Go Tax Free: 17 Ways to Get More Choice and Control Over Your Investments and Taxes

Taxes are determined separately by each jurisdiction imposing tax. Due dates and other administrative procedures vary by jurisdiction. April 15 following the tax year is the last day for individuals to file tax returns for federal and many state and local returns. Tax as determined by the taxpayer may be adjusted by the taxing jurisdiction. A tax is imposed on net taxable income in the United States by the federal, most state, and some local governments. The rate of tax at the federal level is graduated; that is, the tax rates on higher amounts of income are higher than on lower amounts. Some states and localities impose an income tax at a graduated rate, and some at a flat rate on all taxable income.

Individuals are eligible for a reduced rate of federal income tax on capital gains and qualifying dividends. The tax rate and some deductions are different for individuals depending on filing status. Married individuals may compute tax as a couple or separately. Single individuals may be eligible for reduced tax rates if they are head of a household in which they live with a dependent. Taxable income is defined in a comprehensive manner in the Internal Revenue Code and tax regulations issued by the Department of Treasury and the Internal Revenue Service.

Most states and localities follow these definitions at least in part, though some make adjustments to determine income taxed in that jurisdiction. Taxable income for a company or business may not be the same as its book income. Gross income includes all income earned or received from whatever source. This includes salaries and wages, tips, pensions, fees earned for services, price of goods sold, other business income, gains on sale of other property, rents received, interest and dividends received, alimony received, proceeds from selling crops, and many other types of income.

Some income, however, is exempt from income tax. This includes interest on municipal bonds. Adjustments usually reductions to gross income of individuals are made for alimony paid, contributions to many types of retirement or health savings plans, certain student loan interest, half of self-employment tax, and a few other items. The cost of goods sold in a business is a direct reduction of gross income.

Taxable income of all taxpayers is reduced by deductions for expenses related to their business. These include salaries, rent, and other business expenses paid or accrued, as well as allowances for depreciation. The deduction of expenses may result in a loss. Generally, such loss can reduce other taxable income, subject to some limits.

Individuals are allowed several nonbusiness deductions. A flat amount per person is allowed as a deduction for personal exemptions. Taxpayers are allowed one such deduction for themselves and one for each person they support.

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From the personal deduction is removed, but there is increase in standard deduction amount. In addition, individuals get a deduction from taxable income for certain personal expenses. Alternatively, the individual may claim a standard deduction. The standard deduction is higher for individuals over age 65 or who are blind. Those who choose to claim actual itemized deductions may deduct the following, subject to many conditions and limitations:. However, the tax is limited to a lower tax rate. Capital gains include gains on selling stocks and bonds, real estate, and other capital assets.

The gain is the excess of the proceeds over the adjusted basis cost less depreciation deductions allowed of the property. This limit on tax also applies to dividends from U. There are limits on how much net capital loss may reduce other taxable income. All taxpayers are allowed a credit for foreign taxes and for a percentage of certain types of business expenses.

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Individuals are also allowed credits related to education expenses, retirement savings, child care expenses, some health care premiums, and a credit for each child. Each of the credits is subject to specific rules and limitations. Some credits are treated as refundable payments. All taxpayers are also subject to the Alternative Minimum Tax if their income exceeds certain exclusion amounts. This tax applies only if it exceeds regular income tax, and is reduced by some credits. High-income earners may also have to pay an additional 0.

Most individuals must file income tax returns to self assess income tax in each year their income exceeds the standard deduction plus one personal exemption. Some taxpayers must file an income tax return because they satisfy one of the following conditions: Other taxpayers must file income tax returns each year to self assess income tax. These returns may be filed electronically. Generally, an individual's tax return covers the calendar year.

Corporations may elect a different tax year. Most states and localities follow the federal tax year, and require separate returns. Taxpayers must pay income tax due without waiting for an assessment. Many taxpayers are subject to withholding taxes when they receive income. To the extent withholding taxes do not cover all taxes due, all taxpayers must make estimated tax payments.

Failing to make payments on time, or failing to file returns, can result in substantial penalties. Certain intentional failures may result in jail time. Tax returns may be examined and adjusted by tax authorities. Taxpayers have rights to appeal any change to tax, and these rights vary by jurisdiction. Taxpayers may also go to court to contest tax changes. Tax authorities may not make changes after a certain period of time generally three years.

Federal income brackets and tax rates for individuals are adjusted annually for inflation. As of [update] , Beginning in , an additional tax of 3. An individual pays tax at a given bracket only for each dollar within that tax bracket 's range. The top marginal rate does not apply in certain years to certain types of income.

Significantly lower rates apply after to capital gains and qualifying dividends see below. Effective tax rates are typically lower than marginal rates due to various deductions, with some people actually having a negative liability. The individual income tax rates in the following chart include capital gains taxes, which have different marginal rates than regular income. Income tax is imposed as a tax rate times taxable income. Taxable income is defined as gross income less allowable deductions.

Taxable income as determined for federal tax purposes may be modified for state tax purposes. The Internal Revenue Code states that "gross income means all income from whatever source derived," and gives specific examples. The amount included is the amount the taxpayer is entitled to receive. Gains on property are the gross proceeds less amounts returned, cost of goods sold , or tax basis of property sold. Certain types of income are exempt from income tax.

Among the more common types of exempt income are interest on municipal bonds, a portion of Social Security benefits, life insurance proceeds, gifts or inheritances, and the value of many employee benefits. Gross income is reduced by adjustments and deductions. Among the more common adjustments are reductions for alimony paid and IRA and certain other retirement plan contributions.

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Adjusted gross income is used in calculations relating to various deductions, credits, phase outs, and penalties. Most business deductions are allowed regardless of the form in which the business is conducted. A business is an activity conducted regularly to make a profit. Only a few business-related deductions are unique to a particular form of business-doing. The deduction of investment expenses by individuals, however, has several limitations, along with other itemized personal deductions.

The amount and timing of deductions for income tax purposes is determined under tax rules, not accounting ones. Tax rules are based on principles similar in many ways to accounting rules, but there are significant differences. Costs of starting a business sometimes called pre-operating costs are deductible ratably over 60 months. Deductions for lobbying and political expenses are limited. Some other limitations apply. Expenses likely to produce future benefits must be capitalized.

IRS tables specify lives of assets by class of asset or industry in which used. When an asset the cost of which was capitalized is sold, exchanged, or abandoned, the proceeds if any are reduced by the remaining unrecovered cost to determine gain or loss. That gain or loss may be ordinary as in the case of inventory or capital as in the case of stocks and bonds , or a combination for some buildings and equipment.

Most personal, living, and family expenses are not deductible. Business deductions allowed for Federal income tax are almost always allowed in determining state income tax. Only some states, however, allow itemized deductions for individuals. Some states also limit deductions by corporations for investment related expenses. Many states allow different amounts for depreciation deductions.

State limitations on deductions may differ significantly from Federal limitations. Business deductions in excess of business income result in losses that may offset other income. However, losses from passive activities may be deferred to the extent they exceed income from other passive activities. In addition, losses may not, in most cases, be deducted in excess of the taxpayer's amount at risk generally tax basis in the entity plus share of debt.

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Individuals are allowed a special deduction called a personal exemption for dependents. This is a fixed amount allowed each taxpayer, plus an additional fixed amount for each child or other dependents the taxpayer supports. The amount is indexed annually for inflation. The amount of exemption is phased out at higher incomes through and after no phase out in — Citizens and individuals with U. Alternatively, they may claim an itemized deduction for actual amounts incurred for specific categories of nonbusiness expenses. Local and state income taxes are deductible, or the individual may elect to deduct state and local sales tax.

Before , the allowance of itemized deductions was phased out at higher incomes. The phase out expired for Taxable income includes capital gains. However, individuals are taxed at a lower rate on long term capital gains and qualifying dividends see below. A capital gain is the excess of the sales price over the tax basis usually, the cost of capital assets , generally those assets not held for sale to customers in the ordinary course of business. In determining gain, it is necessary to determine which property is sold and the amount of basis of that property.

This may require identification conventions, such as first-in-first-out, for identical properties like shares of stock. Further, tax basis must be allocated among properties purchased together unless they are sold together. Original basis, usually cost paid for the asset, is reduced by deductions for depreciation or loss. Certain capital gains are deferred; that is, they are taxed at a time later than the year of disposition. Gains on property sold for installment payments may be recognized as those payments are received.

Gains on property exchanged for like kind property are not recognized, and the tax basis of the new property is based on the tax basis of the old property.

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Before and from , individuals were subject to a reduced rate of federal tax on capital gains called long-term capital gains on certain property held more than 12 months. The reduced rate also applies to dividends from corporations organized in the United States or a country with which the United States has an income tax treaty. Business entities treated as partnerships are not subject to income tax at the entity level. Instead, their members include their shares of income, deductions, and credits in computing their own tax.

The character of the partner's share of income such as capital gains is determined at the partnership level. Many types of business entities, including limited liability companies LLCs , may elect to be treated as a corporation or as a partnership. Distributions from partnerships are not taxed as dividends. Corporate tax is imposed in the U. Shareholders of a corporation wholly owned by U. Corporate income tax is based on taxable income , which is defined similarly to individual taxable income.

Shareholders including other corporations of corporations other than S Corporations are taxed on dividend distributions from the corporation. They are also subject to tax on capital gains upon sale or exchange of their shares for money or property. However, certain exchanges, such as in reorganizations, are not taxable. Multiple corporations may file a consolidated return at the federal and some state levels with their common parent.

State and local income taxes are allowed as tax deductions in computing federal taxable income. Corporations are not allowed the personal deductions allowed to individuals, such as deductions for exemptions and the standard deduction. However, most other deductions are allowed. In addition, corporations are allowed certain deductions unique to corporate status. These include a partial deduction for dividends received from other corporations, deductions related to organization costs , and certain other items.

Some deductions of corporations are limited at federal or state levels. Limitations apply to items due to related parties , including interest and royalty expenses. Estates and trusts may be subject to income tax at the estate or trust level, or the beneficiaries may be subject to income tax on their share of income. Where the all income must be distributed, the beneficiaries are taxed similarly to partners in a partnership.

Where income may be retained, the estate or trust is taxed. It may get a deduction for later distributions of income. They are taxed at graduated rates that increase rapidly to the maximum rate for individuals. Estates and trusts are eligible for the reduced rate of tax on dividends and capital gains through Employers get a deduction for amounts contributed to a qualified employee retirement plan or benefit plan.

The employee does not recognize income with respect to the plan until he or she receives a distribution from the plan. The plan itself is organized as a trust and is considered a separate entity. For the plan to qualify for tax exemption , and for the employer to get a deduction, the plan must meet minimum participation, vesting, funding, and operational standards.

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Employees or former employees are generally taxed on distributions from retirement or stock plans. Employees are not taxed on distributions from health insurance plans to pay for medical expenses. Cafeteria plans allow employees to choose among benefits like choosing food in a cafeteria , and distributions to pay those expenses are not taxable. Those not currently covered by other retirement plans may claim a deduction for contributions to certain types of IRAs. Income earned within an IRA is not taxed until the individual withdraws it. The federal and state systems offer numerous tax credits for individuals and businesses.

Among the key federal credits for individuals are:. Businesses are also eligible for several credits. These credits are available to individuals and corporations, and can be taken by partners in business partnerships. Among the federal credits included in a "general business credit" are:. In addition, a federal foreign tax credit is allowed for foreign income taxes paid. This credit is limited to the portion of federal income tax arising due to foreign source income.

The credit is available to all taxpayers. States and some localities offer a variety of credits that vary by jurisdiction. States typically grant a credit to resident individuals for income taxes paid to other states, generally limited in proportion to income taxed in the other state s. If you lose money at first, you can use losses to offset other income, including capital gains, which is harder to do in a corporation, says certified public accountant Sandy Botkin.

But if you seek liability protection and start generating close to a six-figure income, electing to pay taxes as an S corporation—rather than a limited liability company, or LLC—could help you avoid getting killed by self-employment taxes , covering Social Security and Medicare. While workers pay only half of their Social Security and Medicare taxes—their employers cover the rest—the self-employed are hit with the full An S corp also avoids the 3. Four out of 10 wealthy entrepreneurs like to hire their kin, according to U.

At the same time, six in 10 are worried about taxes. Address both issues by hiring a spouse and putting a large chunk of his or her salary into a k plan. That will reduce your joint taxable income and boost retirement savings, says McCutchen. Tax-smart investment strategies you should consider Share: Meaningful tax planning has been challenging in recent years, as Congress has favored short-term fixes for long-term tax problems.

While tax rules and rates may change over time, the value of keeping taxes in mind when making investment decisions does not. Taxes can reduce your investment returns from year-to-year, potentially jeopardizing your long-term goals. The higher your current marginal federal income tax rate, the more you may want to consider the impact of taxes when making changes to your investments, but be sure to consult with your professional tax advisor before making decisions that will affect your taxes. Your total annual contribution to Traditional IRAs and Roth IRAs is subject to a dollar limit Your deductible contribution to a Traditional IRA may be limited if you are an active participant in an employer-sponsored retirement plan, such as a k , and your income exceeds certain thresholds Traditional k contributions are made with pre-tax contributions reducing your current taxable income, and are subject to annual contribution limits.

If you participate in an employer-sponsored retirement plan, the tax laws limit the deductibility of your contributions based on modified adjusted gross income MAGI ranges that are published annually and correspond to your federal tax filing status — if your MAGI is less than the lower limit, you are eligible for a full deduction for your contributions; if your MAGI is between the limits, you are eligible for a partial deduction; and if your MAGI is above the upper limit you are not eligible for a deduction.

However, if you are married and file separately but do not live with your spouse at any time during the year, your maximum deduction is determined as if you were a single filer. If April 15th falls on a weekend or a holiday, the deadline is typically the next business day. If you are eligible to take tax deductions in retirement, you'll need taxable income in order to take advantage of them. Withdrawals from a Traditional IRA count as taxable income, so you could withdraw only enough to offset your eligible deductions and then draw the rest from your Roth account. Qualified distributions from Roth accounts are federally tax-free and may be state-tax-free.

Money contributed to a Traditional IRA will be taxed upon withdrawal based on your future tax rate, which may be lower than your current rates. In contrast, money contributed to a Roth IRA is taxed at current rates, and qualified distributions are federally tax-free and may also be exempt from state tax. Splitting contributions among different account types may help you hedge on whether your tax rates in the future will be higher or lower than they are now. Specific investments can carry tax benefits as well.

For instance, income earned from municipal bonds is generally tax-free at the federal level and, in some cases, at the state and local levels too. Other tax-smart investments include tax-managed mutual funds, whose managers work deliberately and actively for tax efficiency, as well as index funds and exchange-traded funds that passively track long-term investments in a target index. It's important to make sure you're taking full advantage of tax-efficient investments by holding them in accounts with the appropriate tax treatment.

Tax-neutral investments, such as tax-managed mutual funds and municipal bonds, are better suited for a non-tax-deferred account like a taxable brokerage account. It is rarely worth holding on to a stock you are ready to sell simply to avoid taxes — with one exception. As a result, it may make sense to delay selling appreciated stocks until they qualify for long-term capital gains treatment.