Business

9 Savvy Investment Tax Saving Moves To Make Before 2025

November 15, 2024

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It’s never too late to review your investment strategies to save on taxes, especially with many investors’ least favorite season, tax season, rapidly approaching. This guide explores tax-saving moves you can make today to reduce your tax burden, strengthen your investment portfolio and improve your retirement investment plan. Whether you’d like to utilize a retirement account, invest in a more tax-advantaged asset or increase your charitable giving while reducing your taxes, each section of this article will provide new ideas to save on taxes through your investment portfolio.

Understanding Tax-Saving Opportunities

In addition to maintaining a high savings rate and investing in a diversified mix of assets, taking advantage of tax-saving opportunities can increase an investor’s chance of investment success. Tax-efficient investing will decrease the amount of money you must pay in taxes from your returns, making your investing strategy more profitable. There are a number of tax-saving opportunities you can take advantage of including investing through tax-advantaged retirement accounts, choosing tax-efficient investments, and even donating to tax-deductible causes.

Seizing tax-saving opportunities can also reduce your tax burden once you’re retired or when the market experiences a downturn. For example, by investing through a Roth IRA, you can take tax-free withdrawals in retirement, reducing your tax burden. If the market experiences a downturn, you could pay for qualified medical costs with an HSA rather than pulling funds from a taxable brokerage account.

With proper research and planning, investors can better manage tax bills allowing for greater investment growth and higher income in retirement. This process is especially important when planning for capital gains taxes, where investment gains can result in high taxes without prior planning. Whether you’re a new investor just starting out or a seasoned investor with large account balances, tax-saving strategies can help you build and retain wealth.

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Maximizing Retirement Account Contributions

A commonly known but effective strategy to save on taxes is to maximize contributions to retirement accounts like IRAs and 401(k)s. These accounts offer either tax-deferred growth through traditional IRAs and 401(k)s or tax-free growth through Roth accounts. By investing the maximum amount allowed for your age each year, you can either reduce your taxable income today or withdraw from tax-free gains in the future.

When choosing to invest in traditional or Roth variants of IRAs and 401(k)s, there are a number of considerations to make when determining which variant is right for your situation. For example, traditional accounts may be right for you if you’re in a high-tax bracket now but expect to be in a lower one in the future or if you wish to pay less taxes each year and invest the savings for the future. Roth accounts may be more advantageous if you’re a younger investor, expect to be in a higher tax bracket in retirement, or would prefer to not make required minimum distributions (RMDs) in retirement.

Investors can also contribute to a mix of these accounts, both Roth and traditional, if they’re unsure of their future circumstances as long as they don’t exceed the annual maximum contribution to an IRA or 401(k). Regardless of your type of retirement account choice, maximizing your contributions to these accounts will put you in a better tax situation in the future than if you merely invest through a taxable brokerage account.

Utilizing Roth Conversions Strategically

A Roth conversion is a tax-saving strategy where investors convert their traditional IRA into a Roth IRA, enabling them to withdraw funds in retirement tax-free. To convert a traditional IRA to a Roth, investors will pay taxes in the present on the converted balance, earning them tax-free growth. This strategy is relevant to investors whose income is above the IRS limit for Roth IRA contributions.

A Roth conversion will result in higher taxes in the current year but long-term will allow you to access tax-free growth. As mentioned in the section above, this strategy is best suited for younger investors or investors who expect their tax rate to be higher in retirement.

Capital Gains Tax Planning

Capital gains tax planning is a vital strategy for investors who wish to maximize their portfolio returns. Investors pay higher capital gains tax on profits from the sale of investments held for one year or less, and lower capital gains tax on profits from these sales held for more than a year. When investing through a taxable account, investors should aim to hold investments for more than a year before they sell to minimize capital gains taxes.

As mentioned, by investing through tax-advantaged retirement accounts, investors can also lower their capital gains tax burden and watch their investments grow tax-free or at least defer their tax burden.

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Tax-Loss Harvesting

Tax-loss harvesting is a strategy where investors sell unprofitable assets to offset gains from investments in taxable accounts. By realizing a loss, investors can lower their cumulative taxable income and reduce the taxes they owe. This is a particularly effective strategy to reduce capital gains taxes.

Investors can take advantage of this strategy annually to increase the tax efficiency of their portfolio. Tax-loss harvesting can apply to capital gains taxes as well as other taxable income in certain situations.

Consider Tax-Efficient Investments

There are a number of tax-efficient investments that investors should explore to reduce their tax burden and maximize investment returns. These investments include index funds and exchange-traded funds (ETFs) that have a lower turnover rate or fewer trades, which leads to fewer capital gains distributions. Investing in these funds can result in fewer taxable events for your portfolio as well as potentially higher returns than actively-managed funds.

Another tax-efficient investment to consider is growth stocks that don’t issue a dividend. Growth companies typically reinvest profit into business growth rather than paying a dividend, meaning the only taxable event for this investment type would be the sale of the stock by the investor.

Explore Municipal Bonds

Other powerful, tax-efficient investments are municipal bonds, which are debt securities issued by states, counties or cities to fund public projects. These investments are tax-free at the federal level and can be tax free at the city or state level as well. This attribute can make municipal bonds particularly effective in high-tax cities and states, for example, in New York City or New York State.

Municipal bonds are also ideal for investors in high tax brackets to help them earn tax-free income. While municipal bonds usually deliver lower returns than equities or corporate bonds, they have their place in the portfolios of investors who wish to reduce their tax burden and don’t mind the trade-off of lower yield.

Take Advantage Of Health Saving Accounts (HSA)

A Health Saving Account (HSA) is a tax-advantaged account, offered with high-deductible, which allows individuals to save for future medical expenses like doctors’ visits or medications. HSAs are triple tax-advantaged, meaning they are tax-deductible, contributions grow tax-free and distributions are tax-free when used for qualified medical expenses.

HSAs are an excellent way to grow savings as contributions can be invested like with a 401(k) and can grow tax-free for future medical expense use.

Making Charitable Donations

Donating to charity is a good course of action to support causes you care about but it’s also an effective strategy for reducing your tax burden. One strategy for saving on taxes when donating to charity is donating appreciated equities or mutual fund shares, reducing capital gains taxes and earning a charitable deduction.

Another donation strategy is contributing to a donor-advised fund (DAF) to experience a tax deduction even if you disburse funds from the DAF to selected charities in the future. This strategy is most effective when you’re still in your high-income years and need to reduce taxable income the most. If you enjoy supporting charities and don’t enjoy paying taxes, there are many more strategies like these which you can research or execute on with an experienced tax accountant.

Gifting Strategies To Reduce Taxable Estate

Gifting assets to family members or friends can reduce your taxable estate, reducing future estate tax liability and benefiting inheritors sooner. The IRS allows individuals to give up to $18,000 per recipient per year without incurring gift taxes, which can greatly reduce estate tax liabilities cumulatively.

Another more complicated gifting strategy to reduce your taxable estate is establishing an irrevocable trust for beneficiaries of your estate. These trusts allow your wealth to grow independent of your estate while reducing taxes paid when beneficiaries eventually receive inheritance. By researching these and other gifting strategies, you can reduce your taxable estate and leave more wealth to your loved ones.

Bottom Line

Taking advantage of any mix of these tax-saving moves can result in savings for this year or future tax-free growth. By maximizing retirement account contributions, investing in tax-advantaged assets or donating to charity, investors can save on taxes and improve portfolio strength. Whether you wish to lean into one strategy or many, you can grow your wealth and save on one of life’s great inevitabilities: taxes.