Avoid these simple tax mistakes

Now that tax season is in full swing, it’s going to be hard to stay updated with regular postings here, but I’ll do my best. In this article, and probably most articles through mid-April, I’m just going to provide some quick tips based on mistakes I’ve seen in reviewing returns that taxpayers have prepared on their own with tax software.

  1. Are you a registered domestic partner or have a same-sex spouse? If one partner’s employer provides health insurance to the other partner, this is unfortunately taxed as income on the federal tax return. However, California provides a deduction on the state return for this amount, and other states that have same-sex spouses and registered domestic partners may allow it as well. Check your state law. In California, it’s a subtraction from wages (reported on Line 7 of Schedule CA). And depending on your income and the cost of health insurance, this can save you several hundred dollars on your tax bill. NOTE: Many tax professionals miss this little-known deduction, so even if you had a professional do your taxes, you should double-check that they caught this.
  2. Do you pay for your own health insurance and receive income as an independent contractor? Make sure you deduct that health insurance. In general, medical costs must exceed 7.5% of income to be deductible, so many people just ignore these costs on their tax return. But in the special case of health insurance and self-employment earnings, you can actually take a deduction for the entire cost of health insurance in most cases. And for 2010, the health insurance cost also reduces your Self-Employment tax as well.
  3. Did you sell stock or other assets? Many people who don’t frequently sell stock or other assets, or who received it as a gift or inheritance, don’t know what their cost basis is in the asset. As a result, they pay much more tax on the sale than they should. Your cost basis is generally what you paid for the stock; plus the value of reinvested dividends. If you received stock from your employer, your cost basis is the amount that was reported as income on your W2. (Frequently this is the Fair Market Value of the stock, minus any amount you actually paid, on the exercise date.) If you received assets as a gift, your basis is whatever the donor’s basis was. And if you inherited assets, your basis is generally the Fair Market Value of the asset on the date of death of the decedent.
  4. Look closely for withholding on 1099 statements. Most people catch withholding on their W-2, but sometimes taxes are withheld on pension/IRA distributions (1099-R), unemployment (1099-G), Social Security payments (SSA-1099), and occasionally even interest payments or proceeds from stock sales (1099-INT and 1099-B). Don’t forget to take credit for these payments you’ve already made to the government! No need to pay the same tax twice.

These are just the most common mistakes I’ve seen in the last week or two. In my experience, the majority of self-prepared tax returns contain one or more mistakes. More often than not, they’re minor oversights like #4. These can be eliminated by simply carefully examining all of your tax documents, and carefully reading each screen if you’re using tax software. However, occasionally, there are deductions or credits that aren’t widely known and the software doesn’t do a great job of telling you about (like #1).  In these cases, a professional review is probably your best bet to uncover the mistake.

Another good resource to start with is IRS Publication 17.


2 Responses to Avoid these simple tax mistakes

  1. Gary says:

    Can you please tell me how to subtract the cost of healthcare from wages that you discuss in item number 1? (In California, it’s a subtraction from wages (reported on Line 7 of Schedule CA). I use Turbotax and I tried to subtract it but I got a error when I reviewed the taxes because on my W2 there are zeros in line 10 (dependent care benefits). He is not my dependent but I am taxed more than 3 thousand a year for his being on my healthcare. Please tell me how I can subtract this frm my wages on my California return.

    • class5tax says:

      Different issues here. The line 10 of your W2 is for Dependent Care Benefits, and it should be blank. Entering $0 there I think causes errors.

      As long as you indicated in Personal Info that you’re in a same-sex marriage or RDP relationship, then TurboTax will ask you at the beginning of the California state interview (it’s one of the first 2 or 3 screens) whether your employer provided health benefits for your same sex partner. This is where you enter the amount of imputed income from health benefits. TurboTax uses another method for reporting this (also valid). They don’t put it on Line 7 of Schedule CA, they put it on a worksheet that recalculates your AGI, so that your starting AGI on California 540 is already reduced to reflect the health insurance amount. Good luck!

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