(NEW YORK, NY, March 28, 2017) — Tax deadlines are quickly approaching and if you find yourself owing more to the IRS than you anticipated, keep in mind that there are “tax-favorable” ways to allocate funds that are beneficial for both tax planning and for savings. Wolters Kluwer Tax & Accounting highlights these in the Ways to Reduce Your Taxable Income slideshow.
“Making new investments in retirement, education and health care accounts can really bring down the amount of your income that’s subject to taxes,” said Mildred Carter, JD and Senior Federal Tax Analyst for Wolters Kluwer Tax & Accounting. “If you are not benefitting from tax breaks with current investments, it may be worth looking at other options that encourage savings and can be beneficial for tax planning.”
Checklist of Tax-friendly Investment Options
For taxpayers looking to get the most out of their investments, the following options may lower current taxes owed, allow investments to grow tax-free or a combination of both.
___ Maximize 401(k) matching contributions – If your employer offers matching 401(k) contributions, contributing to the maximum matched amount is a great first tax-savings investment step.
“If your employer matches three percent of your contribution, that’s free money to you as well as a significant amount of tax-free savings that many people may have a hard time putting aside on their own,” said Carter.
Roth 401(k)s also have increased in popularity. Like traditional 401(k)s, money grows tax-free. However, unlike traditional 401(k)s, individuals pay taxes on the initial contribution rather than on the gains at future distribution. Additionally, while traditional 401(k)s have required minimum distributions (RMDs) starting at age 70½, Roth 401(k)s do not have RMDs if rolled into Roth IRAs.
“Even with higher current taxes, contributing to Roth 401(k)s can be a good choice, especially for younger individuals who anticipate the value of their accounts will appreciate considerably over time,” Carter added.
The maximum amount an employee can contribute to a 401(k) remains unchanged for 2016 and 2017 — up to $18,000 and $24,000 for those age 50 and over. The same rules apply for 457 and 403(b) retirement plans.
___ Contribute to an IRA – Both traditional IRAs and Roth IRAs allow contributions to grow tax free. The maximum contribution also remains the same for 2016 and 2017— $5,500 for those under age 50. A $1,000 catch-up contribution also is allowed in each year for taxpayers 50 and older.
Contributions to traditional IRAs are tax deductible.
In 2016, if you are covered by a retirement plan at work, your deduction for contributions to a traditional IRA is reduced (phased out) if your modified adjusted gross income (AGI) is:
- More than $98,000 but less than $118,000 ($99,000 to $119,000 for 2017) for a married couple filing a joint return or a qualifying widow(er)
- More than $61,000 but less than $71,000 ($62,000 to $72,000 for 2017) for a single individual or head of household
As with Roth 401(k)s, contributions to Roth IRAs are not tax deductible, but there are no taxes on capital gains on distribution and no RMDs. The AGI restriction for Roth IRAs in 2016 for single filers is $117,000 phasing out at $132,000 ($118,000 to $133,000 for 2017). The restriction for married taxpayers filing jointly in 2016 is $184,000 phasing out at $194,000 ($186,000 to $196,000 for 2017).
Taxpayers have until April 18, 2017 to make an IRA contribution for 2016.
___ Contribute to a 529 education savings plan – Named after Section 529 of the Internal Revenue Code which created these plans in 1996, 529 plans allow you to make after-tax contributions to pay for college costs for your child or other family members. The contributions grow tax-deferred and the funds can be withdrawn tax free if used for qualified college tuition and other expenses.
Nearly every state operates a plan as well as many educational institutions. In most instances, the state plan you select does not limit your choice of schools. For example, a resident in Illinois can invest in a California plan and send the student to a university in New York. The amount put into a 529 plan may be tax deductible under some state income taxes and distributions for qualified tuition and expenses are not taxed.
Additionally, while a beneficiary has to be named in order to open a 529 plan, the beneficiary can be changed to another family member at a later date. For example, if the initially designated beneficiary earns scholarships or chooses not to go to college, a different family member can be named beneficiary.
“Because 529 plans are funded with after-tax dollars, you don’t have immediate tax savings, but avoiding future taxes on capital gains and dividends means you’ll have saved more to cover education costs,” said Carter.
___ Contribute to an HSA – High-deductible health plans continue to increase in popularity as people look to lower their monthly health care premiums. Taxpayers with these plans also can open Health Savings Accounts (HSA) and make pre-tax contributions and take tax-free distributions for qualified medical expenses for themselves and their families. These distributions can be made at any time, for example, they could be made to pay for qualified expenses in the near-term or saved to cover health care expenses in retirement.
In order to be a high-deductible health plan under IRS standards, for 2016 the plan must have a minimum annual deductible of $1,300 for individual coverage or $2,600 for family coverage (same for 2017).
For 2016, the maximum amount you can contribute to an HSA is $3,350 (increased to $3,400 for 2017) for individuals and $6,750 (same for 2017) for families. Those who reach age 55 by the end of the tax year are eligible for a catch-up contribution of $1,000. Contributions cannot be made by someone enrolled in Medicare.
As with IRAs, taxpayers also have until April 18, 2017 to make their 2016 HSA contributions.
About Wolters Kluwer Tax & Accounting
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