Financial Frontier Logo

Learn how to reduce your tax bill by using smart deductions and tax credits. Discover ways to lower your tax liability and increase your tax refund.

Cover Blog

How to Save Money on Taxes by Using Smart Deductions and Credits

09 February, 2024

Taxes. Nobody likes them, but everybody has to pay them. But what if I told you there are ways to reduce your tax bill legally and ethically, without breaking any rules or risking an audit? Sounds too good to be true, right? Well, it’s not. It’s just a matter of knowing how to use smart deductions and credits to your advantage.

As a lawyer, I’ve helped many clients save thousands of dollars on their taxes by using these strategies. And today, I’m going to share some of them with you. By the end of this article, you’ll have a better understanding of how deductions and credits work, and how you can use them to lower your taxable income and maximize your tax returns. So, buckle up and get ready to learn some tax-saving secrets that will make you smile when you file.

What are deductions and credits?

Before we dive into the details, let’s clarify what deductions and credits are, and how they differ. Deductions are expenses that you can subtract from your gross income to reduce your taxable income. For example, if you earn $100,000 and claim $20,000 in deductions, your taxable income will be $80,000. The lower your taxable income, the less tax you’ll pay.

Credits are benefits that you can subtract from your tax liability, which is the amount of tax you owe. For example, if your tax liability is $10,000 and you claim $2,000 in credits, your tax bill will be $8,000. The lower your tax bill, the more money you’ll keep or get back as a refund.

Both deductions and credits can save you money on taxes, but credits are more valuable because they reduce your tax dollar for dollar, while deductions only reduce your tax by a percentage of your marginal tax rate. For example, if you’re in the 22% tax bracket, a $1,000 deduction will save you $220, while a $1,000 credit will save you $1,000.

What are some smart deductions and credits to use?

There are many deductions and credits available to taxpayers, depending on their income, expenses, and life situations. Some are more common and well-known, while others are more obscure and overlooked. Here are some of the smartest ones to use, based on my experience and expertise.

Tax saving deductions guide

  • Standard deduction: This is the simplest and most widely used deduction. It’s a fixed amount that you can deduct from your income, regardless of your expenses. For 2023, the standard deduction is $12,550 for single filers, $18,800 for head of household filers, and $25,100 for married filing jointly filers. You can claim the standard deduction if you don’t have enough itemized deductions to make it worth it.
  • Itemized deductions: Itemized deductions are specific expenses that you can deduct from your income, such as mortgage interest, property taxes, medical expenses, charitable donations, and more. You can claim itemized deductions if they add up to more than your standard deduction. However, some itemized deductions are subject to limitations and thresholds, so you’ll need to keep track of your receipts and records.
  • Above-the-line deductions: These are deductions that you can claim even if you take the standard deduction. They are also called adjustments to income, and they include expenses such as student loan interest, educator expenses, alimony payments, IRA contributions, and more. You can claim these deductions on Schedule 1 of Form 1040.

Smart tax credit strategies

  • Earned income tax credit (EITC): This is a refundable credit that benefits low- to moderate-income workers, especially those with children. The amount of the credit depends on your income, filing status, and number of qualifying children. For 2023, the maximum credit ranges from $543 for no children to $6,728 for three or more children. You can claim the EITC on Schedule EIC of Form 1040.
  • Child tax credit (CTC): CTC is a partially refundable credit that benefits parents or guardians of children under 17. The amount of the credit is $2,000 per child, plus an additional $600 for children under 6. However, the credit phases out for higher-income taxpayers. You can claim the CTC on Schedule 8812 of Form 1040.
  • American opportunity tax credit (AOTC): AOTC is a partially refundable credit that benefits students or parents of students who are pursuing a degree or other recognized education credential. The amount of the credit is 100% of the first $2,000 and 25% of the next $2,000 of qualified education expenses, for a maximum of $2,500 per student. However, the credit phases out for higher-income taxpayers. You can claim the AOTC on Form 8863 of Form 1040.

Reduce taxable income with credits

  • Retirement savings contributions credit (Saver’s credit): This is a nonrefundable credit that benefits low- to moderate-income workers who contribute to a retirement plan, such as a 401(k), IRA, or Roth IRA. The amount of the credit is a percentage of your contribution, ranging from 10% to 50%, depending on your income and filing status. The maximum credit is $1,000 for single filers and $2,000 for married filing jointly filers. You can claim the Saver’s credit on Form 8880 of Form 1040.
  • Health coverage tax credit (HCTC): HCTC is a refundable credit that benefits certain individuals who are eligible for trade adjustment assistance or pension benefit guaranty corporation payments, and who pay for qualified health insurance coverage. The amount of the credit is 72.5% of your premiums, up to a certain limit. You can claim the HCTC on Form 8885 of Form 1040.
  • Foreign tax credit (FTC): FTC is a nonrefundable credit that benefits taxpayers who pay income tax to a foreign country or U.S. possession. The amount of the credit is the lesser of the foreign tax paid or the U.S. tax liability on the foreign income. The credit prevents double taxation on the same income. You can claim the FTC on Form 1116 of Form 1040.

Maximizing tax returns legally

  • Claim all the deductions and credits you’re eligible for: This is the most obvious and effective way to maximize your tax returns legally. Don’t leave any money on the table by missing out on deductions and credits that you qualify for. Review the IRS website or consult a tax professional to find out what you can claim.
  • Adjust your withholding or estimated tax payments: This is a way to avoid overpaying or underpaying your taxes throughout the year. If you overpay, you’ll get a bigger refund, but you’ll also give the government an interest-free loan. If you underpay, you’ll owe money at tax time, and you may also face penalties and interest. To avoid these scenarios, you can adjust your withholding or estimated tax payments to match your tax liability more closely. You can use the IRS Tax Withholding Estimator or Form 1040-ES to help you with this.
  • Contribute to a tax-advantaged account: This allows you to reduce your taxable income and save for your future at the same time. You can contribute to a retirement account, such as a 401(k), IRA, or Roth IRA, and enjoy tax benefits, such as deductions, deferrals, or exclusions. You can also contribute to a health savings account (HSA), a flexible spending account (FSA), or a 529 plan, and enjoy tax benefits, such as deductions, exclusions, or tax-free growth.

Tax deduction planning for savings

  • Plan ahead for major life events: This is a way to take advantage of tax opportunities and avoid tax pitfalls that may arise from major life events, such as marriage, divorce, birth, adoption, death, education, retirement, or relocation. For example, you may want to adjust your filing status, claim new dependents, change your name or address, update your beneficiaries, or review your estate plan. You may also want to consider the tax implications of selling or buying a home, starting or closing a business, or making a large donation or gift.
  • Keep good records and documentation: This is a way to support your tax claims and avoid errors or audits. You should keep track of your income, expenses, deductions, credits, and payments, and keep receipts, invoices, statements, forms, and other documents that prove your tax transactions. You should also keep copies of your tax returns and supporting documents for at least three years, or longer if you have special circumstances.
  • Seek professional advice: This is a way to get expert guidance and support on your tax situation, especially if it’s complex or unusual. You can hire a tax professional, such as a certified public accountant (CPA), an enrolled agent (EA), or a tax attorney, to help you prepare and file your taxes, claim deductions and credits, plan for the future, and deal with the IRS if needed. You can also use tax software or online services to help you with your taxes, but they may not be able to handle all scenarios or answer all questions.

Conclusion

As you can see, there are many ways to save money on taxes by using smart deductions and credits. By following these tips and strategies, you can reduce your taxable income, lower your tax bill, and increase your tax refund. However, keep in mind that tax laws and rules change frequently, and your tax situation may vary depending on your circumstances. Therefore, it’s always a good idea to consult a tax professional or do your own research before making any tax decisions. Remember, the more you know, the more you save.

I hope you enjoyed this article and learned something new. If you did, please share it with your friends and family who might benefit from it. And if you have any questions or comments, feel free to leave them below. I’d love to hear from you. Thanks for reading, and happy tax saving!

Financial Frontier: Your Guide to Smart Money Management

Financial Frontier Logo

Newsletter

Receive Our Newsletter in your inbox every week.

You are now subscribed to our weekly newsletter. Thank you

© 2024 Financial Frontier, All right reserved.