Springtime is tax time. For most people, that means anxiety and uncertainty. Filing your taxes accurately requires planning. Getting the most out of your taxes requires an understanding of what deductions you and your family are eligible for. While going through the many deductions can feel like work itself, it can also result in a larger tax refund and ensure you get what you’re owed.
To help, we’ve assembled a list of tax deductions you can take in 2020 for the 2019 tax year: the return you’ll file on April 15th of 2020.
As you read through these topics, keep in mind that each deduction is presented in the order that it appears on your personal tax return (Form 1040). Adjusted gross income (AGI) topics, for example, are listed before itemized deductions because that’s how your tax return is organized. So, without further adieu, here are the most common deductions you’ll encounter with the recent tax reform.
Note: don’t confuse these with credits like the earned income tax credit, as these are different from deductions. A deduction reduces your total amount being taxed, meaning your actuable taxable income goes down. This can vary, depending on your tax bracket. A tax credit, on the other hand, is an actual amount taken straight off of what you owe. So, a $1000 tax credit is $1,000 taken off of your taxes owed.
Adjusted gross income deductions
The first page of Form 1040 is for general information, and also the place the 2019 Form 1040 (most recent available) includes income on page 1, where you add up your income from all sources. In addition to your salary, you may earn dividend income on investments or rental income from owning property. Self-employed people post their business profit on Form 1040 Schedule 1, and that profit is added to other income sources.
Once you know your total income, you make adjustments (that is, subtractions) from your income to arrive at AGI. The Form 1040 Instructions provide line-by-line explanations, including deductions.
Here are four deductions you may be able to take in 2020.
1. Educator expenses
Many educators pay for school supplies and equipment out of their own pocket. Qualified expenses can be deducted up to $250.
To be eligible, you must be a kindergarten through grade 12 teacher, counselor, principal, or aide. You must also work at least 900 hours during the school year. Qualified expenses include professional development course fees, books, supplies, and computer hardware or software.
2. Retirement plans: IRA and SEP plans
Taxpayers may be able to deduct contributions made to retirement plans, but you need to understand the difference between two retirement plan categories. A Simplified Employee Pension (SEP) plan is for self-employed people, and an Individual Retirement Account (IRA) is available to both employees and self-employed workers.
If you contribute after-tax dollars into these plans, the dollar amount of your contribution may be tax deductible. Say, for instance, that you earn $100 and pay $20 in federal taxes. If you invest the remaining $80 into an IRA, that $80 may be deductible on your tax return. (Naturally, real numbers will be larger.)
The rules to determine the amount you can invest are complicated, so check with a tax preparer to ensure you comply with tax laws.
3. Self-employment tax
Confusion often surrounds self-employment tax. As a result, many business owners don’t deduct the proper amount.
Employees pay their share of Social Security and Medicare taxes through payroll withholdings, and the dollar amounts of the withholdings are reported on W-2 forms. Employers also pay a portion of the tax and deduct the taxes paid as a business expense.
For 2019, the employer and the worker each pay a 7.65% tax. High-income earners may pay an additional 2.35% Medicare tax. Check with a tax professional to find out more.
If you’re self-employed, you pay both the employer and employee portion, and then deduct the employer portion on Form 1040. Use Schedule SE to compute the amount of the tax deduction.
4. Student loan interest
A qualified student loan is a loan taken out to pay for qualified higher education expenses for yourself, your spouse, or anyone you claim as a dependent. Qualified higher education expenses include tuition, fees, room and board, books and supplies.
Deductions in this category are either the amount of interest you actually paid or $2,500, whichever is less. This is a tax deduction that is phased out, meaning that the higher your income level is, the lower your tax deduction will be, and some taxpayers will not be eligible for the deduction at all.
You’ll find a worksheet in the Form 1040 instructions that you can use to calculate the deduction, which is posted to Schedule 1 of Form 1040.
Additional income and adjustments to income (deductions) are posted to Schedule 1. The net dollar amount on Schedule 1 is posted to page 1 of Form 1040, and used to calculate AGI at the bottom of page 1. The next line item on the form is your standard deduction or itemized deduction.
The 2019 standard deduction and itemized deductions
Taxpayers calculate itemized deductions on Schedule A of Form 1040 and then determine if the itemized deduction total is more than the standard deduction. While itemizing can be time consuming, it can result in thousands of dollars saved.
Standard deductions are currently:
- Single taxpayers: $12,200
- Head of household taxpayers: $18,350
- Married filing jointly tax returns: $24,400
If you itemize deductions and they’re more than the standard deduction, use the itemized deduction amount on your return. The deduction is subtracted from your AGI to calculate your taxable income.
Here are five common deductions that can help you produce a higher itemized deduction total and lower your taxable income.
1. Casualty and theft losses
Casualty and theft losses refer to losses caused by theft, vandalism, fires, storms and car accidents. You can deduct the dollar amount of each loss over $100.
If you have more than one loss, you subtract $100 from the dollar value of each loss to calculate the tax deduction. However, you must also subtract any funds received from an insurance policy claim.
Next take the total dollar amount of casualty and theft losses and subtract 10% of your AGI (see Form 1040). If you have a loss balance after subtracting the 10% income amount, you can deduct the loss amount on Schedule A.
2. Charitable contributions
This deduction may be the most difficult to track and document because most people make dozens of small donations throughout the year. Keep a log of the charitable donations you make in cash, and document the checks that you write to a charity. If you donate clothing or other items, ask the charity to give you a written receipt.
Contributions of $250 or more require a letter from the charity for tax documentation purposes. Each time that you make a donation, ask the charity for a letter to document your contribution.
3. Home mortgage interest
If you have a home loan, the tax deductibility of home mortgage interest can have a meaningful impact on your tax bill. The Internal Revenue Service, or IRS, allows you to deduct interest on acquisition indebtedness, which refers to mortgage loans used to buy, build, or improve your home.
Home improvements can be anything, including the construction of a home office. (If you have a home office you might be looking at a self-employment deduction, which is another matter entirely.) This also applies if you have a second home. In which case, you can deduct any kind of mortgage debt payments as well.
The mortgage interest deduction depends, in part, on when you took out the mortgage on your home. For mortgages taken out before December 15, 2017, married couples filing jointly can deduct mortgage interest on the first $1,000,000 of debt. Married taxpayers filing separately can deduct mortgage interest on the first $500,000 of debt.
For mortgages taken out afterDecember 15, 2017, married couples filing jointly can deduct mortgage interest on the first $750,000 of debt. Married taxpayers filing separately can deduct mortgage interest on the first $375,000 of debt.
Note that the size of your mortgage loan is now capped for tax purposes. Many real estate professionals promote the idea that “home mortgage interest is tax deductible,” but the entire amount of mortgage interest may not be tax deductible.
4. Medical and dental expenses
This deduction is likewise a bit complex because you can only deduct medical and dental expenses on Schedule A if the total amount exceeds 7.5% of your AGI. The 7.5% is described as a “floor.” If your total expenses are below the 7.5% floor, they are not deductible at all.
Keeping track of this deduction during the tax year can be challenging. If you have a large medical bill in a given year, you may be distracted by the time and anxiety of dealing with an illness. This deduction is a good reason to have a CPA help you with your tax return.
A tax professional can ask the right questions to help you maximize your deductions by tracking your medical expenses, as well as other potential deductions. A CPA can also help determine if your health insurance premiums can be deducted, as they’re one of the personal exemptions that aren’t always clear cut.
5. State and local taxes
You can deduct four types of nonbusiness taxes on your personal tax return:
- State, local, and foreign income taxes
- State and local general sales taxes
- State and local real estate taxes
- State and local personal property taxes
You can elect to deduct state and local general sales taxes instead of local and state income taxes, but you can’t deduct both. Most taxpayers choose to deduct income taxes because the dollar amount is larger.
Your deduction of state and local income, sales, and property taxes is limited to a combined total deduction of $10,000 ($5,000 if married filing separately).
This is the most important new tax law change for taxpayers who live in a state with a high state tax rate. Because state and local tax deductions are now limited, some taxpayers will have much larger tax liabilities in 2019.
401(k) matching contributions
This topic is not a tax deduction — but it’s a tax strategy that can make a huge difference in the number of retirement dollars you accumulate over time.
Two types of retirement plans were mentioned earlier, and many employer-sponsored retirement plans offer an employer matching contribution. The most widely used company plan is a 401(k). If your employer offers a matching contribution, take full advantage of the benefit.
Here’s an example. Assume that your company offers a 3% match on 401(k) retirement plan contributions and you make $60,000 per year. You decide to contribute 3% of your annual salary, or $1,800. Keep in mind that the dollars are contributed pre-tax, meaning that 100% of the $1,800 you earn is invested.
Since you contributed 3%, your employer invests another $1,800. You now have $3,600 invested, and you don’t pay taxes on the earnings until you start to withdraw funds in retirement (at which point, your tax bracket will likely be lower since you won’t be earning an income).
Putting more into your 401(k) may be the most valuable tax strategy available to you.
Take control of your tax deductions
Tax preparation can be time-consuming, but getting the most out of your available tax deductions will save you money. Use this list of tax deductions and keep detailed records during the tax year. Consider working with an experienced tax preparer who can help you file your taxes accurately.
If you speak with a tax professional, they can also help you look into tax credits. These can include things like earned income credits, child tax credits for each qualifying child and other credits that abide by tax codes.
The bottom line is that if you put in the effort to organize your records and understand your available deductions, you can save tens of thousands of dollars in tax deductions, and you can avoid penalties and fees. Personal finances are always work, but with that effort can come savings that you and your family can use for any number of things. Be one of the savviest tax filers out there and reap the rewards for years to come, getting the maximum amount you deserve.