The IRS provides multiple tax deductions for taxpayers to lower what they owe the government. Unlike tax credits, which directly lower the amount of money you owe the government, tax deductions lower your taxable income, which then reduces what you owe the government.
Let's go over eight tax deductions you may be able to claim to lower your tax bill this year. But first, a quick primer on tax deductions and the standard tax deduction.
Tax deductions: The basics
All of your income combined in a tax year is called your gross income. The government allows you to make adjustments to your gross income for things such as contributions to retirement accounts and payments for college tuition. What's left is your "adjusted gross income," or AGI. Once you have your AGI, you then subtract your tax deductions.
Every taxpayer is eligible to claim tax deductions, and there are two ways to do that: take the standard tax deduction or itemize tax deductions. This is one of the areas where it pays to educate yourself so you don't end up paying the government more than you owe them.
The most common option is the standard tax deduction. For single taxpayers, the standard tax deduction is $6,200 for 2014 and $6,300 for 2015. For married taxpayers filing jointly, the standard tax deduction is $12,400 for 2014 and $12,600 for 2015. If you were either born before Jan. 2, 1950 or are blind, you get an additional deduction for each of those factors depending on your filing status: $1,550 if you're single or head of household and $1,200 if you're married or a qualifying widow(er). The calculation gets complicated for widow(er)s with dependent children. You can read more from the IRS here.
The standard tax deduction is frequently higher than many people can claim by itemizing, meaning it makes sense to take it. However, not everyone can claim the standard deduction. Some people must itemize, including those married filing separately whose spouse itemizes deductions. The other main group who must itemize are people who were nonresident non-U.S. citizens, which the government calls "aliens," during the tax year.
Limits on tax deductions
The IRS starts limiting the deductions for taxpayers who earn more than a certain level of income. For single taxpayers, itemized tax deductions begin to be limited for those with incomes above $254,200 in 2014 and $258,250 in 2015. For married taxpayers filing jointly, itemized tax deductions begin to be limited for those with incomes above $305,050 in 2014 and $309,900 in 2015.
If your income is above the threshold, then your total allowed itemized deduction is reduced by the lesser of either:
- 3% of your income above the threshold
- 80% of the total itemized deductions allowed
The IRS provides multiple tax deductions to lower what you owe the government; see if you can take advantage of any of them.
1. Charitable contributions of cash
The IRS allows you to deduct donations to qualified tax-exempt charitable organizations, which are also known as 501(c)3s. If you are unsure whether an organization is tax-exempt, the IRS has a lookup tool here. It's important to remember that any donation over $250 requires a receipt from the organization.
You can deduct up to 20% of your adjusted gross income with no limits. Once you donate more than that, limits begin to apply depending on the type of donation, your income, and the type of organization you're donating to. For more information, you can read the IRS' complete guide to limits on charitable donations.
2. Charitable contributions of stock
One of the best donations investors can make is stock that has appreciated and would therefore be subject to capital gains taxes if sold. By donating appreciated stock, you get to claim the donation at the market value of the shares, and you don't get hit with capital gains tax, which can significantly reduce your gains. The same limits as above apply, so if you are making large contributions, read the IRS' complete guide to limits on charitable donations.
3. Taxes paid
The IRS allows you to deduct:
- State, local, and foreign income taxes
- State, local, and foreign real estate taxes
- State and local personal property taxes
The deduction for state and local sales taxes expired on Dec. 31, 2013 and currently has not been extended by Congress. Before it expired, you were able to deduct either sales taxes or income taxes. For most people, state and local income taxes will likely be higher than sales taxes; however, if you live in one of the states with no income tax, this was an important deduction. We will have to wait and see whether Congress continues it.
4. Medical expenses
If your medical expenses make up more than 10% of your AGI (7.5% for those 65 and older), then you can deduct expenses above that threshold. For more on deducting medical and dental expenses, read the IRS' guide here.
5. Interest expenses
While corporations can deduct most interest expenses, individual taxpayers can only deduct qualified residence interest and student loan interest. Personal interest such as interest owed on car loans, credit cards, or installment loans is not deductible. Qualified residence interest is defined as "interest you pay on a loan secured by your main home or a second home. Your main home is where you live most of the time." For more on the interest expenses you can deduct, check out the IRS' guide here.
6. Non-reimbursed business expenses
The IRS allows you to deduct expenses related to your job that you were not reimbursed for by your employer. If these expenses total more than 2% of your AGI, then you can deduct the amount beyond that threshold. Qualifying expenses can include the business use of your car, business travel expenses, business entertainment expenses, and other employee expenses.
7. Educational expenses
You can deduct educational expenses that either maintain or improve your job skills or are required to keep your salary, status, or job. You cannot deduct educational expenses that are not related to your current job, even if they will qualify you for a new job. Deductible expenses include tuition, books, supplies, lab fees, transportation costs, and other similar items.
8. Tax preparation fees
You can deduct any expenses paid for preparing your taxes. So, if you buy software to prepare your taxes or hire a professional, you can deduct that expense.
More ways to reduce your taxes
As Mitt Romney famously (or infamously, depending on whom you ask) said: "I pay all the taxes owed. And not a penny more." Whatever your political leanings, those are wise words to live by. The U.S. tax code contains multiple ways to lower what you owe the government. Be sure you don't end up paying more than what you really owe.