The 2019 standard deduction increased to $12,200 for single filers, $18,350 for heads of household and $24,400 for married filers. The standard deduction is an amount of money, based on your filing status, that you earn “tax free” each year. The IRS has increased those amounts again for 2020, so fewer taxpayers will itemize their deductions going forward. However, millions of taxpayers will still itemize deductions.
While the majority of taxpayers will use the standard deduction this year, most states (including Alabama) have not made significant changes to their tax laws. So, even if you are not eligible to itemize your deductions on your federal income tax, you should retain all your traditional documents such as mortgage interest statements and charitable contributions. They will likely impact your state taxes and help reduce your state tax burden.
Additionally, some tax deductions are referred to as “adjustments to income”. These do not require you to itemize deductions to get a tax break. Popular adjustments to income include the following:
1. The tuition and fees deduction is back – up to $4,000 to help cover higher education. This deduction is perfect for taxpayers with children in dual enrollment courses who don’t want to use the American Opportunity Credit because their kids aren’t fulltime college students yet.
2. Student loan interest up to $2,500.
3. Contributions to traditional Individual Retirement Accounts (IRAs) – up to $6,000 per taxpayer, or $7,000 if you are over 50 years old.
4. Educator expenses up to $250 per taxpayer.
5. Self-employment taxes – you can deduct 50% of SE taxes paid.
6. Self-employed medical insurance – you can deduct the value of medical, dental and vision insurance premiums if you are self-employed and pay these costs.
7. Qualified Income Business Deduction (QBID) – the small business owner’s best friend. You can deduct up to 20% of your company profits. This is the second year of the new deduction and has proven incredibly valuable for small business owners.
Key itemized deductions may still inflate your state tax refund even if you take the larger federal standard deduction:
1. Charitable contributions up to 60% of your adjusted gross income. Consider bunching charitable contributions in a single year, then taking the larger standard deduction in the following year, to maximize your refund. You may also want to think about setting up a Donor Advised Fund with a financial services firm to help guide and direct your charitable contributions over time, while still obtaining a tax break now.
2. Mortgage interest – you can deduct the interest on up to $750,000 of your home mortgage debt for loans taken out after December 15, 2017. If the loan is older, the prior $1 million limit still applies.
3. Private Mortgage Insurance in addition to your mortgage interest is deductible through 2020.
4. Home equity loan interest – now only deductible if you use the loan for your home or related improvements (houseboat – yes; fishing boat – no).
5. Property taxes – together with your state and local taxes, limited to $10,000.
6. Medical/Dental costs – deductible above 7.5% of your adjusted gross income for 2019.
7. Automobile ad valorem taxes – don’t forget to snap a photograph of your car registration. This is a commonly overlooked deduction that can pad your refund.
Tax laws are complicated and there are limits and nuances to each item listed above, so it’s important to keep in mind that your federal and state taxes have different rules. If in doubt, ask your tax preparer to determine whether a particular item is deductible.