What I Wish I Learned in School 4 of 12: Taxes Demystified
Taxes can seem daunting, especially when you’re just starting out. Many people find themselves overwhelmed by jargon, forms and deadlines. Here’s everything about taxes you wish you had learned while in school.
1. Taxes are inevitable—but manageable
The first thing to know is that taxes are a part of life. Whether you’re earning a paycheck, running a business or investing, you’ll interact with the tax system in some way. The key is to stay informed and organized.
For starters, understand that the amount you owe in taxes depends on your income level, filing status and eligible deductions. The IRS has a progressive tax system, meaning higher income levels are taxed at higher rates. Knowing your tax bracket can help you plan better.
2. Your paycheck doesn’t show the whole picture
If you’ve ever wondered why your take-home pay is less than your salary, taxes are the answer. Employers withhold income taxes, Social Security and Medicare from your paycheck. This is called “pay-as-you-go” taxation.
It’s important to review your W-4 form when you start a new job or when your financial situation changes. This form determines how much federal income tax your employer withholds. Claiming too many allowances could lead to a big tax bill in April, while too few could lead to overpaying.
3. Tax deductions and credits are your friends
One of the most confusing aspects of taxes is the difference between deductions and credits. Here’s the simplified version:
Deductions lower your taxable income, which reduces the amount of tax you owe. Common examples include student loan interest, mortgage interest and contributions to retirement accounts like a 401(k).
Credits are even better because they directly reduce the amount of tax you owe. Some valuable tax credits include the Earned Income Tax Credit (EITC), the Child Tax Credit
and the American Opportunity Tax Credit for education expenses.
Learn which deductions and credits you qualify for to keep more money in your pocket.
4. Filing isn’t as scary as it seems
Tax filing can be intimidating, but it doesn’t have to be. Start by gathering all your important documents:
W-2s from your employer(s)
1099s for freelance work or investment income
Receipts for deductible expenses
Records of charitable donations
Next, choose a filing method. Tax software like TurboTax or H&R Block simplifies the process with step-by-step guidance. If your finances are more complex, it may be worthwhile for you to hire an accountant to do the job for you.
Pro tip: If you earn $73,000 or less annually, you can use the IRS Free File program to prepare and file your federal taxes for free.
5. Keeping records is crucial
The IRS recommends keeping tax-related documents for at least three years in case of an audit. This includes:
Pay stubs
Bank statements
Tax returns
Receipts for deductions
Organizing these documents in a folder or using a digital tool can save you a headache when tax season rolls around.
6. Understand the difference between a refund and a bill
Getting a tax refund may feel like a bonus, but it’s really your money that’s being returned to you. It means you paid more in taxes throughout the year than you owed. While a refund can be a nice windfall, it also means you gave the government an interest-free loan.
On the flip side, owing taxes at the end of the year can be stressful. To avoid surprises, adjust your withholding or make estimated tax payments if you’re self-employed.
7. Retirement accounts offer tax advantages
It’s important to know how powerful retirement accounts are for saving on taxes. Contributions to traditional IRAs and 401(k)s are often tax-deductible, reducing your taxable income. Roth IRAs don’t offer an upfront deduction, but your withdrawals in retirement are tax-free.
Taking advantage of these accounts can help you build wealth while lowering your tax burden.
8. State taxes matter, too
Most states have income taxes, and each state has its own rules and rates. Research your state’s tax laws to avoid surprises and plan accordingly.
9. Deadlines are non-negotiable
The IRS tax filing deadline is typically April 15, but it may vary if it falls on a weekend or holiday. Missing this deadline can result in penalties and interest on any taxes owed. If you need more time to file, you can request an extension, but remember that this doesn’t give you more time to pay your taxes. Pay what you owe by the original deadline to avoid penalties.
10. Seek professional help when needed
Taxes can get tricky, especially if you’re self-employed, own property or have investments. Hiring a tax professional can ensure you’re maximizing deductions, staying compliant, and avoiding costly mistakes.
Use this guide to learn all about taxes.