Taking Advantage of Tax Breaks The formula for determining tax liability begins with your gross income , which includes just about everything you earn. Your adjusted gross income (AGI) excludes “above-the-line” adjustments such as pre-tax retirement plan contributions. Finally, any exemptions and deductions are subtracted from your AGI to arrive at your taxable income . Retirement Savings When you participate in an employer- sponsored 401(k) or 403(b) plan, you can allocate a percentage of your salary to your retirement account every pay period. Because contributions can be made with pre-tax dollars, they are an effective way to reduce your taxable income. The maximum annual contribution is $20,500 in 2022. If you will be 50 or older before the end of the tax year, you can contribute an additional $6,500. (Contribution limits are indexed annually for inflation.) The funds in your account will accumulate tax deferred until withdrawn, when they are taxed as ordinary income. Withdrawals prior to age 59½may be subject to a 10% federal income tax penalty. Some smart financial moves may help reduce your tax liability.
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