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How to use the tax system to boost your savings

How to use the tax system to boost your savings

This is a guest post by Magda Biskup of Destination World. Magda returned from a 20-month long career break trip a few months ago. You can follow Magda’s travel photos and stories at www.destination-world.net or on Twitter at @DestinatioWorld.

Thousands of dollars.When it comes to getting funds for a big trip there really isn’t better and more foolproof system then simply earning the money and then saving as much of it as possible. You really don’t need to be filthy rich to travel. You just need to have some discipline and dedication. And you need to understand that every dollar you save counts and will make a difference on the road.

But having said that, there are other things you could do that would boost your travel budget without you having to lift a finger. Sounds too good to be true? Maybe, but it’s for real. You can get a few thousands dollars by doing just one simple thing – leaving your job at the right moment. Easy, isn’t it? Let me explain in details.

Some theory

I am not a tax accountant, so I am going to explain it in a very simplistic way. As a general rule people have to pay tax on the money they earn. The amount of tax we pay depends on how much we earn, but also on a marginal rates that normally increase with the income.

So, as an example, you pay 10% tax on the first $20,000 you earn in a year, than 20% on the next $20,000 and 30% on anything above that. This basically means that the more you earn the more you pay. Tax money is deducted from your salary every week, fortnight or month (depending on how often you get paid) by your employer. Your employer makes an assumption that you are going to work for the whole year, so they use your annual salary as a base for their tax calculations.

Then at the end of the year, when you do your tax return, this assumption is verified and your tax is adjusted. And you either have to pay some extra money to the tax office of you get some money back. What we want is the money back. Of course.

Tax ReturnsHow to get your money back

Let’s assume that the tax rates are as mentioned above : 10% for the first $20,000, 20% for everything between $20,001 and $40,000 and 30% for anything above $40,001. So if we assume your annual income is $60,000 then your employer sends about $1,000 a month (or $12,000 a year) to the tax office (10% of 20k is $2,000, then 20% of the next 20k is $4,000 and 30% of the remaining $20k is $6,000. In total it’s $12,000).

But let’s say you decided to quit your job and hit the road half way through the financial year (I call it ‘financial year’ because there are some countries – like Australia for example – where taxes are not calculated from January to December, buy from June to July or something else). It means that you actually earned only $30,000 that year.

But since your employer had no idea you were going to quit, they still used $60,000 as a base for tax calculation. As a result $6,000 of tax money was sent to tax office over the period of 6 months (which is half of those $12,000 I mentioned above). But since you earned $30,000 instead of $60,000 you should have paid $4,000 in tax, not $6,000. (10% on the first $20k and 20% on the nest $10k). That means that the tax office has got $2,000 more of your money that they should have. And guess what they have to do with it? They have to give it back to you! Exciting, isn’t it? This $2,000 could pay for 2 months (or more) of you trip!

Few things to remember

Before you get too excited remember that this is just an example, and how much you can get will depend on the tax rates in your country and on your income.

So do some maths before you decide when to quit to benefit the most. And don’t forget that you won’t get your money back the minute you leave the office for the very last time. You will need to wait until the end of the financial year to lodge your tax return before you get your cash. In most cases it will take at least 6 months before the money hits your bank account. Sometime it can be difficult to lodge tax return when overseas, so do plan ahead.

Plan it well and you could be able to afford a few more months of traveling!

Flickr Photos: ferret111, alancleaver_2000, Casey Serin

One Comment

  1. Posted February 23, 2011 at 10:10 am | Permalink

    I really wanted to use our return for the trip but our car has decided go to crap. Tax season is usually when we are able to see what trip we are going to take for the year. :)
    Erica recently posted..Preparation Status

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