Are You an Investor? Make Sure to Avoid These 6 Tax Mistakes

Many investors are focused on growing their businesses and increasing revenues; they pay little attention to taxes. Yet, a company’s tax mistakes or wrong tax practices could have direct and self-destructive financial consequences for the business. Investors must be keen when dealing with taxes, or they might end up overpaying and getting penalties.

Therefore, investors should not ignore taxes because overpaying will prevent them from enjoying their hard-earned gains. Luckily, investors can protect their assets by learning about the six common tax mistakes to avoid so they can optimize their returns.

Not Paying State and Local Taxes

Investors usually focus on federal taxes when managing their portfolios. They assume that as long as they have paid the federal tax, they have nothing to worry about only to learn too late that they have to pay fines and interest on unpaid state and local taxes. Consequently, they end up paying more than necessary, which reduces their overall investment and profitability.

Rather than deal with tax discrepancy issues, investors should take their time to understand and plan for state and local taxes, which will help protect their return on investment. An effective way for investors to navigate these complexities is by implementing tax planning strategies for individuals. These experts can help identify tax-saving opportunities and collaborate with investors to enhance their overall tax strategies so they can avoid tax-related legal challenges.

Failing to Track the Cost Basis

Most people rush into investing without doing their research on the ins and outs of their venture. In turn, they make mistakes that cost them dearly, such as failing to track the cost basis. The cost basis is the amount they pay for the investment, which includes brokerage fees, mergers, and stock splits. It is one of the vital things investors should take note of.

Investors who fail to track their cost basis will not accurately calculate their gains or losses. This will lead to them reporting errors in the amount they will pay when they sell the asset. If they overestimate their gains, it means they will pay a higher tax liability. On the other hand, underestimating will lead to audits and penalties from the IRS.

Not Maximizing Tax-Advantage Accounts

When it comes to tax payments, many investors focus on making the payments as fast as possible so they can return to what they enjoy most: investing. However, in this rush, they miss tax advantage accounts such as Health Savings Accounts and 401(k)s. Therefore, they end up missing out on tax-free withdrawals and deferred growth, which can help enhance long-term returns.

Failing to maximize tax advantage accounts can lead to high current tax liabilities and lost compound growth. Investors can avoid such errors by using a wide range of tax advantage accounts. They can also ensure growth and significant tax-saving opportunities over time by incorporating a tax diversification strategy into their investment portfolio.

Overlooking Capital Gain

Investors often fail to properly account for the money gains levied on the profit of their sale, which is known as capital gain. As a result, they pay higher tax rates. One way to prevent this and save them money is to understand that tax rates have two classifications: long-term and short-term, and they are taxed differently.

Short-term capital gains refer to the income that the investor gets for holding assets for one year or less. In this case, the profits are taxed as regular income. However, long-term capital gains are from assets the investor holds for a year or more where the gains get a reduced tax rate. Investors should consider timing their assets so that they can maximize tax efficiency.

Misunderstanding Dividend Taxes

Another mistake that could lead to investors paying more tax than required is misunderstanding tax dividends and not knowing the difference between qualified and non-qualified options. Qualified dividends are dividends paid by U.S. companies or qualified foreign companies, and they often have lower tax gains. However, for the low payment, investors must state the investment clearly when filing their returns.

Non-qualified dividends are taxed at the higher ordinary income tax rate, which can be as high as 37%, a significant difference from qualified dividends that range from 0% to 20%. Due to this critical difference in the tax dividends, investors should be careful to review the nature of the dividends. They should know that the correct tax report plays a significant role in optimizing investment returns and managing tax liabilities.

Failing to Plan for Estate Taxes

When investing, the last thing that people have in mind is their death and what would happen in their absence. Therefore, they overlook an essential element: failing to plan what will happen to their estate upon their demise.

As a result, their estate is transferred to their heirs without proper planning, which leads to a significant portion of the assets’ value getting lost in taxes. Note that if not properly transferred, the estate tax can go as high as 40%.

Investors can mitigate this by taking strategic measures to help reduce the impact of estate taxes. Some of the measures they can take are establishing trusts, using the annual gift tax exclusion, and making lifetime gifts. Another way that they can reduce the tax amount they pay is by using the federal tax exemption, which allows a certain amount of estate to be transferred tax-free.

Unless an investor is trained to navigate tax, they will likely have a hard time dealing with tax issues associated with their investment. Yet, they cannot afford to ignore this, as it could lead to issues such as overpaying taxes or penalties. Therefore, the only solution is to comply with the tax regulations and requirements to avoid tax liabilities.

The best way to comply with tax requirements and save money is by working with tax experts. These professionals will ensure the investor plays their role and makes the required payments; they will also help the investor identify any tax opportunities. Working with professionals also gives investors peace of mind because they know that any issues about tax and its payment are handled effectively.