One way the IRS gives taxpayers some relief on their personal income taxes is to give them the option of taking either the standard deduction or the total of their itemized deductions (often called “tax write-offs” or "tax breaks"). The taxpayer can subtract whichever is the larger amount from taxable income, which can result in a smaller tax bill.
Federal Income Tax Deductions
The amount of the standard deduction varies, according to the taxpayer’s filing status. There are five categories of filing status: Single (S), Married Filing Jointly (MFJ), Married Filing Separately (MFS), Head of Household (HOH), and Widow or Widower with a Dependent Child (QW). If the taxpayer is blind, over 65, or someone's dependent, the respective amounts for each status are adjusted.
To give a few reference points for the 2008 tax year, the standard deduction ranged from $10,900 for those filing MFJ or QW, down to $5,450 for those filing MFJ or Single. The amounts generally change a bit each year to reflect inflation. For tax years 2008 and 2009, the standard deduction could be increased by the lesser of $500 ($1,000 for MFJ filers) or real estate taxes paid.
Form 1040’s Schedule A – Itemized Deductions
Once the taxpayer knows what his or her standard deduction is, the question becomes: Does the total of the itemized deductions exceed the standard deduction? The Form 1040’s Schedule A lists the allowed deductible expenses. It categories are:
- Medical and dental unreimbursed expenses that exceed 7.5% of the taxpayer’s adjusted gross income (AGI). That hurdle is difficult for many to surpass, but the list of deductible expenses is lengthy beyond belief, and has many items on it that the taxpayer would never expect. It is definitely a list worth checking if there have been major out-of-pocket medical and dental bills in the tax year.
- Taxes paid, such as state and local taxes, real estate taxes, and personal property taxes (e.g. DMV fees). There are no deductions for federal taxes.
- Interest paid on home mortgages and points, qualified mortgage insurance premiums, and investment interest.
- Gifts to charity, which can be cash, check or donated goods. There are rules for the various types of donations, and receipts or other forms of documentation are necessary. Expenses such as mileage for doing charitable work can also be deducted.
- Casualties (such as fire, floods, tornadoes) or theft losses that were not reimbursed by insurance or other sources.
- Job expenses and certain miscellaneous deductions such as unreimbursed job travel, union dues, job education, tax preparation fees, and safe deposit box rentals. Deductions for these types of expenses are restricted to the amounts exceeding 2% of the AGI.
- Other miscellaneous deductions, such as estate taxes imposed on taxable income, gambling losses (up to the amount of winnings), appraisal fees (for casualty losses or charitable donations), and research expenses of a college professor. The list of deductibles in this category is very lengthy and subdivided into two groups: those that are fully deductible and those which exceed 2% of the taxpayer’s AGI. There are a number of commonly overlooked deductions in this miscellaneous group.
An Example of When to Itemize Tax Deductions vs. Taking the Standard Deduction
John and Jane Doe had an AGI of $50,000. They had unreimbursed medical expenses of $10,000, of which $6250 was deductible (the amount over 7.5% of their AGI). Their mortgage interest was $5,000, real estate taxes were $1,500, and state income taxes were $800. These deductions totaled $13,550. The standard deduction for filing MFJ in 2008 was $10,900. They should itemize, as the amount of income they would be taxed on is reduced by $2,650, which would cut taxes owed by about $400.
In most cases, tax filers who do not own a home are not going to have itemized deductions exceeding the standard deduction.
Bottom Line to Itemized Tax Deductions
Many can benefit from itemizing if their expenses exceed the standard deduction. However, there are some caveats:
- If a taxpayer’s AGI exceeds a certain amount, his or her allowable amount of itemized deductions is reduced by an amount contingent on individual tax circumstances. For 2008, the AGI limit that could not be exceeded without encountering a reduction was $159,950 for MFJ filers and $79,975 for MFS filers.
- Certain categories of taxpayers who have considerable itemized expenses may also be subject to Alternative Minimum Tax (AMT), which can restrict the amounts of expenses they can deduct.
- There are some taxpayers who may not take a standard deduction, even if their itemized expenses are less than the amount of the standard deduction. They include nonresident aliens, dual-status aliens, and anyone’s tax returns that cover less than the full tax year.
- When a couple files MFS, both have to either itemize or claim the standard deduction, i.e., one can’t itemize while the other takes the standard deduction, regardless of the individual circumstances
This article is just a bird’s eye view of itemized deductions. Like most facets of federal income tax law, there are many rules, exceptions, and qualifiers. A tax professional is the best source for detailed information.
Sources:
Tax Partners and Professionals of Ernst & Young LLP. The Ernst and Young Tax Guide 2007, 22nd Ed., Peter Bernstein, Editor. New York: CDS Books, 2006.
Thompson Reuters. Quickfinder Handbook: Form 1040 2008 Tax Year. Ft. Worth, Texas: Thompson Reuters, 2008.
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