Claiming deductions and organizing receipts isn't fun for anyone — least of whom Millennials, who might be filing taxes for the first time or experiencing changes in their finances.
And while making mistakes might at times be unavoidable, it's not a legitimate defense if the tax man comes knocking. Consider these eight common errors Millennials make when preparing and filing taxes.
1. Not Hiring a Tax Professional (If You Need One)
Not everyone needs a CPA or other tax professional. In fact, if your taxes are straightforward, you can easily file them yourself for free, or use low-cost services such as TurboTax. But not hiring a CPA is one of the biggest mistakes you can make if your taxes are complicated. Accounting professionals are all too familiar with legal loopholes, tax credits, and qualifiable exemptions, and they will work on your behalf to understand your particular situation and get you the maximum return.
A simple rule of thumb: If your taxes seem too challenging to file on your own, they probably are. Seek expert guidance before you make costly mistakes.
2. Spending Tax Refunds
Before most people have received their tax refund, they've already decided how they're going to spend it. Most often it's on a depreciating asset like a car, clothes, or electronics. If tax season is exciting to you for this reason, you definitely should not be spending your refund. I know this not what people want to hear, but you should find more financially constructive uses for this money — such as investing, tackling debt, or making truly necessary purchases. (See also: 8 Smart Things to Do With Your Tax Refund)
3. Allowing High-Interest Debt to Linger
If you're carrying high-interest debt on anything — including car loans, student loans, or a mortgage — you may want to use your annual tax refund to knock it out fast. This just depends on your personal situation. First, see if you qualify for ways to reduce your interest rate and/or monthly payments, such as mortgage refinancing, a student loan forgiveness program or income-sensitive repayment. If you can't, paying the debt off quickly might make sense. Put your refund in a savings account, divide it by 12, and take small monthly withdrawals of this amount to include with your regular payments each month. Use this strategy for any debt you wish to repay early. (See also: 4 Times Student Loan Refinancing Can Save You Big)
4. Not Using Retirement Accounts to Lower Your Tax Bracket
Taxes are by far one of the biggest obstacles normal people face when trying to build wealth. If you don't believe me, here's a simple example. If $1 invested doubled every year for 20 years, it would end up being worth $1,048,576. If the same $1 invested doubled every year for 20 years and was subject to a 28% tax bracket, it would be worth a modest $51,353. Now you see the importance of investing to the max inside of tax-advantaged accounts such as 401Ks and 403Bs in order to reduce your tax bracket.
5. Forgetting to Claim Capital Losses
Whether you invest inside of your retirement accounts, or trade on investing platforms such as E*TRADE, if your capital losses offset your capital gains the difference can be claimed as a tax deduction. Let's say you decided to trade penny stocks — and I'm not saying penny stocks are necessarily a bad investment, but let's say this year you lost $2,000 with no other capital gains from other investments. Your $2,000 loss on risky stocks can be deducted from your other income. In fact, you can deduct up to $3,000 of Capital losses in any tax year. Anything over $3,000 can carryover to the following tax year.
6. Failing to Claim Student Loan or Mortgage Interest Payments
Mortgage and student loan interest payments are generally tax deductible, within certain limits. If you qualify for these deductions, don't forget to claim them. It could otherwise cost you thousands of dollars at tax time.
7. Not Using an FSA for Childcare Costs
If your employer offers an FSA, make sure to take advantage of it. The annual contribution limit to Flexible Spending Accounts (FSA) is $2,550, and money saved inside a FSA is tax-advantaged and can be used for health-related costs and dependent care expenses. Any money saved inside your FSA is taken from your pre-tax income, reducing your annual income by the subsequent amount. However, there are time limits on using FSA funds so, be careful not to lose the money you've saved. In 8 Ways to Spend Your Last-Minute Health Care FSA Funds, I explain how to avoid losing your hard-earned dollars.
8. Not Claiming the Cost of Moving
Millennials move more than any other group. And the majority of them move due to career opportunities. Well, did you know that if you change residences due to work, you can claim the expense of your move as a tax deduction? The IRS states that if you meet certain requirements, the cost of your work-related move may be tax-deductible.