Many times we think about how to save on income taxes only once a year – just before we file. But really, it should be in the back of our minds all year long.
So here are a few steps you can take throughout the year that will help you improve your tax bottom line.
Too much withholding – When setting up your withholding at work, it’s tempting to have your employer withhold too much from your paycheck so you'll get a big refund come April. But don't overlook that the IRS gets to use your money for a year or so, and you don’t get any interest for the privilege. The fix: ask your employer for another W-4 form and look carefully at your exemptions. Consider paring them down, just enough so that you get more money in your pocket every paycheck, but don’t create a tax-due situation. Also see Adjust Your Withholding.
Slim down your taxable income – The time to start putting together a strategy for cutting your tax bill is in January, so you can make changes that can pay off for the entire tax year. First, make sure you keep written records of all contributions to charities, whether in cash, by credit card or in property (referred to as a “non-cash donation”). And in order to make sure your donations count, check to make sure the charity is a registered 501c(3) tax-exempt organization.
Invest in your retirement – Another way to whittle away at your taxable income is to contribute to a 401(k) or other employer-sponsored retirement plan. The idea is to defer the taxes on your contributions until that money is withdrawn. Your immediate benefit is less taxable income now. Also see Retirement Saver's Credit.
Deductions for all – There are some deductions that you can claim even if you don't itemize deductions. Among these are deductions for alimony, student loan interest and if you're in the military, moving expenses when relocating to a new assignment.
Take credit – Lastly, you definitely want to take advantage of available tax credits. Two deductions for college students (and their parents) are the American Opportunity Tax Credit for undergraduate expenses and the Lifetime Learning Credit for postgraduate expenses as well as job-related or lifetime learning classes. Homeowners may be able to qualify for the home energy credit. And by far, one of the most popular credits for taxpayers is the Earned Income Tax Credit or EITC. The thing to remember with the EITC is you’ll need wages or self-employed earnings of some kind to qualify. The credit varies with income and family size.