As tax season approaches, many people focus on gathering documents, figuring out deductions, and calculating potential refunds.
However, there’s another often overlooked aspect that can have a significant impact on your tax bill: the elections you make on your tax return.
These “elections” refer to choices within the tax code that allow you to select options based on your unique financial situation. Each election can either reduce your tax liability or increase it, depending on how you choose.
By making the right decisions, you can save yourself a considerable amount in taxes. Let’s explore some common areas where strategic tax elections can lead to substantial savings.
1. Filing Status: Choosing Wisely Between Joint And Separate Returns
For married couples, one of the first decisions to make is whether to file jointly or separately. While the default choice is often to file jointly due to the typically lower tax rate and increased eligibility for credits, there are situations where filing separately may yield better results.
For instance, medical expenses are deductible only if they exceed 7.5% of your adjusted gross income (AGI).
If one spouse has substantial medical expenses and the other has minimal or no medical costs, filing separately could make it easier to meet the threshold and maximize the medical expense deduction. Conversely, filing jointly could dilute the potential deduction, as the total AGI would likely be higher.
It’s important to weigh the potential tax savings of filing separately against the benefits of filing jointly. Working with a tax professional can help you analyze the pros and cons of each option, ensuring that you make the right choice for your specific situation.
2. Higher Education Expenses: Credits Or Deductions?
When it comes to higher education expenses, taxpayers often have to decide between claiming a tax credit or taking a deduction.
The American Opportunity Credit and the Lifetime Learning Credit are both attractive options for parents and students, as they directly reduce the amount of tax owed. However, there’s also the tuition and fees deduction, which reduces your taxable income.
These credits and deductions each come with different income limits, known as phase-out levels, which can make the decision more complex.
Generally, if you’re eligible, credits tend to provide more significant savings since they directly reduce tax liability dollar-for-dollar, whereas deductions reduce your taxable income.
Before you finalize your decision, it’s crucial to evaluate all options within the context of your income level and eligibility.
3. Investment Interest Expense: To Include Or Not To Include Capital Gains
If you’ve incurred interest expenses on loans used to make investments, you may be able to deduct these expenses up to the amount of net investment income for the year.
Investment income typically excludes capital gains since long-term gains receive favorable tax treatment. However, the tax code allows you to make an election to include capital gains as part of your net investment income, which can help increase your deductible investment interest expense.
This election comes with a trade-off: if you decide to include capital gains, you forgo the reduced tax rate usually applied to long-term capital gains, effectively opting to treat them as ordinary income.
While this may seem like a disadvantage, it could be worthwhile if you have substantial investment interest expenses to deduct. The key is to balance the benefit of deducting your interest expenses against the potential increase in taxes due to the loss of the capital gains tax break.
A careful analysis with a tax advisor can clarify whether this election will work to your benefit.
4. Installment Sales: Spreading Out Tax Liabilities
When you sell an asset like real estate and receive payments over multiple years, the IRS allows you to report the income as an installment sale.
This arrangement allows you to spread the tax liability across the years when you receive payments, potentially lowering your tax bill if your income fluctuates from year to year.
By stretching out the income, you might also avoid bumping yourself into a higher tax bracket in the year of the sale, which could help you keep more of your earnings.
Alternatively, you can elect to report the entire gain in the year of the sale, which could be beneficial if your income is particularly low that year.
Making this election could also be advantageous if you anticipate moving into a higher tax bracket in the coming years or if you foresee changes in the tax code that might raise your overall tax burden.
The decision to elect out of installment treatment requires careful consideration of your long-term financial picture. A tax professional can guide you through the process, making sure you don’t miss any potential savings opportunities.
Partner With Minton CPA & Associates For Tax Help
Tax elections are an often underutilized strategy that can offer meaningful savings. The IRS offers flexibility within the tax code, but with that flexibility comes complexity.
Making informed choices in these areas requires a solid understanding of tax rules and a careful evaluation of your unique financial circumstances.
At Minton CPA & Associates, we understand the intricacies of tax elections and how they can influence your financial well-being. With our tax preparation services, we can guide you through each decision, helping you to maximize your deductions, minimize your tax burden, and ensure compliance.
Don’t let tax season overwhelm you— reach out to us today to discover how our expertise can save you money. Call us at 757-546-2870 to schedule a consultation and take control of your tax strategy!