Whether you’re a seasoned taxpayer or preparing for your first fiscal year, understanding various strategies to optimize your taxes can save you money. One such strategy is “Bunching Your Deductions”. This method could potentially enhance your tax savings in any given year. Today, we’re diving into the specifics of this method and why it might make sense for you.
What is Bunching Your Deductions?
“Bunching your deductions” isn’t about mimosa and pancakes for Sunday brunch. It refers to a strategy to accumulate your itemized deductions in a particular year. It’s potentially useful for those expecting a surge in their tax bracket, maybe due to a high income year or anticipated elevated income for an extended period. By leveraging this method, you can reduce your taxable income and potentially lower your tax liability.
Understanding the Basics
To grasp this strategy, you need to understand what the standard deduction is. As of 2023, if you’re single or married filing a separate return, the standard deduction is $13,850. If you’re married filing a joint return, it’s $27,700.
A large number of Americans, somewhere north of 90%, take the standard deduction due to the substantial increase under the Tax Cut and Jobs Act passed a few years ago. However, it’s important to remember that these large standard deductions are set to expire starting January 1, 2026.
Bunching Your Deductions: The Strategy
The concept behind bunching is to intentionally accumulate as many itemized deductions as possible in a given year so that they exceed the standard deduction. For example, if you’re in a variable compensation role and anticipate a surge in income this year, you could explore bunching your deductions to reduce your taxable income. In future years, you can simply take the standard deduction.
Alternatively, if you’re planning to transition to retirement in a few years and are currently in a higher tax bracket, it might make sense to bunch your deductions now to reduce your current taxable income.
Let’s assume you’re filing a joint tax return, and the standard deduction for you is $27,700. Your itemized deductions include:
- State and local taxes (SALT): $10,000
- Mortgage interest: $15,000
- Charitable contributions: $1,000
In this scenario, your total itemized deductions are $26,000, which is less than the standard deduction, so it wouldn’t make sense to itemize.
However, let’s say you’re expecting a high-income year and want to reduce your taxable income. Here, bunching comes into play. You could front load 10 years’ worth of charitable contributions into one year, bringing your charitable deduction to $10,000. By itemizing, you have successfully reduced your taxable income.
Bunching your itemized deductions can be an effective way to optimize your tax savings, especially in high-income years or when expecting a change in income. However, it’s a strategy that should be considered in light of your overall financial plan.
For more comprehensive assistance with financial planning and taxes, don’t hesitate to reach out to us at below. With personalized advice and expert guidance, we’re here to help you navigate the complex world of tax planning.
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