The goal of tax planning is to arrange your financial affairs so as to minimize your taxes. There are three basic ways to reduce your taxes. You can reduce your income, increase your deductions, and take advantage of tax credits.
Adjusted Gross Income (AGI) is a key element in determining your taxes. AGI is your income from all sources minus any adjustments to your income. The higher your total income, the higher your adjusted gross income. As you can guess, the more money you make, the more taxes you will pay. Conversely, the less money you make, the less taxes you will pay. The number one way to reduce taxes is to reduce your income. And the best way to reduce your income is to contribute money to tax deductible pension schemes. Your contribution reduces your wages, and lowers your tax bill. This is now practical in Zimbabwe under the current USD currency regime. Contributions to these retirement plans will lower your taxable income, and lower your taxes.
Another way is to ensure that if you work for yourself or are an entrepreneur ensure that a significant portion of your funds are reinvested in the business rather than be translated into income. This way one grows the business while reducing active income. One then ensures that the majority of his income comes through passive income.
Increase Your Tax Deductions
Taxable income is another key element in your overall tax situation. Taxable income is what’s left over after you have reduced your AGI by your deductions and exemptions. Almost everyone can take a standard deduction, and some people are able to itemize their deductions.
One key tax planning strategy is to keep track of your itemized expenses throughout the year using a spreadsheet or personal finance program. You can then quickly compare your itemized expenses with your standard deduction. You should always take the higher of your standard deduction or your itemized deduction. Many people do not get receipts for their purchases and so lose a lot of tax deductions. For example how many people ask for cash sale receipts from service stations to justify their travel expenses. So they lose significant tax deductions. It is also imperative to understand current allowable tax deductions and claim them.
Take Advantage of Tax Credits
Once we’ve tweaked our taxable income, we are ready to focus our attention on various tax credits. Tax credits reduce your tax. There are tax credits for college expenses, for saving for retirement, and for adopting or disabled children. Another example is in buying a car one could reduce duty by understanding the duteable rates for various vehicles and avoid purchase of luxury vehicles. A friend of mine recently bought a double cab with two doors (it is called cub) and discovered that under our duty laws it is considered a single cab and so has a lower duty payable.
Another friend failed to manage his duties and bought an ML 320 but failed to pay the duty. Now ZIMRA is asking for a duty of about USD2000 while he cannnot afford it. Selling it will not help because he cannot get more than USD15000. So if he sells the car he would have lost the purchase price and an extra USD5000 which he would still owe ZIMRA. If he had instead assessed his credits properly he could have bought a cheaper car.
Hold on as we discuss more practical tax planning issues to preserve your wealth.