Thus far, 2023 has brought us champagne toasts, bouquets of roses, and shamrocks. The next event? Dollars. March and April is tax filing season. Although there is no dropping ball, heart-shaped candy, or green beer, you can still celebrate this time of year by retaining as much of your hard-earned income as possible. In utilizing the following tax tips, you may have an opportunity to decrease your tax due.

The tax filing process becomes seamless with preparation. By assembling the necessary information, considering itemized deductions, and knowing available credits, you can be well on your way to a lower tax liability.

Gather Your Documents

Beginning to file without these forms on hand can be compared to cleaning your home without a broom, vacuum, or cleaning supplies. You will not have what you need to finish the process.

A variety of tax documents are required for taxpayers in different financial situations. Consider your financial situation in 2022 as you read through the below documents to help determine which forms may apply to you.

W-2

This tax statement is provided to taxpayers by their employers. The W-2 details annual gross wages (income before taxes), taxes withheld from paychecks, health savings account contributions, benefits provided by an employer, and retirement account contributions. This information is necessary for filing your taxes as it details income that is taxable to you.

1099

Information on this form features income from non-employer sources. Some examples of this could be self-employment income, dividends received, interest income, etc. See What Is an IRS 1099 Form? Purpose, Who Gets One - NerdWallet for additional information on which 1099 tax form you should look for, depending on your financial situation.

5498

Taxpayers contributing to an Individual Retirement Account (IRA) will receive a form 5498. In addition to specifying your total annual contributions, it will also contain information on the type of retirement account you contributed to.  For example, suppose you completed a rollover from an employer-sponsored retirement plan to your IRA. In that case, this form is essential as it will report the transaction as a rollover, not a distribution.

This is not an exhaustive list of all tax forms applicable to different taxpayers, but it is an excellent place to start. Please consult with your tax preparer to determine additional documents you may need.

The Importance of Schedule 1

Taxpayers use the federal 1040 tax form to calculate their taxable income and then the taxes they owe on that income. However, It’s important to be aware of the additional forms or schedules you may need to account for your income most accurately. The Schedule 1 tax form is one of those documents, and it’s broken into two parts.

The first part of Schedule 1 is additional income. Additional income includes income not reported on form W2, such as business income, rental income, and unemployment compensation.

The second element of Schedule 1 is adjustments to income.  This includes expenses paid during the tax year that the federal government allows you to exclude from your taxable income. Examples of these adjustments include educator expenses of $300, Health Savings Account contributions made with post-tax money, and the cost of health insurance premiums for self-employed individuals. There are a total of 12 adjustments to income.

After excluding these expenses, the figure determined is called your Adjusted Gross Income (AGI). This number is vital as it determines your eligibility for deductions and credits.

Once you have these documents gathered, you may begin to see if you qualify to itemize your deductions.

Itemize your Deductions

Taxpayers can claim either a Standard Deduction ($12,500 for single filers, $25,000 for Married Filing jointly as of the 2022 tax year) or an itemized deduction. Qualification for itemization begins with a sum of the following: state and local income taxes, real estate taxes, mortgage interest, medical expenses that exceed 7.5% of AGI, gifts to charity, and casualty and theft losses.  If the total exceeds the standard deduction for your filing status, you can save by reducing your taxable income.

State and Local / Real Estate Taxes

All taxpayers are subject to state and local taxes. The amount you paid, found on form W-2, can be added to your itemized deduction, which is capped at $10,000 annually due to the Tax Cuts and Jobs Act. If you own property, you may also deduct the property taxes paid.

Mortgage Interest

You may be eligible for a mortgage interest tax deduction. Interest on your mortgage will be reported on form 1098, to be sent by your mortgage lender. Interest paid on the first $750,000 (for married filing jointly taxpayers) of your mortgage is deductible if you itemize your deductions. If you purchased your home before December 16, 2017, this figure is $1 million.

You can also claim this deduction for a mortgage on a second home. However, if you rent the property, there are limitations. You must be at the property for 14 days or 10% of the number of days you rented it out, whichever is longer, to qualify to deduct the mortgage interest.

Finally, if you have a home equity line of credit (HELOC), and the funds were used to purchase, renovate, or improve your home, you can deduct the interest paid and decrease your tax liability.

Medical Expenses

Suppose you incurred an unreimbursed medical expense over the last calendar year. In that case, you are eligible to deduct the amount that exceeds 7.5% of your Adjusted Gross Income (AGI).

For example, if your AGI is $100,000 and you incur unreimbursed medical expenses of $8,000, you are eligible to add $500 to your itemized deduction. Therefore, if you had a large financial burden due to medical expenses, you may qualify for itemization despite not qualifying in the past. Applicable medical deductions can be found on the IRS’s website: Topic No. 502 Medical and Dental Expenses | Internal Revenue Service (irs.gov).

Gifts to Charity

For a charitable contribution  to qualify for itemized deductions, it must be made in cash to a qualified organization (an organization with a tax-exempt status) during the 2022 calendar year. However, this deduction is limited to 60% of a taxpayer’s Adjusted Gross Income (AGI). Search the IRS database of qualified charitable organizations to confirm your charitable deduction is valid:  Tax Exempt Organization Search | Internal Revenue Service (irs.gov)

Casualty and Theft Losses

If you had a loss due to a federally declared disaster, you are eligible to deduct casualty and theft losses that are in relation to your home, your vehicle, or other personal use property. IRS.Gov details this on their website under topic 515. Note that if this loss was covered by insurance, you may not deduct the loss.

If the sum of the above-mentioned itemized deductions exceeds the standard deduction for your filing status, you have an opportunity to decrease your tax due.

Itemization is more tedious than claiming the standard deduction, requiring documentation of financial transactions. However, time spent gathering this information can lead to reduced tax liability.  

Use all Applicable Deductions/ Credits

The Internal Revenue Service offers tax credits and deductions for taxpayers in particular circumstances. These credits can be broken down into two categories: refundable and nonrefundable. A refundable tax credit is one that not only decreases your tax liability but if the credit exceeds your tax due, you are provided a tax refund. A nonrefundable credit, on the other hand, can only decrease your tax liability.

Refundable Credits

Child Tax Credit

You qualify for the child tax credit if you claim a dependent under 17 in the calendar year. This is a credit of $2,000 ($1,500 refundable) in 2022 per qualifying child. To be considered a qualified child, the dependent must meet the following criteria:

• The dependent must have been under the age of 17 in 2022.
• Your relationship with the dependent must fit into one of these categories: daughter, son, stepchild, foster child, sister, brother, half-sister, half-brother, or a decedent of any of the above.
• They must have lived in your home for at least half of the calendar year, with you providing at least 50% of their financial support.

If your modified adjusted gross income is greater than $400,000 for married filing jointly ($200,000 for all other filing statuses), this credit is decreased.

American Opportunity Tax Credit

The American Opportunity Tax Credit (AOTC) is a credit offered to families who incurred a qualified education expense for an eligible student in their first four years of higher education. The maximum annual credit is $2,500 (100% on the first $2,000 of education expenses and 25% on the next $2,000).

Refundability is limited to 40% of any remaining credit after tax obligation has been reduced to zero, up to a maximum of $1,000 refundable.

To be considered an eligible student, and to qualify for this credit, the student must:

• Be in a degree program or other recognized educational program.
• Be (at least) a half-time student for (at least) one academic period.

Note that if you have claimed this credit for a student for more than four tax years, the student is no longer eligible.

Nonrefundable Credits

Child and Dependent Care Credit

The child and dependent care credit can often be confused with the child tax credit; however, there are substantial differences in the eligibility of the credit. The credit can be claimed by taxpayers who meet all the following conditions:  

• You funded care for a qualifying child (age 13 and younger) or a dependent who cannot care for themselves and lived in your residence for more than half of the calendar year.
• The care provided was necessary for the taxpayer to continue working or search for work.
• The child/ dependent care expense cannot exceed the spouse's income with the lowest earnings.

This nonrefundable credit depends on the number of dependents in care, your family’s AGI, and the amount paid for care during the 2022 tax year.

To claim this credit, you must file and submit Form 2441, detailing the care provider’s name, address, and Taxpayer Identification Number (TIN). The IRS provides a flow chart (2022 Publication 503 (irs.gov)- page 5) with questions to consider when investigating your eligibility for this credit.

Lifetime Learning Credit

Taxpayers funding the education for eligible students enrolled in undergraduate, graduate, and professional degree courses at an eligible educational institution may be eligible for the Lifetime Learning Credit (LLC). This credit is 20% of the first $10,000 of qualified education expenses, up to a maximum credit of $2,000.

Similar to requirements for the AOTC, the student must:

• Be in a degree program or other recognized educational program.
• Be (at least) a half-time student for (at least) one academic period.

If you are married filing jointly, and your MAGI is between $160,000 and $180,000 ($80,000 and $90,000 for single filers), the amount of the LLC is phased out.

The IRS provides an interactive questionnaire to determine which education credits you have eligibility. The application will determine which education credits you can claim based on your inputs for filing status, income, and education expenses.

If you need more time to file, you can file for an extension by completing form 4868 by April 15, 2023, the regular due date for tax filing. This allows you to postpone filing until October 15, 2023. Although this form provides an extension on filing, please note that your estimated tax due must still be paid by April 15, 2023.  

Ben Franklin once said, “. . . in this world, nothing is certain except death and taxes.” By knowing the documents needed, the deductions you qualify for, and the credits applicable to your financial situation, you may be able to reduce your tax bill.

Marshmallow peeps, April showers, and May flowers are on the way. Before we know it, the ball will be dropping again to ring in 2024. So don’t drop the ball on your 2023 taxes. Instead, consider the following tax-saving strategies to decrease your 2023 tax liability.

• Invest in tax-free municipal bonds.
• Defer income by contributing to a workplace retirement plan or an Individual Retirement Account.
• Consider tax-loss harvesting.

Please consult with your tax professional to determine if these strategies are prudent.

This article is meant to give a brief overview and does not constitute financial or tax planning advice. Consult with a tax professional for more information.

Author: Maria Koedel | Allegheny Financial Group | March 2023

Allegheny Financial Group is a Registered Investment Advisor. Securities offered through Allegheny Investments, LTD, a registered broker/dealer. Member FINRA/SIPC.