Understanding Tax Shelters

Most people are unclear on what exactly “tax shelters” are, even if they have heard the term tossed around before. To put it simply, tax shelters are places where you can put your money to protect it from the IRS, and yes, they are legal...at least when they’re taken advantage of in the right way.  

While you might think tax shelters are something fancy, the kind of thing that only rich people bother with, that’s not true. In fact, if you have a 401(k) or even home equity, then you have a tax shelter of your own. And, chances are, there are more you can and should be taking advantage of as well.

Deductions

One of the more common types of tax shelters comes in the form of deductions, which allow you to basically not pay taxes on items that you have deducted. There are actually all kinds of things that can be legally deducted, such as charitable donations, medical expenses past a certain amount, student loan interest, and more. Make sure that your accountant and/or tax adviser is helping you to get all of the deductions for which you qualify.

Home Equity

We mentioned earlier that home equity can be a type of tax shelter, and that’s certainly true. Should you decide to sell your home, the IRS will deduct as much as $500,000 (for married couples; single people only get a $250,000 deduction) of your profits from capital gains taxes, meaning you get to enjoy a large chunk of the profit- maybe even all of it- without paying taxes.

Your Child’s College Fund

Finally, if you’ve done the responsible thing as a parent and have stashed money aside for your child or children’s future education...or even for your own education, you can avoid paying taxes on that money by stashing it via the 529 college savings plan.

As you can see, there are all kinds of tax shelters to take advantage of where you can, so start finding smart ways to save money, such as the options discussed here, today!

The Differences Between Tax Havens and Tax Shelters

Many people think of the terms “tax havens” and “tax shelters” as interchangeable. However, while these two things are definitely similar, they re not one and the same.   

First of all, it’s important to understand what each of these things does. What they do is actually quite similar, hence the confusion. Both tax havens and tax shelters are used to legally decrease the amount of income tax people with high net worth have to pay.

How exactly they operate and what they do, however, is where they differ.

Tax Havens

Tax havens are places where the tax laws tend to be lenient. This could be a whole country, a state, or even just a little area. No matter where a tax haven is located, it typically has very low income tax or no income tax, which attracts many to open up offshore banking accounts and trusts in these areas or to form international business corporations linked to the tax haven f their choice.

As mentioned, tax havens are all over the place. However, some of the most popular and commonly used include the Cayman Islands, Switzerland, The British Virgin Islands, and Bermuda, all of which offer privacy and protection to taxpayers.

Tax Shelters

Tax shelters, unlike tax havens, aren’t really a “place.” They are more of a method, a way to legally reduce your income taxes. A good accountant can help you find various tax shelters that could work for you, like new investment strategies.

A lot of the tax shelters that people enjoy are simply about timing- filing taxes at the right time and taking advantage of windows of opportunity. Others are tried and true, like 401(k)s and IRAs or government mutual funds or municipal bonds.

The best way to learn about tax shelters that could work for you is to speak with your financial advisor. This is also a good way to learn about tax havens and other money saving options for the tax year!