There is probably more confusion over Federal Income Tax laws than any other thing the average American citizen will deal with. This is, admittedly by the IRS, slightly on purpose. Every credit, deduction, and adjustment comes with it’s own set of rules and qualifications. The myriad of tax complications can make your head spin if you let it.
One of the areas of confusion that can be somewhat easily cleared up is the election of the Standard Deduction or Itemizing Deductions.
Standard and Itemized Deductions
What is a Deduction?
To better explain the difference between the two, you first need to know what a deduction is. In the case of the Standard Deduction, this is a dollar amount set depending upon your filing status that you take away from your adjusted gross income before figuring your tax. The same is basically true of Itemized Deductions, however, you have the opportunity to increase the amount of deductions by itemizing if you qualify and have more deductions than the Standard Deduction dollar amount.
Confused yet? Let’s break it down a little more. For the tax year 2004, the Standard Deductions were $4850 for Single filers, $9700 for Married Filing Joint, and $7150 for Head of Household filers. These were the amounts that your would claim as your Standard Deduction, lessening your taxable income by this amount. Now, if you were married filing jointly, and wanted to Itemize Deductions, you would need more than $9700 for it to be beneficial to you. Anything less would make your taxable income higher therefore increasing the amount of tax you would be responsible for.
Itemizing deductions will take a little extra work and research. You must know how to figure the different deductions on the form (Schedule A) and be able to correctly total your deductions. There are many factors and a few limitations in itemizing you need to know about. For example, your out of pocket medical expenses are the first item on a Schedule A. This includes all of your co-pays, premiums, deductibles and even mileage to and from your doctor, dentist or optometrist. The total of these amounts is subject to seven and a half percent of your adjusted gross income, meaning that anything over the seven and a half percent will be counted, not the total amount.
Sales tax and state and local income tax totals are also on the form Schedule A. Home mortgage interest, closing costs on the purchase of your first and/or second home, charitable contributions, and a variety of business expenses are also on this form and each subject to their own phase out ranges and limitations. Lastly, the amount of your total adjusted gross income may limit your total itemized deductions as well. Keep in mind that you will need to keep records and or receipts for each item on your itemized deductions in the event of an IRS audit.
For most people, it is worth doing some estimating to see if they can qualify to itemize their deductions each year, especially if they are dealing with high mortgage interest on their home. There are more items on the Schedule A than are listed here, so doing a little research on your personal situation might prove beneficial to you in the long run. A little research may save you a lot in tax dollars!