bedroom and call it your office. There’s got to be a space in your home that is exclusively and regularly used for your office. (Hint: If there’s a pool table in the room it probably won’t qualify. Unless you’re a billiard ball wholesaler.)
Consider a Roth IRA conversion
This is the one tip that will actually increase your tax bill in 2011 (and possibly 2012), with the goal of decreasing the taxes you pay years down the road.
Let’s say you have money sitting in a traditional IRA. (Maybe it was a previous employer’s 401(k) that you rolled over.) If you convert that IRA to a Roth IRA, you will have to pay income taxes on the amount that you convert. But all earnings you receive on that money will be tax-free when you take it out (so long as it’s a “qualified” withdrawal, which generally means you’re over 59 1/2.)
And the restrictions on making such a conversion ease up in 2010. Currently, if you make $100,000 per year or more then you are ineligible for an IRA conversion, but that rule is being suspended in 2010. If you make a conversion in 2010, you will be able to pay half of the tax you owe in 2011 and the other half in 2012.
It’s not necessarily right for everyone. But if you think you may end up with a lot of money in retirement that hasn’t been taxed yet (like your 401(k) or traditional IRA money), wouldn’t it be nice to have cash that you’ll be able to take out income-tax-free?
2010 Tax Planning Guide Provided by AskMen.