16 Valuable Tax Deductions and How They Work
Do you know what tax deductions you qualify for? Most people qualify for some kind of tax deduction, and every deduction is perfectly legal and encouraged by the IRS. Claiming tax deductions could increase your tax refund by hundreds or even thousands of dollars, simply by following the rules set out by the IRS when you file your taxes!
Below, we cover the 16 most common tax deductions. Read on to see what you can claim in 2021.
Note: while you should take every tax deduction that’s available to you, we don’t recommend making purchases or investments solely for the tax deduction. That’s like spending a dollar to get back a dime. Just make yourself aware of the deductions you already qualify for, and enjoy the big tax refund you’ll get in return.
What is a tax deduction?
Tax deductions lower your taxable income, which in turn reduces the amount of tax you’ll owe. There are generally four broad categories of tax deductions on a tax return: standard, itemized, above-the-line, and business. We’ve included the most popular deductions from each category below.
The standard deduction is a set dollar amount you can subtract from your adjusted gross income (AGI). Your standard deduction depends on your filing status. For 2019, the available standard deductions are:
- Single: $12,200
- Married Filing Jointly: $24,400
- Married Filing Separately: $12,200
- Head of Household: $18,350
If you are age 65 or older or blind, you can claim an additional standard deduction of $1,300 ($1,650 if your filing status is Single or Head of Household).
You enter your available standard deduction on Line 9 of Form 1040.
When you file your tax return, you have the option of claiming the standard deduction or itemizing deductions – whichever results in a bigger tax benefit. Itemized deductions are a list of specific types of expenses allowed by the IRS.
To claim itemized deductions, you need to keep track of what you spend in each category throughout the year. You’ll also want to keep records to document your deductions, such as receipts, bank statements, medical bills, or acknowledgment letters from charities.
If you opt to itemize deductions rather than claim the standard deduction, you’ll need to attach Schedule A to your Form 1040.
Here are the main itemized deductions:
You can deduct out-of-pocket medical expenses that exceed 7.5% of your AGI in 2019.
State and local taxes
IRS rules allow you to deduct a variety of state and local taxes including:
- State and local income taxes OR general sales tax if you live in a state without an income tax
- Real estate taxes
- Personal property taxes, such as those paid with a vehicle registration
The deduction for all state and local taxes is capped at $10,000.
Home mortgage interest
You can deduct interest paid on home mortgage debt of up to $750,000. To qualify for the deduction, the funds must have been used to “buy, build, or substantially improve” your home.
Gifts to charity
You can claim a deduction for cash or property donated to a tax-exempt organization.
Casualty and theft losses
You can deduct losses from a federally declared disaster.
Above-the-line deductions get their name because they appear above the line for AGI on Form 1040. These deductions are valuable because you don’t need to itemize to claim them.
Above-the-line deductions include:
K-12 teachers can deduct up to $250 of unreimbursed job expenses, such as professional development courses, equipment, and materials used in the classroom. If you are married, file a joint return with your spouse, and you are both eligible educators, each spouse can claim the $250 deduction.
Health savings account contributions
If you contribute to a health savings account (HSA), you may be able to deduct your contributions. For 2019, you can contribute up to $3,500 for self-only coverage and $7,000 for family coverage. If you’re age 55 or older, you can contribute an additional $1,000 as a catch-up contribution.
Keep in mind, any contributions paid through payroll deductions are already excluded from income on your W-2. You can’t claim an additional deduction for these contributions.
If you are self-employed, you can deduct 50% of your self-employment taxes as an above-the-line deduction.
Self-employed retirement account contributions
Self-employed taxpayers can also deduct contributions made to a retirement plan, such as a SEP-IRA or SIMPLE plan.
Self-employed health insurance premiums
If you are self-employed and pay for your own health insurance, you may be able to deduct the premiums you pay for medical, dental, and qualified long-term care insurance.
You cannot claim the deduction if you are eligible to participate in an employer-sponsored health insurance plan. For example, if you have access to health insurance through your spouse’s employer, you can’t deduct your health insurance premiums, even if you choose not to participate in your spouse’s plan.
If you pay alimony to a former spouse, you may be able to deduct your alimony payments. To qualify, the payments have to be required by a divorce or separation agreement dated prior to 2018. For dated 2018 and later, alimony is not deductible.
If your payments include both alimony and child support, only the alimony portion is deductible.
For 2019, you can contribute up to $6,000 to an IRA. Taxpayers age 50 or older can also make an additional $1,000 catch-up contribution.
That contribution may be deductible, depending on whether you have access to an employer-sponsored retirement plan and your income. With no retirement plan at work, you can deduct your entire contribution, regardless of your income.
If you or your spouse have a retirement plan at work, contributions are phased out at higher income levels. Your contribution starts to phase out when your modified AGI exceeds $64,000 if single, or $103,000 if married filing jointly.
Student loan interest
If you paid interest on a student loan, you can deduct up to $2,500 of interest paid. However, the deduction starts to phase out for higher-income taxpayers. Single taxpayers qualify for the full deduction if their modified AGI is $65,000 or less. For married taxpayers filing jointly, the deduction starts to phase out once their modified AGI reaches $135,000.
You claim all of the above-the-line deductions on Schedule 1 attached to your Form 1040.
If you own a business, you can deduct “ordinary and necessary” business expenses. Ordinary expenses are things that other business owners in your industry typically purchase. Necessary means the cost is required for your business success.
The tax deductions applicable to your business depend on what type of business you are in.
Common business deductions include:
- Bank fees
- Business meals
- Credit card fees
- Dues and memberships
- Employee benefits
- Legal and professional fees
- Office expenses
- Rent or lease payments
- Repairs and maintenance
- Salaries and wages
- Taxes and licenses
- Training and professional development
- Vehicle expenses
Sole proprietors and owners of single-member LLCs deduct these expenses on Schedule C attached to their Form 1040. Partnerships and multi-member LLCs claim these expenses on Form 1065.
In addition to the above, business owners may be able to take advantage of the following tax deductions.
Home office deduction
If you use part of your home for business, you may be able to deduct a portion of your housing expenses, including mortgage interest or rent, homeowner’s insurance, utilities, and repairs.
There are two ways to deduct home office expenses.
- Simplified method. This method gives you a deduction of $5 per square foot of the home used for business, up to a maximum of 300 square feet.
- Regular method. This method requires you to calculate the percentage of your home’s square footage devoted to business and multiply that percentage by your actual housing expenses. For example, if your home office occupies 10% of your square footage, you can deduct 10% of your mortgage interest or rent, homeowner’s insurance, and other costs.
There are two basic requirements to qualify for the home office deduction:
- Regular and exclusive use. Your home office doesn’t have to be a separate room to be eligible for the home office deduction. A desk in the corner of your bedroom or living room will suffice. But the space must be used regularly and exclusively for business. For example, if you use your dining room as a desk, but also use that room for family meals, you can’t claim the home office deduction for that room.
- Principal place of business. If your primary place of business is a location outside of your home, but you occasionally work from your home office, you can’t claim the home office deduction. Your home has to be your principal place of business. You can occasionally work elsewhere – such as a coworking space, coffee shop, or client’s location.
Qualified business income deduction
The qualified business income (QBI) deduction gives some business owners a deduction worth up to 20% of their business’ net income. The QBI deduction is only available to pass-through businesses, such as sole proprietorships, partnerships, LLCs, and S corporations.
However, the QBI deduction isn’t available to everyone, nor is it simple to calculate. To qualify for the full deduction, your taxable income must be below $157,500 if you’re single or $315,000 if you’re married and file jointly.
If your taxable income is above those thresholds, your deduction will be limited if your business is a “specified service trade or business.” To learn more, check out the IRS’s FAQ on the Qualified Business Income Deduction or talk to a tax professional.
Have a professional review your deductions
When doing your taxes, have an accountant file your taxes for you or use tax software like TurboTax.
Every deduction has tons of exceptions, phase out rules, and document requirements. You’ll want a professional to guide you through everything.
if you want more professional help on your taxes, Ramit Sethi’s New York Times bestselling book “I Will Teach You to be Rich” covers taxes in depth, as well as other personal finance topics. You can pick it up on Amazon, or wherever books or sold.
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