Even if you've already earned most of your income for the year, you can still make some common-sense moves to reduce the amount of income taxes you owe in the current tax year.
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As the year ends, you may feel it's too late to save any money on taxes. However, even if you've already earned most of your income for the year, you can still make some common-sense moves to reduce the amount of tax you'll owe. If you own a business, you have access to an even greater variety of tax reduction strategies, but even individual taxpayers can take simple steps to reduce taxes.
While many factors are involved in making tax decisions, generally, the longer you can wait to pay taxes, the better. Jeff Gonzalez, a CPA and the CFO at Los Angeles-based Electric Entertainment, says employees can ask their employers to help save taxes. "If you're due a year-end bonus," Gonzalez says, "see if your employer is willing to defer that payment into next year, rather than paying it this year. The more income you can push into next year, the less tax you'll have to pay this year."
Although this strategy can save taxes in the current year, Gonzalez cautions that it may create tax problems the following year, particularly if you find yourself in a higher tax bracket. You'll have to balance any current tax savings with the taxes you'll have to pay in the future. However, if your priority is to reduce this year's taxes, the less income you can realize in the current year, the better.
Make an IRA contribution
Contributions to a traditional individual retirement account can be tax-deductible in the year you make them. While IRS rules on IRA contributions vary, you can generally deduct the full amount of an IRA contribution if you and your spouse aren't covered by retirement plans at work. If you are, your contribution might be limited based on your adjusted gross income.
If you qualify, an IRA contribution can be a great way to reduce this year's taxes. For example, if you are in the 35 percent tax bracket and make a $5,500 contribution -- the maximum amount for 2014 -- you can save as much as $1,925 in taxes. Best of all, you can contribute to an IRA all the way until tax filing day, typically April 15. Most other tax-saving strategies must be in place by December 31.
Gonzalez notes that "in addition to providing a current tax deduction, an IRA defers taxes on earnings and contributions until distribution," which can be a great way to save for retirement.
Take capital losses
If you lose money on a capital investment, such as a stock, you can use that loss to reduce your taxes. But you’ll have to sell the stock at a loss first, a process known as "realizing" a loss. Once you realize a loss, you can use it to offset any capital gains you have. This allows you to avoid paying tax on your capital gains.
If you have more capital losses than gains, the IRS allows you to use up to $3,000 of that excess loss to offset your ordinary taxable income. Coupled with the offset of your capital gains, taking capital losses can wipe out a significant amount of your tax liability.
Gonzalez warns against incurring a "wash sale" if you realize your capital losses. A wash sale occurs if you buy back the same or a "substantially similar" investment within 30 days before or after taking a tax loss. In this case, the IRS will disallow your loss for tax purposes.
If you own a business, you can take a deduction for a wide range of business-related costs. If you're keen on reducing this year's income taxes, bunch your expenses as much as possible into the current year. "If you have a major capital expenditure coming up," says Gonzalez," consider making it at the end of this year, rather than the beginning of next year."
Other common business strategies include paying your employees bonuses at year-end, rather than at the beginning of the year, and prepaying expenses. For example, if you regularly spend $5,000 per month to buy supplies, consider buying $15,000 worth at year-end to get you through the next three months. By making a bulk purchase at year-end, you'll get a deduction in the current tax year for that business expense.