3 Ways to be Tax Smart All Year Long

Do you know the difference between tax preparation and tax planning?

We can help.

Because while they sound similar and are sometimes used interchangeably, they are two very different things.

Tax preparation is more short term. It involves:

• Gathering and organizing one year’s worth of paperwork.
• Calculating whether you overpaid or underpaid your taxes for the previous year.
• Submitting your tax return to the IRS.

Tax planning, on the other hand, is:

• A long-term, strategic approach to paying taxes.
• Ideally, it’s on-going, and it helps your money become more tax efficient, both now and in the future.

Tax planning is something you should be thinking about all year long – even after “Tax Day” has come and gone.

Here are 3 things you should consider that could save you serious money and stress down the road.

1) Be tactical about giving

It’s pretty common to go into “charitable giving mode” toward the end of the year when the holidays come around.

But do you realize that a lot of charities close their fiscal year at the end of June?

Because of this, it could be worthwhile to either shift your donations into the spring, or, donate both in the spring and at year-end.

Remember, you don’t just have to give cash. Other options include:

• Donating appreciated stock.
• Giving a qualified charitable distribution (QCD) from your IRA (if you’re taking Required Minimum Distributions (RMDs)).
• Naming a charity as a beneficiary of your IRA.

However, since The Tax Cuts and Jobs Act (TCJA) of 2017 essentially doubled the standard deduction, there’s a good chance you’re not itemizing your tax return and therefore won’t be able to take advantage of charitable deductions from year to year.

The solution?

Consider a strategy called ‘bundling’ that accelerates your donations.  

2) Don’t ignore the new W-4

Remember that W-4 withholding form you filled out on your first day of work? The one that tells your employer how much of your paycheck goes to taxes?

You may not remember, but it’s something everyone has-to fill out.

That form is back in the spotlight thanks to the TCJA. The IRS plans to release a brand-new W-4, and its goal is simple: to make sure you don’t owe at tax time or get a refund.

The new version will likely require some basic information to complete, including:

• Filing status
• Earnings from all jobs
• Non-wage income
• Mortgage interest
• State and local taxes
• Charitable contributions

This can be big news for your retirement savings, especially if you’re used to getting a refund every April. This new, more accurate W-4 calculation should mean your paycheck is a little bigger every month (since you shouldn’t be overpaying the IRS as much).

We recommend that you use this to your advantage by siphoning that extra money to your outside investments or increasing your 401(k) contributions.

Expect to see the re-designed W-4 later this year. Even though early reports suggest it could be a little complicated, we highly recommend taking the time to fill it out as accurately as possible so you get the most out of the new tax law for years to come.

3) Diversify

We encourage investment diversification, so it can also be a smart move to diversify when you pay taxes on your investments.

What do we mean by this?

Different types of retirement accounts have different types of tax structures. Just a few examples are:

• Traditional 401(k), IRA, SEP IRA, Solo 401(k): You get a tax break on contributions, then pay ordinary income tax on withdrawals in retirement.
• Roth 401(k) and Roth IRA: Contributions are made with after-tax money. Withdrawals on earnings are tax-free once you’ve held the account for 5 years and are at least age 59½. (Contributions can be taken out at any time tax-free.)
• Taxable investment account: Any money you invest in a taxable investment account, such as a mutual fund, goes in after-tax. Earnings are subject to capital gains taxes. Long-term capital gains rates have historically been more favorable than ordinary income tax rates.

No one knows what the various tax rates will be in the future. By thinking ahead and spreading out your tax burden now, you can cover all potential scenarios.

This strategy could even entail a Roth conversion; that is, converting a traditional IRA into a Roth IRA.

Tax diversification, of course, depends on your current tax situation, potential future tax bracket, income, and even the state you live in – but all avenues should at least be explored.

As much as you might dread hearing it, taxes shouldn’t only be on your mind from December through April. Forward-thinking and pre-emptive planning all year round – especially as part of your overall retirement strategy – can put you on a path to retire better.