In addition to maximizing retirement savings and keeping detailed records, business owners should consider whether they should accelerate or defer income to avoid paying taxes at a higher bracket.
The IRS continues to build on its progress by delivering world-class service and ensuring taxpayers can reach the agency when they need it, including expanding in-person assistance and meeting taxpayers where they are.
- Review Your Income and Deductions
There are many ways your life can change throughout the year that impact your tax liability. Qualification for the Earned Income Tax Credit or age of dependents are just two examples. Another is an increase in the amount of deductible medical expenses, since you can deduct up to 7.5% of your adjusted gross income (AGI).
The IRS adjusts taxes and deductions annually for inflation, and these adjustments were significant this year thanks to record-high consumer prices. For 2023, these cost-of-living increases could reduce your taxable income and help you avoid “bracket creep.”
A number of credits and deductions are available for individuals of all filing statuses. However, the list is ever-changing, so it’s important to speak with a tax professional about what you can qualify for. One notable change is that for the first time, small business owners and freelancers who receive income from third-party digital platforms like Venmo or Facebook Marketplace will have to report it.
- Review Your Business Structure
The type of business structure you choose impacts many things, including tax rates and filing requirements, your ability to raise funds and how much personal liability protection it provides. It’s also a prerequisite to registering your business with the state and receiving an employer identification number and necessary licenses and permits.
A legal structure can be as simple as a sole proprietorship or partnership or as complicated as an S corporation or C corporation. The right one for your business depends on a variety of factors, including how you plan to grow your company and whether you want a hierarchical structure that prevents closure if an owner transfers shares or dies.
Changing your business legal structure can be complicated, so it’s important to consult with a business attorney and tax specialist. Also keep in mind that this year, many states are implementing changes to their tax policies related to the pandemic. You’ll need to monitor these changes to ensure your compliance.
- Maximize Your Retirement Savings
Funneling money into tax-advantaged retirement accounts is essential to achieving a secure financial future. But you may be limited by how much you can save in a given year, as the IRS routinely adjusts contribution limits based on inflation.
These annual adjustments, known as cost-of-living adjustments or COLAs, are designed to offset the effects of rising prices and prevent “bracket creep,” where you suddenly find yourself in a higher tax bracket even though your income hasn’t increased. These adjustments also apply to the standard deduction and other dollar amounts in the tax code.
The good news is that the indexed contribution limits for 401(k) plans, 403(b), most 457 plans and the Thrift Savings Plan for federal employees have risen in 2023. This means you can save an additional $22,500 per year, plus $6,500 in catch-up contributions if you’re 50 or older. If you’re able to make these higher contributions, it could significantly increase your retirement savings.
- Accelerate or Defer Income
In general, you can reduce your tax liability by accelerating income recognition and deferring deductions. Generally, these techniques involve timing your income and expenses (to the extent you have control over them).
For example, you might want to accelerate revenue by increasing collections before year end through invoicing earlier, offering early-payment discounts or contacting customers that are late on payments. You might also consider deferring expense deductions by postponing equipment purchases and using cash-basis accounting for prepaid rent.
Similarly, you might want to delay exercising nonqualified stock options in order to generate taxable compensation that is taxed at a lower rate later on, or by selling fully depreciated assets before the asset’s carryover basis expires. This may enable you to defer income tax on those sales and possibly reduce your taxable income in 2023. These strategies could prove particularly helpful if you expect your tax rate to rise next year. However, it’s important to take your unique situation into account before implementing such plans.