8 tax mistakes to avoid

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8 tax mistakes to avoid


Doing taxes can be stressful, but filing doesn't have to be a nightmare. The stress of the unknown is sometimes the worst of all: What if you made a mistake? What if you missed a deduction and lost out on a refund? What if you get audited?

We spoke to personal finance and tax pros for the worst tax mistakes they've seen -- and how you can avoid them.

1. Not withholding enough from your paycheck

Your employer withholds income tax from your paycheck based on the number of withholding allowances you've claimed on your W-4.

If your tax circumstances change and you don't update your W-4, your "withholding can end up being too high or too low," says Nate Smith, director at the National Tax Office of accounting provider and business consulting company CBIZ MHM.

If too little is taken out of your paycheck, you could owe money come tax time, in addition to any penalties.

For example, if you get divorced or have fewer dependents than you used to, it's your responsibility to update your employer.

The IRS recommends that employees file an amended W-4 within 10 days from a qualifying life event, such as getting married. However, be aware that if you file, with no reasonable basis, a W-4 that results in less tax being withheld, you may be subject to a $500 fine.

2. Not maximizing 401(k) contributions (if you can afford to)

The annual maximum contribution to a traditional or safe harbor 401(k) plan during 2016 and 2017 is $18,000 (with an additional $6,000 available for employees age 50 or older).

Employer matching contributions are tax-free to employees (meaning that you can contribute the maximum each year and collect your employer's match), Smith says, so there's no tax reason not to max out your contribution. Just note that there's a contribution limit for the amount that both you and your employer contribute (in 2017, the lesser of 100 percent of the employee's compensation OR $54,000).

Not to mention that time can be one of your best allies if you start investing sooner rather than later, giving your money more time to grow and more time to recover from potential losses.

3. Failing to maximize your deductions

Carlos Dias Jr., a financial adviser with specialized tax knowledge at MVP Wealth Management Group and Excel Tax & Wealth Group, had a professional athlete client who believed that any deductions might trigger an audit.

"He wasn't even claiming mortgage interest and other legitimate deductions," Dias says.

The lesson here? Spend some time before filing to understand what you can legitimately write off when you're filing taxes. While only filing legitimate deductions isn't a guarantee against an audit (your return can be selected from a random returns sample and then reviewed by an auditor), you should take advantage of all the deductions and credits you qualify for.

Some common missed credits and deductions include out-of-pocket charitable deductions and the Earned Income Tax Credit.

4. Assuming your deductions will be bigger than they are

Be wary of making purchases based on expected tax breaks, unless you've done all your research. "Some taxpayers who buy their first home have been told by real estate brokers that they will save on taxes by buying," says Cheryl Gluckman, a practicing CPA for 29 years.

Every taxpayer can take a standard deduction, meaning that your deductible expenses need to be higher than the standard deduction in order to make itemizing worthwhile.

Many people forget about the standard deduction, Gluckman says, which for 2016 tax year is $12,600 for most married couples filing jointly and $6,300 for most single filers.

In some parts of the country, "the deductible mortgage interest and property taxes can be lower than the standard deduction," meaning that the taxpayers don't save any additional money as a result of buying the home.

5. Failing to maximize your low-income years

If you have certain years in which your income is particularly low -- like if you're between jobs, went back to school or just retired -- you might want to consider taking advantage of your low income while your tax bracket is low.

For example, you could cash in on outstanding capital gains or convert a traditional IRA to a Roth IRA (when you convert, you pay taxes on any untaxed amounts in the traditional IRA).

Dias says, "A lot of times, seniors don't realize that if they just take Social Security and maybe a small pension, they might be in the 0 percent tax bracket, which means they'll pay no taxes on money that comes in because Social Security isn't reportable until a certain threshold."

The same logic applies if your income drops for other reasons, Dias says, like if you've had a child and one spouse chooses to stay home: "Those are the years when you can convert money from taxable to Roth IRAs and pay the least tax on doing so."

6. Not using your capital losses to offset your capital gains

If you sell investments at a net loss, you're allowed to use those capital losses to offset other capital gains or offset up to $3,000 of other income per year, until you've claimed all of your losses.

For example, if you lost $9,000 in the stock market, you could theoretically deduct $3,000 a year for three years.

So if you're thinking about selling some of your investments at a profit, doing so in a year when you have capital losses to report could mean lower, or zero, capital gains taxes.

"Net short-term capital gains are subject to a higher tax rate than net long-term capital gains," Smith says, so offsetting short-term capital gains with long-term capital losses could make this strategy even more valuable.

That said, you probably shouldn't sell any investments for tax purposes only. Talk to your financial adviser and tax planner before making any final decisions.

7. Choosing the wrong accountant

Many of the big mistakes Dias has seen were committed under the watchful gaze of an accountant. So, how can you make sure your accountant is actually giving you good advice?

"I'd always recommend getting a second opinion if you feel uneasy about things. That's especially true if your situation is more complex, like if you're a business owner, you're in real estate, or you rent homes or have investments," Dias says.

"When you're interviewing a tax preparer or using a referral, ask what her specialties are. What are her strongest skills? What are some things she hasn't done? Don't focus solely on credentials -- you also need to ask questions," Dias adds.

Generally, before an accountant files a return on your behalf, she'll send it to you to review. Don't just sign on the dotted line without scrutinizing the content, since at the end of the day it's your tax return and you're ultimately responsible for what's in it.

Remember that if your accountant screws up, you're still the one who will owe money and penalties. That's what your signature on your tax return represents -- that you've examined the return and signify that everything in it is true and complete.

8. Trying to go at it alone if you have a complex tax situation

"Understandably, consumers often try to mitigate their costs by using online tax software," says Owen Malcolm, Certified Financial Planner™ and managing director at United Capital.

DIYing your taxes might be all right if you have a simple tax situation, like if you're a student or only need to file a basic income return. For many people, filing for free with online services like Credit Karma can save money and hassle.

If your situation is more complicated--like if you're a small business owner, have capital gains to report, worked internationally, own rental properties or more--you might avoid easy missteps by working with a pro.

"A smart, proactive CPA may cover his fee for years by coming up with just one or two good ideas," Malcolm says.

About the Author: Allison Kade is a freelance writer whose work has appeared in publications including Bloomberg, Travel + Leisure, Forbes, Real Simple, Business Insider, TheStreet, BoingBoing, Fox Business News and more. When she isn't writing about personal finance, she's probably still writing fiction. Or traveling. Or solving -- or creating -- puzzles. Follow her on Twitter.

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