Part 18 (1/2)

Based on this table, if Gillian is single and had a taxable income of $100,000 in 2009, her marginal tax rate is 28%. However, this doesn't mean that all of her income is taxed at 28%-only the amount over $82,250 is taxed at that level. The fancy way to say this is that Gillian's income is taxed progressively at each bracket up to her marginal rate. That sounds confusing, but it's actually not so bad once you know what it means. Here's the breakdown: - The first $8,350 of Gillian's $100,000 income is taxed at 10% (see the table), so she owes $835 in taxes on that portion of her income.

- The next $25,600 of her income (the amount from $8,351 to $33,950) is taxed at 15%, meaning she owes $3,840 in taxes on it.

- The next $48,300 of her income (the amount from $33,951 to $82,250) is taxed at 25%, so she owes $12,075 in taxes on it.

- The final $17,750 of her income (the amount from $82,251 to $100,000) is taxed at 28%, so she owes $4,970 in taxes on it.

Because Gillian earns $100,000 of taxable income, she's said to be in the 28% tax bracket tax bracket based on the percentage she's taxed on the last dollar she earns. But as you can see above, most of her income is actually taxed at lower rates. In fact, she ended up owing a total of $21,720 in taxes in 2009, which means her based on the percentage she's taxed on the last dollar she earns. But as you can see above, most of her income is actually taxed at lower rates. In fact, she ended up owing a total of $21,720 in taxes in 2009, which means her effective tax rate effective tax rate was only 21.72%. (And her rate could actually be lower if she had any deductions and exemptions-see was only 21.72%. (And her rate could actually be lower if she had any deductions and exemptions-see How Income Tax Works How Income Tax Works.)This info may seem esoteric and unimportant, but understanding marginal tax rates can help you make decisions when investing or taking out a mortgage. Knowing about marginal rates can also help you understand why statements like, ”If I take a second job, I won't benefit because it'll just push me into the next tax bracket” aren't true. As long as there's no 100% tax bracket, there's always always a benefit to earning more money. To explore tax rates over time, check out this interactive calculator: a benefit to earning more money. To explore tax rates over time, check out this interactive calculator: tinyurl.com/usa-taxes.

s.h.i.+ft income and expenses In some cases, you can save on taxes by s.h.i.+fting income from one year to the next. This doesn't work if you have a steady paycheck, but it can make a difference if you're self-employed or get paid irregularly. Say, for instance, you had more than usual income in 2009-enough to b.u.mp you up a tax bracket. In that case, if you were planning to sell some stocks, you might put it off until 2010 because you figure your marginal tax rate (see the box on Know what you owe Know what you owe) will be lower then.

You can apply this same principle elsewhere on your taxes. For example, you can use some expenses for itemized deductions if they're high enough. If you have medical expenses that total more than 7.5% of your AGI (How Income Tax Works) in a given year, for instance, you can deduct the amount that's over 7.5% of your AGI. To get above that amount, it can make sense to bunch medical expenses into a single year.

NoteWhile it's good to look for clever ways like this to reduce your taxes, never make life decisions based solely on the tax consequences. Don't put off heart surgery just to save on taxes, for instance.

Hire a pro Some people are reluctant to hire others to do their taxes. If your taxes are really simple and you're good with numbers, then you may not need to hire a tax professional.

TipIf you do your own taxes, you might be able to use Free File, a program that lets many U.S. taxpayers file their tax returns electronically at no cost. (For the 2009 tax year, you can only use Free File if you made less than $57,000.) For more info, check out tinyurl.com/IRS-freefile.

But even if you like doing your own taxes to save money or because you think it's kind of fun (some people do!), it still might be worth hiring a pro. Professional tax advisers include tax attorneys, certified public accountants, tax preparers, and enrolled agents. To learn more about the different kinds of tax professionals, see tinyurl.com/taxfolks.

I used to do my own taxes. Then one year, as an experiment, I paid an accountant to do my taxes and did them on my own. The accountant earned back far more than his fee by cutting my tax bill below what I thought was due. Now I pay him every year, and I'm happy to do so.

TipIf you decide to hire someone to do your taxes, give yourself plenty of time-don't wait until April 1st to start looking!

The more complicated your taxes are, the more likely you need a pro's help. And remember that things you do throughout the year (not just at tax time) can have an impact on your taxes. So don't try to manage your money in ways that are out of your league. This is especially important before you make any big transactions (like giving money to your cousin Jim or selling a business). If you're not careful, you can run up your tax bill quickly without knowing it. If you don't understand the tax implications of a particular money move, ask a financial adviser for advice.

Don't cheat Whatever you do, never, ever cheat on your taxes-it's not worth it. Getting upset about owing money doesn't do any good; just pay your taxes and move on. Still, you should absolutely do what you can to pay only the amount you're legally obligated to pay. Take all of the deductions you're ent.i.tled to. And remember: If you owe a lot, it means you had a good year.

TipIf you don't like how high your taxes are or how they're being spent, take it up with your local politicians, not your tax professional-and definitely not the IRS.

Other moves One of the best tax moves you can make is to save for retirement by putting money into a 401(k) or an IRA. These accounts (which you'll explore in detail in Chapter13 Chapter13) are tax advantaged, meaning either contributions or withdrawals are tax free, and the money in the accounts grows tax free.

If you itemize deductions, donating to charity is another smart tax tactic. For example, you can donate your old car instead of trading it in. That way you do some good in the world, avoid the ha.s.sle of dealing with a dealers.h.i.+p, and get a tax break.

Finally, every year, visit the IRS website (e and a normal tax return, you don't have much to worry about. (But the IRS always audits a certain number of people at random, so no one is totally safe.)Most returns are processed by IRS computers programmed to watch for anything odd. An item that falls outside the norm may be ”flagged” so that an IRS employee can review it to see if there's actually a need for an audit. Common ways to raise red flags with the IRS include: - Incomplete or sloppy returns. Math errors and missing info make the IRS cranky. If the agency's computers can't make sense of what you file, they'll flag your return. And make sure all your info is the same on both your federal and state returns.

- Unreported income. This is a no-brainer: If you file a return but don't report all your income, you're headed for trouble. You have to report all your interest, dividends, and other income.

- Abnormal income. If your income is suspiciously low or high, you're five times more likely to be audited. And if your income changes drastically from year to year, that may raise a flag, too.

- Lots of itemized deductions. There's nothing wrong with claiming all the deductions you're ent.i.tled to, but be aware that if you have a lot, you're more likely to be audited.

- Being self-employed. Filing a Schedule C (”Profit or Loss from Business” form) doesn't guarantee you'll get audited, but the IRS doesn't like to see small business show losses year after year while you have a regular job (tinyurl.com/IRS-hobby). Home offices are a huge red flag, as are unlikely business deductions (no, that Nintendo Wii is not not a business expense). a business expense).

Honesty is the best defense against audits: Save your receipts, report all your income, and don't try to fudge things. If you're nervous about getting things right, use tax preparation software or hire a tax professional. But even if you have a pro prepare your return, review it for obvious errors. For more suggestions, check out MSN Money's page devoted to avoiding audits: tinyurl.com/no-audit.

What To Do If You Can't Pay Uncle Sam If you have a rough year, you may discover that you can't afford to pay your taxes. It happens. In fact, it happens often enough that the IRS has very specific instructions about what to do if you're unable to pay.

First and most important, file your tax return! Just because you can't pay your whole tax bill doesn't mean you don't have to send in the paperwork. (If you can't complete a return, then file an extension: tinyurl.com/IRS-extension.) Next, pay as much as you can as soon as you can. This will reduce what you'll have to pay in penalties and interest. The IRS will then send you a bill for the balance-and will continue to do so as you make regular payments.

Finally, if you're really pinched, you can use Form 9465 (tinyurl.com/IRS-installment) to set up an installment agreement-a payment plan, in other words-with the IRS. They can't turn down your request for an installment agreement if you owe less than $10,000, have paid your taxes on time for the past 5 years, you plan to pay the balance in less than 3 years, and you agree to cooperate with the IRS. (You also have to pledge to pay future taxes on time.) TipYou can read more about tax payment options at the IRS website: /refund-check. You just have to provide your Social Security number, marital status, and exact refund amount.

If you get a big refund every year, consider filling out a new W-4 so that less is withheld from your paychecks. Basically, this spreads your refund out over the whole year (which is a good thing as long as you have the discipline to use this money wisely). But if a large refund makes you happy and helps you to save, then do it. Just be aware that there are better financial options when you're ready for them.

On The Money: Organizing Tax Doc.u.mentsWhen preparing your taxes (or having someone else do them for you), it can be tough to gather up all the paperwork you need. Tax-related doc.u.ments can show up any time of year, not just in the winter, and it's easy to lose important papers. Here's a simple way to keep them all together:Every January, take a manila folder and label it with the year-”Taxes 2010,” for example. Then during the year, put all your tax-related doc.u.ments in the folder: investment statements, tax forms, mortgage info, receipts for charitable donations, and so on. If you'll need it to do your taxes, put it in the folder. Be sure to keep the folder someplace safe. That way, at the end of the year, it's a snap to sort these papers and submit them to your tax professional.

Where to Get More Tax Info There's no room in this book to cover important topics like estimated taxes (/estimate/) and capital gains. If you need more info, go to your local library and borrow one of those gigantic tax guides like the ones from J.K. La.s.ser or Ernst & Young; they look like phone books and are packed with info. Or dig around online at tax-related sites like: - The IRS web site (irs.gov) is surprisingly useful. It offers a library of forms and publications, an extensive list of frequently asked questions, and info on how to file for an extension. You may want to start at the Tax Topic Index:publishes an annual tax guide (tinyurl.com/BR-taxguide) that includes a handy tax calendar, forms and charts, and tips on a variety of tax topics.

- There are all kinds of useful, tax-related spreadsheets tucked on the Web. You can find two of the best at tinyurl.com/tax-ss and and /taxes.

- June Walker () has created a site filled with tax and financial advice for the self-employed.

If you really need help, your best bet is to get advice from a professional tax adviser. Yes, it'll cost money, but you'll usually find it's worth the fee-and then some.

A Brief Overview of Estate Planning n.o.body likes to think about death-especially their own. Most people don't think about creating wills until they hit middle age. But you can't always see death coming and, in addition to the emotional trauma, it can wreak financial havoc on your family.

You can make things a little easier for your family and friends by planning ahead and creating a will. A will is for anyone who wants to distribute their money and possessions according to some plan. (All that you own, including physical property and investments, is known as your estate. An estate plan is a strategy for pa.s.sing your money and Stuff on to your heirs.) Wills are extremely important. They give clear, legally-binding instructions about what you want done with your a.s.sets. Simply telling your relatives what you want to happen after you die isn't enough.

NoteIf you die without a valid will or living trust (lawyers call this dying intestate), your state's laws determine what happens to your property. Generally, your Stuff will go to your spouse and children or other closest heirs, which may not be what you intended. To have your wishes respected, you have to create a will.

Depending on your situation, you may need something more than just a simple will. Here's a rundown of a few of the most common estate-planning doc.u.ments: - A will (also called a last will and testament) lets you decide who inherits your property (both land and personal possessions). This is also where you designate who you want to be your children's guardian. MSN Money has a good article on mistakes to avoid when preparing a will: tinyurl.com/MSN-willmistakes.

- A living will (or advance medical directive) lets you tell your family what to do if you're incapacitated and terminally ill. This is the kind of doc.u.ment you need if you don't want to be kept alive on life support. The Mayo Clinic has more info on living wills at tinyurl.com/LW-mayoc.NoteYou may also want to draw up a power of attorney, which gives another person the legal authority to act on your behalf if you're incapacitated. For more info, visit tinyurl.com/AARP-poa.

- A living trust (or revocable trust) can help your survivors avoid probate, the court process used to pay your debts and distribute your property to the people who inherit it. (Some living trusts also reduce taxes or protect financial privacy.) The older and wealthier you are, the more likely you can benefit from having a trust. (But note that, even if you have a living trust, you still need a will.) You can learn more about living trusts here: tinyurl.com/NOLO-livtr.

Not everyone needs a living will or a living trust, but most folks should have a will. They're the best place to note that you want certain family heirlooms to go to specific people. If you're married and have children only by your spouse, your will can be pretty simple. (If your kids are minors, you may want to specify a legal guardian.) The need for a will increases significantly in more complex situations: multiple marriages, multiple children by multiple partners, mixed families, and so on. You'll reduce hards.h.i.+ps and hurt feelings in the future if you're clear in your will about what you want to happen to your property and what you want to do for specific people.

Drawing up a Will Though modern software and various websites let you draft simple estate planning doc.u.ments yourself (see the box below), you're usually better off hiring an attorney to do it for you-especially if you have complex finances. (As comedian Jerry Seinfeld says, ”A lawyer is basically the person that knows the rules of the country. We're all throwing the dice, playing the game, moving our pieces around the board, but if there's a problem, the lawyer is the only person who's read the inside of the top of the box.”) Making a will isn't about walking away from a lawyer's office with a piece of paper in your hand. It's about evaluating your estate-as meager as it may be-and deciding what you want to happen to it after you die. This process is easier when somebody who knows the system is there to show you the way.