16 TAXES THAT CAN CUT YOUR TAXES

You have to pay these taxes, so why not deduct them if you can? Here are tips for paying certain taxes in advance and lowering your overall tax bill to Uncle Sam.

Rangers sometimes suffocate raging forest fires by starting controlled fires of their own. Physicians create antibodies to prevent disease by using a weakened form of the virus that causes the disease itself.

And you can use taxes you have already paid to sometimes save you more taxes. This column will show you how.

Some taxes are deductible. While federal income taxes themselves are not deductible, you may deduct state and local taxes on your income tax return.

It’s all a matter of timing. You can actually lower your total overall tax bill by paying other taxes in advance. Use the government’s own rules to reduce your liability. Here’s how:

Remember that taxes are deductible in the year they’re paid. For example, if I pay taxes due last year in this year, they’re deductible this year. This opens the door to “right time” strategies and techniques. State and local income taxes are a case in point.

My fourth quarter estimated payment to the state is due January 15 of the following year. If I pay paid that fourth-quarter estimate on or before December 31, I can accelerate the deduction by a whole year!

If I pay an estimated tax of $1,000 per quarter this year and I’m in the 28% bracket, this saves me $280 in taxes this year. While the actual savings are realized only in the first year, this technique creates a $280 interest-free loan from the IRS! Forever!!

If you don’t pay estimated taxes, ask your employer to “over-withhold” your state income taxes on your last paycheck. (Make sure you have enough other money for living expenses first!) This will create the same deduction and the same interest-free loan savings.

If you over-withhold, you’ll probably get a state tax refund in the next year. Any refunds of taxes deducted in the prior year are taxable in the subsequent year of receipt. This is because you over-deducted in the earlier year. But, in any case, you’ve had the use of the money a full year earlier. In addition, when tax rates go down (and who knows right now), your benefit is magnified.

But this isn’t necessarily a sound financial strategy. The tables are now turned if you have too much withheld and you are, in essence, giving Uncle Sam an interest-free loan. The trick is to ensure that any “extra taxes” you pay the state equates to taxes you would have paid the federal government. Otherwise, that earlier year’s deduction, unless your bracket has increased, is clearly more valuable than the later year’s inclusion. If my bracket isn’t going up, I would always much rather have the money now than in the future.

The same concept works with real estate taxes. I pay my real estate taxes directly. My fourth-quarter real estate taxes are due February 1 of the next year. By accelerating the payment to December 31 of the previous year, I again create a first-year immediate tax savings and another interest-free loan from the IRS — forever!

Now that you know the concept for tax minimization, let’s look at what taxes are actually deductible.

State, Local and Foreign Income Taxes

In addition to state and local income taxes, you may also deduct amounts withheld from your wages for certain state disability benefit funds and any state unemployment fund as taxes. Contributions to private disability plans, however, are not deductible as taxes. (Private disability insurance premiums may be deducted as medical expenses, but I usually don’t advise doing so. If you took the tax deduction, and become disabled, all payments would be taxable. If you never took the deduction, all payments would typically be tax-free.)

Foreign taxes are those imposed by a foreign country, a U.S. possession, or any of its subdivisions. Foreign taxes that you pay can either be deducted as an itemized deduction or claimed as a credit against your U.S. tax. While for most people the credit is usually better than the deduction, certain foreign tax credit reductions or alternative minimum tax limitations may weigh in favor taking the deduction instead of the credit.

Estate, inheritance and other wealth transfer taxes are usually not deductible by you directly.

NEW BEGINNING WITH 2004. You have the option of deducting state and local sales taxes instead of state and local income taxes. This is another good reason to get a receipt when shopping. You wouldn’t walk out of the store without your change — don’t leave before collecting your receipt, either. The IRS will publish sales tax tables, it is true, but why use the “standard allowances” if you can prove a much higher actual cost? COLLECT AND KEEP THOSE SALES RECEIPTS, FOLKS!

Real Estate Taxes

Real estate taxes also are deductible. There are many state, local or foreign taxes on real estate levied for the general public welfare. Local benefit taxes are deductible if they are for maintenance or repair, or for interest charges related to these benefits.

Property taxes do not include specifically itemized homeowners’ association dues or trash collection fees (these fees are deductible if not separately stated and are just part of your general property tax).

If you’re a tenant shareholder in a co-op, you may deduct the amounts you pay the corporation that represent your share of the real estate taxes on the property. If you own a condominium, the real estate taxes you pay on that property are also deductible.

Note that if you and your spouse hold the property jointly and file separate tax returns, each of you may only deduct the taxes you individually paid on the property.

If real estate is sold during the year, the real estate taxes must be divided between the buyer and the seller according to the number of days that each party owns the property. The seller pays the tax up to the date of the sale and the buyer pays and deducts those taxes, starting with the day of the sale. If you bought or sold property during the year, don’t forget to deduct those taxes paid and reported at closing on your closing statement. If you financed your home, your end-of-year statement from the lender typically would not include those taxes.

Personal Property Taxes

Personal property taxes are deductible too. But they are subject to three requirements:

The tax must be based on the value of the property. For example, assume your state charges a yearly motor vehicle registration tax of 1% of the vehicle’s value plus 40 cents per hundredweight. Let’s also say your vehicle weighs 3,400 pounds and is worth $10,000. Based on a $10,000 value you pay $100 (1% of $10,000) for that and another $13.60 for its weight (34 x .40) for a total of $113.60. You may only deduct $100 as a personal property tax, since the $13.60 is based on weight, not value.

The tax must be charged on a yearly basis. This is true, even if it is collected more or less often than once a year.

The tax must be charged on personal property. A yearly tax based on value would be deductible even if it’s called a registration fee — for example, a motor vehicle registration fee.

Small savings are cumulative and add up to greater financial independence.