Wright FIN 205 - Chapter 4 Planning Your Tax Strategy

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Slide 1Taxes and Financial PlanningTaxes and Financial Planning (continued)Four Types of TaxesWhat Tax Records to KeepComputing Your Tax LiabilityComputing Your Tax Liability (continued)Computing Your Tax Liability (continued)Slide 9Slide 10Slide 11Slide 12Tax Credit versus Tax DeductionW-2 FormFiling Your Federal Income Tax ReturnWhich Tax Form Should You Use?Decide Which Tax Form to UseCompleting Your Federal Income Tax ReturnSlide 19Tax Information SourcesTax InformationSlide 22What if Your Return is Audited?Tax-Planning StrategiesSlide 25Slide 26Slide 27Slide 28VITAChapter 4Planning Your Tax StrategyPlanning Your Tax StrategyMcGraw-Hill/IrwinCopyright © 2007 by The McGraw-Hill Companies, Inc. All rights reserved.Taxes and Financial Planning•About one-third of each dollar you earn goes to pay taxes.•An effective tax strategy is vital for successful financial planning.•Understanding tax rules and regulations can help you reduce your tax liability.4-2Taxes and Financial Planning (continued)•To help you cope with the many types of taxes you should...Know current tax laws as they affect you.Maintain complete tax records. Plan purchases and investments to reduce your tax liability.• Tax planning – Take advantage of tax benefits while paying your fair share of taxes4-3Four Types of TaxesTaxes on purchases.Sales tax & excise tax.Taxes on property.Real estate property tax.Personal property tax.Taxes on wealth.Federal estate tax, state inheritance taxesTaxes on earnings.Income, Social Security taxes4-4What Tax Records to Keep•Current tax forms, instructions.•Copy of previous year’s returns.•W-2 forms from employers, SSN’s•1099 forms (interest, self employment).•1098 forms (mortgage interest paid).•Receipts and documentation for expenses.•Investment & business expense documents.4-5Computing Your Tax Liability•Step 1: Determining adjusted gross income.Identify taxable income - net income, after deductions, on which income tax is computed. Types of income subject to taxation include…Earned income - includes wages, salary, commissions, fees, tips or bonuses.Investment income is money from dividends, interest, or rent from investments.Passive income is from business activities - you do not directly participate - limited partnership.Alimony4-6Computing Your Tax Liability (continued) Total income is affected by exclusions.•Exclusions are amounts not included in gross income.•Exclusions can also be tax-exempt income, which is income not subject to federal income tax. An example is interest on most state and city bonds.Total income is also affected by tax-deferred income. This is income that will be taxed at a later date, such as earnings from an traditional individual retirement account (IRA).4-7Computing Your Tax Liability (continued)Adjusted gross income is gross income after certain reductions have been made. These reductions are called adjustments to income, and include the following.•Contributions to a traditional IRA or Keogh.•Alimony payments.•Student loan interest, tuition & fees deduction.•Tax-deferred retirement plans, such as a 401(k)or a 403(b)(7) are a type of tax shelter.4-8Computing Your Tax Liability (continued)•Step 2: Computing Taxable Income.A tax deduction is an amount subtracted from adjusted gross income (AGI) to arrive at taxable income.You can subtract the standard deduction from AGI or itemize your deductions;Itemized deductions can include items such as...•Medical, dental expenses >7.5% of AGI.•Taxes, mortgage interest, contributions.•Miscellaneous expenses > 2% of AGI.4-9Computing Your Tax Liability (continued)Next subtract exemptions from AGI.•An exemption is a deduction for yourself, your spouse and qualified dependents.•The amount of the exemption for the 2005 tax year was $3,200 per person. This amount increases each year.After deducting exemptions you have your taxable income.4-10Computing Your Tax Liability (continued)•Step 3: Calculating taxes owed.The percent rates are the marginal tax rates on the last dollars of taxable income. •For example, after deductions and exemptions, a person in the 28% tax bracket pays 28 cents in taxes for every dollar of taxable income in that bracket.4-11Computing Your Tax Liability (continued)A person’s average tax rate is based on the total tax due divided by taxable income. This rate is less than a person’s marginal tax rate. •For example, if a person with a taxable income of $30,000 has a total tax bill of $3,000, their average tax rate is 10%.•Subtract tax credits.A tax credit is an amount subtracted directly from the amount of taxes owed, such as the earned income, child, and dependent care credits.4-12Tax Credit versus Tax Deduction•$100 Tax Credit reduces your taxes by $100•$100 Tax Deduction reduces taxes by $28 if you are in the 28% bracket 4-13W-2 Form1 Control number 3 Employer's Identification number 4 Employer's State numberCopy B to be filed withemployee's FEDERAL tax returnThis information is being furnished to theInternal Revenue Service5 Statutory De- Legal 942 Sub- Void Employee ceased rep. emp. total2 Employer's name, address, and ZIP code8 Employee's social sec. number 9 Federal Income tax withheld 10 Wages, tips, other comp 11 Soc sec tax withheld12 Employee's name, address, and ZIP code 13 Social security wages 14 Social security tips16 16a Fr ben. incl in Box 1017 State income tax 18 St wages, tips, etc 19 Name of State20 Local income tax 21 Loc wgs, tips, etc 22 Name of localityDepartment of the Treasury Internal Revenue Service OMB No. 1545-000816-0331690Information Data, Inc.9834 Collins Blvd.Benton, NJ 08734123-45-6789 2,678.93W-2 Wage andTax Statement23,972.09 1,725.9923,972.09Barbara Victor124 Harper LaneParmont, NJ 07819Making Tax Payments - Withholding4-14Filing Your Federal Income Tax Return•There are five filing status categories.Single or legally separated.Married, filing jointly.Married, filing separately.Head of household.•Unmarried individual who maintains a household for a child or dependent relative.Qualifying widow or widower (2 years).4-15You must file if your gross income > a certain amount. This amount changes each year.Which Tax Form Should You Use?•Least complicated. Quick and easy to file.•Single or married filing jointly, under age 65 and with no


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Wright FIN 205 - Chapter 4 Planning Your Tax Strategy

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