What is a Tax Deduction?

If you’re really new to the process – perhaps you’re an immigrant or a young adult – tax deductions are used to lower your taxable income. You list them when you’re filing taxes and while it doesn’t directly bring down the total you owe to the government, it does it indirectly – by reducing your taxable income.

Think of it as a little bit of good news amid not-so-cheery circumstances.

Standard vs. Itemized

Everyone knows you want to choose a tax write-off whenever possible. But just how does it work?

There are two different types of deductions on your returns – standard and itemized.

A standard tax deduction on your 2018 taxes means you claim a set amount in U.S. dollars which is determined by the IRS. It requires no additional forms or receipts when you file taxes. It’s simple to do, of course, because you don’t have to collect tax receipts or gather together paperwork for your accountant. But it doesn’t grant you nearly the advantage that itemizing does.

The Intuit website has examples of how it works when you itemize tax deductions. If a married couple filing jointly took the simpler, standard deduction in 2009 it was $11,400. But if they opened retirement accounts, made contributions to charity or owned a home, they may have greatly exceeded that standard deduction, but it would have required that they itemize things when filing taxes.

By looking at that case, you can see the prospect of maximizing your tax deduction by choosing to itemize. It means you file a 1040 Schedule A ... or at least your CPA does.

There are particular categories for itemizing that are laid out by the IRS. Before you jump for joy at the prospects, be aware that some categories have thresholds that have to be met. That means the amount you spent last year in a particular category has to exceed a certain percentage of your income.

The categories include:
• Medical, dental, prescription drugs, and health care costs: To write off any of these expenses, it needs to cost more than 7.5 percent of your adjusted gross income. If it didn’t cost you at least that much, you can’t use it when filing taxes. There are also high-income earners who can’t use this category of write-offs. And next year – when filing 2019 taxes, the threshold will go up to 10 percent of your adjusted gross income.

• State and local income taxes or sales taxes: Sometimes called the SALT deduction, there have been changes to the write-offs you gain on your federal tax return based on what you paid in state and local taxes. The Tax Cuts and Jobs Act for 2018 taxes instituted a maximum of $10,000 for a SALT deduction. Before this year there wasn’t a limit.

• Mortgage interest: You could previously deduct up to $1 million in mortgage debt cost plus up to $100,000 in interest paid if you took out a second (home equity loan), but that’s changed, says an article on the CNBC website. Now you’re allowed to deduct interest on your mortgage up to $750,000, and that’s just for what you used to buy, build or improve your house or second property. If you’ve got a home equity loan or line of credit, you can use it as a tax write-off only if it was used to buy, build or improve the dwelling. 

• Personal losses due to theft or casualty: The spring thaw comes just after the most dangerous time of year, when it comes to fires. Nearly half of all fires that begin in people’s homes occur in December, January and February, according to CNBC. And when it comes to tax gains from these kinds of losses, there’s less to claim. In the past, Americans could itemize property losses occurring from accidents, theft, vandalism, fires and natural disasters if they exceeded 10 percent of their adjusted gross income. Now the only costs from disasters that count as a tax write-off are those from tragedies declared by the president as official disasters. The 10 percent threshold has remained the same, however. The last year that data is available is 2016, when 154,274 claims for casualty or theft deductions were submitted to the IRS.

• Union dues: For this one there’s bad news. Through 2017 an employee could write off their union dues, but from 2018 taxes through the year 2025 you can no longer deduct them, even if you itemize your tax return. They used to be deducted under “unreimbursed business expenses” as long as they met a minimum. Now, employee expenses are only deductible for self-employed taxpayers under “business expense.”

Hidden Tax Deductions

There are other tax deductions that are “hidden” – they’re lesser-known opportunities to lower your taxable income, which are often overlooked. The newest tax laws made some of these beefier, which is good news. 

• Gas mileage for volunteerism: When you drive to where you are volunteering, the return rate is 14 cents for each mile driven, a standard set by Congress.

• Money spent towards an education: The Kiplinger Letter says that parents can benefit by paying student loan interest. Because the IRS sees it as a gift to the child that was directly applied to debt payments, the son/daughter can claim it as a deduction up to $2,500. Because the mom/dad aren’t liable for the debt they can’t claim it – only their (non-dependent) child can.

• Reserve military travel expenses: Are you a military reservist? If so, keep track of your bills when you travel to or from service, whether it’s meetings or drills. You can write off lodging expenses and half of your food but you need to provide a tax receipt for your deductions. You also get an allowance for mileage.

• Car registration fees: This one is restricted to the part of your car registration fees that are based on the car’s value. Each state calculates the value of a vehicle and that is the only part of your car registration that’s a tax write-off. You itemize this one on Schedule A on the line that says “personal property taxes.”

• Traveling fees: Believe it or not, the IRS may help you out with those baggage fees. If you’re self-employed and travel for business, you can claim extra dollars paid for travel changes, booking fees and baggage.

• Teachers’ out-of-pocket costs: Do you spend weekends designing bulletin boards and hanging seasonal decorations? Save your receipts from Staples or other stores where you put your own hard-earned money on the line for a better classroom. These additional learning tools that are making your paycheck shrink are tax-deductible.

• Home office expenses: Do you work at home? If you’re an entrepreneur or own a small business, you can save on 2018 taxes through home office expense deductions. The IRS standards are laid out for you and they apply to an individual who works at home on a regular basis and uses part of the house exclusively for work. You can deduct rent, real estate taxes, repairs, maintenance and utilities. Believe it or not, this applies if you work from a house (rented or owned), a condo, apartment or even a boat. It does not apply to temporary lodging such as a hotel.

• Gambling debts: At last, you can be a loser in Las Vegas and come out a winner. Believe it or not, you can itemize gambling losses as long as you have reported the same amount in winnings. You need to, at the very least, keep your receipts, but the IRS also suggests you keep a diary of all gambling activity to validate dates and times, wagers, the names of the establishments, etc. They even ask you to declare the people you are with when you were gambling.

Non-deductible Taxes

Because there have been a lot of changes, it’s difficult to understand (and metabolize) an entire tax code. There are a few standouts to mention that aren’t deductible in the same way they were before.

In the past, some of your itemized tax deductions fell under the category of “miscellaneous.” Now those are no longer allowed.

But some of those that previously fell into the “miscellaneous” category are now in redefined deductible categories. Certain deductions for unreimbursed employee expenses are still permissible. The IRS website says that you may be able to write off expenses if your employment falls under one of these categories of employment:
• In the Armed Forces Reserve
• A qualified performing artist
• Fee-based government official – state or local
• Employee with an expense related to impairment

If you’re in one of these categories of employment, you can consider certain expenses as a deduction from your adjusted gross income. They have to be paid during the tax year you’re filing and have to go toward furthering your business or employment, and they have to be ordinary and necessary.

There have also been changes in fines or penalties deducted in the past, which you may want to check on the IRS website. 

Improving Your Taxes through Charitable Giving

Americans give an estimated $390 billion to U.S. charities per year, including corporations, individual donors, foundations and estates. 

If everyone in the United States gave one dollar, it would support the American Red Cross disaster services for one year. If 5,000,000 individuals gave $5 each, the March of Dimes could do research and offer medical support for one year. And if 1,000,000 people donated $75 each, Goodwill Industries could provide financial wellness and career-building services for 36.6 million individuals. And 100 seniors could have Meals on Wheels for one year if 10,000 Americans gave $25 each.

Did you donate goods to a 501(c)(3)? If you followed the KonMari method and cleaned out your closets, you probably took extra clothing and home goods to the Salvation Army or another charity. You can tally up the value of those donations and write them off your taxes. 

You may be overlooking the opportunity for maximizing your tax deduction through goods and services. If you prepared food for a meals program such as a soup kitchen, save your receipt from the groceries and add it as a tax receipt when you’re filing taxes. Even if you bought stamps for PTA or drove for a charity – it all contributes to bringing down your 2018 taxes.

Another popular non-cash contribution is donating a car to charity. Because it’s a necessity for every vehicle owner to send their car down the path when they purchase something new, it’s a built-in method for maximizing their financial situation through a tax deduction. With car donations you can support charities ranging from animal rescues, children/families charities, environmental causes, homeless shelters, human services, and veterans. 

Ideally, you make it easy on yourself by getting it handled by a company with a good deal of experience processing these transactions. That way there’s a dual benefit – you get the job done (passing on your old car) in a hassle-free manner plus helping your bottom line.

The name of the game is raising your awareness. The more you know about available tax deductions, the more discretionary spending you have, not to mention money to put away for retirement. A good way to achieve that is through maximizing your tax deduction, thus lowering your taxable income and coming out ahead.