One Easy Move That Could Save You $4,000 or More on Your Taxes

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Rich man posing with money bags and dollar bills
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As you prepare to wade through this year's mountain of paperwork to file your 2013 taxes, you might want to start looking into ways to cut your 2014 tax bill at this time next year.

You may well have options that could cut thousands of dollars off your 2014 tax bill -- maybe even $4,000 or more. Better yet, not only could you cut your bill by that much next year, you could get those tax savings to compound for you in a tax-advantaged way for the rest of your career.

So what's the trick? It's simple: Contribute to your traditional 401(k), 403(b), TSP, or other qualified employer-sponsored traditional retirement plan.

How it Works

Every dollar you contribute to a 401(k) or similar plan cuts a dollar off the amount of your income that's exposed to federal income tax. In addition, while your money is in the plan, the profits you make are tax deferred. You can collect dividends and take capital gains within the plan without worrying about immediate taxes. In fact, unless you're investing in a way that generates something called Unrelated Business Taxable Income , you won't get taxed on the money at all until you withdraw it from the plan.

The table below shows the federal income tax savings you'd see by contributing the maximum allowed to a typical 401(k) or similar plan in 2014. If you're under age 50, you can contribute $17,500 in 2014, while those 50 and older are allowed to make catch-up contributions that raise their limit to $23,000. (Note that your contribution may be further limited if you're considered a highly compensated employee and your plan fails the IRS' "top heavy" tests.)

Tax Bracket Under Age 50
($17,500 max)
Age 50+
($23,000 max)
10% $1,750 $2,300
15% $2,625 $3,450
25% $4,375 $5,750
28% $4,900 $6,440
33% $5,775 $7,590
35% $6,125 $8,050
39.6% $6,930 $9,108
Tax bracket data from Forbes. Contribution limits from about.com. Calculation by author.

In addition to the savings at a federal level, you may see savings in your state income taxes, too. If you're in the 25 percent tax bracket or above, your tax savings can easily exceed $4,000. Those tax savings reduce the out-of-pocket impact of your contributions and make it that much easier for you to sock away money for your retirement.

Your Money Working for You

And while the tax breaks associated with putting money in your 401(k) are great, when all is said and done, the bigger benefit comes to you in the long run, via years of tax-deferred growth. That benefit can easily add up to more than the tax deduction you gained from your initial contribution. And the money in your 401(k) will likely provide the major portion of what you'll have available to spend during your retirement.

So if your employer offers you a 401(k) or similar plan, now's a great time to get signed up for it and start contributing. And if you're already signed up, it's time to consider contributing more -- as much more as you can. Whether you're looking forward to saving money on your 2014 taxes or to enjoying your golden years, you'll be glad you did.

One Easy Move That Could Save You $4,000 or More on Your Taxes

To reduce his tax liability, Michael Chen, the owner of Fune Ya Japanese Restaurant in San Francisco, hid cash transaction records in 26 boxes labeled "Seasoned Octopus" in a crawl space under his restaurant and pretended they were never made, according to the IRS.

While he had an encrypted spreadsheet showing total sales of nearly $2 million between 2004 and 2006, he only reported sales of a little over $500,000 on his tax returns. Chen was sentenced to almost three years in prison in January, and he must pay restitution of $459,105.

Lori Wiley-Drones and Edward Drones, of Anchorage, Alaska, adopted a child who had a trust fund of more than $830,000. The child, who was abused by previous foster parents, was granted the trust as the result of a lawsuit claiming the state of Alaska failed to protect him.

The Drones were required to keep the trust completely separate from their own accounts, but they couldn't resist dipping into the money. They allegedly used it to remodel their home, pay credit card bills, buy cars and even splurge on Coach purses and jewelry -- leaving only $15.05 in the child's trust fund.

They also neglected to report the the funds as income on their tax returns, according to the IRS. But they were finally caught, and in March the couple was sentenced to nearly four years in prison and required to pay restitution of $829,417.

Archie Cabello, from Portland, Ore., used his job as an armored truck driver to cash in on a huge pile of cash that he was supposed to protect. Cabello was transporting $7 million for Oregon Armored Services.

To carry out the scheme, his brother took two bricks of hundred dollar bills totaling $3 million from the back of the truck and drove it to a safe deposit box, while Cabello handcuffed himself to the truck door to make it look like he had been robbed and told a passerby to call the police, according to the IRS.

Cabello allegedly spent $1 million by the time he was caught. The IRS nabbed him for failing to report the stolen funds on his taxes. Even if money is received illegally, it's still considered income so you're required to report it to the IRS. He pleaded guilty to a number of charges, including conspiracy to commit bank larceny, money laundering and filing a fraudulent tax return, and he was sentenced to 20 years in jail.

To get out of paying $220,000 in taxes, James Stuart, from Hartland, Wisc., failed to report $900,000 in income between 2005 to 2007 -- allegedly telling the IRS he didn't have a social security number, he wasn't an American citizen and the IRS didn't have the right to tax him.

But perhaps his most bizarre claim of all was that he had "loaned his consciousness to a trust entity" and therefore couldn't pay taxes, according to the IRS. Stuart was sentenced to nearly three years in prison and fined $6,000.

Monty Ervin, from Montgomery, Ala., allegedly neglected to report more than $9 million in rental income from his property management company and failed to pay $1 million in income tax. To justify the tax evasion, Ervin attempted to renounce his U.S. citizenship multiple times, saying he was a "sovereign citizen" and not subject to the law.

He even allegedly claimed that he was the governor of Alabama in its "original jurisdiction," and the government found that he had buried $350,000 worth of gold coins in his yard. When he was arrested this March, the Justice Department said he was carrying a notebook with coordinates for an island off the coast of Honduras.

Ervin was sentenced to 10 years in prison and is required to pay $1.4 million in restitution to the IRS.


 

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Chuck Saletta is a Motley Fool contributing writer. Try any of our newsletter services free for 30 days.
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