Death and taxes are two of life’s certainties, and with the tax deadline just around the corner, investors are focused on maximizing their tax planning. After all, no one wants to pay the Federal government more than they owe – nor do they want to leave money on the table. As a result, Vanguard said that investors have to be careful about the investment accounts they choose and should also consider charitable giving to lower their tax burden.
Take investment accounts for starters. According to a recent blog post by Vanguard, investors who are aiming to minimize their taxable income at the current time may be best served by contributing as much as they can up to the annual contribution limit to a traditional IRA or 401(k) plan. By doing that, investors will be able to deduct the contributions, reducing their taxable income and thus the amount of money they owe come tax time. While they won’t have to pay taxes on any gains, account holders will have to pay income tax on 100% of the amount when they do withdraw it on retirement.
Those worried about their taxable income when they hit retirement may be better off contributing the maximum to a Roth IRA, granted their income isn’t high enough to preclude them from contributing directly. For investors who make too much to contribute to a Roth IRA directly, Vanguard said that they can put money in a traditional IRA and convert the money to a Roth IRA at a later date.
If you aren’t sure what your income is going to be in the coming years and whether or not you will be in a higher tax bracket, Vanguard suggests a hybrid strategy in which investors contribute to a traditional IRA and a Roth IRA at the same time. That will diversify how the retirement assets are taxed now and in the future, the fund company said. “Diversification gives your portfolio the flexibility to manage unexpected changes to tax rules and personal circumstances,” Vanguard wrote in a blog post.
Another strategy to consider to maximize an investors’ tax minimization strategy is to give to charities. After all, claiming a tax deduction for a charitable contribution could lower your taxable income and even push you into a lower tax bracket, which means less money going to Uncle Sam. But before making a contribution to a charity, Vanguard said investors need to consider whether they are selling stocks or bonds to make the donation or if they will transfer assets directly to the charity – because both strategies have tax implications. If you sell a stock to donate, you may be on the hook for a capital gains tax, which would defeat the purpose if you end up paying more in taxes. On the other hand, if you transfer shares of an appreciated stock that you’ve had for more than a year directly to the charity, you’ll get the tax deduction and won’t have to pay those capital gains.