Saturday, April 24, 2010
The book of the week was Easy Ways to Lower Your Taxes by Sandra Block and Stephen Fishman. I picked up this book because paying taxes, like many people, is my number one expense. Because I pay so much into taxes currently, it's only reasonable to try and understand everything I can about the tax code to minimize my tax liability as much as possible.
I have a pretty good knack for understanding different aspects of money and also how to organize my financials in an effort to net as much savings as possible. That being said... I don't have a good understanding of the tax code. I've got the basics down, but the tax code is so ridiculously expansive there is no way to know it all. To put it into an understandable context... The King James Bible has 1,472 pages... and the US Tax Code is 13 times larger with a total of 20,000 pages. So, after reading this book I know that this is one area of finance that I do not have the time or patience to fully grasp. I am in the process of interviewing and finding a good CPA for myself and I think most people would be best served doing the same.
However, even if you are taking the route of using a Tax Professional to handle that aspect of your life, you still need a basic understanding of taxes. If you have this you can fill out your W-4s to suit your needs, buy things in an effort to minimize expenses, and even use children as a deduction at the most opportune times. I am going to jump around and touch just a few tax items, because again, the tax code is so huge I don't even know where the beginning is.
First off- You have deductions and credits. People get these confused all the time. A deduction reduces your taxable income, whereas, a tax credit directly reduces your tax liability dollar for dollar. So if you are in the 28% tax bracket and you have a $1000 deduction, you'll end up with a $280 tax reduction. However, if you have a $1000 tax credit you will have a $1000 tax reduction. Credits are great, but they are few and far between. You can get credits for things like: having your first baby, buying a hybrid car, adding new insulation to your house, and cash tuition payments. The most recent credit that ends this month was the $8000 housing tax credit for purchasing a new home. Credits don't offset the cost of what you are purchasing, but if you are buying something, say a hybrid car, do some research and buy one that will get you a credit. In the case of a hybrid car you would get a $1000 tax credit and you can in a round-about-way reduce the cost of the car by that much.
I have helped people fill out W-4s a lot in the jobs I have had and it seems that few people know how to fill one out with complete confidence. I'll help here... If you are filing single you have a standard deduction of $5,700 or if filing married you'll have a standard deduction of $11,400. Additionally, for your personal deduction you will have an additional deduction of $3,650. If you are filing single you will have your single deduction and a deduction for yourself totaling $9,350. If you have 2 children and are filing as married then you will have a $26,000 deduction. It's all more complicated than it needs to be. What you need to know is for the number you put next you your deductions you'll be counting up each deduction you are going to claim at tax time. I recommend using this withholding calculator from the IRS if you have any questions on whether yours W-4 is correct, and if it's not you can always turn in a new one.
A couple of tax credits that aren't used as effectively as they could be and sometimes are overlooked are the Lifetime Learning and Hope Tax Credits. These tax credits are for cash payments for secondary education. Don't overlook them. Additionally, use them correctly. Some people they that it makes the most sense to use their child as a deduction for as long as possible, even the time they are in school. Well, that's not entirely accurate. If you are paying for your child's schooling the credit can be worth more than the deduction of a child. If your adjusted gross income is $116,000 or above for married or $58,000 or above if you are single you are not eligible to claim these credits. So in this case it would make more sense to not claim your child as a deduction and let them claim these credits. However, if the child doesn't have much income there won't be much of a credit, so again it's something to think about and run past your CPA.
As you can tell from this little snippet of knowledge, the tax code is confusing and massive. It's best to let a professional handle it. They will be able to save you a lot of money in the long run, and ultimately, justify the costs of hiring them, trust me. Additionally, Jackson Hewitt's and H&R Block's do not have professionals... Ask a around and get a real CPA. But as always, arm yourself with some basic knowledge, so you can verify you are working with the right person. This book is pretty good to arm yourself with some basic knowledge, it's very dry, but they do their best to alleviate that with examples and diagrams. If you have any questions on the book don't hesitate to ask. I would be more than happy to help anyone that wants it.
Posted by Trevor Flannigan at 8:53 PM