Tax planning is an essential part of managing your finances effectively, whether you’re an individual taxpayer or a business owner.
One powerful strategy involves tax shifting, which is the process of strategically moving income or expenses from one year to another to minimize your overall tax liability.
While the concept may sound straightforward, applying it effectively requires careful planning and a solid understanding of the tax code.
In this article, we’ll break down the concept of tax shifting, explain why it works, and explore six actionable strategies to help you take control of your taxable income and lower your tax bill.
The Concept Of Tax Shifting
The U.S. tax code is designed with complexity, creating opportunities to reduce your taxable income through strategic timing of income and expenses.
Here’s why tax shifting can be so effective:
- Income Tax Rates Are Tiered: Tax rates range from 0% to 37%, depending on your income and filing status. Adjusting your income to fit within a lower tax bracket can result in significant savings.
- Income Limits Affect Tax Breaks: Many deductions and credits, such as the child tax credit or education credits, are phased out as your income rises. By strategically managing your income, you can preserve eligibility for these benefits.
- Incremental Taxes Are Triggered By Income Thresholds: Higher income levels can activate additional taxes, such as the alternative minimum tax (AMT), further increasing your liability.
By shifting income and expenses strategically between years, you can potentially reduce your tax burden over a two-year period compared to doing nothing at all.
Let’s look at six actionable ideas to help you achieve this.
Six Tax Shifting Ideas To Reduce Your Bill
1. Understand The Rules
Tax shifting isn’t suitable for everyone. You’ll need to determine if this strategy aligns with your financial situation.
For instance, individuals earning over $47,150 and couples earning over $94,300 often see a significant jump in tax rates.
Additionally, income limits apply to common tax benefits, such as child tax credits and education credits. Recognizing these thresholds can help you decide if tax shifting makes sense for you.
2. Bundle Charitable Contributions
If you itemize deductions, consider “bunching” charitable contributions into one tax year. For example, you could move next year’s planned donations into the current year to offset higher-taxed income.
This strategy has become particularly advantageous since the introduction of higher standard deductions.
3. Leverage The Cash Basis Accounting Method
For individual taxpayers, expenses are typically deductible in the year they are paid. This includes payments made via credit card, which are deductible on the transaction date, not when the bill is paid.
Use this to your advantage by paying deductible expenses, such as property taxes or mortgage payments, earlier or later depending on your tax situation.
4. Strategically Pause Work
In certain situations, working less—or delaying income—can reduce your tax liability. For example:
- Social Security Beneficiaries Under Retirement Age: Working too much can lead to your benefits being taxed or reduced.
- Households Receiving Premium Tax Credits: A dependent’s income could push your family above the earnings threshold, resulting in a reduced health insurance subsidy.
By carefully managing your work schedule or income timing, you can avoid these tax pitfalls.
5. Manage Your Retirement Plan Distributions
If you’re over 59½, withdrawals from pre-tax retirement accounts offer an excellent opportunity for tax shifting.
Taking distributions earlier than required can spread taxable income over multiple years, potentially keeping it in a lower tax bracket. Conversely, delaying distributions might result in higher taxes later if income increases.
6. Time Stock And Investment Sales
Capital losses from investments can offset up to $3,000 of your ordinary income, which is taxed at a higher rate. Evaluate whether selling losing investments this year or next makes more sense to maximize your tax savings. If done correctly, this strategy allows you to reduce your overall taxable income significantly.
The Benefits Of Using Shifting As A Tax Strategy
By understanding and applying these strategies, you can take control of your taxable income and potentially reduce your overall tax bill.
However, executing a tax shifting strategy requires careful planning and consideration of your unique financial situation. Missteps, such as triggering additional taxes or losing eligibility for credits, can negate the benefits of tax shifting.
Need Help With Your Tax Planning Strategy?
At Minton CPA & Associates, we specialize in helping individuals and business owners navigate the complexities of tax planning and preparation. Our team of experienced professionals are here to review your financial situation and identify opportunities to lower your tax liability through proven strategies.
Ready to get started? Call us today at 757-546-2870 to schedule a consultation. Let us help you make the most of your financial future while keeping your tax bill as low as possible.