If you think taxes are boring then it’s obviously because you haven’t seen the cheat sheet. You’re probably not aware of the fact that tax deductions could save you hundreds if not thousands of bucks off your taxes.
Think about all the interesting things you could you do with all that extra cash in your wallet. This guide is all about helping you unearth the goldmine you could be sitting on in the form of tax breaks.
You’ll be amazed at the massive amount of money you could shave off your tax bill from this list of tax credits. Without further ado, read on to discover the top 10 IRS tax deductions of 2020.
What Exactly Is a Tax Deduction
There’s no sense in putting the cart before the horse if you don’t understand what a tax deduction is in the first place. Simply put this is the amount in dollars that the IRS allows you to subtract from your ADI (Adjusted Gross Income).
This means that your taxable income decreases which make your tax bill lower than what it otherwise would have been. That’s how you save the big bucks.
Is a Tax Deduction the Same Thing as a Tax Credit
The simple answer is no. A tax credit refers to the dollar-for-dollar reduction on what you would actually pay in your tax bill. More often than not, tax credits are not refundable.
Instead, you get a check for the difference after it’s been used to offset your tax bill. Here’s a scenario to help you connect the dots.
Suppose you owe $300 in taxes and you found out that you qualify for $800 in tax credits. The $800 will be used to offset the $300 you owe.
You would then receive a check for the difference which in this case would amount to $500. It’s clear from the scenario above that a tax credit would save you much more money in your tax bill than a tax deduction would.
Claiming Tax Deductions
If you’re wondering: What can I claim on my tax return and how many deductions can I claim, then you’ve come to the right place. There are 2 ways you can claim tax deductions.
You can use either but not both methods. The first of these is the standard deduction.
This is basically a straightforward, no-questions-asked reduction in your Adjusted Gross Income. Different people qualify for different amounts. It all depends on your filing status.
The second option is through itemizing deductions. This essentially means that you assess what deductions are available to you and out of these, which ones you qualify for. The more you can deduct, the less you can expect to pay in your tax bill.
Choosing which of the 2 methods to take all boils down to which one saves you the most amount of money. For instance, if after comparison, the standard deduction is less than the itemized deductions, then taking the latter option is a no-brainer.
On the flip side, you should know that itemizing takes way more time and effort than the standard deductions. You actually have to provide documented proof that you are entitled to those deductions.
This may include anything from transaction receipts to bank statements. A tax attorney is best placed to tell you which of the 2 options will save you more. That way they’ll help you avoid making a mistake while filing your taxes.
List of Tax Credits and Deductions You Didn’t Know About
There are literally hundreds of tax credits and deductions available to you. Here’s a list of the common ones that might have slipped under your radar.
1. Your Home Office
Did you know that if you’re self-employed and you work from home you could take advantage of some deductions? That’s right. You can claim this deduction on the Schedule C Form.
You need to establish what percentage of your entire home your office takes up in floor space. With that, you can then go ahead and deduct that percentage from your home utilities.
These include property taxes, home insurance, mortgage interest, homeowner association fees, home repair and maintenance expenses. Even gas, heat and electricity bills are part of it.
For it to be considered a deductible expense, your home office must be exclusively used for work purposes. Nothing more and nothing less. So, if it doubles up as your home gym, kids study room or a storage room of sorts, then you won’t qualify.
2. Self-Employed Expenses
Self-employed individuals get lots of tax perks that their employed counterparts can only dream of. For starters, they can write off 50% of what they pay in social security. This is what would translate as the employer portion of the contributions.
This deduction doesn’t need to be itemized since it is available on Form 1040. They also don’t pay tax on baggage fees if they can prove that their travels are 100% business-related.
Furthermore, car registration on their personal vehicle is also be classified as an itemized deduction. So, if you bought a new car for your business, you may deduct up to $40,000 of its depreciation within the first 4 years.
3. Selling Your Home
If you are a homeowner, you should know that you can write off up to a maximum of $250,000 in profits if you decided to sell it. It gets better. If you’re married, this amount goes up to a whopping $500,000 worth of profits.
Only the profit amounts that exceed these are reported to the IRS as capital gain under Schedule D. There are 3 conditions that you first have to fulfill in order to qualify.
First, you should be able to prove that you have owned your home for at least 2 of the 5 years preceding the sale. Next, you have to have been living in the home for those 2 years prior to the sale.
Finally, if you made profits from the sale of a previous home within the 2 years preceding the sale of your current home, the amount is included as gain in addition to what you receive from your current gain. So, timing here is everything.
4. Mortgage Loan Interest
If you’re currently servicing a mortgage, you can deduct interest on the loan up to $375,000 and $750,000 for the married folks. It doesn’t end there. Any lines of credit used to build, buy or make improvements on the taxpayer’s mortgaged home are all eligible for tax deductions.
Nevertheless, lines of credit here do not apply when using the interest for personal living expenses such as paying off credit card debt. Once that happens, it’s sayonara to your tax deductions.
5. Alimony Payments and Legal Fees
You probably weren’t aware of the fact that alimony payments qualify for tax deductions. You don’t even have to itemize them if you finalized your divorce settlement before 2019.
However, from January 1, 2019, those who get a divorce settlement won’t enjoy tax deductions on alimony as their predecessors do. In the same breath, individuals who divorced prior to 2019 can also have their legal fees written off.
6. State Sales Tax
You can decide between deducting state income tax or sales tax from federal income tax. This can save you a huge amount on tax if you live in a state that doesn’t have its own income tax obligations.
For instance, suppose you made a huge purchase. Think car or engagement ring. Even if you paid state taxes, the sales tax break you’ll get from those huge purchases may end up saving you much more money.
All you’ll have to do is itemize the purchases for a deduction. The average tax deductions are capped at $10,000 which if you think about, is a whole lot of money you could save in taxes.
The IRS, however, does have tax guidelines for the amounts a taxpayer can deduct in sales tax. The IRS does impose some limitations though.
Say for instance you purchased an airplane. You can add the state sales tax that you paid to the amount displayed in the IRS tax guidelines per state. The catch is the sales tax rate you paid shouldn’t be more than the general sales tax rate for your state.
7. Post-College Education Expenses
Have you heard of the Lifetime Learning Credit? If you haven’t, listen up.
It basically means that if you take any post-secondary school (post-high school) education you can deduct up to $2,000 annually. It’s based on 20% of the initial $10,000 you spend.
Education here could be anything from a community college to a vocational class. You don’t necessarily have to be working towards a degree. As your income level continues to rise, the Lifetime Learning Credit continues to phase out.
8. Medical Expenses
Medical expenses can leave quite a dent in your bank account especially if you’re paying out of pocket. Despite this, the IRS allows you to write off numerous medical and health-related expenses if they cost more than 10% of your AGI since January 1, 2019.
Medical expenses could range from costs related to the prevention, diagnosis, mitigation, cure, or, treatment of illnesses that affect any part of your body. Rehab programs, organ transplants, service animals and even attending a medical conference are all considered tax deductible. The only exclusions are cosmetic treatments and surgeries.
9. Student Loan Interest Deduction
The last thing you want on top of your student loan is unpaid tax debt. If you’re drowning in student debt, here’s some reprieve. The student loan interest deduction lets you deduct your interest payments from your taxable income.
The condition is that you should have earned less than $65,000 in annual income. Graduates, who earned more than $65,000 but less than $80,000, also benefit from interest deductions. The only difference is that their interest deductions aren’t as high.
This tax break, however, isn’t only for grad students. If you’re still in school and are working to make student loan repayments, then you can also benefit from this deduction.
The government also offers additional tax breaks for students. One of these is the American Opportunity Credit.
You could also get higher tax deductions on your student loans if you’re married. You and your spouse just need to file your taxes jointly.
If your parent took out a student loan for you then they are the ones who take the deduction. However, if the loan is in your name, and, your parent’s return, lists you as their dependent, then none of you can benefit from the deduction.
10. Tax Credits for Parents
It’s no secret that raising a kid can be quite an expensive affair. The IRS is aware of this fact too. That’s why the Child Tax Credit, and, Child and Dependent Care Credit exist.
However, the higher your income bracket is, the less tax credit you qualify for. The Child Tax Credit could get you a tax break of up to $2,000 per child and up to $500 per non-child dependent.
If you’re in the process of adopting kids, you’ll get up to $13,810 in tax credit per child. However, if your AGI is higher than $247,140 you won’t qualify for these credits.
The same exclusion applies if you adopt your spouse’s child. You’re not eligible for adoption credit. Adopting special needs children gets the full value of the adoption tax credit regardless of what the actual expenses were.
The Heart of the Matter
When it comes to reducing your taxable income, it all boils down to combing through your year’s expenses to see what you can deduct. This list of tax credits and deductions is an excellent place to begin.
You’ll be surprised at just how much you’ll be able to put back in your pocket. It also helps to keep an eye out for what’s changed under the current tax laws. You may find an unexpected deductible you never would have thought of.
Need more tax information? Check out what really happens if you fail to file taxes.