Personal finance Topic #100 – Free money from IRS – save big dollars

We already know about $8,000 first-time home buyer’s credit, $3,500 credit for Cash for Clunkers, Credit for elderly and disabled, dependent care tax credit that save you thousands of dollars in tax this year. What you may not know is that IRS is offering thousands of dollars in additional tax credits and deductions, and many of you are not taking advantage of them. Here are just few examples:

• Saving options in 401(k), 403(b) – If you are in 25% tax bracket, and save up to $15,500 per person per year, you can save up to $3,875 in income tax. If both spouses work and contribute the maximum, you can save up to $7,750. If both of you are 50 or over, and save up to $22,000 each in 401(k), you two can save a whopping $11,000 in income tax (or more if you are in a higher tax bracket).

• Tax Credits for Energy Efficiency – Up to $1,500 (usually 30% of the expense) can be claimed for all products placed in service in 2009 & 2010 for most home improvements, including insulation, roof, windows and doors.

• Adoption tax credit - for 2009, the maximum adoption credit has increased to $12,150. Also, the maximum exclusion from income for benefits under your employer's adoption assistance program has increased to $12,150. These amounts are phased out if your modified AGI is between $182,180 and $222,180. You cannot claim the credit or exclusion if your modified AGI is $222,180 or more.

• Child and dependent care tax credit - allowed for up to $3,000 of expenses for one dependent's care and up to $6,000 for more than one dependent's care.  This means a tax saving of $750 or $1,500, respectively for families in the 25% tax bracket.

• Hope Tax credit - For kids attending the first two years in college, save up to $1,800 tax credit (not deduction!) in 2009, and up to $2,500 in 2010 for first 2 years of college

• Savers' tax credit - if you are single and earn $18,000 or less per year - IRS will give you tax credit of up to $1,000 (not deduction) if you contribute $2,000 to a traditional IRA or Roth IRA - this is FREE money.

• Kiddie Tax - If you have a young child, and you are in a higher tax bracket (28% or above), transfer your taxable funds into his/her investment account up to $13K per year per child (through UGMA or UTMA). Child's first $900 in earnings is tax free and the next $900 in earnings is taxed at a mere 10%.

Definition

Tax deduction is the amount you can reduce on your taxable income, so the tax saving is dependent on your tax bracket (15%, 25%, 28%, etc.)

Tax credit is the amount you can reduce on your tax liability.  So if you have $5,000 tax liability and your tax credit is $1,000, then you will have $4,000 in tax owed.  You can take tax credit only if you have tax liability.  So if your tax liability is $1,000, and your tax credit is $1,800, you can reduce tax liability to $0.