March 9, 2023 | Article | 5 min Personal insights
Tax laws can be complicated but forming a robust tax plan is crucial to attaining your future financial goals. In this article, we’re breaking down everything you need to know about tax codes and other helpful information to know as you prepare.
A tax plan can benefit you in three ways. It allows you to:
- Maximize savings by leveraging all available tax credits and deductions
- Avoid costly fees and penalties by paying your taxes on time
- Make informed decisions regarding your tax liability and long-term goals
Keep in mind that building your plan can quickly become confusing, as the tax code and eligible deductions change constantly. In Taxes 101, we’ll break down everything you need to know as you prepare to file this year.
Taxes 101: The Basics
The taxes you pay funds local and federal government spending projects for schools, hospitals, public infrastructure, and other services. Understanding the tax system’s inner workings gives you more control over your finances.
What Is the Tax Code?
This is the basis of Taxes 101. The tax code is a set of laws and regulations that govern the collection and distribution of taxes. It handles income tax, payroll tax, estate tax, and other types of taxes.
The tax code contains thousands of numbered sections and subsections that can quickly overwhelm the average taxpayer. Plus, any government or jurisdiction—federal, state, city, or county—that imposes taxation has its own tax code.
How Do Tax Codes Work?
Legislative bodies within jurisdictions propose and sign new tax regulations into law. They may also repeal old laws enacted by a previous administration.
Like most laws, we organize tax codes into different sections that govern different things. For example, the Internal Revenue Code includes 11 subsections, ranging from income and estate taxes to campaign financing and group health plans.
How Do Tax Codes Apply to Individuals?
Three main taxes apply to every American: income, property, and goods and services. Understanding how each affects you at a basic ‘Taxes 101’ level is crucial for future financial planning.
- Income taxes are levied against your personal and/or business revenue. Federal and state income taxes are automatically deducted from your paycheck if you're employed. If you’re self-employed or own a business, you may need to pay income taxes quarterly. Capital gains and estate taxes also fall under the income umbrella.
- Property taxes are levied against the value of your personal property at the local level. If you own a home, you likely pay state real estate taxes once a year, or as a monthly fee tacked onto your mortgage payment. Other items subject to property taxes include cars, boats, planes, and recreational vehicles.
- Goods and services get taxed at the point of sale. For example, some states, such as Oregon and Montana, do not impose a sales tax—so an item priced $4.99 on the shelf in these states costs $4.99 at the register.
Considering Taxes in the Future
Most people pay what they owe (or more) and hope for a return or refund. Effective tax planning elevates your tax strategy. You’ll discover new ways to leverage your tax status in areas like saving and investing.
Tax planning comes with several short- and long-term benefits. In the short-term, you’ll have more money in your pocket after filing. In the long-term, you’ll be able to build your savings, grow your business, and maximize things like your estate.
Priorities and Life Changes
Major life events can impact how you pay taxes. For example, if you get married and have children, you can begin filing jointly and taking dependent credits. Consider these strategies as your life goals change:
- Start a Business: Starting a side business can yield several tax advantages because you can deduct some business expenses from your taxable income. Deductions could include portions of your rent and mortgage if you work from home.
- Maximize Retirement Account Contributions: Saving for retirement is always a good idea. Contributing to an IRA lets you deduct that amount from that year’s taxable income. You may have to pay taxes on it when you withdraw during retirement.
- Know Your Tax Credits: This is another crucial ‘Taxes 101’ lesson, as tax credits can lower your liability significantly. Among the most popular are the Child Tax Credit, Earned Income Credit, and Electric Vehicle (EV) Credit.
Get More Taxes-101 Lessons
Forming a robust tax plan is crucial to attaining your future financial goals. For a more in-depth review of your financial state and additional lessons, we recommend consulting your tax advisor for your tax planning needs.