I almost made a huge mistake. It’s a mistake I see other people make that drives me nuts. Although we’ve already talked about taxes this week in conjunction with the TurboTax Deluxe Online 2009 giveaway, there are other matters we should discuss.
Most people wish to pay as little tax as legally possible. I’m no exception. However, it’s illogical to avoid paying taxes if doing so causes you to incur expenses that exceed your tax savings.
For example, I continuously hear people talk about how buying a home makes financial sense because of the tax deduction. Or some people refuse to pay off their home mortgage because they don’t want to lose their precious tax deduction. That’s absurd. Deductions only reduce your taxable income which means less of your income is subject to tax. So, if you pay $15,000 a year in mortgage interest and you’re in the 25% tax bracket, you’ll save $3,750 in taxes.
Now let’s get this straight. You swapped $15,000 for $3,750. I’m not a tax specialist so never mind me, but that sounds like a raw deal.
If you think about it, you actually pay more than that if you consider you have to itemize in order to claim the home mortgage interest deduction. If you don’t itemize, you’ll still get the standard deduction which, for 2009, is $11,400 for married couples filing jointly, $5,700 for singles or married individuals filings separately, and $8,350 for heads of households. What you actually end up saving in taxes results from the excess of your itemized deductions over your standard deduction. Which means you’re probably not saving as much you think.
Eh, I’m rambling.
I actually want to talk about how laser distraction on tax savings almost led me to make a huge mistake.
This year, I’m focusing on fattening my retirement accounts. I spent 2008 getting out of debt, 2009 hoarding cash, 2010 is the year I resume long term investing.
At the beginning of this year, I set up a Roth IRA with Charles Schwab. I already have a high yield checking account with them that I love. I’m glad they have good customer service because I find their web site a bit difficult to navigate.
When I called Charles Schwab inquiring about how to link my ING Direct savings account to my Charles Schwab Roth IRA, the representative asked me if I wanted my first contribution to go towards 2009 or 2010. Like an idiot I replied, “It doesn’t matter. I won’t get a tax deduction for contributing to my 2009 Roth IRA anyway.”
Recall, Roth IRA contributions are made after tax. When you withdraw money in retirement, you won’t have to pay taxes on the distributions (or so they say). Traditional IRA contributions are generally tax deductible, but you’ll have to pay taxes when you make withdrawals.
Back to me being stupid.
It took a day or two before I realized I had until April 15, 2010 to max out my 2009 Roth IRA. After that, I could max out my 2010 Roth IRA. That would bring my total Roth IRA contributions in 2010 to $10,000!
Okay so maybe that’s not such exciting news, but I almost passed up the opportunity to invest an additional $5,000 in any index fund, mutual fund, bond fund, balanced fund, exchange traded fund, etc. of my choosing. I guess the alternative wouldn’t have been so bad. My company does offer a Roth 401(K), but I won’t have complete control over the money I invest in that account until I leave the company AND the fund choices are extremely limited AND the fees are too high for my liking.
Maybe you don’t see what the big deal is, but I almost made a huge mistake.
Have you ever allowed tax savings to cloud what otherwise would’ve been good judgment?