Video: Bunching Tax Deductions: How It Can Save You Money
Bunching Tax Deductions: How It Can Save You Money
Video Transcript:
Are you surprised at how high your income taxes have become? Remember this from an old Morgan Stanley ad. “You must pay taxes. But there’s no law that says you gotta leave a tip.”
Hello, this is Blaine Carr with Petersen Hastings. Did you used to end up with more tax deductions when you itemized? This is the case for millions of Americans ever since the Tax Cuts and Jobs Act went into effect in 2018. This Act removed dependency exemptions and roughly doubled the standard deduction for individuals. While many taxpayers are better off under this system, some still might be able to increase their deductions and lower their tax bills.
First, let’s break down itemized deductions. When you prepare your income tax return you add up your deductions for medical, state and local taxes, mortgage interest, gifts to charities, etc. If the total of these deductions exceeds the standard deduction, you are entitled to itemize your deductions using Schedule A. If your deductions do not exceed the standard deduction, about $25k for joint filers in 2021, then you get to use the standard deduction instead.
The opportunity comes for those taxpayers who have a lot of allowable deductions, yet still do not exceed the threshold of the standard deduction. This could be a one-time situation or maybe it’s a regular occurrence. I am going to explain the latter and then you can apply it to the one-time situation accordingly.
With bunching, you shift as many of your deductions as you can from multiple tax years into a single tax year. You itemize your deductions for the year you bunched them and then you take the standard deduction for the other years. You can bunch every other year, every third year, or some other frequency.
Let’s look at an example. Here the taxpayer is filing a joint tax return.
We’ll keep it simple and use the same deductions for years one and two. Deductions for taxes, interest, and charity total $22,000 each year. Under normal circumstances this taxpayer would use $25,000 each year, for a total of $50,000. Scenario two, after gaining great insight from this video, the taxpayer decides to prepay his year-two charitable contributions at the end of year one. Everything else is the same. This taxpayer will be able to itemize $30,000 of deductions for the first year and then take the standard deduction for the second year, totaling $55,000 in deductions. This extra $5,000 of deductions would yield $1,100 in tax savings over the two-year period, assuming a 22% tax bracket. I have seen other situations result in even more tax savings.
Let’s quickly review this concept. Evaluate your itemized deductions relative to the standard deduction provided for your filing status. Determine which deductions over multiple tax years you can bunch into a single tax year. Be sure to save up the money in an account so you can pay for these deductions. You can even pay early and late in the same year to make it easier on the charity. Be sure to save your receipts so that you remember to itemize these deductions when you file your return.
Thanks, a “bunch” for joining me today. You should check with your tax advisor before you implement any of the strategies covered in this video. Please share this video with your friends and family. Next time we will take a deeper dive into charitable giving.