Monday, March 28, 2016

2 tax strategies to help you keep more of what you earn

We're less than a month away from Tax Day. For those who have filed, we say "Congratulations!" To those who still have tax work ahead, our thoughts are with you.
Whether you're still finishing your return or if you've already filed and want to learn how to lower next year's tax bill, consider implementing these two strategies as part of your tax planning.
Bunching Your Deductions
If you have a lot of personal deductions, you may routinely opt to itemize your deductions if your deductions exceed the standard deduction. Rather than simply itemizing every year, a better strategy may be to "bunch" your deductions. By bunching, we mean itemizing as many deductions as you can in one year, then taking the standard deduction the next year.
To illustrate how beneficial this strategy can be, consider a couple filing jointly that pays $6,500 in state income and property taxes and donates another $6,500 to charity every year. If they itemize over a two-year period, they'd take $26,000 in deductions.
Now, let's imagine that this couple, fresh from a meeting with their tax adviser, implements a bunching strategy. Let's say that rather than paying $6,500 in taxes and charitable contributions this year, our hypothetical couple prepays an additional $2,500 in taxes ($9,000 total) and an additional $5,500 in charitable donations ($12,000 total) for a grand total of $21,000 in deductions this year. Next year, the married couple would simply claim the standard deduction. For the sake of simplicity, we'll assume that the standard deduction will remain constant next year at $12,600.
By bunching, this couple was able to deduct $33,600 over this two-year period—over $7,000 more than if they had itemized both years without bunching their deductions.
Utilizing Roth Conversions during Years with Lower Income
This time of year, many people are working diligently alongside their accountants in order to lower their tax bill. So it may sound a bit strange to elect to increase your taxable income—and, consequently, increase your tax bill—in a given tax year, but the discomfort of a higher tax bill this year can offer you some significant long-term benefits down the road. If you expect to have a reduction in income this year, then you may want to consider converting some of your tax-deferred income into a tax-advantaged Roth IRA. And while it's too late to increase this year's tax bill with a Roth conversion, it's not too early to begin thinking about lowering next year's tax bill.
Making Roth conversions during lower income years offers two big advantages. The first is that your tax-deferred money carries a tax bill that you or your beneficiaries will have to realize at some point. By proactively converting that tax-deferred income to a Roth IRA, you're able to better ensure that the tax-deferred money is taxed at a lower rate than if distributions are taken at some point in the future when your income may be higher.
The second benefit is that money in a Roth IRA is exempt from required minimum distributions. The RMDs require you to take distributions on your tax-deferred money every year once you reach age 70 1/2. If you have a large amount of tax-deferred money, your taxable income may surge in your 70s, even if you don't need the money. By making Roth conversions now, you're the one in control when it comes to deciding when to withdraw that money from your savings.
Outside of contributing to a health savings account or a traditional IRA, there isn't much you can do to reduce your 2015 tax bill. However, if you engage in year-round tax planning, you can put yourself in a much better position to avoid overpaying on your taxes next year.
This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax adviser.
Traditional IRA account owners should consider the tax ramifications, age and income restrictions in regards to executing a conversion from a traditional IRA to a Roth IRA. The converted amount is generally subject to income taxation.