United States | Oct 09, 2023

How to Lower Your Tax Bill in the US — 5 Proven Strategies

You don't need to be an accountant to take advantage of tax credits and deductions. See how these 5 simple but proven strategies can lower your tax bill in the United States.

IRS Form 1040 (individual income tax return) on top of US dollar banknotes

US citizens are taxed at federal, state, and local levels. The federal government levies taxes for Social Security from earned income and state and local governments may charge taxes on property, gas, sales, and more. You can't avoid taxes, but you can take some simple steps to keep more of your salary when tax season arrives.

1. Take Advantage of Tax Credits

A tax credit is a dollar-for-dollar reduction in your taxes. Think of it like a coupon that the US government uses to nudge its citizens toward behaviors deemed beneficial to the economy, the environment, or the nation as a whole.

Tax credits differ from tax deductions — deductions reduce your taxable income while credits reduce the tax you owe. For example, say you're sitting on $60,000 of taxable income. You claim $15,000 of tax deductions, shrinking your taxable income to $45,000. Now, instead of paying 22% on $15,274 ($3,360.28), you only have to pay 22% on the $275 over $44,725 ($60.28) — a $3,300 savings.

Tax credits are much simpler. A $15,000 dollar tax credit saves you $15,000, dollar-for-dollar. That means that if you owe $400 in taxes but claim a $1,000 Earned Income Credit, you'll receive a $600 refund.

There are simply too many tax credits, state and federal, to cover them all here. However, here are some of the most popular:

1.1 Earned Income Credit (EIC)

The Earned Income Credit is designed for working people with low to moderate incomes, particularly those with children. Depending on family size, the EIC will not only reduce your tax burden, but may result in a refund.

1.2 Child and Dependent Care Credit

If you're a working parent or guardian, the Child and Dependent Care Credit can help offset costs of childcare or care for a dependent while you work or look for work. Individuals can use up to $3,000 of expenses to calculate the credit. This doubles to $6,000 for two or more qualifying individuals.

1.3 Education tax credits

Education tax credits, in the form of financial aid for students or their parents, can lower your tax bill based on tuition or education related expenses. The IRS offers a simple quiz to help you determine whether you're eligible for such credits.

Want to get an idea how much you'll owe in taxes? Try our US Salary Calculator. Simply input your gross salary and get an estimate on how much you'll pay in Social Security, Medicare, and State and Federal taxes.

2. Save for Retirement

The government wants us to save for retirement. That's why retirement accounts come with a number of immediate and long-term tax benefits. These benefits come in the form of reducing taxable income and tax deferral. The details depend on the plan(s) you use.

2.1 Company-Sponsored 401(k) Plans

A company 401(k) is an employer-sponsored retirement plan where contributions are made pre-tax, directly reducing one's taxable income for that year. This upfront tax benefit translates to immediate savings. Additionally, all investments within the 401(k) grow on a tax-deferred basis, meaning they compound without the drag of annual taxes. The catch? Taxes are due when funds are withdrawn in retirement, potentially at a lower tax rate.

2.2 Traditional IRAs

The Individual Retirement Account, or Traditional IRA, is a personal retirement savings tool that may offer tax deductions on contributions, effectively lowering one's taxable income for the year. Just like the 401(k), the funds inside a Traditional IRA grow tax-deferred, accumulating without yearly taxes. The trade-off is that these savings will be taxed upon withdrawal during retirement.

2.3 Roth IRAs

Roth IRAs operate a bit differently. While contributions are made with post-tax dollars, meaning no immediate tax deduction, the real advantage comes later. The investments within a Roth IRA not only grow without annual taxes but, more importantly, withdrawals during retirement are entirely tax-free. This means both the contributions and the impressive growth over time can be enjoyed without any additional tax burdens.

3. Contribute to Your HSA

Keeping money aside for medical emergencies can actually lower your tax bill. Health Savings Accounts (HSAs) are tax-favored accounts designed to encourage individuals with high-deductible health plans to save for future medical expenses.

You can stash away pre-tax money – up to $3,850 for individuals or $7,750 for families (2023 figures). If you're 55 or older, there's an extra $1,000 "catch-up" contribution. This money grows tax-free and can be withdrawn tax-free for qualified medical expenses.

Certain coverages, like Medicare or being claimed as a dependent on someone else's tax return, can disqualify you. Yet, things like disability, dental plans, or cancer insurance won't affect your eligibility. To benefit from these tax advantages, you need to file Form 8889 with your tax return.

4. Make Charitable Contributions

Donating to qualified charities can offer tax benefits if you itemize deductions on your tax return. Only donations to IRS-approved 501(c)(3) organizations are deductible. The deduction is often limited to a percentage (typically 60%) of your Adjusted Gross Income (AGI).

Always obtain a receipt for cash donations over $250. Non-cash donations, like clothing or stocks, have specific rules regarding valuation. Excess donations can be carried forward to future tax years.

5. Invest With Taxes in Mind

Tax law favors investors holding on to their investments. This helps reduce volatility in the market and discourages speculation. Assets held over a year are taxed at 0%, 15%, or 20% based on income, while those held under a year are taxed as regular income.

You can also lower your tax bill by cutting your losses. Tax-loss harvesting allows offsetting gains by selling at a loss. Excess losses over capital gains can deduct up to $3,000 from other income, with remaining losses carried forward to future years.

Long-Term Capital Gains Tax, 2023
Tax-filing status 0% tax rate 15% tax rate 20% tax rate
Single $0 to $44,625 $44,626 to $492,300 $492,301 or more
Married, filing jointly $0 to $89,250 $89,251 to $553,850 $553,851 or more
Married, filing separately $0 to $44,625 $44,626 to $276,900 $276,901 or more
Head of household $0 to $59,750 $59,751 to $523,050 $523,051 or more

6. Conclusion

Tax law in the US is complicated, that much is clear. It may feel like you only can hold on to a fraction of every dollar you earn. And while there is truth to that, there are some simple steps you can take to make that fraction larger. You don't have to be a professional accountant to lower your tax bill. You keep more of your hard-earned salary by staying on top of available tax credits and leveraging them.