While Tax Day 2014 may seem like a long way out, experts say that now is the time for consumers to get organized and be on track with new tax code regulations to avoid possibly missing out on exemptions, deductions and credits.
“A check-up can be a particularly wise move this year, given the rise in the markets since the start of 2013, and the changes that have taken effect with capital gains and other related taxes,” says Rocco Carriero, an Ameriprise financial advisor.
The major changes in the tax laws for 2013 means taxpayers, especially higher-income earners, may be in for a big surprise when it comes time to file their return in April if they’re not cognizant of the new regulations, says Anthony DeFranco, certified public accountant with Couto DeFranco.
“Before, the highest tax bracket for individuals was 35% and it’s now 39.6%,” he explains. “The good news is this [only] affects single filers with a taxable income over $400,000 and joint filers with taxable income over $450,000.”
No matter their tax bracket, all filers should understand how tax exemptions, deductions and credits can reduce the amount of taxes owed, and avoid making a mistake or potentially getting audited.
“A common mistake is putting certain expenses on the wrong schedule and making an otherwise deductible expense become not deductible,” says Mike Piershale, president of Piershale Financial Group. “Recognize that if you're not experienced at preparing a tax return, get professional help from either a CPA or a qualified tax preparer.”
Tip 1: File for Exemptions Correctly
Taxpayers should strive to take full advantage of every eligible exemption. For instance, a married couple filing jointly would have an exemption for each spouse as well as one for each dependent.
W-2 employees should pay close attention to ensure they have the right exemptions in place. Having too much money withheld can be a misstep, preventing them from maintaining cash flow and investing it wisely to grow over time or to ward off debt, warns Carriero.
“On the other hand, having too little withheld may cause a person to have to write a check to the IRS at the end of the year,” he says.
Although declaring personal exemptions is usually fairly straightforward, DeFranco warns that it can get complex due to the change in tax law.
“If a person is not subject to alternative minimum tax, the new law for 2013 phases out personal exemptions,” he says. “Depending on a person’s income, for each $2,500 over a threshold--for joint filers that’s $300,000 and for single filers that’s $250,000--your personal exemptions are reduced by 2%.”
Tip 2: Keep Track of Deductions
Deductions reduce taxable income and the value of those deductions are based on one’s marginal tax bracket, so it’s important to make sure they are being claimed on the right form and for the accurate amount.
Making contributions to a 401(k) or other retirement vehicles will reduce adjusted gross income, says Michael Eisenberg, of Eisenberg Financial Advisors and spokesperson for the California Society of CPAs
“You will then be able to maybe avoid going over the threshold that will throw you either into a higher tax bracket or subjects your income to the surcharge for the Affordable Health Care bill,” he says.
Keeping accurate records for deductions such as charitable donations or medical expenses is essential, says Greg Stevens, CFP, Cabot Money Management.
“If you do have medical expenses, they are only deductible in excess of 7.5% of your [adjusted gross income] and keeping receipts for medical expenses is a big one, especially for older tax payers with a high level of medical care, in a nursing home or have home help aids come to them.”
To determine the best filing status, DeFranco recommends taxpayers add up all itemized deductions and compare it to the standard deduction to see which number is larger.
“The standard deduction is $12,200 for married couples and $6,100 for individuals and most people if they own a house are going to be better off with the itemized deductions because of the mortgage interest deduction and real estate tax deduction,” he says.
Tip 3: Take Advantage of All Applicable Credits
Tax credits are extremely valuable to reduce tax liability dollar for dollar and with several common credits, there are many opportunities to reduce tax burden.
“The child tax credit may apply if you have a qualifying child under age 17, [which] may help reduce your federal income tax by up to $1,000 for each qualifying child you claim on your return,” Piershale says. “In 2013, the American Opportunity tax credit would give a $2,500 credit for undergraduate education for an eligible student [and] is calculated per student, not per tax return.”
Because there are so many credits available and the tax rules around them can be complex, Eisenberg recommends doing ample research and working with a qualified tax professional before claiming any credits.
“In order to take the best position for your own tax scenario, you should understand what they are and how they work,” he says. “If you think you are going to have utilization of these credits, it might be advisable to seek out a CPA to help you figure these things out because they are complicated.”