Tax season can be very stressful. Not only do you have to meet deadlines to avoid costly penalties, but you also have to keep up with the latest changes to tax laws. Well, we’ve got good news: we’re here to make the process easier. Here is a definitive guide to tax deductions and credits for the 2019 and 2020 tax year.
What are tax deductions?
Tax deductions are subtracted from your gross annual income to reduce your taxable income. The more deductions you have, the less you’ll pay in taxes. Here are the different types of deductions available for individuals and businesses:
- Health savings account (HSA): Contributions to HSAs are tax deductible.
- Medical and dental expenses: You can deduct qualifying dental or medical expenses that haven’t been reimbursed.
- Sale of home: When you sell your home, you may be able to deduct associated costs. These include legal fees, real estate agent commissions, advertising costs, home staging fees, and escrow fees.
- Capital losses: If your capital losses for a tax year are greater than your capital gains, you can deduct the difference. Limits apply.
- Bad debt: If you lend money to someone and are unable to collect it, you can deduct the amount on your tax return.
- Individual retirement arrangements (IRA): You can deduct the sum of money that you contributed to a traditional IRA. Again, limits apply.
- Student loan interest: If you paid interest on student loans, you can deduct up to the yearly limit.
- Teacher educational expenses: Teachers can deduct up to a set limit each year for qualified expenses. These expenses include supplies, books, professional development courses, computer equipment, supplementary materials for the classroom, and other equipment.
- Work-related educational expenses: Did you pay to obtain work-related education to maintain or improve your job skills? Or did you pursue education to maintain your current status or occupation? You may qualify to deduct those expenses.
Itemized tax deductions
- Property tax, sales tax, and state and local income tax: You can deduct a set amount of the listed tax types ($10,000 for 2018).
- Charitable contributions: If you make charitable donations, you can subtract their value from your taxable income.
- Gambling loss: You can deduct your gambling losses up to the amount you have won in a tax year.
- Interest expenses: Interest is the amount you pay to borrow money. There are many types of interest that you may be able to write off, including:
- Investment interest.
- Qualified mortgage interest.
- Student loan interest.
- Non-farm business interest.
- Farm business interest.
- Interest for producing royalties or rents.
- Moving expenses: As of 2018, moving expenses are only deductible for military members.
Work-related tax deductions
- Home office: Do you use part of your home exclusively for business, and is this home office your principal place of business? If so, you can deduct expenses for the business use of your home. These expenses might include:
- Mortgage interest.
- Self-employment tax deductions. If you’re self-employed, the following expenses are tax deductible:
- Tax preparation fees.
- Self-employment tax.
- Qualified Business Income (QBI).
- Home office (see above).
- Retirement plans.
- Office supplies.
- Educational expenses.
- Health insurance.
- Communication expenses.
- Other travel expenses.
- Promotional expenses.
- Bank fees.
- Business-related interest charges.
- Contract labor costs.
- Business tax deductions. Businesses can deduct a variety of expenses, including:
- Insurance premiums.
- Taxes paid.
- Interest on business loans.
- Payments to retirement plans.
- Employee’s pay.
- Business use of a car.
- Business use of your home (see above).
- Miscellaneous expenses.
- Miscellaneous business expenses
It is impossible to list every possible miscellaneous business expense, but these are the most common examples.
- Accounting fees.
- Affiliate commissions.
- Banking fees.
- Board meetings.
- Charitable contributions.
- Cleaning services.
- Consulting fees.
- Costs of goods sold.
- Credit card convenience fees.
- Customer gifts (limits apply).
- Education and training of employees and self.
- Impairment-related expenses.
- Franchise, trade name, and trademark expenses (in some cases).
- Internet-related expenses.
- Interview expense allowances.
- Legal fees.
- Leased vehicle.
- Professional fees.
- Licenses and regulatory fees.
- Moving machinery.
- Penalties and fines for late performance or non-performance.
- Pension plans.
- Prizes for contests.
- Outplacement services.
- Research and development.
- Storage rental.
- Telephone (second line or long distance phone calls).
- Trade shows.
- Video equipment and other tech.
- Website design and development.
Now that we’ve gone over tax deductions, let’s take a closer look at tax credits.
What are tax credits?
A tax credit also reduces the amount of tax you owe. But unlike a deduction, it’s applied after your tax liability is calculated. In other words, you subtract tax credits from the taxes that you owe, rather than from your taxable income. There are two types of tax credit: nonrefundable and refundable.
What is the difference between refundable and nonrefundable tax credits?
Both reduce the amount of tax that you owe. The distinction becomes relevant when you have enough tax credits and deductions to reduce your tax liability to zero. In this situation, any amount of nonrefundable tax credit remaining is not refunded to you. On the other hand, any amount of refundable tax credit remaining is refunded to you. For example, if you owed $500 in taxes and received a nonrefundable tax credit of $600, you would pay no taxes, but would also receive no compensation. But if you owed $500 and received a refundable tax credit of $600, you’d get $100 as a tax refund.
Now let’s look at the tax credits available for individual taxpayers.
- American Opportunity Credit: A partially-refundable tax credit to help cover the expenses of up to four years of an undergraduate college education.
- Lifetime Learning Credit: A nonrefundable tax credit that covers a percentage of the money spent on qualified education expenses for a given year.
- Health coverage tax credit (HCTC): This refundable tax credit helps qualifying individuals to afford health insurance by refunding most of what they pay for qualified health insurance premiums.
- Premium tax credit (PTC): This refundable tax credit helps eligible individuals and families with low to moderate income to pay for health insurance plans purchased through the Health Insurance Marketplace.
- Low-income housing tax credit LIHTC (for owners): Homeowners who participate in the LIHTC program receive a reduction in their federal tax liability through allotments generally paid over 10 years.
- Nonbusiness energy property credit: Individuals can receive this tax credit if they make eligible improvements to their home which improve its energy efficiency.
- Residential renewable energy property credit: Homeowners can earn non-refundable tax credits to cover a percentage of their investments into approved renewable energy upgrades for their homes. If unused due to a lack of tax liability, these credits can be rolled over.
Family and dependent credits
- Child and dependent care credit: Do you pay for the care of a qualifying dependent so you can work or look for work? If so, this non-refundable tax credit can cover up to 35% of your expenses.
- Adoption credit: Parents of adopted children receive one non-refundable tax credit per child for adoptions finalized during the tax year.
- Child tax credit: A tax credit is available for each qualifying child you have. A portion of the child tax credit is refundable.
- Credit for the disabled or elderly: Are you a qualifying elderly or disabled person who has received taxable disability income for the tax year? If so, you can claim this non-refundable tax credit.
Income and savings credits
- Retirement savings contribution credit: Available for people who make eligible contributions to a qualifying retirement plan or individual retirement arrangement (IRA). This credit is nonrefundable.
- Earned income tax credit (EITC): A refundable tax credit for employed taxpayers who earn a low-to-moderate income. Each year, different income limits are set, which govern who qualifies (along with other requirements).
- Excess social security and RRTA tax withheld: Employers withhold social security tax from your wages, and possibly Tier 1 RRTA or Tier 2 RRTA tax. If you had more than one employer and too much social security or RRTA tax was withheld, you can claim the excess as a credit on your tax return.
- Foreign tax credit: If you pay or accrue qualifying foreign taxes to a U.S. possession or foreign country and also paid tax to the U.S. on the same income, this credit will reduce your U.S. tax liability.
- Credit for tax on undistributed capital gain: Are you a shareholder of a mutual fund that does not distribute all of its capital gains? If so, you will have to report them even though you don’t receive them. The mutual fund is responsible for the tax on the gains so you can claim this credit for the taxes they pay.
- Credit to holders of tax credit bonds: Investors of tax credit bonds receive tax credits for a set number of years.
- Nonrefundable credit for prior year minimum tax: Did you pay Alternative Minimum Tax (AMT) in a year prior and don’t owe any AMT for the current year? If so, you may be able to claim a tax credit.
- Qualified plug-in electric and electric vehicle credit: Receive a tax credit for purchasing a new electric vehicle for use in the U.S.
- General business credit.
The general business credit offers credits for the following:
- Biodiesel and renewable diesel fuels.
- New markets.
- Small employer pension plan startup costs.
- Disabled access.
- Renewable electricity, refined coal, and Indian coal production.
- Empowerment zone and renewal community employment.
- Indian employment.
- Employer social security and Medicare taxes paid on certain employee tips.
- Contributions to selected community development corporations.
- Employer-provided childcare facilities and services.
- Low sulfur diesel fuel production.
- Mine rescue team.
- American Samoa economic development.
- Work opportunity.
- Alcohol and cellulosic biofuel fuels.
- Increasing research activities.
- Qualified railroad track maintenance.
- Distilled spirits.
- Energy efficient home.
- Alternative motor vehicle.
Learn more about the general business credit here.
By identifying the credits you qualify for and claiming them on your tax return, you can help to reduce your tax liability and even get money back.
Want help maximizing your tax credits and deductions?
There are a lot of deductions and credits to keep track of! If you need help, consider hiring an expert that understands all of the ins and outs of tax laws. Review and compare the industry-leading companies below.