Most-Overlooked Tax Breaks for New College Grads

Moving Expenses

Even if you don’t itemize deductions, you can write off unreimbursed costs of moving for your first job, as long as the job location is at least 50 miles away from your old home (which could be your residence at college if you have a job offer when you graduate).

When totaling up the costs, count what you paid to pack and ship household belongings to the new location, including the cost of shipping a car or pets. If you drove your own car for a 2016 move, you can deduct 19 cents a mile, plus any tolls, and the cost of lodging on the way (but not the cost of your meals). The allowance is 17 cents a mile for 2017 moves.

Part-Year Withholding

When you start a job, you’ll be ushered into the human-resources office and asked to fill out a Form W-4, which your boss will use to decide how much state and federal income tax to withhold from your pay. Most workers don’t do a very good job with this task, which is a major reason why three out of four taxpayers get tax refunds each year (proof that too much tax was withheld in the first place). For a first job, there’s an even bigger danger: That the newly minted employee won’t know about “part-year” withholding.

This special brand of withholding is tailor-made for new graduates who get their first full-time job around midyear. The part-year method sets withholding according to what you’ll actually earn during the part of the year you work, rather than on 12 times your monthly salary. That can make a significant difference in how much your employer holds back from your checks. The part-year method can be used by anyone who expects to work no more than 245 days—approximately eight months—in continuous employment during the year. You must give your employer a written request that this special method be used. Employers don’t have to comply, but if yours does, you’ll get more of your pay as you earn it rather than having to wait for a fat refund the following spring.

The Tax- and Money-Saving Power of a 401(k)

New grads are often so strapped for cash that the last thing they want to do is divert part of their salary to a retirement plan. Don’t make that mistake.

• Sign up for the 401(k) as soon as you are eligible. A growing number of employers automatically enroll new employees unless they opt out. Don’t do that. And, make sure you contribute at least enough to capture 100% of any employer match. That’s free money.

Money that goes into a traditional 401(k) account is pretax, meaning Uncle Sam doesn’t get a crack at it before it goes into the tax shelter. That’s why a $500 contribution cuts your monthly pay by just $375 if you’re in a combined 25% federal and state tax bracket. If your boss offers a Roth option in the 401(k), consider directing part or all of your savings to that account. Roth contributions are after-tax, so a $500 contribution really costs you $500 now. But all withdrawals in retirement will be tax-free. (If you use the Roth, any matching contributions will still go into a traditional 401(k) account.) The reason for an early start: The enormous power of tax-free compounding over the long term. If you can afford it, contribute to an IRA, too.

Don’t Ignore the FSA

There’s a good chance your new employer will offer a flexible spending account that you can fund with pretax dollars to pay medical expenses.

Far too many employees decline the opportunity because they fear what they consider a diabolical “use it or lose it” rule. You have to declare before the year begins how much you’ll contribute to the account and, if you don’t use it all by year-end, you forfeit what’s left. (There are a couple of exceptions: Many employers let employees spend one year’s FSA money through March 15 of the following year; others permit employees to carry over as much as $500 of unspent money to the next year.)

• Don’t let the use-it-or-lose-it rule scare you away from the mighty tax savings an FSA offers. Contributions avoid both federal and state income taxes, and Social Security taxes, too. The tax savings are so powerful that even if you forfeit a good chunk of your contributions, you can still come out ahead financially. If the FSA lets you avoid a combined 25% in federal and state income taxes plus 7.65% in Social Security taxes, you’d need to earn nearly $1,500 to have enough left over after taxes to pay $1,000 worth of medical bills. Putting $1,000 into an FSA would give you the same spending power.

The Power of the HSA

• When it comes to health insurance, consider whether it makes sense to opt for a high-deductible policy teamed with a health savings account. An HSA gives you a triple tax break: Your contributions are deductible (or made with pretax money if it’s withheld from your paycheck), the money grows tax-deferred, and the funds can be withdrawn tax-free to pay your medical bills. It’s like a supercharged flexible spending account that never expires. Most employers who offer this choice to employees also add a few hundred dollars to their accounts each year as a bonus.

To use this tax shelter, you must have a qualifying insurance policy, which is, among other things, a policy that has a deductible of at least $1,300 for individual coverage and $2,600 for family coverage in 2016 and 2017. If you qualify, you can contribute up to $3,350 if you have individual coverage or $6,750 if you have family coverage in 2016, plus up to $1,000 if you’re 55 or older by the end of the year. For 2017, the contribution cap for individuals rises to $3,400; for families it stays at $6,750.

Student-Loan Interest Paid by Mom and Dad

Generally, you can deduct interest only if you are legally required to repay the debt. But if parents pay back a child’s student loans, the IRS treats the transactions as if the money were given to the child, who then repaid the debt.

• So as long as you are no longer claimed as a dependent, you can deduct up to $2,500 of student-loan interest paid by Mom and Dad each year. And you don’t have to itemize to use this money-saver. (Mom and Dad can’t claim the interest deduction even though they actually foot the bill because they are not liable for the debt.) If you’re paying interest yourself on your loans, the same $2,500-a-year limit applies. And, if you’re making big bucks, you don’t get this break. The deduction phases out as adjusted gross income rises between $60,000 and $75,000 on a single return and between $125,000 and $155,000 on a joint return.

Annual Gift-Tax Exclusion

If Mom and Dad (or generous grandparents, perhaps) are giving you a financial hand while you establish yourself after graduation, you need to know about the federal gift tax. Although rarely paid by anyone, when the federal gift tax is owed, it is owed by the giver of the gift, not the recipient. Each year, anyone can give any number of individuals up to $14,000 without even having to file a gift-tax return. So, Mom and Dad together could give you up to $28,000 without the IRS getting involved.

Larger gifts trigger the need for a return, but every taxpayer has a lifetime credit large enough in 2016 to cover the tab on $5,450,000 of gifts; lifetime tax-free amount rises to $5,490,000 in 2017. (Any part of the credit used to offset gift taxes will not be available to cover estate taxes when the donor dies.)

Lifetime Learning Credit

Just because you have a degree doesn’t mean you stop learning . . . or paying for higher education.

If you’re paying for course work—maybe evening classes in computer coding or a foreign language, for example—Uncle Sam may help foot the bill via the Lifetime Learning Credit. It’s worth 20% of up to $10,000 you spend each year for post-secondary education—for a maximum credit of $2,000 a year. And, unlike the American Opportunity Credit that your parents may have claimed to recoup part of the cost of sending you to college, the Lifetime Learning Credit does not require that you be working toward a degree. A single class can qualify. Also, there’s no limit on the number of years you can claim this credit.