If you’ve filed taxes before then you’ve heard the term “standard deduction” or “itemized deduction.” Have you ever wondered what the difference was and why it even matters? If so, keep reading because I’m going to break it down for you and hopefully give you a little bit more clarity about this tax topic before it’s time for you to file your taxes this year.
First off, let’s talk about what a Standard deduction is. Simply put, a standard deduction is a portion of your income that isn’t taxed and ultimately reduces your tax bill. Let’s take a look at the 2020 1040 form below.
You can see here on Line 12, this is where you either enter your standard deduction using the numbers they give you right here on the left side or you can enter your itemized deduction which I will explain to you soon. For example, if you are single or married filing separately, you can take a $12,400 deduction which will immediately reduce your income by that amount. For married filing jointly, that number is $24,800 and for HOH, it’s $18,650. This standard deduction is great for lower-income and even mid-to high-level income earners based on what itemized deductions you might qualify for. For lower-income earners, it’s especially nice because you immediately decrease your income and therefore your tax bill by a pretty significant amount.
Itemized deductions reduce your income the same way a standard deduction does; however, it allows you to take the GREATER reduction if your qualifying expenses are more than the standard deduction made available to you. Let’s talk about some of the most common itemized deductions you can take:
- Interest on a home mortgage – If you have a mortgage on a home, it’s likely that every month your payment is split between interest and principal. A portion goes to interest and a portion goes to principal. The portion that you pay in interest each year is a tax deduction and that total amount can be calculated and counted towards your itemized deduction.
- Charitable contributions – If you give to a qualified organization, those contributions can be counted towards your itemized deductions. Now, there are limitations to this and generally, you can deduct 50% of your Adjusted Gross Income (AGI) but for some people, it may be even less so be sure to check with your tax professional on this one. But don’t forget to add that in! If you’ve given a large portion of charity over the past year, don’t forget to add that to your itemized deductions.
- Property taxes or state and local taxes paid – If you own a home, you probably pay property taxes each year and this amount can also be counted toward your itemized deductions. The same applies to state taxes that you pay like sales tax (especially helpful if you make a large purchase like a car) or even income tax that you paid to your state. Currently, there is a limit on the state taxes you can deduct but it’s $10,000 which could be enough to make it worth itemizing.
- Medical Expenses – note there is a cap on this one as well and it is currently 7.5% of your AGI. You can include things that you paid for like prescriptions, co-pays for doctor visits, insurance premiums, and even mileage is driven to doctor visits.
Those are just a few common examples of items you would be able to deduct and itemize.
In order to figure out which one is best for you, I highly recommend you work with a tax professional who can really dig in and find the best scenario for you. However; if you are completing your taxes on your own, be sure to consider these deductions I mentioned and add them up to see if itemizing will get you a bigger tax deduction in the long run.
I hope this was helpful! I hope that you have a little bit more clarity now on what a standard deduction is and what an itemized deduction is and what that really means for you at tax time.
Now, if you are a small business owner and you are looking for tax help, be sure to click here to get more information about my tax services. Our firm is here to file your small business tax returns as well as your personal tax returns!