Maximizing your tax breaks became such a long topic, that I decided to split it into two postings.  Part 1 appears today.  The second and final part of the post will appear tomorrow.

We’re getting closer to when you have to think about your taxes.  So, it’s time to think about maximizing your tax breaks.  But, you say, it’s October and I don’t need to think about it until early next year.  Not true.

So, what exactly are tax breaks?  They are ways to legally reduced the amount you will owe in taxes.  They are comprised of tax-advantaged accounts, deductions, and credits that you may be entitled to.

One of the best ways to reduce your taxable income is to invest in 401(k)s or 403(b)s.  These are retirement options often offered by employers.  However self-employed individuals, without employees besides for their spouse, can also set up what’s called a Solo 401(k).  The money that is used to fund these types of investments are pre-tax dollars.  That means you won’t pay taxes on the money invested until you take it out.  Additionally, all earnings grow tax deferred.

What does tax-deferred mean?  Basically, it means that you won’t pay taxes on your investment earnings until you take it out.  Most people usually take it out during retirement.  The benefit of tax deferrals is that your investments will increase more rapidly over time due to compounding.  You’re not using any of that money to pay annual taxes.

You can use pre or post tax dollars to fund Traditional IRAs.  Just be aware that if you use pre-tax dollars to fund the Traditional IRA, the contributions are usually tax deductible.  That means it will lessen your taxable income for the year.

The standard deduction is now a lot higher than it used to be. As a result, very few people qualify to itemize their deductions. But, if you qualify, you can still deduct mortgage interest, property taxes, charitable donations, medical expense (as long as they’re over 7.5% of your income) and state and local taxes (a.k.a. SALT) up to $10,000.

Moral of the story:

This is just a brief overview of some of the ways to maximize your taxes.  I’ll have more ways tomorrow.