Barbara O’Neill, Ph.D., CFP®, AFC®
Distinguished Professor and Extension Financial Management Specialist Emeritus
Rutgers Cooperative Extension
Tax season is well underway and taxpayers are looking for every possible way to reduce their income tax bill. Many strategies involve small steps, although advance planning is required. There are still a few tax-planning strategies that can lower 2022 taxes due April 18, 2023 and more that can lower 2023 taxes due in April 2024.
Below is a brief description of strategies to save money on taxes due for 2022 and 2023:
2022 Tax-Saving Strategies
Individual Retirement Accounts (IRAs)- It is too late to contribute money to employer retirement plans for 2022, but not too late to make deposits into Roth and/or traditional IRAs, which can be funded up until the April 18 tax filing deadline. Some early filers get their refund first and then use all or part of it for an IRA deposit.
Simplified Employee Pensions (SEPs)- SEPs are a retirement savings plan for self-employed taxpayers (including those with a "day job") and small business owners. Accounts can be opened, and contributions made, until the April 18 tax-filing deadline. The same deadline also applies to small business Keogh accounts.
2023 Tax-Saving Strategies
Tax-Deferred Account Contributions- This includes employer retirement savings plans (e.g., 401(k)s and 403(b)s), traditional IRAs (subject to income limits for a tax write-off), health savings accounts (HSAs), and flexible spending accounts (FSAs). Pre-tax dollar contributions can be deducted from gross income.
Capital Gains Planning- It is best to take capital gains on investments in tax years where lower-than-normal income is expected. Otherwise, capital gains on top of regular income can move taxpayers up into a higher tax bracket. Another planning strategy is "tax loss harvesting" where losses are used to reduce taxable gains.
Itemized Deduction Bunching- This is a proactive strategy to "bunch" together sufficient itemized deductions that exceed the standard deduction ($13,850 for singles and $27,700 for couples filing jointly in 2023). It generally involves state and local taxes up to the $10,000 cap and large mortgage interest and/or charitable gifts.
Charitable Gifting: DAFs- Donor advised funds (DAFs) provide a vehicle to make a large charitable contribution in one tax year, often as part of a bunching strategy, and make gifts to qualified charities later. DAFs are generally funded so that donors can itemize deductions and receive a tax benefit for their generosity.
Charitable Gifting: QCDs- Qualified charitable distributions (QCDs) enable donors age 70.5+ to make a gift of money in their traditional IRA to a qualified charity. The donation satisfies their required minimum distribution (RMD) requirement, thereby removing taxable income from their income tax calculation.
Tax Credits- Tax credits provide a dollar-for-dollar reduction of tax liability, so it is important to claim them if you are eligible. The most frequently used tax credits include the child tax credit, child and dependent care credit, earned income tax credit, and savers tax credit for retirement plan contributions made by income-eligible taxpayers (married couples with incomes up to $73,000 and singles with incomes up to $36,500 in 2023).
Tax-Free Investments- No tax is owed on money held in tax-free investments. Examples include municipal bonds (and bond mutual funds and exchange-traded funds) and Roth IRAs. Federal debt securities, such as Series I bonds, are exempt from state and local taxes.
Long-Term Capital Gains- These are gains from the sale of assets held more than one year and are taxed at lower tax rates (0%, 15%, and 20%) than ordinary income (10% to 37%). Paying attention to the holding period on investments can make a big difference in the amount of tax owed.
Bottom line: paying attention to tax-saving strategies can pay off in tax savings now and in the future.