If you’ve been used to tracking down every receipt for a donation to Goodwill to ensure you receive the maximum tax refund, the 2018 tax reform may have you questioning the best way to file your taxes. While your accountant will ultimately determine if you have enough deductions to be beneficial, educating yourself on the law will help you understand what documentation is worth the effort of obtaining when it’s time to file.
What Are the Benefits of Tax Deductions?
All citizens pay taxes according to the amount of money they earned in a given tax year. The amount owed varies depending on the income bracket that your household falls under. By documenting significant expenses – which has generally been done through itemized deductions in the past, you can show that you didn’t actually have access to as much money as you earned, because of your expenses. This can lower your taxable income and thus the amount of taxes you are required to pay.
Recent tax reforms significantly shifted this process for individuals, dramatically changing the guidelines for tax deductions.
What is the Tax Cuts and Jobs Act of 2017?
The Tax Cuts and Jobs Act was passed into law at the end of 2017, amending the Internal Revenue Code of 1986. This tax reform legislation impacts nearly all taxpayers. Major components relating to itemized deductions of the new law include:
- Reduced tax rates for both businesses and individuals
- Increasing the standard deduction and family tax credits
- Limiting state and local income tax (including property tax) deductions
- Further limiting mortgage interest deductions
What Does this Mean for Me?
With this new legislation, the standard deduction increased for the 2018 Tax Year and then again with inflation for 2019. The following threshold now applies as you prepare to file your taxes from last year:
- $12,200 for individuals
- $18,350 for heads of household
- $24,400 for married couples filing jointly and surviving spouses
This means that every individual filing taxes and claiming themselves automatically receive $12,200 in deductions and refers to “taking the standard deduction.” In this case, unless you have deductions above and beyond the $12,200 standard for an individual, it does not make sense for you to itemize your deductions.
How Do I Know If My Deductions are above the Standard?
In most cases, the following elements are tax deductions that could be itemized. You can see the full list on the IRS website here.
- Mortgage interest
- Medical expenses (more than 7.5 percent of your Adjusted Gross Income)
- Excise tax with car registrations (in the state of Indiana)
- State and local income taxes, including property taxes
- Charitable contributions
That being said, if you have documentation of expenses in these areas that are above the standard deduction, an itemized filing may still make sense for you.
For example, almost everyone has some type of medical expense. These costs can be part of the itemized deductions but must be over 7.5 percent of your total income to be beneficial from a tax perspective. Thus, only major / catastrophic medical issues such as nursing home care or cancer treatment are typically worth itemizing.
State and Local Taxes
Another area that saw significant change is the deductions for state and local taxes, which also includes property tax. There is now a $10,000 cap for all these areas, meaning that you’re only permitted to deduct $10,000 of state and local taxes – including real estate taxes – regardless of how much you paid.
While there is a cap for the amount of state and local taxes that you can deduct on your federal return, property taxes are an important component of filing your state tax return. Thus, its important to share the amount of money you paid in property taxes for a given tax year – and the corresponding documentation – with your accountant.
In the past you may have kept track of every dollar you put in the church offering plate or every time you supported a school fundraiser for tax purposes. Now, unless your charitable contributions in conjunction with your other itemized deductions are above the standard deduction, it is no longer necessary to keep such meticulous records. To compensate, some donors have moved to an “every other year” method, making larger, two-year donations so that they can qualify for the deduction the year of their gift and then take only the standard deduction the following year.
Remember that Itemized Deductions are Separate from Work-Related Deductions
These itemized expenses that have been discussed thus far are only one type of tax deduction. If you have a small business, the expenses you incur in order to do your work are not included as part of this calculation. These are tracked on a separate tax schedule, so you should be sure to continue to track business-related expenses. The same may be said for education-related expenses, such as student loan interest, and investment-related deductions.
The new standard deduction amount means that itemization no longer makes sense for most individuals. So before you start digging through purses and pants pockets for receipts, do some quick math to determine if your expenses will be higher than the standard threshold.
If itemization remains the best choice for you, make sure that you have all your documentation in order. Refer to our handy checklist (insert link) for guidance.
Changes in deductions are just a few of the significant differences in the new tax law. Contact us now for help navigating all components of the tax reform to ensure that you receive the maximum refund with the least headache.