Tax Day is April 18th this year, due to the Emancipation Day holiday in Washington D.C. on the 15th. This is a good time of year to review your finances and think about your long-term tax strategy. Tax Day will be here before you know it, so know these important tax terms and start thinking about how you’ll work to lower your tax bill.
Tax Credits
A tax credit is a dollar-for-dollar benefit. It’s an amount that taxpayers can subtract directly from their tax bill. Some examples are the child tax credit and the earned income tax credit for low-to-moderate-income taxpayers.[1]
Tax Deduction
While a tax credit can decrease your tax bill, a tax deduction decreases your taxable income. For instance, a tax deduction is worth your highest marginal tax bracket, for instance, 28 cents on the dollar if you are in that marginal tax bracket. So, if you spent $100 on a tax-deductible item, you would get $28 back. Some common deductions for taxpayers who itemize are the charitable donation deduction, the mortgage interest deduction, and the home office deduction.[2]
Tax Deferral
Tax deferrals are what you see with a 401(k) or IRA, where you pay taxes at a later date. There are other ways to achieve tax deferral, such as an annuity. While deferring your taxes can be helpful, it can also potentially mean a big tax bill later on. For example, starting at age 72, you will most likely have to start taking Required Minimum Distributions (RMDs) from your tax-deferred retirement accounts,[3] which could mean a bigger tax burden.
Why You Need a Tax Minimization Plan in Retirement
Don’t forget about your tax bill – taxes could be one of your biggest expenses in retirement, even if you’re not earning a paycheck. Depending on your income, everything from your Social Security benefit to your investment gains to your retirement account distributions can be taxed. Have a plan for minimizing your tax burden in retirement, especially if you have a tax-deferred retirement account. There may be strategies you could use, like converting part or all of your traditional retirement account to a Roth IRA, bunching your itemized deduction, and using potentially tax-free life insurance proceeds. The right strategy depends on your unique situation, income, and assets, so there’s no simple one-size-fits-all solution.
[2] https://www.nerdwallet.com/article/taxes/tax-deductions-tax-breaks
[3] https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-required-minimum-distributions-rmds
The commentary on this blog reflects the personal opinions, viewpoints, and analyses of BML Wealth Management’s employees providing such comments and should not be regarded as a description of advisory services provided by West Wealth Group, LLC. The views reflected in the commentary are subject to change at any time without notice. Nothing on this blog constitutes investment advice. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Investing involves risk, including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Past performance is no guarantee of future returns.
Investment advisory services through West Wealth Group, LLC, an SEC Registered Investment Adviser. BML Wealth Management and West Wealth Group, LLC are affiliated entities. Insurance Services are offered through BML Wealth & Insurance Services, California Insurance License #0M15550.
We do not provide tax or legal advice, all individuals are encouraged to seek guidance from qualified professionals regarding their personal situation. Any references to protection benefits or steady and reliable income streams in this guide refer only to fixed insurance products. They do not refer, in any way, to securities or investment advisory products.
