5 Ways to Lower Your Adjusted Gross Income

Tax planning consists of more than planning to see your CPA at tax time. When the fiscal year-end comes and goes, a lot of tax reducing strategies pass you by, which is why you should be aware of your options well before year’s end.

A big part of tax planning is lowering your taxable income, by increasing your above-the line and itemized deductions. Above-the-line deductions are expenses that the IRS allows taxpayers to subtract from their gross income (before taxes are taken out.) Your adjusted gross income (AGI) is simply your total gross income minus certain deductions determined by the IRS.

Reducing your adjusted gross income is extremely beneficial as it’s used to determine things like personal exemptions, it lowers your taxable income, and can even push you into lower tax brackets.
If you are thinking of going back to school or your children will be going to college soon, lowering you AGI will be of great importance to you, because the government uses your AGI when determining financial aid for prospective and current students. The lower it is the more money in financial aid you or your child will receive.

First off, let’s take a look at what makes up your gross income. You will need to add up the following items and categories:

• Wages, salary, tips, commissions
• Self-employment income
• Taxable interest
• Income from dividends
• Capital gains
• Total IRA distributions
• Pensions, annuities
• Rental income
• Income from alimony payments

Basically, any income you receive adds into your total gross income. From your gross income, you can then subtract your above-the-line deductions to determine your AGI. Below is a list of common above the line deductions used when determining your AGI.

Common Above-the-line Deductions

1. Retirement Plan Contributions
Solo 401K, SEP, and traditional IRA contributions are tax deductible and directly reduce your AGI. It should be noted that a 401K plan will most likely allow you to contribute the most to your retirement. Also, penalties on early withdrawal of your savings are tax deductible.

For more information on retirement plans for independent contractors, click here.

2. Health Savings Account
A health savings account (HSA) is similar to an IRA account, except it’s not primarily for retirement savings. If you purchase a high deductible health plan, or HDHP, you can open a HSA, which can be used to put away money for medical expenses that are below your health plan’s deductible amount. The funds that are contributed to the account are not subject to Federal Income Tax at the time of deposit. HSA funds can be used at any time for qualified medical expenses without tax liability or penalty. To find out if you have a HDHP, contact your health insurance provider.

3. The Tuition and Fees Deduction
You are allowed to deduct up to $4,000 from your income for qualifying education expenses paid for you, your spouse or your dependents each year. Qualified education expenses include what you pay on tuition and any mandatory enrollment fees to attend any accredited college above high school level.
– The interest on student loans is tax deductible.

4. Alimony Payments
If you are divorced and paying alimony, make certain you keep track of those payments, because they are tax deductible and lower your AGI.

 

Other ways to lower your AGI

5. Shift Income to Family Members
As a sole proprietor, you can take advantage of your children’s tax bracket by paying your kids to do legitimate tasks for your business. Whether it be cleaning your office or organizing and delivering your mail, whatever you decide.

The first $6,300 of your child’s earnings from your business is sheltered by the standard deduction, and any amount above that is taxed at the child’s rate. Also, because they are your children, their wages are not subject to payroll taxes. So as long as you stay within the $6,300 dollar limit, it’s completely tax free. Please note, there are some limitations on how the IRS will allow you to spend that money.

As the owner of an S corporation, you are also able to take advantage of this tax saving strategy, however it will require you to start a separate sole proprietorship Family Management Company, to pay your children through.

Through this strategy, you are not only making a deductible expense to your income that lowers your AGI, but you are also sheltering up to $6,300 per child, from any taxes.

 

***
In review, you take your total gross income and subtract your above-the-line deductions, to equal your adjusted gross income (Total Gross Income – above-the-line deductions = AGI). Your adjusted gross income is used in determining several things including financial aid for students and which tax bracket you fall under. Your taxable income is your AGI minus your itemized deductions (AGI – itemized deductions = taxable income).

For more information on itemized deductions, click here.

The lower your AGI, the lower your taxable income, the more financial aid you can receive, and you might even push yourself into a lower tax bracket.

It becomes clear from the information provided in this article that everyone can benefit greatly by lowering their AGI. However, you should only take advantage of these strategies when it makes sense for you and your situation.

At Independent Contractor Tax Advisors, helping clients reduce their tax bill is our number one priority. Whether it’s done through implementing tax strategies like the ones laid out in this article, changing your business structure, or maximizing your itemized deductions, we have you covered. Contact us today to set up a free tax consultation!

CLICK HERE FOR A FREE TAX CONSULTATION

Tags: adjusted gross income, corp to corp, independent contractor taxes