Introduction
As a taxpayer, it is important to understand itemized deductions and how they can reduce your taxable income. Itemized deductions are expenses that you incurred during the tax year that can be subtracted from your adjusted gross income (AGI) to determine your taxable income. Essentially, they lower the amount of money on which you are taxed.
In this article, we will explore what itemized deductions are, how they differ from standard deductions, and which ones may apply to you.
What Are Itemized Deductions?
Itemized deductions refer to specific expenses that an individual or family incurs throughout a tax year. These expenses must meet certain criteria to qualify for a deduction; however, once qualified, they help reduce the amount of taxes owed. The IRS allows taxpayers to claim either the standard deduction or itemize their deductions – whichever results in less taxable income.
Standard Deduction vs. Itemized Deductions
The standard deduction is a set dollar amount established by Congress each year that reduces your AGI without requiring any additional documentation or receipts. For 2020 tax returns filed in 2021, the standard deduction is $12,400 for single filers and married filing separately status ($24,800 for those who file jointly).
However, if you have significant deductible expenses such as mortgage interest payments or medical bills exceeding 7.5% of your AGI then it might make sense for you to choose itemizing instead of taking the standard deduction.
Medical Expenses
The IRS defines medical expenses as “the costs of diagnosis, cure mitigation treatment or prevention.” Medical expense items include doctor visits and treatments such as surgery or chemotherapy but also glasses/contacts lenses prescribed by an optometrist plus dental work like cleanings & fillings with some limitations based on age groups – e.g., only people over 65 years old can deduct insurance premiums paid for Medicare Part B coverage!
If medical bills exceed 7.5% of your AGI, then you can deduct the amount above that threshold. For instance, if your AGI is $50,000 and you spent $5,000 on medical expenses during the year, then your deduction would be $1,250 ($5,000 – 7.5% of $50k).
State and Local Taxes (SALT)
For taxpayers who itemize deductions on their federal income tax return for the previous tax year(s), they may claim an itemized deduction for state and local taxes paid during that same period. State and local taxes include income or sales tax but also property tax paid to a government entity such as city or county officials.
However in 2018 Congress passed a new law that limits the total deductible SALT amount to just $10k per household per year. This has affected many high-tax states which tend to have higher real estate prices like New York City or San Francisco where property values are especially high.
Mortgage Interest
Homeowners can deduct mortgage interest payments made throughout the tax year so long as they meet certain criteria:
– The home must be considered a qualified residence according to IRS rules
– The taxpayer must have legal ownership in the home
– Mortgage debt cannot exceed specific amounts depending on when it was incurred (e.g., loans taken out before December 15th of 2017 are limited to maximum principle balance of one million dollars while those after this date only allow up to half this amount)
– The loan must be secured by a mortgage note – i.e., not just personal credit card debt used towards housing-related expenses.
Charitable Contributions
Contributions made by taxpayers through cash donations or gifts-in-kind such as clothing donated to Goodwill can qualify for itemized deductions. However there are some limitations based on what type of organization received these contributions – e.g., political campaigns do not qualify!
Taxpayers who donate noncash items such as clothing or furniture must include a description of the item donated and its fair market value on their tax return. For cash donations, taxpayers must keep a record of the donation amount (e.g., check stubs, bank statements) and obtain written receipts for any contribution over $250.
Miscellaneous Deductions
In addition to charitable contributions and medical bills, taxpayers may also be able to deduct certain miscellaneous expenses. These can include:
– Tax preparation fees
– Investment expenses like fees for financial advice from brokers or investment managers
– Unreimbursed work-related expenses like travel costs or union dues
– Certain job search expenses – e.g., resume printing services or coaching sessions but not commuting costs!
However in 2018 Congress passed a new law that eliminated many of these deductions so there are now fewer options available to taxpayers here than before.
Conclusion
Itemized deductions can help reduce your total taxable income by allowing you to subtract specific deductible expenses from your AGI. However they do require additional documentation and consideration compared with taking the standard deduction instead. Therefore it is important to understand which deductions apply to you and how best to use them when preparing your tax returns each year!