How To Reduce Income Tax? (10 Strategies To Save You Money)

How To Reduce Income Tax

Regardless of whether you make a lot of money or a little bit of money, a common concern is to reduce the income tax you pay. Most individuals don’t want to pay income taxes, but it’s a hard fact of life.

However, even though you can’t escape it, there are ways you can reduce your income tax.

How so? 

There are certain things you can do to not only reduce income tax but also do so while building wealth. When it comes to saving and investing, there are almost as many strategies out there as there are people offering them.

It is not always simple to trim your income tax, but it is doable for almost every taxpayer with a little bit of forethought, planning, and professional advice.

Below is a list of ten suggestions that consists of some of the best practices that will help you to reduce your income tax.

1. Start A Savings College Fund For Your Child Or A Loved One

Contributing to a college savings account for a child or grandchild is a charitable way to lower your taxes while also helping someone else. There are limits and stipulations to how much you can reduce your taxes by using this method.

However, this is a significant way to show someone you love that you are looking out for them.

Before opening a college savings fund, be sure to get some professional advice on factors such as optimal contribution amounts, management fees, and stimulations on withdrawing money when the time comes.

This is one of many examples where you can benefit yourself by being able to reduce your income tax and be generous to someone else.

2. Lower Your Taxes By Diversifying Your Source Of Income

This refers to the sources of income you receive. Over the years as you continue to invest and save, a larger portion of your income should be represented by your investments.

As your investments and savings account for a larger percentage of your income, your tax rate decreases. You can reduce your income tax because you are not paying income tax from a job. Instead, you are paying capital gains tax on your investments, which is a lower rate.

This is why it is so important that people save and invest from as early an age as possible. It not only benefits you over the long run but it can also contribute in small but significant ways to help reduce your income tax as your investments grow.

3. Donate To Charity (Tax Benefits For Your Contributions)

Giving gifts in the form of a charitable donation is a one time-tested way to reduce your income taxes. Furthermore, it is often one of the simpler ways to do so.

Best of all is that you are giving back to the community in some way. Similar to any other investment or financial matter, you should do your due diligence before donating.

That means doing your homework, researching the organization you are planning to contribute to, and finding the most effective way to donate your money.

Before donating be sure to check that the organization is a registered charity and provides tax benefits for contributions. Be careful because not all charitable organizations do so.

One example would be political-related causes. For example, these organizations will often take donations through campaigns but they rarely offer tax benefits for contributing.

4. Sell Investments That Are Losing You Money (Loss Harvesting)

Have you invested any money in the stock market? Maybe now is the time to evaluate your stock portfolio and sell those that are losing money.

Why? Because this helps you reduce income tax by lowering your taxable income, as well as decreasing your financial stress. It’s that simple.

This method is called loss harvesting. Like many strategies, it is a sophisticated practice. By selling a stock at a loss, you can offset taxes on your income as well as gains from other stocks.

This strategy can benefit all experience levels of investors. Including the average investor if done effectively. 

5. Optimize Your Deductions (Have A Professional Help You)

Speaking of deductions, you need to know what can, and cannot be deducted when it comes time to pay your taxes.

As you are probably noticing, one theme of this article is how important it is that you get some professional advice.

While there are many do-it-yourself projects you might be interested in, taxes are one area where you should be consulting a professional. It will cost you some money upfront, but the potential benefits strongly outweigh the initial cost of a professional.

Whether you run a business on the side or you have engaged in some extensive home improvements, there are many tax deductions out there waiting to be discovered by you. However, you have to know where to find them.

6. Pay Your Student Loans Or Medical Bills (Certain Interest Is Tax Deductible)

You are going to pay your student loans and medical bills regardless, but there are tax advantages if you pay these items off over time.

The interest you pay on student loans or medical bills is tax-deductible, up to a certain amount. It might give you a bit more incentive to continue to pay those bills off each month, knowing that it will help to reduce your income tax.

Be sure to determine what the coverage and annual limits are for these kinds of deductions and plan accordingly.

7. Utilize Flexible Spending Accounts For Healthcare Costs

Another option to reduce your income tax is a flexible spending account. These accounts let you put money into a savings account, such as for healthcare costs.

The benefit is that you don’t pay taxes on the money you save, which lowers your taxable income for that year. However, there are some pretty stringent stipulations attached to these kinds of accounts.

Often times they come with a range of rules, one of which tends to be that you are required to spend the money you put aside in the plan year.

Some employers may allow you to carry over a certain amount of funds to the next year. Another option your employer may provide is a 2.5 month grace period to use up the money you have saved.

As you can see, it is important to plan how much you are saving in a flexible spending account so you aren’t putting in more money than you think you will spend.

You are not going to build up a vault of funds for healthcare needs or other uses. However, a flexible spending account can lower your overall taxable income and save money during the year on routine health needs.

8. Put Money Into Your 401k

There are many benefits to contributing to your retirement accounts such as your 401k. However, similar to many tips in this article, this is dependent on a range of factors including your income level.

One thing that is a fairly universal benefit accessible to you is an individual retirement account – ROTH or traditional. These accounts, enable you as the taxpayer to contribute towards your retirement and help you reduce income tax.

Best of all, these accounts allow taxpayers of almost any income level to contribute.

Traditionally, the ROTH IRA is recommended for people who see their income rising over time and who already have a fairly substantial starting income.

Rather than lowering your taxable income, as a traditional IRA contribution does, a ROTH IRA makes you pay taxes on your contributions now in the promise of a tax-free return later.

As you can readily see, the income-lowering benefits of the traditional IRA or the more forward-looking benefits of the ROTH IRA largely depend on your current and projected financial situation.

9. Utilize All Available And Eligible Tax Credits  

You need to make sure that you take advantage of tax credits in an optimal way. This often takes some strategizing.

While most people qualify for the general tax credits, that doesn’t mean you should utilize them over more targeted benefits to your specific situation.

Because every investor’s situation is so unique, it is best you consult with a financial planning advisor. That way you can be sure you are maximizing the eligible tax credits available to your situation and reaping all the possible advantages.

For example, consider someone who is self-employed, makes a substantial income and utilizes a home office for their work. They might be able to take advantage of massive tax advantages because of this unique status.

Alternatively, if you are elderly or disabled, you might be eligible to receive a tax credit depending on your income amount.

Filing taxes is painful, sure, but leaving money on the table is much worse. However, most people do leave money on the table because of a lack of research or understanding about which tax credits they are eligible for.

Talk to your financial advisor today to be sure you are taking advantage of all the ways you can reduce your income tax for your unique situation.

10. Tax-Free Income Sources Like Bonds

One of the easiest ways to earn money off of your investments and not pay any taxes later is to purchase bonds. There are a variety of different options from federal, to state, to municipal bonds.

Each level gives you a different kind of return but also a varying level of risk. Nonetheless, bonds are often seen as some of the safest investments out there, and for good reason. 

Often backed by the credit of the issuer, bonds pay reliable rates of return. For example, in the case of the federal bonds in the USA, they are backed by the United States of America government.

Additionally, bonds often have very low default rates. There are even some bonds and securities that can actually lower your income now which can provide additional benefits.

As always, consult your financial advisor to see what the best option is for you.

The realization that there are 86,400 seconds each day. What are you doing today, so that tomorrow you are a step closer to where you want to be? If not now, then when?

eightysixfourhundred, make them count

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Hi, I'm James! I want to help you make the most of your day by providing helpful tips and informative articles on motivation, time management, productivity, and happiness.

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