By Vincent R. Birardi, CFP®, AIF®, Wealth Advisor at Halbert Hargrove.
Taxes – what are they good for? Actually, quite a lot! But why pay more than you must? Or why subject yourself to an IRS audit?
In this topsy-turvy year, even the IRS’ tax filing deadline has been moved. So, if you’re still in the midst of getting your filing completed, here are five common misjudgments many tax filers make.
- Choosing the wrong filing status
- Filing status is used to determine certain filing requirements, deductions, and credit eligibility. Despite being essential to correctly filing taxes, choosing the incorrect filing status remains a relatively common mistake among American taxpayers.
- The five filing status options are: single, married filing jointly, married filing separately, head of household, and qualifying widow(er) with dependent child.
- Incorrectly claiming dependents
- The IRS defines a dependent as “a person other than the taxpayer or spouse who entitles the taxpayer to claim a dependency exemption.” Each dependency exemption decreases income subject to tax by the exemption amount.
- Can you claim an adult child as a dependent? You can if they are either under 19 years of age or are a full-time student under 24 years of age. A child can be claimed as a qualified dependent if they:
- Do not provide more than one-half of their own total support; and
- Live with you for more than half of the year
- You can also claim another family member (such as parents, grandparents, aunts or uncles, nieces or nephews) as a qualified relative only if:
- You provided more than half of the person’s total support for the year;
- They aren’t your or another taxpayer’s qualifying child; and
- The relative’s gross income was less than $4,200 in calendar year 2019
- Taxpayers must list all names and taxpayer identification numbers for each person listed on the return. If the tax filer is using social security numbers, the corresponding names must appear exactly as they do on the corresponding social security card.
- Confusing “above the line” and “below the line” deductions
- “The line” represents a taxpayer’s Adjusted Gross Income (AGI). AGI is reported on IRS Form 1040 and is used to calculate an individual’s tax liability. AGI is important. It serves the following tax-related functions:
- Provides the floor for deductible medical expenses
- Identifies the ceiling for charitable donations
- Determines deductibility of IRA contributions
- Popular ways to reduce AGI’s above-the-line deductions include:
- Trade / Business expenses
- Contributions to pension, profit sharing, annuity plans, IRAs and Health Savings Accounts
- Interest paid on student loans
- Itemized deductions from AGI (below the line deductions) include:
- Medical expenses in excess of 10% of AGI
- State and local taxes (SALT) up to a $10,000 cap
- Charitable donations. Limits to what you can deduct vary. Eligibility is based on the type of property donated and the classification of the charitable organization (public versus private).
- Not keeping a copy of your recent years’ returns
- Tax experts recommend keeping a copy of your tax return for at least three years. That’s how long the IRS can legally audit you for gross under-reporting of income.
- Knowing when to consult a tax professional for assistance
- There’s an abundance of self-service software applications that can guide tax filers through the tax completion process. These applications are appropriate for those with simple returns.
In most cases though, it’s worth speaking with a tax professional to ensure that your taxes are completed correctly and avoid a heightened risk of an IRS audit.
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