This week’s blog in our Financial Planter series is written by Chris Vasquez, Guest Blogger, who is a Personal Finance Expert*
As the New Year begins, you may be wondering whether there are any measures you can take to lower what you may owe in taxes for 2016. While each taxpayer’s situation is different, here are a few ideas to consider that may possibly help to reduce your tax bill. Quick disclosure: I am a licensed financial advisor, not a Certified Public Accountant. I suggest talking to your CPA or tax expert after reading this article. Let’s get started…
Make a tax-deductible contribution to your Traditional IRA. With this option, you don’t actually have to make the contribution by the end of year, but it must be done before April 15th. You may be eligible to contribute up to $5,500 into a tax-deductible IRA. Eligibility depends on whether you have earned income, whether you are an active participant in a company-sponsored retirement plan, and most importantly, whether you have the funds ready to be invested. There are restrictions and rules you must play by, but this may serve two purposes: it allows you to invest for your future and it may reduce your tax bill.
Consider selling assets that show losses inside a taxable account. A taxable account is an account on which you must pay taxes on any realized income and gains earned inside the account, but there may be a way to reduce that tax bill if you have losses.
First, some definitions from Investopedia to help us distinguish the difference between “unrealized gain vs unrealized loss”:
1.) "An unrealized gain is a profit that exists on paper, resulting from an investment. It is a profitable position that has yet to be sold in return for cash, such as a stock position that has increased in value but remains open. That gain becomes realized once the position is closed for a profit, or if a mutual fund you own pays out a capital gains distribution - and thus creates a tax liability."
2.) "An unrealized loss is a loss that results from holding onto an asset after it has decreased in price, rather than selling it and realizing the loss. An investor may prefer to let a loss go unrealized in the hope that the asset will eventually recover in price, thereby at least breaking even or posting a marginal profit. For tax purposes, a loss needs to be realized before it can be used to offset capital gains."
Now, if there is a realized loss inside your taxable account, you may be able to write off all or part of it. Remember, you cannot write off short-term losses (a loss that you realize in under 365 days), only long term losses (anything more than 365 days). A capital loss results from selling an investment at less than the purchase price or adjusted basis. For example, say you purchase $10,000 worth of company XYZ and you sell XYZ in two years for $7,000. You would have a capital loss of $3,000 which you can write off against your income or gains inside your taxable account. You may ask, “What if this company XYZ goes down to $0?” In that case, the IRS allows you to carry forward the leftover portion indefinitely in $3,000 increments each year. This does not mean you want an account to have huge losses, but this may be an option for you to keep in mind.
Compile your receipts from your charitable contributions during the calendar year. A gift to a qualified charitable organization may entitle you to a charitable contribution deduction against your income tax if you itemize deductions. Make sure the organization you are contributing to has a 501(c)(3) classification under the Internal Revenue Code. To verify an organization is recognized as tax-exempt, ask them to see a copy of their IRS letter (some organizations list it on their websites) confirming their official status or simply visit the IRS website to search a list of organizations eligible to receive tax-deductible charitable contributions. Also, it’s important to keep track of your receipts to show proof of your charitable contributions throughout the year—this way if you’re ever audited by the IRS, you’ll have adequate evidence of your donation. This may lower your taxable income while you feel good that you contributed toward a cause you support!
Tax planning takes forward thinking to avoid being put in a situation of frustration when you actually file your taxes. Remember, you can always file your taxes early. If you owe money, then you don’t have to pay until the due date of April 15th without filing an extension. This may mean considering the various tax options you have throughout the year. Some of these options are a matter of saving more for future tax-deductible contributions, adjusting your federal tax withholding on your paycheck, keeping an eye on your taxable accounts for losses, among other options… Remember: April 15th comes every year!
*All content provided in this blog is supplied by Chris Vasquez and is for informational purposes only. Barclaycard makes no representations as to the accuracy or completeness of any information contained in the article or found by following any link within this blog.
Chris Vasquez, is a Financial Advisor with Lucien, Stirling & Gray Advisory Group, Inc. in Austin, Texas and is passionate about helping people achieve the life they want. Chris emphasizes that daily behavior with your finances is more important than knowing every detail about financial planning.
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