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Tax Guy: You’ve filed your 2018 tax return — 5 things you can do better next time

Tax Guy is here to help you do a post-mortem on your 2018 taxes. Read More...

By now, most of us have filed our 2018 tax returns on or before the April 15 deadline. What did we learn from the experience? Let’s discuss.

Here are some questions taxpayers may have — and answers.

My refund check was less than expected

More taxpayers got refunds this year, but they are smaller than they were last year. Refunds shrunk by an average of $55 this tax season compared to last year, according to the latest data from the IRS. This was apparently the case even though an estimated 80% of individual filers actually owed less tax, thanks to the Tax Cuts and Jobs Act (TCJA). How can we reconcile these seemingly contradictory numbers? Good question.

First, all the TCJA changes to the tax rates and breaks created winners and losers. For instance, lots of folks in high-tax states had their itemized deductions for state and local income and property taxes cut way back. Some of those folks were losers. Many higher-income taxpayers in low-tax states were winners.

Due to reduced tax withholding from their salaries, many employees effectively received most or all of their tax cuts gradually over the year in the form of slightly bigger paychecks rather than in the form of a healthy refund check received after filing their returns.

In addition, less-than-perfect adjustments to salary tax withholding tables put out by the IRS apparently created a larger range of refund sizes than in previous years. Due to reduced tax withholding from their salaries, many employees effectively received most or all of their tax cuts gradually over the year in the form of slightly bigger paychecks rather than in the form of a healthy refund check received after filing their returns.

Tax cuts received piecemeal in the form of slightly bigger paychecks tend to go unnoticed. Tax cuts received as lump sums in the form of bigger refund checks tend not to go unnoticed. And let’s face it: many of us have for many years used excess tax withholding from our salaries as a forced savings strategy. Last year, that strategy did not always work so well.

Don’t miss: Opinion: Did you receive zero tax refund this year? Why that’s something to celebrate

“You can tell people you gave them a tax cut,” Christopher Faricy, a political science professor at Syracuse University, told Fortune. “But if they don’t believe it and their refunds are smaller, it’s a hard sell politically.”

What to do: If you want a bigger tax refund check next year, turn in an updated Form W-4 to your employer to have more tax withheld from your salary. Your paychecks will be reduced accordingly, but your refund check will be more to your liking.

I’m still not on the Roth IRA bandwagon and I don’t know why

OMG. You’ve been hearing for years about the wonderfulness of Roth IRAs. But have you done anything about it? If not, please get on the bandwagon this year, because Roth IRAs have two huge advantages over other tax-favored retirement accounts.

* You can take federal-income-tax-free Roth withdrawals after reaching age 59½ as long as you’ve had at least one Roth account open for more than five years. If you die, your heirs can dip into an inherited Roth account without owing any federal income tax, as long as the account has been open for more than five years. So open a Roth account now to start the five-year clock ticking. If federal income tax rates go up in the future (a distinct possibility, especially for higher-income folks), income and gains earned within your Roth IRA will be blissfully unaffected. Think of your Roth IRA as insurance against future tax rate increases, which are perhaps “more likely than not” in the current political environment.

* Roth IRAs set up in your name are exempt from the required minimum distribution (RMD) rules, which force you to start taking taxable withdrawals from other types of tax-favored retirement accounts, including traditional IRAs, after reaching age 70½. If you fail to withdraw the proper RMD amount for a year, you owe a 50% penalty on the difference between the amount you should have taken out and what you actually took out (if anything). Ouch. In contrast, you can leave Roth IRA balances untouched for as long as you wish and continue earning federal-income-tax-free income and gains. When you die, your remaining Roth IRA balances can be left to your heirs, who can then take out the money federal-income-tax-free.

There are two ways to get money into a Roth account:

* Start making annual contributions of up to $6,000 or $7,000 if you are age 50 or older. If you are married, your spouse can join in the fun. The catches: you must have earned income at least equal to what you contribute, and the contribution privilege is phased out at higher income levels.

* Convert a traditional IRA into a Roth account. A conversion is treated as a taxable distribution from the traditional account with the money going into the new Roth account. So it will trigger a bigger federal income tax bill (and maybe a bigger state income tax bill too). However, the two positive factors mentioned earlier may greatly outweigh the one-time tax hit. And as long as the lower TCJA rates remain in effect (maybe not very long), the tax hit will probably be as low as it ever could be. You don’t need any earned income to do a Roth conversion, and there’s no income restriction either. Even retired billionaires can do Roth conversions.

What to do: Get on the Roth bandwagon this year, unless you believe your tax rates during retirement will be lower than the rates you are paying right now. If you believe that, you are a very optimistic person, and I wish you all the best.

I did not do any tax planning and it may have cost me

Lots of people talk about tax planning, especially year-end planning, but fewer actually follow through. Put this date in your planner right now: Saturday November 30. Thanksgiving will be over (it’s on the 28th this year), and you don’t want to be out and about on that weekend anyway, because you’ll get crushed by all the shoppers. (Lots of folks still shop in the physical world and not just online.) Also, by November 30 you should have a firm grasp on your 2019 tax situation. So you can then consider selling some loser stocks and mutual fund shares held in taxable brokerage firm accounts to offset earlier gains, giving some appreciated securities to your favorite charity, and so forth. You should also check back here for additional year-end tax-saving tips.

What to do: See above.

I did not take full advantage of tax-saving deals at work

Salary-reduction contributions to tax-favored employee benefit programs reduce your taxable salary and your federal and state income tax bills. For 2019, the maximum salary-reduction contribution to a company 401(k) plan is $19,000 or $25,000 if you will be age 50 or older as of year-end.

You may also be able to make salary-reduction contributions to your company’s cafeteria benefit plan, which may include flexible spending accounts (FSAs) to cover: (1) up to $2,700 of out-of-pocket family medical costs and (2) up to $5,000 of expenses to care for your under-age-13 children so you can work (or if you are married, so both you and your spouse can work). The tax savings from participating in FSA plans are permanent rather than temporary, so failing to sign up is like leaving cash on the table. Don’t do that.

Key Point: Depending on how your company plans work, it may be too late to sign up for tax-saving deals for 2019 unless you have a qualifying event (like getting divorced and becoming ineligible for coverage under your ex-spouse’s employee benefit plans). But check with your company’s personnel department to make sure. And if it’s too late to sign up for this year, make sure to do it for next year during the open enrollment period for 2020, which may begin as early as sometime in October.

What to do: See above.

I did not consult a tax pro before major transactions

Obviously, you cannot plan your whole life around taxes. That said, most major life events have significant tax consequences, and over the long run taxes may be by far your highest expense category. So tax planning is important. Also, there is often a “right way” and a “wrong way” to do things tax-wise, whether it’s selling your home, transferring funds from one retirement account into another, getting married, getting divorced, adopting a child, whatever. To make sure you do things the right way instead of the wrong way, consult your tax pro before the deal is done. Take it from me: our beloved Internal Revenue Code is riddled with traps for the unwary, and the tax savings from obtaining competent professional advice will dwarf the fees over the long haul.

What to do: See above.

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