Life events and tax events tend to go hand in hand. Think marriage, divorce, giving birth, emptying your nest, surviving a costly health crisis, starting a business or side hustle or retiring from/re-entering the workforce. All of it can impact your overall tax picture
If you went through anything out of the ordinary in the past 12 months, chances are it’s going to leave a mark on your tax return. (FYI: The 2019 tax filing deadline is April 15, 2020.) Here’s a rundown of what to consider as you (or your tax pro) prepare to file.
If your relationship status changed
A change in relationship status may call for a change in your 2019 tax filing status (e.g. whether you file as single, head-of-household, married filing separately, married filing jointly). Your filing status determines your income tax rate, the amount you’re allowed to claim for the standard deduction, which credits you’re entitled to and more.
Your relationship status on the last day of 2019 determines what filing status you can use. Strategically, you should pick the filing status that will save you the most in taxes. Some things to keep in mind:
If you officially coupled up in 2019, the “married filing jointly” filing status is often more financially beneficial than choosing “married filing separately,” says CPA Ross Riskin, assistant professor of taxation at The American College of Financial Services.
There are, of course, exceptions. (It’s taxes. Of course there are.) Riskin notes that if you and your spouse are both high earners with similar incomes, the combination could push you into the next tax bracket when filing jointly.
Also tread carefully if you’re dealing with student loans, particularly if you’re on an income-driven repayment plan such as an income-based repayment (IBR) or pay-as-you-earn (PAYE) plan. “If you’ve got student loans and are married to a high earner, filing separately may allow you to reduce your monthly loan payment by isolating the borrower’s income, but it may also come at the expense of paying more in taxes collectively,” he says. “However, if you are on the revised pay-as-you earn (REPAYE) plan, then both spouses’ incomes will be taken into consideration when determining the monthly payment regardless of filing status.”
If you got divorced in 2019 and are paying or receiving alimony, the Tax Cuts and Jobs Act of 2017 means it is no longer counted as taxable income (yay, if you’re the recipient!). Nor is it deductible for the person paying it (womp, womp).
Another thing to hash out is who claims the children as dependents. “Normally the custodial parent will claim the child,” Riskin says, “but it’s not uncommon for the custodial parent to release the exemption to the non-custodial parent, or for parents to alternate years when claiming the child on their taxes.”
He says that the value in claiming the child may appear to no longer exist since dependency exemptions have been suspended under the Tax Cuts and Jobs Act. But claiming the child may allow you to claim other tax credits. For example, if you plan on claiming the American Opportunity Tax Credit for your college student, the child must be listed as your dependent on your return, regardless of whether or not you’re the parent paying for the college expenses.
MORE ON HERMONEY: Divorcing? How to Financial Protect Yourself When the S**T Hits the Fan
Death of a spouse
If your beloved passed away in 2019, you can continue to use the same filing designation you used when they were alive (e.g. married filing jointly) for your 2019 taxes, says CPA Sophia Duffy, assistant professor of business planning at The American College of Financial Services.
For the tax years after their death, however, you will need to adjust your filing status. The most financially advantageous is the qualifying widow status, which allows you to claim double the standard deduction of a single status filer. You’re allowed to use that on your 2020 and 2021 tax returns if…
- You qualified for married filing jointly in 2019 (even if you didn’t file that way)
- You didn’t remarry in the tax year in which your spouse died
- You claim a child (stepchild or adopted child) as a dependent
- You paid more than half of the expenses of maintaining your home
Otherwise you’ll need to file as single and/or head of household.
A spouse’s death also affects how you’re taxed if you sell property you inherited, most notably on investment account assets. “You get a step-up in basis on inherited property, which means you’ll pay lower capital gains when you sell the property, compared to what you would have if you sold the property when your spouse was alive,” Duffy says.
If you added or subtracted dependents
New baby, expanding the family through adoption, launching your kid into the real world, taking adult family members (like parents) under your wing… are all things that affect how you account for dependents when you fill out your tax return.
The tax reform bill passed in 2017 not only doubled the amount parents or guardians can claim as a credit on their taxes (it’s now $2,000 per qualifying child under age 17), it also expanded the income limits. This is especially notable for middle-to high-income families who previously didn’t qualify for the Child Tax Credit, according to Riskin. If you blended a family in 2019 and added older kids to the household who are still dependents (e.g. full-time college students), look into the Family Tax Credit, which is worth up to $500 per kid.
Another note for divorced parents of college-age children: Just because one parent claims the child as a dependent doesn’t mean that only their information is reported for financial aid purposes. “When you’re dealing with divorced families, you can get to the point where as many as four parents’ finances — both parents and their spouses, if they remarried — are reported when you’re filling out financial aid applications at selective private colleges,” Riskin says.
The IRS’s definition of dependent isn’t limited to young’uns. If you’re caring for an elderly parent or another relative with special needs, Duffy recommends seeing if you are eligible for the deductions and credits for a qualifying dependent, such as the Dependent Care Credit (up to $5,000 for at-home or daycare costs) or Credit for Other Dependents (up to $500).
If you expanded your family tree through an adoption that was finalized in 2019, the Child Adoption Credit may be worth up to $14,080 tax credit, depending on your family’s modified adjusted gross income. Duffy notes that families who adopted a special needs child can claim the full credit, even if your adoption expenses were less than that amount. Just be aware that the adoption credit does not apply to adopting a stepchild. However, it is open to grandparents who adopt a grandchild.
Emptying the nest
If 2019 marked the year some of your chicks left the nest and you no longer claim them as dependents, be sure to update your withholding (Form W-4 filed with your employer) so you don’t get a surprise when filing your taxes.
If you re-entered or exited the workforce, or started a side hustle
Was 2019 was the year your side hustle took off, you finally started your own business, you happily went back to work after a break or you joyfully celebrated at your well-earned retirement party? If so, be prepared for tax season changes.
If your one-income household became a two-income one, put some thought into filling out your W-4. “You may end up under-withholding, especially if you file with a spouse who makes significantly more money and you don’t properly account for this when selecting your withholding allowance,” Riskin says. That can lead to a lower refund than expected, or worse — owing money to the IRS. Don’t forget to keep withholding in mind for both your state and federal returns as well.
If you worked only part of the year or had a low income, don’t overestimate the impact of claiming the Earned Income Tax Credit (EITC). “You get the maximum benefit only if you fall within certain thresholds,” Riskin says. Use the EITC Assistant on the IRS.gov website to see if you are eligible for the credit and get an estimate of the amount.
If you started a side hustle in 2019, staying in the IRS’s good graces means understanding how you’re compensated. Tax filing is less onerous if you’re a full-time employee who filled out Form W-2 because employers deduct federal and state taxes from your wages upfront. It’s more complicated if you took on side work and/or any gig for which you received a 1099 (the tax form sent to you and the IRS to indicate how much you were paid for the job). As a “1099 worker” you’re responsible for paying both the employee share of taxes (Social Security and Medicare) and the employer share (FICA). On the plus side, if you itemize, you can write off side hustle-related business expenses whether you itemize or not. (For more see: Do I Have to Pay Taxes on Side Hustle Income?)
If you launched a business that you run from your home, Duffy recommends seeing if you can benefit from the home office deduction, which is usually around $5 per square foot of space devoted to running your empire. Another big tax savings is the ability to itemize and deduct qualified business-related purchases, such as office furniture, computers, software and day-to-day operating expenses. “That can be a pretty significant tax break, especially in the first few years you start a business and your income exceeds certain thresholds,” she says.
Whether it’s a side hustle or new business, keep really good records and documentation. Duffy says the IRS is more likely to scrutinize the returns if you have:
- Variable income (e.g. a combination of salary and commission-based compensation)
- Multiple sources of income (having a mix of side hustles)
- You own your own business
MORE ON HERMONEY: 5 Ways Small-Business Owners Can Prepare for Tax Season
If you retired in 2019, be careful about when you claim your Social Security benefits. If you start taking it before you reach full retirement age (which is 67 if you were born after 1960), you’ll permanently reduce your monthly payout. Another potential tax gotcha is continuing to work or taking on side work when receiving Social Security. “Be aware that there are earnings limitations that are fairly low that apply to those who claim Social Security benefits before they reach full retirement age” Riskin says. “If you make more than that, your benefits can be reduced, and you may owe taxes on your Social Security income as well, depending on how much other income you receive throughout the year.”
MORE ON HERMONEY: When To Do Your Taxes Yourself or Hire an Expert
If you went through a costly health crisis
As if being unwell isn’t bad enough, medical issues can become tax issues if you don’t follow the IRS’s rules to the letter. That said, when you fill out your 2019 return, be sure not to overlook opportunities for financial relief from Uncle Sam.
The bar is pretty high for deducting unreimbursed medical expenses: You can only take the deduction if costs exceed 10% of your adjusted gross income (AGI). But an adjustment in your filing status — filing as married filing separately instead of married filing jointly — may put that deduction threshold within reach, Duffy says. Keep in mind that you can’t write off all of your out-of-pocket expenses; just those that are over 10% of your AGI. Also note that if you became disabled, any money you received from disability income insurance or your employer is counted as ordinary income and is taxable.
Relatedly, if you became disabled (and meet the IRS definition of disabled), you may be able to claim a larger standard deduction on your taxes. Plus, Duffy notes, you can fully deduct all qualified expenses you incur that allow you to work and are related to your disability — e.g. a special keyboard or office chair, retrofitting the vehicle you use to commute to work to accommodate a wheelchair.
If you celebrated a milestone birthday (50 or 70 ½)
If you had a big birthday in 2019, Uncle Sam would like to help you celebrate — or, in the case of turning 70 ½, to make sure you mark the occasion by sharing some of your nestegg with him.
If you turned 50, the IRS has a gift for you: Permission to pad your tax-preferred retirement savings accounts! Making what’s called a catch-up contribution can add some serious shine to your golden years. The IRS lets you contribute an additional $6,000 to an employer-sponsored retirement plan (e.g. a 401(k) or 403(b)) for a total of $25,000 the year you turn 50. Hop to it, though, since the deadline is Dec. 31. You have until April 15 to pad your IRA (Roth or traditional), however. You’re allowed to sock away an additional $1,000 up to the maximum allowable $7,000 for the 2019 tax year. You don’t even have to wait until retirement for the tax payoff: A contribution to a traditional IRA and a regular 401(k) or 403(b) (as opposed to the Roth versions of these accounts) lowers your taxable income for the year and therefore lowers what you owe the IRS.
If you turned 70 ½ in 2019, the IRS will be expecting a little something extra when you file your taxes. Up to this point, Uncle Sam has held off on taxing the investments you squirreled away in your tax-favored retirement accounts. In the calendar year you turn 70 ½, you’re required to start taking RMDs (required minimum distributions) and paying the IRS income taxes. Failure to do so could cost you a punishing 50% penalty tax on every dollar you fail to withdraw. You might as well make this a recurring annual event on your calendar, since RMDs are required each year after you reach age 70 ½. (See the handy IRS RMD table for more.)
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