As a tax professional, I prepare hundreds of tax returns every year. When I first started out, I used to think that the best way I could help people was to prepare a return as accurately and as quickly as possible. You know, provide great customer service.
And it is very important that your return be done "right" --all the numbers on the right lines, using the right forms, etc.
But no matter how good a job I did preparing tax returns, every year I would hear the same complaint over and over again from my clients:
"I pay way too much tax. The government is getting way too much of my money. What can I do to pay less tax? How can I lower my tax bill -- legally?"
Sound familiar? I'd bet a lot of money that you've felt this way, too. Most people feel this way. And I know that most small business owners feel this way.
And most people really don't know what to do about it. I mean, what can you, the typical self-employed person, do to lower your taxes?
I'm here to tell that there is plenty you can do. So let's get started. Here are 4 simple steps you can take to drastically reduce your taxes:
STEP #1: Understand How Serious Your Tax Problem Is
I'm a numbers guy. So here's a few numbers that will simply amaze you, startle you, probably (and hopefully) even shock you.
Are you aware of just how much in taxes you are paying? Sure, when you look at your tax return each year, you see the numbers, right there in black and white. But I rarely meet someone who truly understands the significance of your annual tax bill.
Well here are the numbers. And it ain't pretty. The following is a chart that tells how much the average family spends on various consumer categories -- as a percentage of income. It's not just how much you spend on taxes that is important, it's how much you spend on taxes as compared to all other major categories of spending.
Consumer Spending: How Do You Spend Your Hard-Earned Dollars?
Taxes 32.0%
Housing 16.7%
Medical Care 11.5%
Food 8.2%
Transportation 7.9%
Recreation 5.7%
Clothing 4.1%
Savings 1.4%
Other 12.5%
TOTAL 100.0%
So there you have it. If you think you are being nailed by the government, you are absolutely right. You spend more on taxes than any other category of consumer spending. In fact, you spend more on taxes than on food, clothing, and housing combined. (Run the numbers: Food-8.2% + Clothing-4.1% + Housing-16.7% = 29% vs. Taxes-32.0%)
Think about it -- the Average American spends 32% of his/her income on taxes. And it's not just federal income taxes we're talking about here. There's also state income taxes and local income taxes (like your city or county).
Oh, we're not done. That 32% also includes "Payroll Taxes" -- for employees, that's the 7.65% of your gross wage that goes to fund Social Security and Medicare programs; for business owners and self-employed people, Payroll Taxes are double that amount -- 15.3% of your wages or self-employment income.
And if that's not enough, there is also Sales Tax, Excise Tax, and Property Tax.
Finally, we should include Corporate Income Tax. Why do I include that? Well, where do corporations get the money to pay their corporate income tax? From consumers like you and me, that's where! When you buy groceries, part of the price is going to be used by the grocery store to pay the store's income tax. The grocery store just passed his tax bill on to you.
Here's another way to look at it. Each year economists do a calculation to determine "Tax Freedom Day". What is "Tax Freedom Day"? It's a way to graphically depict that we spend 32% of our money on taxes. In Year 2008, Tax Freedom Day was April 23. That means that from January 1 through April 22, all the money you made went to taxes. Finally, on April 23, you now get to keep what you make for the rest of the year.
By the way, the April 23 date is a national average. Your actual Tax Freedom Day may actually be a few days sooner or later than April 23, depending on which state you live in. That's because state and local taxes vary considerably. For example, Washington, DC residents do not get to celebrate Tax Freedom Day until May 3. Connecticut's Tax Freedom Day is May 8 (the latest of any state.) The earliest state to celebrate Tax Freedom Day is Alaska - March 29.
Maybe you already knew "intuitively" that your Tax Bill is outrageously high. If not, the picture I've just painted should thoroughly convince you that you pay too much tax, period.
STEP #2: Get The Right Attitude About Your Taxes
What do I mean by this? Well, you simply must have a certain "mental attitude" toward this whole idea of paying taxes. I'll get right to the point -- you must have an attitude about taxes that says, "Enough is enough. I'm paying way too much tax and I don't like it! And it's about time I did something about it."
After reading those numbers above -- paying 32% of your income to the government -- how do you feel? Doesn't that just make you furious? If so, great, then you are on your way to solving this problem.
If you saw those numbers above and said, "Big deal. So I work until April 23 for the government. So what? So does everybody else in this country" -- well, I'm sorry, but you might as well just throw this article in the trash and forget about it. You will continue to pay way too much tax because you really don't care about it.
To reduce your taxes, you must have a desire for paying less tax. You must get focused on doing something about it. Right now, or before the day is over, go get last year's personal income tax return (Form 1040) and look at how much tax you paid for last year.
Now, when you have Form 1040 in front of you, do you realize where the most important number is on this form?
NO, it's not Line 73 -- which tells you how much of a refund you got (if any!).
NO, it's not Line 76 -- which tells you how much you still owed, the balance due with the return.
The most important number on Form 1040 is Line 63. Read it. It says: This is your TOTAL TAX. That is how much federal tax you paid for all of last year. When it comes to reducing your taxes, it doesn't matter whether you got a refund or whether you had a balance due.
What matters is -- what was your total tax liability for the year. That's the "magic number" that should just make your blood boil and your heart beat so fast that you can hardly stand it.
Now that I've got you all "riled up" about paying so much tax, let's move on to Step #3.
STEP #3: Realize That Reducing Taxes Is the Easiest Path Possible to Putting Hundreds of Thousands of Dollars in Your Pocket
Consider this simple fact: Reducing your taxes by just $4,000 per year is the easiest way possible to becoming a millionaire.
Let me elaborate.
First, let me "run the numbers" for you. Let's say you implement some new tax-saving strategies that reduce your taxes by $4,000 each year. Now, if you take that $4,000 per year in tax savings and invest it over the next 30 years, assuming you earn 5.25% on your investment, you end up with $310,584 at the end of the 30 years.
And here's the best part about this scenario: Where did you get the $4,000/year to invest? Well, you got it from money that would have gone to Uncle Sam. It's money that you used to spend on taxes, part of the 32% of your income that goes to taxes each year.
In effect, it's free money. It's money that was always there -- you just didn't realize it.
Is this a good deal or what? In effect, by taking advantage of the tax reduction strategies you'll read about shortly, the government will finance a huge chunk of your retirement nest egg.
And let's say your tax situation is such that you save $2,000/year instead of $4,000/year. Same assumptions: you invest the $2,000 each year at 5.25% for 30 years. End result: $155,292. Not too shabby, eh?
So all you have to do is come up with the tax-saving strategies that will put $2,000 or $4,000 in your pocket each and every year. Which brings us to Step #4.
STEP #4: Get Hold Of The Tax-Saving Strategies That Will Make You Rich
You know, it doesn't really take much information to save a lot of money in taxes. It is true: just a little bit of tax knowledge can save you thousands of dollars every year.
Useful tax information is freely available. On the internet, at your local library, and through your local tax professional.
The question is: Are you willing to spend some time this year learning about effective tax strategies that can save you literally thousands of dollars?
Here's a simple goal to set for yourself: Over the next 10 weeks, set aside just an hour a week to read up on tax-reduction strategies. That's all, just 10 hours.
Chances are you'll find 2 or 3 strategies that reduce your tax bill by $1,000 this year.
So you spend 10 hours and, in effect, pay yourself an extra $1,000 for your time. Not a bad hourly rate, eh?
That's all it takes to pay less tax.
