Now that tax season is finally over, it’s time to start thinking about next year. It’s the financial moves we make (or don’t make) throughout the year that set us up for success or failure in the following tax season.
Keep on reading to find out what credits and deductions you may be able to qualify for to save on taxes next year, along with nine ways to reduce your bill.
9 things you can do now to reduce your tax bill next year
1. Contribute as much as you can to a 401(k), 457 or 403(b) plan
There’s a general rule regarding taxes that says the more income you have, the higher your taxes will be. So to get around this, you can actually have less income and lower your taxes, but it doesn’t mean you earn less to qualify for a lower tax rate.
Adjusted Gross Income (AGI) is the benchmark for calculating your tax. The greater your AGI is, the higher the tax gets. The critical takeaway from AGI is the word adjusted. The key to reducing your taxes lies within this. If you make higher contributions to your 401(k) or any other retirement plan, your pre-tax (AGI) income will be lowered.
The more you contribute towards 401(k), 403(b), or 457 plan, the lower your AGI will be, meaning your taxable income will be lower as well.
There are two main advantages of doing this:
- your taxes are lowered as you reduce your taxable income
- you don’t end up paying taxes on the investments returns until you retire
2. Make student loan payments
Students are encouraged to pay for college without taking a loan if they can, but if the situation forces their hand to opt for a student loan, then there is still a silver lining, as the interest you pay on a student loan is beneficial towards lowering taxes.
As of March 2023, around 70% of the graduates from across US colleges have student loan debt. For the 2022 tax year, you can deduct up to nearly $2,500 of interest per year paid on your student loan debt from taxes. However, if you’re earning more than $90,000 a year, you cannot claim any deductions. Similarly, if your taxable income is between $80,000 and $90,000, your deduction gradually phases out. For graduates filing jointly, the limit is $180,000 and the phase-out range begins at $160,000.
So assuming that you’re in the 25% tax bracket, a full claim of the $2,500 on interest deductions could cut your tax bill by $625.
3. Purchase a house
If you’re thinking of purchasing a home, it might end up as tax savings, as property taxes and mortgage costs (interest payments) are deductible.
The new tax law has introduced changes to whether you’re eligible for a break for purchasing a house. For tax years to 2025, you can deduct interest payments on mortgage debts up to $750,000.
Similarly, property buyers can deduct up to $10,000 of state and county taxes including state income tax and property taxes.
But to take advantage of these limits, you will have to itemize your deductions on Schedule A. You can opt for either itemized deductions or standard deductions, whichever one gives the highest tax break.
4. Using external help to file for returns
If you have a simple tax situation, you can opt to file on your own or by using tax preparation software. We recommend the following tax software:
- H&R Block – best for those who want the most advanced hybrid in-person/online software
- TaxAct – This is the cheapest tax software, so best for those with simple returns
- Liberty Tax – one of the best if you’re looking for in-person and online tax filing
- E-file – If you think you’re susceptible to an audit, E-file is best.
But if you have a complicated tax situation owing from multiple income streams or investments, you could opt to hire an expert who can identify opportunities that were unknown to you.
Some tax experts even offer a money back guarantee, whereby you’re reimbursed by the tax preparer in case you dished out more than you should have.
A qualified tax preparer might be a better choice in these situations as they are required to be up-to-date with any changes made in the tax law. A non-credentialed tax preparer might charge a lower amount but might not be up to date with the latest changes. You can use the IRS database to seek our qualified and credentialed tax preparers.
5. Carefully choose your filing status
Your filing status plays a vital role in your taxes as it ultimately determines your standard deductions and the applicable tax rate.
For instance, for tax year 2022, the deduction for a single filer is $12,950, but a taxpayer who claims to be the head of a household can take a standard deduction of up to $19,400.
Depending on your situation you may choose between two distinct or a single option from the following filing statuses:
- Single. This filing status applies to all those taxpayers who are not yet married or living separately under the law (even divorced).
- Married Filing jointly. Individuals who are married can file for a joint return with their partners, and in case of the demise of a partner during the tax year, an individual can still file for a joint return for the relevant year.
- Separate filing for a married couple. A married couple can opt to file separately, but this hardly results in a lower tax bill.
- Head of a household. This status applies to unmarried individuals supporting a dependent such as a child or parent.
- Qualifying widow with underage children. This status applies to taxpayers whose partner passed away during the current tax or the previous two years and has a dependent child.
6. Take advantage of tax loss harvesting
If you have loser investments in your portfolio that don’t have a bright future, you can sell them and offset the losses against capital gains and income tax. Tax loss harvesting can deduct taxable income by thousands.
And the best part is, the strategy can be carried forward indefinitely. Meaning if you sell your losing investments in the current year, you can utilize tax loss harvesting in subsequent years if you realize any capital gains. Or it can even be used to offset your regular taxable income.
The strategy is extremely beneficial if your cash flows are going to be higher than usual and you want to avoid paying a higher tax.
If you use a robo-advisor, tax loss harvesting is typically included automatically for you.
7. Store your donation receipts
There’s a silver lining beyond feeling good about donating to charities. You can claim tax deductions against your donations to charities that are listed by the IRS, so it’s imperative you save the receipt when dishing out donations to be applicable for a tax break.
The documents required for being eligible for a tax break are as follows.
- Cash donations of under $250. A bank record (such as a statement or canceled check will do) containing the name of the charity and the amount of the donation along with the date.
- Cash donations for $250 or higher. In this case, the IRS requires a written acknowledgment from the charity which must contain the name of the organization, the amount donated, and a written acknowledgment that the donator didn’t receive any goods or services against the contribution from the organization.
Save all receipts for these donations including any property or vehicle donations.
8. Pursue further education
Your tax bill could potentially be lowered if you opt to pursue a college degree. There are education-related expenditures that are eligible for a tax break.
The American Opportunity Tax Credit and the Lifetime Learning Credit are such examples. The American Opportunity Tax Credit is available only for the initial four years of undergraduate degrees, and the qualifying criteria are that you must be enrolled at least half-time in a degree awarding program. The program offers $2,500 in a tax break, and if you still have an amount owing after your taxes are zero, you can refund 40% ($1,000) as a refund.
The Lifetime Learning Credit is more general and broader, and there’s no limit on the number of years you can lay claim, and you don’t have to be listed in a degree awarding program. You can claim up to $2,000 per year.
9. Make energy-efficient home improvements
You qualify for a tax break by opting to make your home more energy efficient. There’s a ton of renewable energy tax credits available for homeowners that you can apply for in the current 2022 tax year.
For example, there are tax breaks available for installing solar panels, swapping heating and cooling appliances for newer (more energy-efficient) versions, adding insulation to your home to reduce your energy needs, and more.
For more upgrades and improvements, you can take a tax break equal to a maximum of 30% of the cost of the project. The claim applies to both primary and secondary residences.
These are just a few of the things you can do to reduce your tax bill for next year. If you want to find more hacks, you may want to consult a tax advisor.
For now, focus on lowering your adjusted gross income by maxing out the retirement accounts you can. After that, utilize these other tips for making next year the most tax-friendly year ever.