When it’s time to settle with Uncle Sam at the end of the year, don’t overlook some IRS-approved tax shelters that might lower your tax bill. A good tax shelter is a legal way for a taxpayer to shelter or protect, income against taxation, according to the Tax Policy Center. And you can protect your earnings from taxes without resorting to a Swiss account, overseas legal tax havens or tax-dodger schemes.
Review these six legal tax shelters that can save you a bundle. Reduce your taxable income and save your money by taking every deduction you can.
Legal Tax Shelters
There are many ways to reduce your tax burden. Make sure you aren’t illegally evading taxes by using a legal tax shelter. Here are six legal tax shelters you can use to reduce your tax burden:
1. Set Up a Retirement Account
A 401k or other type of tax-deferred retirement plan like an IRA allows you to save money on taxes now by deferring to pay taxes in retirement when your income and tax bracket is likely lower. For the 2017 tax year, you can contribute up to $5,500 to a traditional IRA or $6,500 if you are 50 years of age or older. For 401k investment accounts, you can contribute up to $18,000 for the tax year 2017. Those age 50 or older can contribute an additional $6,000 in 2017 as a catch-up contribution.
Remember that your retirement funds will be taxed when you make a withdrawal. Because you might fall into a lower tax bracket when you retire, it’s a good idea to begin contributing to a tax-deferred retirement plan now.
2. Buy a Home
Purchasing real estate is another way to set up a tax shelter because you can claim several deductions that renters cannot. The IRS allows you to deduct qualified expenses related to owning a home, including real estate taxes, home mortgage interest and mortgage insurance premiums. You can also deduct the sales tax you paid on your home, such as for a manufactured or modular home, or for building materials for a new construction.
3. Protect Your Capital Gains
If you earn a significant profit from selling your home, you can protect it from being taxed if you meet certain requirements. You need to pass an IRS ownership and use test and report your income using Form 1099-S.
In addition, you must use Schedule D (Form 1040) to report the capital gain and Form 8949 to report the sale of your home. Single homeowners are allowed to exclude up to $250,000 of capital gains from their incomes, and married couples filing jointly can exclude $500,000.
4. Open a Health Savings Account
One easy way to reduce your tax liability is to open an HSA and set aside an estimated amount each year for your medical expenses. You must have a high-deductible health plan to open an HSA. You can use the non-taxable funds to cover out-of-pocket medical and health expenses for the year.
You can make contributions from your paycheck to fund the account and spend the money as you need it. For 2017, you can contribute up to $3,400 if you’re single and up to $6,750 if you have a family.
5. Become an Angel Investor
Angel investors invest in small businesses and startups. Going this route lets you can take the tax credit and also receive a nice return on your investment if the business succeeds.
As an angel investor, you might qualify for a state tax credit that enables you to write off a portion of your investment right away. For example, angel investors in Colorado who invest at least $10,000 and meet other eligibility requirements receive a tax credit of up to 25 percent of their investment.
6. Use the Child Tax Credit
Don’t overlook the tax advantages of being a parent. Your children could help you protect some of your hard-earned dollars if the children are in your care and qualify as dependents.
The child tax credit enables you to claim $1,000 per qualifying child. In addition, each child counts as an exemption of $4,050 for the 2016 tax year. Report any daycare expenses on your tax return for another deduction of up to $3,000 for one child.