This week, Illinois increased the state income tax rate from 3% to 5%. The items below are my top 5 ways you can minimize the impact of the tax increase to you and your family:
1. Increase contributions to your retirement plan. Increasing the contribution to your retirement account will reduce your taxable income, lowering your tax bill for both state and federal taxes.
2. Increase the funding to your Health Savings Account. Contributions to Health Savings Accounts are considered “Adjustments to Income” and reduce your income for both state and federal taxes.
3. For Illinois residents, contributions to the Illinois 529 plans qualify for a state tax deduction. Illinois is one of the few states that gives its residents a state tax deduction participating in its 529 plans.
4. Look again at itemizing your deductions instead of using the standard deduction for 2011 taxes. The federal government subsidizes our state taxes when we itemize our deductions. Therefore, if you are in the 25% marginal tax bracket, your state taxes would go up by 1.5% instead of the full 2%. If you are in the 33% tax bracket, your state taxes would go up by 1.33% instead of 2%
5. Illinois allows us to deduct interest from “U.S. Treasury bonds, bills, notes, savings bonds and U.S. Agenc[ies]”. Make sure your tax preparer (or you) completes Illinois’ Schedule M (Other Additions and Subtractions) if you invest in U.S government bonds outside of your retirement accounts. Additionally, if you have taxable interest and use mutual funds outside of retirement accounts, you may also be eligible for this state tax deduction. The amount of interest from these sources is usually disclosed in the year end statement provided by your custodian. It may be hard to find, but the information can be used to reduce your state tax bill.
Please note that there are maximum deduction levels for contributions to retirement accounts, health savings accounts and 529 plans. Talk with your tax preparer or me for more information about these limits and how they may affect your personal situation.