Doing your own taxes? You need to know all of your deductions, exemptions and credits.
They are buzzwords that come up every time tax season rolls around: exemptions, deductions and credits.
They each are a way to reduce the tax bite to be taken out of a taxpayer’s tax liability. But they each reduce the taxable income amount in different ways, and a taxpayer should know how they function in order to take full advantage of the ones that are available to them, this year and in the future.
Thanks to a primer from moneytips.com, here are simple ways to understand the difference between the three available functions. In simplest form, exemptions and deductions reduce taxable income, and credits reduce the overall tax bill once taxable income has been determined.
Deductions and exemptions reduce a taxpayer’s taxable income in proportion to the tax bracket the taxpayer is in. Deductions and exemptions are considered on the basic 1040 form in order to come up with the final taxable income total that is listed on page 43.
Exemptions come to taxpayers who have other people relying on them for financial support. Taxpayers get exemptions based on the dependents they have, and dependents are 18 years of age or younger unless they are full-time students, must be members of the family and most provide less than half of their own economic support. The IRS exemptions extend only to human beings, not pets.
The more exemptions you have, the lower your taxable income is. The reduction is based on a set amount of money per dependent, with that amount per person dependent on income level of the taxpayer.
The Internal Revenue Service has determined what can be used as deductions. Health care costs can be deducted if they reach a certain level of income; charitable deductions can be taken if the charity is approved; and self-employed taxpayers have a list of expenses they can use as deductions.
Credits reduce your tax liability and everyone who receives a credit receives the same dollar amount regardless of their tax bracket. A $1,000 tax credit is the same for every taxpayer. Credits are usually offered to those involved in educational spending, energy savings, child rearing or adoption.
As difficult as filing tax returns might seem, the IRS website, irs.gov, does a strong job of explaining forms and rules to allow taxpayers to file their own taxes without a professional. However, a professional tax accountant has as stronger understanding of the laws and can probably find additional savings at the cost of their service.
Kent McDill is a staff writer for Millionaire Corner. McDill spent 30 years as a sports writer, working for United Press International and the Daily Herald of Arlington Heights, Ill. From 1988-1999, he covered the Chicago Bulls for the Daily Herald, traveling with them every day through the nine-month season. He also covered the Bulls for UPI from 1985-88, and currently covers the team for www.nba.com. He has written two books on the Bulls, including the new title “100 Things Bulls Fans Should Know And Do Before They Die’, published by Triumph Books. In August 2013, his new book “100 Things Bears Fans Should Know And Do Before They Die” gets published.
In 2008, he resigned from the Herald and became a freelance writer. The Herald hired him to write business features and speeches for the Daily Herald Business Conferences and Awards presentations.
McDill also writes a monthly parenting column for the Herald’s Suburban Parent magazine.
McDill is the father of four children, and an active fan of soccer, Jimmy Buffett and all things Disney.