Simple Tax Mistakes You Want To Avoid

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Monopoly shoe on the income tax spot.

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Another tax year come and gone.

How did you do last year?  Did you make a tax plan and stick to it, or did you make some mistakes like me, and end up paying more taxes than you should have?

Learn from my mistakes, and let this be a reminder to always plan ahead!

Background for My Tax Mistakes

2013 was an exceptionally interesting year

  • Unemployment and job search after being laid off
  • Getting married
  • Dealing with Mrs. Enwealthen’s recovery and medical bills from a car accident

The common thread?  Significant tax implications.  Too busy to do a detailed tax plan, and can you imagine how much I wasn’t looking forward to doing my taxes this year?

With all the rush, I made some stupid mistakes in 2013.  Thankfully, come tax time I could quickly generate my financial reports with Quicken and the married-filing-jointly and married-filing-separately comparison was simplified with H&R Block’s Tax Cut.

My biggest mistakes last year?  Keep reading.

Plan Your IRA Contribution

Talk about embarrassing.

Given our newly married status, my wife and I were still in the process of combining our finances.  Can you see this one coming?

Mrs. E likes to make her Roth IRA contribution at the beginning of every year, for that year.  Ignoring the Traditional vs Roth debate, it’s great that she’s carving money out for retirement and sheltering it for better growth.

The gotcha?

Being unemployed most of the year, our combined income was low enough that she could have made a fully deductible contribution to a Traditional IRA.

The impact?  An additional $800 we didn’t receive back on our federal tax refund.

Ouch.

The one positive of being unemployed – my income was low enough I could make a full contribution to my Roth IRA.  For only the second time in my career.  Every cloud, as they say…

Some say contributing early is best, to start growing your investment now.  Assuming a full $5,500 contribution, ignoring taxes, I’d have to get a 14.5% return in that first year to match that $800 foregone.  How many times have you had a 14.5% return in 9 months?

Lesson re-learned: Accidents happen, income is unpredictable, so think carefully before making an IRA contribution for the current year, and make sure you and your spouse are on the same page for timing of contributions.

Capital Gains Don’t Feel Like A Gain

Always, always, always plan your capital gains taxes.  Hold an investment in a taxable account for less than a year, and pay short term capital gains tax, basically taxed as income, say 30-40%.  Longer than a year, you pay long term capital gains tax, which for most is just 15%.  Clearly, long term capital gains tax is better than short term.

Embarrassed again to admit, in the wedding planning chaos, I failed to double-check the date my previous employer’s ESPP and RSU shares were purchased.  Assuming it was longer than a year, I sold – 2 weeks too early!

Net result?  An additional 20% in taxes on those gains.

Ouch, redux.

Lesson re-learned: Always check your purchase date before selling any securities in a non-tax-sheltered account.

Deducting Your Medical Expenses

Finally, when you’re itemizing your deductions (the average single family home being $740K here in Silicon Valley means every homeowner itemizes), medical expenses are always lurking as a possible deduction.

Given the 7.5% floor for medical expense deductions for 2013 (raised to 10% for 2014), I’ve never had enough medical expenses to qualify.  And honestly, are you eager to ever be paying that much in medical bills?  Unfortunately, with the accident last year, and my paying my COBRA insurance premiums during my unemployment, we were well above the floor.

Even worse, we’d become lax in tracking our medical expenses.  All the receipts were scattered throughout our filing cabinet, making assembling them oh so painful.

Lesson learned: Keep your paid medical bills, or bills for any potential deduction, in a single folder throughout the year, to make tax preparation that much easier.

Plan Ahead

Like voting, tax planning is something you do early, and often.

Just stop for a minute.

Think about the coming year – your income, your expenses, life events like getting married, having children, retiring, switching jobs.

Think about what you can do to make next year better than the last.

Now do it.

The more planning you put into it, the fewer tax mistakes you’ll make, and the more of your hard earned money you can keep for you and yours.

Don’t make the same mistakes I did.  When you’re most busy is when it’s most important you stop and consider the tax implications of your choices.  You’ll be glad you did.

Have your own tax mistakes or lessons hard learned?  Share what you’ve learned, or wish you’d learned earlier, in a comment below.

Image of Monopoly board courtesy of Images Of Money.

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