Your tax refund is based on how much tax you pay in excess of the tax you owe. Basic tax planning strategies aimed at reducing the amount of your taxable income may increase the gap and thus your refund. In some cases, these strategies benefit you in other ways, offsetting future costs for health care or providing for retirement. Though some aspects of tax law can be complicated, even a beginner can focus on taxable income reduction.
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When completing your tax return, you have a choice between taking the Standard Deduction or itemizing your tax deductions to determine taxable income. The Standard Deduction is a dollar amount set by the government that you can claim without accounting for the expenses that typically make up a taxpayer's allowed deductions. Itemized deductions are actual expenditure you make for deductible expenses. Your actual deductible expenditures in a tax year may amount to more than the Standard Deduction amount. If that's the case, you'll likely pay less tax or get a larger refund using the itemized deduction method. However, the itemized method requires support in the form of receipts and other documents to demonstrate these amounts were actually spent. Consider a filing system to save receipts. Even if you choose to claim the Standard Deduction, having receipts on file will help you make an informed choice at tax time.
"Savings plans such as qualified individual retirement arrangements save you tax in the current year, investment earnings grow tax-free year to year, and provide income for retirement, when you may be taxed in a lower bracket," says James Windsor, certified public accountant from Ann Arbor, Mich. Many taxpayers turn to retirement plans for both the tax reductions now and income later. With a tax rate of 25 percent, for example, contributing $15,000 to a retirement plan may save you $3,750 on your current tax return. Investment earnings on money in your account are not taxed until withdrawal. Maximizing your annual contributions to retirement accounts may be an effective cornerstone for your basic tax planning strategy.
You may qualify for the Child Tax Credit of up to $2,000 per qualifying child (tax year 2023) if you have dependent children under 17 who meet the eligibility requirements.
While the size of allowable contributions to retirement plans is attractive to many taxpayers, there are other savings plans that also defer tax and, in some cases, help you avoid tax altogether.
Withdrawals from any of these plans that are not made for qualifying expenses may be taxable at your rate at the time of withdrawal.
Another way to reduce the tax you owe is to use tax credits that apply to your situation. Refundable tax credits not only reduce your tax but can be used to create a surplus, resulting in a refund.
For tax year 2021, the Child Tax Credit is expanded by the American Rescue Plan raising the per-child credit to $3,600 or $3,000 depending on the age of your child. The credit is also fully refundable for 2021. To get money into the hands of families faster, the IRS sent out advance payments of the 2021 Child Tax Credit beginning in July of 2021. For updates and more information, please visit our 2021 Child Tax Credit blog post.
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