6 Facts about Deductions…and some common deductions that just aren’t worth tracking

We’re going back to basics with this post, taking a little break from the craziness that has been introduced to tax filing as a result of the IRS recognizing the property rights of same-sex spouses without actually recognizing that they are spouses (more on that here and in the links at the beginning of that post).

People often want to know whether various items are deductible. A better question is often, is it worth tracking this deduction?

The IRS Tip below explains the Standard Deduction (SD–not to be confused with STD, which should be avoided even more than the IRS). Nearly all filers are able to claim the SD without tracking anything. And frankly, for the vast majority of Single taxpayers with income under $50,000/yr, and Married Filing Joint filers with income under $100,000/yr, the Standard Deduction is what you’re going to take if you don’t own a home with a mortgage.

When people itemize their deductions, instead of taking the SD, it’s because their itemized deductions add up to more than the SD for their filing status. And the SD bar is fairly high (see below). Most people will pay some state income tax or sales taxes, which are deductible. But even in a very high tax state, you’ve got to have a pretty significant income before state taxes alone will get you close to the SD amount. If you’re like most of us sinners who don’t faithfully give 10% to charity, the charitable deductions probably won’t be enough to get you to the SD amount, even when combined with state and local taxes.

But what about all those job expenses, medical copays, tax preparation fees, and investment expenses you were told you could deduct? Well, many common deductions are deductible in theory, but not in practice for most people. The reason is because many common deductions are subject to AGI thresholds. In the case of medical expenses, only the amount of expenses that exceed 7.5% of your Adjusted Gross Income (AGI) can be deducted. (The threshold is 10% if you’re subject to AMT, but that’s another post.) Many things go into AGI, but most taxpayers can just think of their total income as their AGI to get a pretty good estimate. So if you earn about $50,000, your medical expenses must exceed about $3,750 before they can *potentially* be deducted. But even then, they have to add up to more than your SD when combined with other itemized deductions. Otherwise there’s no benefit to deducting them.

Most other common expenses–job expenses, investment expenses, tax preparation fees–are subject to a 2% of AGI threshold; i.e. the expenses in this category must add up to more than 2% of your AGI before they can *potentially* offer any benefit. [NOTE: If you are self-employed, your business expenses are directly deductible against income, regardless of whether you itemize or take the standard deduction.]

The upshot of all these different thresholds for most people is that it’s just not worth the trouble of tracking work expenses, medical copays, etc. This is especially true if you don’t own a home with mortgage interest.

Of course, you never know when you might have some huge medical expense or job-related expense near the end of the year, so it’s probably not a bad idea to keep these receipts somewhere you can dig them up if that happens. But if you know you didn’t spend more than a few hundred dollars on deductible expenses, or even a couple thousand dollars in the case of medical expenses, then save yourself some trouble and don’t worry about adding up all those receipts at the end of the year. Just toss that shoe box of receipts in the recycle bin and start a new shoe box for next year.

And now without further ado, here’s a word from the IRS…

IRS Tax Tip 2011-48, March 9, 2011

When filing your federal income tax return, taxpayers can choose to either take the standard deduction or to itemize their deductions. The IRS has put together the following six facts to help you choose the method that gives you the lowest tax.

Whether to itemize deductions on your tax return depends on how much you spent on certain expenses last year. Money paid for medical care, mortgage interest, taxes, charitable contributions, casualty losses and miscellaneous deductions can reduce your taxes. If the total amount spent on those categories is more than your standard deduction, you can usually benefit by itemizing.

1. Standard deduction amounts are based on your filing status and are subject to inflation adjustments each year. For 2010, they are:

Single     $5,700
Married Filing Jointly   $11,400
Head of Household   $8,400
Married Filing Separately  $5,700
Qualifying Widow(er)  $11,400

2. Some taxpayers have different standard deductions The standard deduction amount depends on your filing status, whether you are 65 or older or blind and whether an exemption can be claimed for you by another taxpayer. If any of these apply, you must use the Standard Deduction Worksheet on the back of Form 1040EZ, or in the 1040A or 1040 instructions. The standard deduction amount also depends on whether you plan to claim the additional standard deduction for a loss from a disaster declared a federal disaster or state or local sales or excise tax you paid in 2010 on a new vehicle you bought before 2010. You must file Schedule L, Standard Deduction for Certain Filers to claim these additional amounts.

3. Limited itemized deductions Your itemized deductions are no longer limited because of your adjusted gross income.

4. Married Filing Separately When a married couple files separate returns and one spouse itemizes deductions, the other spouse cannot claim the standard deduction and therefore must itemize to claim their allowable deductions.

5. Some taxpayers are not eligible for the standard deduction They include nonresident aliens, dual-status aliens and individuals who file returns for periods of less than 12 months due to a change in accounting periods.

6. Forms to use The standard deduction can be taken on Forms 1040, 1040A or 1040EZ.  If you qualify for the higher standard deduction for new motor vehicle taxes or a net disaster loss, you must attach Schedule L. To itemize your deductions, use Form 1040, U.S. Individual Income Tax Return, and Schedule A, Itemized Deductions.



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