4 Different Types of Taxes and How To Minimize Them

pay taxes piggy banksAlthough your personal income taxes are probably foremost in your mind right now, they’re not the only taxes you’re required to pay. In fact, Americans are on the hook for several different types of taxes over the course of the year.

Of course, most of us would prefer not to pay any taxes at all, but the truth is there are several benefits to paying different types of taxes, including opportunities to reduce your burden and spread out the impact taxes have on your financial picture. Here are four types of taxes many of us are subject to at some point, along with tips on how to minimize their impact.

1. Personal Income Taxes

What They Are

Most Americans who receive income in a given year must file a tax return. Only if you earned less than the IRS-designated gross income limits can you forego filing a return. For the 2015 tax year – filing in 2016 – the gross income limits were as follows:

  • Single: $10,300 (65 or older: $11,850)
  • Head of household: $13,250 (65 or older: $14,800)
  • Qualifying widow(er) $16,600 (65 or older: $17,850)
  • Married filing jointly: $20,600
    • Married filing jointly, not living with spouse at end of year: $4,000
    • Married filing jointly, with one spouse 65 or older: $21,850
    • Married filing jointly with both spouses 65 or older: $23,100
  • Married filing separately: $4,000

Many of us who file a return may be lucky enough to get a refund on our taxes because we overpaid – a result of paycheck withholding. Of course you might find that you owe money at the end of the year, in which case you may need to adjust your withholdings so you don’t find yourself in the red come tax day next year.

Even though writing that check to the IRS hurts, keep in mind that your taxes serve a purpose. The funds you pay are a very important source of revenue for federal, state, and local governments because they are paid regularly throughout the year, thus helping to balance budgets and keep smaller governments from having budget crises. Also, the next time you’re feeling down about how much you’re paying Uncle Sam, look around at the schools in your community, your police department, and the roads you’re driving – that’s your tax dollars at work.

What You Can Do to Ease the Burden

If you’re looking to ease your tax burden, you can do the most to affect your personal income taxes through personal tax deductions and credits. Although not everyone qualifies for credits, and your situation may change from year to year, it’s worth looking into or asking your tax preparer if you might qualify.

Some of the more popular tax credits include the following:

And, here are some of the more popular tax deductions:

Another way to offset your tax burden is to make smart moves with investments. If you’ve invested before, you’re probably familiar with capital gains taxes, which are taxes on the profit of a sale of stock, bonds, or property.

Long-term capital gains tax rates vary depending on your annual income and how long you held the investment. If you hold an investment for less than one year, it’s considered a short-term gain, and any profits are taxed at your current income tax rate. If, however, you hold an investment for longer than one year, the maximum net capital gain tax rate is 28%, in the case of collectibles. The maximum long-term capital gains for most securities (stocks, bonds) is 20%, but may be as low as 0% if your marginal tax bracket is 10% or 15%. Remember, before you sell a stock or bond, take a look at how long you’ve held the investment – hanging onto something a bit longer could save you significant money.

In the event that you make a bad investment and you have capital losses that total more than your capital gains, you can deduct the difference on your tax return. Keep in mind, these losses are limited to $3,000 per year (for the 2015 tax year, the most recent numbers available), or $1,500 for people married and filing separately.

Also, if you’re interested in completely avoiding state income taxes – and who wouldn’t be? – it’s always an option to pack up and move to Alaska, Florida, Nevada, South Dakota, Texas, Washington, or Wyoming. While you can’t escape federal income tax no matter where you live, none of the above states charge state income tax.

2. Consumption Taxes

What They Are

Otherwise known as sales tax, consumption taxes are more heavily levied on the wealthy in the sense that the more you consume, the more you’re taxed. Because this tax is assessed as a percentage of the sales price, it’s a simple equation: The more you buy, the more you pay. The Federal Government doesn’t get involved with setting sales tax; rather, all rates are set by state and local governments. If you’ve traveled the country at all, you can probably attest that these taxes vary greatly from place to place. Every state except Alaska, Delaware, Montana, New Hampshire, and Oregon assess sales tax.

In most states that have a sales tax, groceries and prescription drugs are excluded, so as to reduce the overall tax burden on essential items. The only state that taxes prescription drugs is Illinois, at 1%, and the only states that tax groceries are Arkansas (1.5%), Illinois (1%), Missouri (1.225%), Tennessee (5%), Utah (3%), and Virginia (2.5%).

You may have noticed that sometimes you don’t pay sales tax on items bought over the Internet via online shopping. As long as the retailer doesn’t have a physical presence in your state, you don’t have to pay sales tax. If, however, the retailer does have a storefront in your state, you’re taxed just as if you were shopping in-store.

What You Can Do to Ease the Burden

Unfortunately, there aren’t too many ways to completely escape the sales tax. Of course you could make fewer purchases, look to use the barter system, or always make a point to shop from online retailers that don’t maintain a presence in your state.

Also, per the American Jobs Creation Act of 2004, taxpayers are allowed to claim general sales taxes instead of state income taxes as an itemized deduction. This can be especially helpful to someone who perhaps purchased a new car, boat, or home addition and ended up paying more in sales taxes than in state income taxes in a given year.

3. Property Taxes

What They Are

Property taxes are the oldest form of taxation, and in the U.S., the funds usually go toward local concerns such as sewage treatment, road maintenance, and drinking water. They’re generally calculated based on the value of your property, which includes the value of the land itself plus the value of any buildings you have on it, such as your home. Property taxes go up by predetermined amounts, set by your county auditor or equivalent office.

Property taxes vary widely from state to state, and are most often expressed as a percentage of property value. In New Jersey, for example, property taxes are an effective 2.38% of a property’s value annually, while in Hawaii, the rate is just 0.28%. If you’re considering buying a home, but can be flexible about which state you choose to purchase in, it makes sense to do your homework and find out where the lowest property tax rates are.

What You Can Do to Ease the Burden

You can save money on your property taxes by appealing the property tax assessment on your home. You must get your home appraised by a professional appraiser to prove that it is not worth the value the county is using to set your tax amount. It’s especially important to get an appraisal if the value of your home has declined – or at least if the value of comparable homes in your neighborhood have. The process for appealing your taxes varies from state to state, so check with your local tax assessor or board of equalization.

Also, don’t forget that you can deduct your property taxes on your annual tax return. However, keep in mind that you can only deduct these taxes if you are the owner of the property. If, for example, your spouse owns the property, the taxes are only deductible on your spouse’s separate return, or on your joint return.

4. Estate Taxes

What They Are

Federal estate taxes are one area in which the “average” person can rest easy, and the wealthy may sweat a little bit. For the 2015 tax year, the exclusion amount for estate taxes was $5,430,000. For the 2016 tax year, it is $5,450,000. This means that a person who passes this year can leave almost $5.5 million to their heirs, tax-free. Any monies inherited beyond that amount are taxed at 40%.

Of course with judicious use of gifting, trusts, and other financial wizardry related to estate planning, many wealthy individuals secure their estate in such a way that they are subject to very little estate tax.

What You Can Do to Ease the Burden

If you’re lucky enough to be worried about passing more than $5.5 million on to friends and family, it’s time you involved a professional. As mentioned above, you can establish a trust or gift the money gradually in order to avoid taking a 40% hit. Thankfully the majority of us don’t have to worry about paying estate taxes and we can rest easy that whatever we leave our loved ones can go to them without having to pay a toll.

Final Word

Remember, the tax filing deadline in April isn’t the only day you’re taxed as an American citizen. You can reduce the amount of taxes you pay all year long by learning more about the rules and regulations of sales, property, and estate taxes. Educate yourself and maximize your savings.

How are you minimizing your tax burden?