Tax deductions are reductions in income that the government can tax. The purpose of tax deductions is to decrease one’s taxable income, thus decreasing the amount of income tax that a taxpayer owes to the federal government.
Hundreds of deductions can reduce your taxable income, but many people do not know about or know how to use them.
What Types of Tax Deductions Are There?
Standard deductions and itemized deductions are the two main types of tax deductions. There is nothing special about the standard deduction – it is just a dollar amount that is set by the IRS each year. The amount of itemized deductions depends on what is declared in each category.
- Casualty and Theft Losses
- Charitable Contributions
- Medical and Dental Expenses
- Union dues
- Home office expenses
- Gambling losses
- Interest paid on investments
- Property tax
- Personal property tax
- Job-related expenses
What Is Considered a Casualty or Theft Loss?
A casualty or theft loss occurs when you lose personal or business property due to a casualty, such as a fire, flood, tornado, or theft. If you have insurance for your damaged property, a deduction cannot be taken on your tax return unless you file an appropriate insurance claim for compensation.
If you have insurance, you must file a claim, even if you don’t expect compensation. Tax deductions are not available for all casualty and theft losses.
How Do Charitable Contributions Work?
If you itemize your tax deductions on your tax return, you can claim a tax deduction for charitable contributions made to qualified organizations. Generally, you may deduct up to 50 percent of your adjusted gross income, but 20 percent and 30 percent limitations may apply.
Contributions to certain private foundations, veterans’ organizations, fraternal societies, and cemetery organizations are capped at 30 percent of adjusted gross income. Tax deductions cannot exceed half of your adjusted gross income on your tax return. There is a five-year carryover period for excess charitable contributions.
How Does Interest Qualify as a Tax Deduction?
To deduct interest on your tax return and thereby increase your potential tax refund, you must have paid off a debt and have been legally liable for the debt. You must also itemize your tax deductions.
There are six categories of qualified interest tax deductions:
- Personal Interest
- Investment Interest
- Business Interest
- Student Loan Interest
- Home Mortgage Interest
- Passive Activity Interest
Are All Medical and Dental Expenses Deductible?
Deductible medical and dental expenses include those paid for diagnosing, curing, relieving, treating, or preventing disease and for treatments affecting any part or function of the body. The expenses can be justified in some cases by alleviating or preventing a physical or mental defect.
In addition to birth control pills, hospital service fees and medical service fees are deductible expenses. Cosmetic surgery, health club dues, and diaper services are not deductible.
What Sort of Deductions are Included in Miscellaneous Itemized Deductions?
Miscellaneous itemized tax deductions include employee expenses, income production expenses, and other expenses. There is usually a 2% limit on the deductions. After subtracting 2% of your adjusted gross income, you can deduct the remaining amount. A few examples are union dues, employee home office expenses, and uniforms and work clothes.
How Are Taxes Deductible?
Some non-business-type taxes are deductible. These fall into three distinct categories:
- Personal property tax
- State, local, or foreign income taxes
- Real estate tax
The tax must be charged to you and paid during the taxable year in order to qualify as a tax deduction.
Deductions Subject to the 2% Limit
You can only deduct those expenses exceeding 2% of your Adjusted Gross Income.
Miscellaneous deductions subject to the 2% limit fall into these categories:
Unreimbursed Employee Expenses:
- The business bad debt of an employee
- Business liability insurance premiums
- Damages paid to an employer for breach of an employment contract
- Depreciation of a cell phone or computer that your employer requires you to use
- Dues to a chamber of commerce if membership helps you do your work
- Dues to professional societies
- Educator costs (beyond any amount you can deduct as an adjustment to income)
- Home office or part of your house used regularly and exclusively for your work
- Job search expenses in your current occupation
- Laboratory breakage fees
- Legal fees related to your work
- Licenses and regulatory fees
- Malpractice insurance premiums
- Medical exams required by an employer
- Occupational taxes
- Passports business trips
- Research expenses for a college professor
- Rural mail carrier’s auto expenses
- Tax Preparation Fees – You can deduct tax return preparation expenses accrued in the year you pay them, such as software or filing charges. Nevertheless, you can’t deduct the convenience charge for paying your tax by credit card.
Other miscellaneous deductions include:
- Appraisal fees
- Casualty/theft losses
- Clerical help and office rent
- Depreciation of a home computer
- Excess deductions of an estate
- Fees for collecting interest and dividends
- Hobby expenses
- Indirect deductions of pass-through entities
- Investment fees and expenses
- Legal fees related to producing taxable income
- Loss on deposits in an insolvent or bankrupt financial institution
- Loss on traditional IRA’s or Roth IRA’s
- Repayments of income
- Repayments of Social Security benefits
- Safe-deposit box rental
- Service charges on dividend reinvestment plans
- State and local taxes
- Tax advice fees
- Trustee’s fees for your IRA
Deductions That Are Not Subject to the Two Percent Limit
Miscellaneous tax deductions that aren’t subject to the 2% limit include:
- Amortizable premium on taxable bonds
- Casualty and theft losses from income-producing property
- Federal estate tax on income of a decedent
- Gambling losses (up to the amount of winnings)
- Impairment-related work expenses of individuals with disabilities
- Repayments of more than $3,000 under a claim of right
For more info on miscellaneous and other tax deductions, see IRS Publication 529 – Miscellaneous Deductions.
Personal Expenses that Are No Longer Deductible
To be specific, the TCJA suspended for 2018 through 2025 a large group of deductions called “miscellaneous itemized deductions,” which were deductible to the extent they exceeded 2% of a taxpayer’s adjusted gross income.
The following deductions are included:
No unreimbursed job expenses are deductible from 2018 through 2025. Your employer should reimburse you for them. The reimbursement is tax-free if you properly document your expenses. Alternatively, you can ask for a raise to help pay for these expenses, but such a raise would be taxable.
Investment interest is the interest you pay on a loan to purchase an investment. Taxpayers who itemize can deduct investment interest. This deduction, however, is limited to the amount of taxable investment income you earn each year, such as dividends, royalties, or interest. Any disallowed investment interest is carried forward for future deductions. Generally, investment income does not include capital gains or dividends that qualify for favorable tax treatment.
However, you can elect to include long-term capital gains and qualifying dividends in your investment income. By doing so, you can deduct a greater amount of investment interest.
If you do this, however, your long-term capital gain and qualifying dividends will be taxed at your ordinary income tax rates, not the lower capital gains rates.
You can claim a portion of your total job expenses and some miscellaneous expenses. Your expenses must exceed 2% of your adjusted gross income (AGI). Deduct these expenses from your taxable income on Schedule A.
Typically, these three categories fall under the 2% rule:
- Employee business expenses
- Tax-related expenses
- Investment-related expenses
Do I Need a Lawyer to Help Me with My Income Tax Problem?
The subject of tax law can be very confusing and frustrating. The tax law changes every year, making matters worse. A tax attorney can help you understand current tax law and how it affects your income tax problem. Whether you need to go to tax court or have questions about the deductibility of your expenses, a lawyer can assist you.