Tax season is coming up soon and that means that it’s time to start getting ready. Don’t get caught filing your tax return at the last minute. Here is a step-by-step guide to help you create an easy-to-follow tax plan.
- Start a filing system
The first thing you want to do is get organized and start a filing system. Get all of your statements, paystubs, and relevant receipts in order and in a single location. Not only will this help you be prepared to file, but it will make sure you don’t lose or forget about business transactions from months ago. It will also make a huge difference if you are worried about how to file taxes.
- Find your tax bracket
After getting organized, you will want to know which tax bracket you are in. Based on how much money you bring in, you will be slotted into a different bracket ranging from 10% – 37% of your taxable income. However, it’s not a flat rate. Each bracket is taxed at the rate shown. For example, your first $9,875 will be taxed at a 10% rate; then, the remaining amount will be taxed at 12%. You need to know where the cutoff is at each percentage to find out how much you owe in taxes this year. Be aware that unemployment benefits are taxable income.
- Decide how you are applying for deductions
A deduction is an expense that you’ve had during the year that you can subtract from your taxable income. They aren’t a direct subtraction from your taxes, but they will reduce your income from last year.
When figuring out how to make deductions, there are two ways to approach it. You can make a standard deduction or you can decide to itemize it.
- Standard deduction – This is a flat rate decided every year by congress for how much you should take out in deductions. It’s easier and faster. Standard deductions for 2021 are as follows:
- Single: $12,550
- Married filing jointly: $25,100
- Married filing separately: $12,550
- Head of household: $18,800
- Itemized deduction – This involves going through your individual tax deductions one-by-one and applying them to your return. This is done if your itemized return is more than the standard deduction. It also means that you are open to audits from the IRS, so make sure that you can prove your deductions are legal.
- Find your tax credits
A tax credit is an actual reduction in your tax bill. If you get a credit worth $500, your tax bill will go down to a flat $500. Some popular credits to be aware of are:
- An adoption credit for adopting a child
- The American Opportunity Credit for continuing education
- Credits for children and dependents
- Disability credits
- Earned Income Tax Credit
Note that any stimulus checks received and the Recovery Rebate Credit are treated as credits and not deductions on your taxes.
- Invest in a 401(k)
The money you save and invest in a 401(k) retirement plan doesn’t get taxed by the IRS. This is up to $19,500 for people under 50 and $26,000 for those older.
- Put money in an IRA
Individual retirement accounts (IRA) are split into two different types; traditional and Roth IRAs. Contributions put into a traditional IRA are tax-deductible, but you pay taxes on any money you take out in the future. With Roth IRAs, your withdrawals are not taxed, only what you put in upfront. This means that whatever growth you have in your account is tax-free as you have already paid upfront.
Taxes can be scary, but investing time to fully understand the options presented before you can make a huge difference in the money you pay this year in taxes. By staying organized and tracking changes year after year, you will eventually get to the point where filing your taxes won’t phase you anymore. Good luck!