Learn me more deductions -DINK edition

So since I'm WFH I decided to go ahead and do my taxes. Ouch. We are DINKs, and both of our incomes went up last year. bottom line is I gotta pay about $2500 (go ahead, send me that coronavirus check, lol)

I always just use TurboTax. Several years ago I was paying a local firm but once ny wife closed down her side business I found that I got the same numbers the accounting firm did but it was cheaper to pay TurboTax.

So here's my issue. No matter what receipts I seem to hold on to throughout the year, I never seem to get close to the standard deductions. Some approximate numbers (no bragging or complaining, just is what it is. I totally get that this is a good problem to have and totally #firstworldproblems) Last year we had a combined income just under 150k. Standard deduction was 24k, my deductions were 12k.

Can some of you guys who understand this explain it to me? am I correct in thinking that to itemize and NOT owe $2500 I would have to have another 12k (24-12) PLUS (2500/whatever my tax rate is) right? That seems like a massive amount in deductions, like pushing 40k

How are charitable donations figured? is a 1:1 dollar deduction?

We own a home but the interest is <4k/yr. I have school loans but not much interest there, almost paid off. 

Should I start a small business on the side with limited chance of profiting? Get a SSN for the dog? Buy a vacation home? It seems like most of the ways to decrease my taxability or increase my deduction actually cost me more than $2500 in the end...

What am I missing? 

(in the end, I can afford the $2500 and I don't have a problem paying what I owe, but if there's a way I can enjoy the methods and not pay the government I'd prefer it. If they said I could write the check to a charity instead I'd do it and not think twice. )

That $2500 number is irrelevant to the discussion, unfortunately. That's simply the difference between what you've been witholding and your total taxes due. 

Is your effective tax rate higher than it should be? IIRC the number you're shooting for, assuming you're not contributing to an IRA or anything, is about 13%

With mortgage interest and some donations, we would always do better by itemizing deductions.  Starting last year, IIRC, the threshold for itemizing went up.  Like waaaaay up.  We no longer have deductions sufficient to exceed the threshold, so we just take the standard deduction.

I ran into this issue with the tax changes in 2018. We are in a similar income / deduction situation and ended up owing about $1800. After that surprise I up'ed my tax withholding amount for 2019 and had a +$250 return this year, as I hoped for. For my situation I don't see ever being able to deduct more than the standard deduction, which makes the accounting much easier throughout the year.

What did you claim on your W4? 

Write-offs really don't start making a big difference until your self-employed (for the majority). I haven't even been able to write off my student loan interest in 7-8 years?

When they increased the standard deduction, I found that if I worked really really hard and found every lasst scrap of receipt and calculated mileage for driving to and from volunteer work and all sorts of petty things like that, I was able to get us to 24,400 in deductions.  So I just scrapped all that and went standard. 

One option you might have would be to put money in an IRA.  I don't know the ins-and-outs, but I believe that you can contribute up to the filing deadline to be able to deduct it on your 2019 taxes.  The limit for that, though, is probably less than what you'd need to save anything.

Unless you own a lot of property, you're probably not going to itemize. Just won't make sense. 

Last year we were pretty close to your situation. This year my wife went to part time, so our income went down a not insignificant amount. We're getting a hefty refund this year because I changed both of our withholdings to "Married, but withhold at higher Single rate" - which we probably should have been doing anyways because we have had similar incomes - and also had an additional amount withheld from every paycheck on top of that. For most people this is probably overkill, but between the two of us we had three 1099's (Independent contractor, ranging from $607 to $5k, nothing withheld) and five W2's (3 relatively high salaried rates, 1 relatively high hourly rate, 1 hourly rate at close to minimum wage). As those 1099's and the hourly W2's can vary signifcantly month to month and even week to week, it makes it REALLY hard to estimate our true tax liability, so we just shoot for getting a refund rather than "not gonna give the gubmint an interest free loan". 

So what deductions to I shoot for outside of the standard? Well, I referee hockey. I'm an independent contractor, and my place of business is my home. So I write off part of my cell phone bill and internet. I write off my mileage to and from the rinks. I write off any expenses for equipment and professional fees. Note that this doesn't work for an individual, but for a self employed independent contractor it does.

Then don't forget to max HSA's, 401k's and IRA's. If you do traditional for both, you would be at the 12% tax rate. Not sure that it is better or worse to go that route vs Roth, but I can make the argument both ways.

wae said:

When they increased the standard deduction, I found that if I worked really really hard and found every lasst scrap of receipt and calculated mileage for driving to and from volunteer work and all sorts of petty things like that, I was able to get us to 24,400 in deductions.  So I just scrapped all that and went standard. 

One option you might have would be to put money in an IRA.  I don't know the ins-and-outs, but I believe that you can contribute up to the filing deadline to be able to deduct it on your 2019 taxes.  The limit for that, though, is probably less than what you'd need to save anything.

I don't know if the new deadline thanks to Covid changes anything, but you typically have until the filing deadline to make a contribution to the IRA and claim it on your taxes. So you definitely have time, and if you go traditional, it would reduce your tax liability by about $1,320 each IF you contribute the $6k limit that you're allowed.

Also, one thing that may play into this is that you're capped on how much state and local taxes you can deduct, including property and sales taxes. IIRC the cap is $10k, so that makes it harder these days to hit the threshold where itemizing makes sense.

So it sounds like the short answer I will likely never beat the standard deduction and i just need to up.my withholdings. Again.

The retirement stuff is a different ball game. I should definitely be paying more attention to that beyond the work retirement. But I'm also nowhere near dropping 12k into funds to get 2600 in deductions.

Anybody want to give me the elevator pitch on what the different retirement types are?

ultraclyde said:

So it sounds like the short answer I will likely never beat the standard deduction and i just need to up.my withholdings. Again.

 

The retirement stuff is a different ball game. I should definitely be paying more attention to that beyond the work retirement. But I'm also nowhere near dropping 12k into funds to get 2600 in deductions.

 

Anybody want to give me the elevator pitch on what the different retirement types are?

• 401k – Employer-provided defined contribution plan (403b is included in this as well – same rules for any conversion at our level).
  • 2020 limit is $19,500 for those under 50. If you’re over 50, there is a catchup provision that lets you contribute another $6.5k.
  • This is open to anybody that has it through their employer. There are income limitations for highly compensated employees, but that is close to $300k – well above my paygrade
  • Traditionally this will be a pre-tax option, but I’ve now had a Roth (after tax) option for ¾ employers I’ve worked for. Unlike a Roth IRA, there are no income limitations (outside of the highly compensated employee limitations) for contributing to the Roth.
  • Often have a match. In my case, the match goes into whatever account I’m saving to – Roth or Traditional
  • Usually you have limited fund options that you can pick, determined by your employer. Most of them are some sort of target date fund.
• IRA – Individual Retirement Plan. You do this on your own.
  • 2020 limit is $6,000, with an additional $1,000 catchup if you’re over 50
  • Can be Roth or Traditional, or both, but total contribution limit is $6k
  • Contributions to the Roth IRA can be distributed without penalty after 5 years.
  • Depending on the institution you hold it at, it can be in stocks, bonds, mutual funds, etc. For instance, I have one with Vanguard that is all in VTSAX and another with Fidelity that is in individual stocks.
• HSA – Health Savings Account, offered with some health insurance plans
  • $3,550 limit for an individual and $7,100 for a family. As far as I know, it is all pre-tax. You can have it in cash, or in stocks/bonds/mutual funds (i.e. I manage mine through TD Ameritrade)
  • It is the BEST retirement savings account available. Why? Because you can reduce your income with the pre-tax, enjoy tax free growth, but also get tax free distributions – IF you plan it right
    • Designed for health expenses – eyeglasses, dental, doctor visits, hospital visits, prescription meds, along with a bunch of other stuff. The idea is that you use it to pay for those things as they occur, great! That was tax free. But there is currently no expiration date to those distributions. So if I pay for medical bills in 2020 for $5,000, I can pay for them in cash, keep all the receipts (and digital copies too), and in 2025 say that something happens and I need $5k quick – I can then use the receipts from 2020 to get a $5,000 distribution. I doubt this loophole gets fixed, since it is probably a very small user group using it. The contribution wasn’t taxed, the growth wasn’t taxed, the distribution wasn’t taxed. And if you don’t use the loophole and just take it now, it is still a huge tax advantage.
    • After you turn 65, it acts like a traditional IRA. So the distribution will be taxed as income, but you can take it for anything, even if it isn’t health related
• Taxable Brokerage account
  • Buy stocks and mutual funds. Using already taxed income, any growth will be taxed as income for holdings under a year and 15% for over a year.

There are also other options but the main ones that most people will have/need are the 401k, IRA, HAS, and taxable brokerage accounts. With that, I present the world famous mtn savings order (I probably lifted this from Mr Money Mustache or ProDarwin or dCulberson here) (life insurance is not counted in this as I view it as an expense, not savings):

1. Emergency fund to your satisfaction. Could be $1,000 cash, could be $100,000 cash, depends on your station in life
2. 401k up to employer match
3. Pay off any debts with high interest rates (~6% and greater?)
4. Max HSA – even if you’re a healthy 22 year old (obviously ignore this if you’re still on your parents insurance)
5. Depending on which has the lower fees
   1. Max ROTH 401k*
   2. Max ROTH IRA*
6. Max traditional 401k if Roth 401k is not offered
7. Pay off debts with low interest rates (above 3%, below my 3^rd point)
8. Invest in taxable account/house
9. Fishing boats, guitars, cars, tools, stereos,
10. Pay off extremely low interest rate loans.

*You can go either way with the Roth vs. Traditional, but I believe that taxes will only go up in the future, even the 22% and 24% tax brackets are probably lower than what I think we’ll see in the future (I could be completely wrong). For most people, I think the Roth is the better option, or traditional until your taxable income drops a tax bracket… but as always, do the math for yourself.

For 95% of people, the 401k, IRA, and HSA should be invested in an SP500 or total stock market index fund. It is the simple button, and more often than not, the best bet. VTSAX.

For anyone who is trying to figure this stuff out and says “I can’t save anywhere close to that on my salary”… well, I’d challenge them by looking at their daily expenditures. A penny saved is more than a penny earned. The ubiquitous coffee example:

• Let’s say that you spend $2 on a coffee, 250 days a year. $500 a year in coffee. For a 25 year old planning to retire at 67, that means that they need to save $54.20 a year to be in coffee for the rest of their life after retirement. So their annual cost for coffee is $554.20.
• Now let’s say that they kick the Starbucks habit, and brew it at home using Folgers. That cup of coffee is going to cost, at most, about $0.40. Annual cost is about $100, and they'll need to save about $10.84 annually to be in coffee for the rest of their life. So their annual cost is $110.84.
• Seems pretty simple that the savings is $433.36 a year, right? Well, yeah... But the point here that is missed is that you aren't spending that this year, and you aren't spending it EVER. So not only are you spending less, you NEED less. So you have more, but need less. If you invest that $433.36 every year from 25 to 67, when you retire you have an extra $100k, and an extra $4,000 a year to buy... Well, coffee, I guess. But you don't need that coffee, so why not a couple of guided fishing trips, every year of your retirement? Just from switching from Starbucks to Folgers.

Obviously not everyone gets coffee every day and there are often other things that get in the way (medical debt, student loans, rent that is out of control, etc.), but do a pull of every dollar you’ve spent using your credit card or debit card over the last year. How much of it was necessary?

PM me if you want to see some spreadsheets I've made up on this stuff.

Tom Suddard said:

Traditional IRA: Contributions are pre-tax, withdrawals when you retire are taxed like any other income at the current tax rates in effect. 

Roth IRA: Contributions are post-tax, but withdrawals are tax-free. 

Those are the two biggies, and most Americans are best served by Traditional IRAs.

Curious why you say traditional rather than Roth. I expect my income to go up, even in retirement, from where it is now as a 30 year old.

Hah, I deleted my comment as soon as the page refreshed and I saw how much more complete of a job you'd done answering the question!

I say that because the average American isn't saving nearly enough for retirement, and won't have a higher income during retirement than they will while they're working. The median American worker age 56-61 has $17,000 saved for retirement, which is a drop in the bucket compared to what it costs. 

Hastily-googled source:

https://www.thestreet.com/retirement/average-retirement-savings-14881067

Tom Suddard said:

Hah, I deleted my comment as soon as the page refreshed and I saw how much more complete of a job you'd done answering the question!

I say that because the average American isn't saving nearly enough for retirement, and won't have a higher income during retirement than they will while they're working. The median American worker age 56-61 has $17,000 saved for retirement, which is a drop in the bucket compared to what it costs. 

Hastily-googled source:

https://www.thestreet.com/retirement/average-retirement-savings-14881067

I'd never thought of it from that perspective. You're exactly right though - my reasoning is that if you're saving like you should be, most Americans are better off with a Roth based on (a) the fact that they're probably in the 12% tax bracket for MOST of their income, or even lower, and (b) my opinion that taxes will go up in the future, and worst case they stay the same for you.

Since most people buy "stuff"- what are you doing with old "stuff"?  

We donate it, and it can add up pretty darned fast.  Much of our wardrobe was changed last year, and all of that donation (which goes to an AMAZING Salvation Army- what a great place to shop) goes to places that we can take a deduction.

All donations are $$ to the standard deduction.  State taxes + home mortgage are limited to $10k, I think- so you need to come up with another $14k in donations.

But for next year, I would suggest that one of the two of you add more money to your W4 as Z31 suggested- that alone made us get a small check.  And you should calculate that to be as small as possible- no need to give the government a free loan when you can use some of that.  But it's so much more comfortable to get a check than to owe....

In reply to ultraclyde :

Taxes are way too complicated to just have someone do for you or do yourself on the computer.
There are over 77,000 pages in the tax code and that is just the tip of the iceberg. 
.Interpretations, the IRS focuses on certain areas, while allowing other areas to be allowed.  The only way to know what the currently overlooked areas or interpretations is to employ someone who recently worked for the IRS to do your taxes for you.  Their help can dramatically save you serious money.  

You are  in luck. The government has been dramatically downsizing the IRS to about 50% of its previous size.  Yes, due to downsizing complex major corporations no longer get the attention that used to be focused on them leaving you to pay what they avoid paying. Just be sure the person you hire was involved in disputed areas and not just some paper pusher or phone person.  

The real key to deductions is called legal precedent . In other words, if company X can make that deduction or claim that depreciation  etc and it's gone to court  and been confirmed. Then everybody else with similar circumstances  is also allowed that.
That former IRS  employee  can just tell you those so you won't need to hire that $300 hr tax attorney who charges you $600 just to look at the clock and tell you the time. 
77,000+ pages, IRS Focus, Legal Precedent  all reasons you can't just do it yourself. 

Tom Suddard said:

Hah, I deleted my comment as soon as the page refreshed and I saw how much more complete of a job you'd done answering the question!

I say that because the average American isn't saving nearly enough for retirement, and won't have a higher income during retirement than they will while they're working. The median American worker age 56-61 has $17,000 saved for retirement, which is a drop in the bucket compared to what it costs. 

Hastily-googled source:

https://www.thestreet.com/retirement/average-retirement-savings-14881067

Well said. But you failed to add that savings have a way to disappear as retirement approaches or starts.  
Those are the medical years too.  As aging starts medical issues begin to occur and quickly gobble up savings. 
if You're trying to save you or your spouses life,  low on your list of priorities is saving for that retirement. .  Co-pay's deductibles, etc etc.( a significant cost  was just transportation to the various specialists, treatments, parking, meals away from home  etc.)  they all just destroy savings.  
 

Then too,  Life happens.  What if you are retiring this fall? Will 6-7 ( more?) months of no or little income due to the Corona virus impact your retirement in a significant way?  

 

alfadriver said:

Since most people buy "stuff"- what are you doing with old "stuff"?  

We donate it, and it can add up pretty darned fast.  Much of our wardrobe was changed last year, and all of that donation (which goes to an AMAZING Salvation Army- what a great place to shop) goes to places that we can take a deduction.

All donations are $$ to the standard deduction.  State taxes + home mortgage are limited to $10k, I think- so you need to come up with another $14k in donations.

But for next year, I would suggest that one of the two of you add more money to your W4 as Z31 suggested- that alone made us get a small check.  And you should calculate that to be as small as possible- no need to give the government a free loan when you can use some of that.  But it's so much more comfortable to get a check than to owe....

Great comment. I am happiest if I owe or get less than the balance in my checkbook. 
  My wife and I do quarterly estimations of taxes. It's just SWAG based on the percentage of income we paid the last few years.  
 Not return,  % of what you earned. it's a 10 minute calculation. 
Look at your check stub it will have both how much you made and how much you paid.  If that percentage is different from the past few years by a significant % either add more dependents or remove some. ( yes, it's legal)  it's not going to be down to a few dollars correct but it should keep you from being surprised. 

In reply to mtn :

Oh yeah, I completely agree with your points, and agree that taxes can't stay this low forever. But our situations/savings unfortunately don't have much relation to most peoples' situations. 

MTN & FrenchyD covered all that is needed really in this thread.

Also don't forget the Backdoor Roth IRA. 

Same boat here taking the std deduction this year and last, with a long time being itemized. This is even with decent sized mortgage interest deductions.

ultraclyde said:

So it sounds like the short answer I will likely never beat the standard deduction and i just need to up.my withholdings. Again.

 

The retirement stuff is a different ball game. I should definitely be paying more attention to that beyond the work retirement. But I'm also nowhere near dropping 12k into funds to get 2600 in deductions.

 

Been thinking about this. You need to look at it a different way: What would you say if I could guarantee you a 22% return on your investment? Would you take it? 

Note that this isn’t compounded interest and is only good for a single year, although you can get it each year. Also, it could be a lot better than 22%.