You’re either paying or liable for taxes if you have a regular income, or if it fluctuates. Each pay period, employers withhold taxes from employees’ paychecks and send them to the IRS as well as your state and local governments.
Taxes are only the beginning of the tax process. When you’re looking to reduce your taxable income, it is important to also consider the tax credits and deductions. You don’t want to wait until tax time to try to figure out your taxes yourself.
This guide is for anyone who wants to do their own taxes without the hassle of doing so.
How to do your own taxes
Why do I have to file a return?
It’s likely that you are a taxpayer, so you have to file your tax return. Taxable income is defined by the IRS as any income, regardless of its source, including realized gains, unless excluded.
The IRS will tax you in a year if your income is enough to exceed the standard deductibility for your filing status. It’s now time to file your tax return and do your own taxes. You can still file a return if you don’t have to.
The value of filing a tax return, regardless of your need, is one of the most important lessons from 2020 and 2021. Filing a tax return enabled millions of people receive the three stimulus checks due to the pandemic.
You should save all the paperwork you need to prepare your tax return, even if the standard deduction is not exceeded and you do not technically have to file.
Filing your return allows you to reconcile with the IRS your tax bill if you have exceeded the standard deduction. You may have paid too much in taxes through your paycheck withholdings. This could give you a refund that you can use as you wish.
You may have also underpaid Uncle Sam and be required to write him a check. It’s not the ideal scenario, but it is better than the federal government pursuing you for all the money owed.
If you want to prevent this from happening in the future, make sure that you file an amended Form W-4 to your employer asking them to withhold additional taxes for the current year. This will prevent the unpleasant surprise at the end of your tax return.
How to file a tax return on your own
You’ll need the right paperwork to prepare your own taxes. This includes all the forms you’ve received from different sources.
Form W-2: Wage & Tax Statement
Form 1099-NEC : Compensation for Non-Employees
Form 1099-MISC: Miscellaneous Income
Form 8949 – Sales and other Disposition Assets
Form 1120, U.S. Corporation Income Tax Return
You should also consider the paperwork that is related to your business or situation. You might also consider:
payment invoices
receipts for deductible expenses
Detailed expenses for your business or trade
Contributions to charitable organizations or donations to non-profit organizations
List goes on. Keep everything you can if you are planning to claim a deduction that requires supporting documentation.
After you’ve gathered all the information, it’s now time to file your taxes with Form 1040. This is an Individual Income Tax return. By filling out the 1040 form and mailing it to the IRS, you can manually file your taxes.
Although it can take a lot of time, you will have total control over the way you prepare your tax returns. Math errors are possible and should be avoided.
You might instead consider using a tax software service such as TurboTax. It will guide you through the 1040 section, asking questions about your income and deductions.
In many cases it is worth the price, especially when you avoid computational errors in a paper form that was mailed in and the IRS calls. Contacting a tax professional to ask for their help is another way you can get assistance.
How do Income Tax Brackets work?
You will end up with the total of your gross income. Included in this are your wages, tips and other income from self-employment, investments, real estate, etc.
This includes any income you receive from opening an account with a company who offers incentives. You can claim taxable income if you’ve learned how to obtain free stocks through apps such as Robinhood, or sign-up bonuses via SurveyJunkie and other apps. This income will need to be reported on your tax return.
After you have calculated your total gross revenue, you will need to subtract any tax credits and deductions that apply to you. This will reduce your gross to adjusted gross and finally to taxable income. The IRS uses seven progressive tax brackets to determine how much you owe.
The progressive system ensures that as your taxable income increases, so does the effective tax rate. If you earn $100,000 in taxable income, as a single tax payer, you would fall into the bracket of 24%.
Taxes on income between $0 – $9,950 are 10%
Taxes on income between $9.951 and $40.525 are 12%
You will pay 22% tax on your income between $40,526 to $86,375
Taxes on incomes between $86,376 to $100,000 are 24%
The IRS adjusts the brackets each year to reflect inflation.
Calculate your taxes
You will receive a W-2 from your employer if you are an employee. It may be sent electronically or by mail. This document documents your earnings, deductions and other choices made during the tax period.
This includes your gross salary, the amount withheld from your pay and sent to the IRS as well as any other money you used to pay for different deductions, such as your 401(k), your health savings account (HSA), your life insurance and more.
You should expect 1099-NECs if you are self-employed from any company who paid you at least $600 during the tax period. You’ll need to keep track of all receipts, invoices, and other documents that prove your business costs.
Investing in assets that generate passive income can help you avoid paying income tax. You can invest in these assets and receive passive income without paying taxes.
Examples include municipal bond income or long-term gains from the sale of certain assets. To qualify for these tax-free benefits, your income must be below certain thresholds.
How to reduce your taxable income
You might be interested in learning more about ways to lower your income as seen by the IRS.
The IRS offers better taxation options for certain types of income. Tax deductions and credits are two ways to reduce your taxable income.
Tax Deductions
The tax deductions reduce your taxable income dollar for dollar.
If you earn $100,000 gross income as a single tax payer in 2021 and claim the standard deduction, your taxable income will be reduced to $87,450 (12,550 standard deductions in 2021).
You can do it in many ways: Some items are eligible for a deduction, no matter how much you earn. Some items are only applicable if your taxable income is low.
Here is a list of common deductions.
Standard Deduction
Student loan interest deduction
Charitable donations deduction
Medical expenses deduction
Deduction for state and local taxes
Gambling loss deduction
Deduction for contributions to employer-sponsored plans and IRAs
Contribution to Health Savings Account
Self-employment expenses deduction
Educator expenses deduction
Mortgage interest deduction
Depreciation expense deduction
Deduction for health insurance premiums for freelancers
Many examples of tax deductions are available to help you lower your taxable earnings. Deductions lower your taxable income and therefore, indirectly lower the taxes that you pay.
You can lower your tax liability if you’re self-employed, or own a small company.
My wife is a dermatologist who practices in Pleasanton. She knows that she must keep track of all her expenses, because her employer manages his clinic network as a small-business owner. He reduces his business tax by capturing expenses that are eligible to lower the taxable income.
He keeps track of everything that could qualify him for tax credits.
A tax credit is more useful to a taxpayer than a deduction, whether they are a business owner or an individual.
Tax Credits
Tax credits reduce the amount of taxes you owe dollar for dollar. It is not the same as a tax deduction, which reduces your taxable income from your W-2s, 1099s or other income types that are taxed. Tax credits reduce your tax liability on a dollar for dollar basis after you have calculated what you owe.
Tax credits are available in two varieties: refundable or non-refundable.
Tax credits that are refundable allow you to reduce your tax liability by the same amount and will pay you any credit overage if you have a negative tax liability. If you owe $2,000 in taxes, but can claim a $2,000 tax credit, your tax bill will be $0 and you’ll receive a $500 refund.
Examples of refundable tax credit include:
Earned Income Tax credit
American Opportunity Tax Credit
Child Tax Credit (Partially)
Premium Tax Credit (partially).
Non-refundable tax credit also lowers your tax liability dollar for dollar, but the way in which they treat any unused portion is different. The unused portion of a nonrefundable tax credit will not be returned to you if you are eligible for it.
You could instead choose to carry this balance forward into future years and use it as an income tax offset or forfeit the balance.
Examples of non-refundable tax credit include:
Child and Dependent care credit
Adoption Expenses Credit
Foreign Tax Credit
Lifetime Learning Tax Credit
Retirement Savings Contribution Tax Credit
Renewable Energy Investment Tax Credit
How to Get Your Tax Refund or Pay Your Bill
It’s now time to get everything organized.
If you have a simple tax situation, you may prefer to do this manually. Your personal choice will be based on your value of time. If you are below a certain level of income, you can participate in the IRS Free File Program to get the tax software at no cost.
Calculate your tax balance for the entire year. Compare this amount to what you have already paid in taxes through withholding from paychecks or quarterly estimated tax payments.
If you’ve overpaid, you’re due a refund. You’ll need to write Uncle Sam a cheque if you haven’t paid enough. If you want to opt for direct deposit, you can either provide the bank account details or choose to have a paper check mailed to your return address.
If you want to pay the IRS, you can also use the IRS Direct Pay System to transfer your payment directly from a debit or credit card to the IRS.
You can request an extension if you feel you need additional time to complete your tax return. Even if you don’t have your tax return completed, you’ll need to pay any taxes that you believe you may owe before the deadline.
If you break this rule, the IRS will likely come knocking with a bill. This is not a pleasant experience.
You can find tax preparation services through professional organizations, university programs or the Volunteer Income Tax Assistance program (VITA).
It may make sense for you to file even if your income is not enough to surpass the standard deduction. The stimulus checks were easier to get for those who filed in 2020 and 2021. This is also a good way to prepare for the future when you will have more income and be able to file a return to reconcile with the IRS.
This article was originally published on Wealth of Geeks. It has been republished by permission.
