The Rules of Writing Off Taxable Income
When it comes to business or investment income, taxpayers have an assortment of deductions that can be written off on Line 23, Schedule A of Form 1040.
According to the IRS, you may deduct amounts you spend to “collect taxable income, to maintain, manage or conserve property held to produce taxable income, or any fees you pay to determine, contest, pay, or claim a refund of any tax.”
According to the IRS, these expenses include the following transactions:
- Appraisal fees for a charitable contribution. Any donated items worth more than $5,000 generally require an appraisal to confirm the value, and Line 23 is where you would deduct the appraisal fee. It cannot be deducted under charitable contributions on Schedule A.
- Casualty and theft losses from property used in performing services as an employee. Let’s say your laptop, which is used primarily for work, is stolen, you have a write off. If you have to pay an appraisal fee for a casualty loss, you may write that off as well.
- Investment expenses. Clerical help and office rent in caring for investments, depreciation on home computers used for investments, and investment fees can be listed on this line. Please note that oftentimes the investment fees you pay may not be listed on your 1099, so make sure you get a printout of the fees you paid for management of your portfolio. Traveling to a conference and its cost is not deductible. Keep good records as investment expenses are a touchy topic with the IRS.
- Trustee fees paid from within your IRA retirement plan are not deductible. Only fees billed and separately paid from your own pocket can be written off.
- Excess deductions (including administrative expenses) allowed a beneficiary on termination of an estate or trust: This will likely be included on the final K-1 from the estate or trust.
- Fees to collect interest and dividends
- Hobby expenses, but generally not more than hobby income: Because of the subtraction of 2% of your gross income from the total of the deductions listed in this section, you will not enjoy a full write off of these expenses. If you have a business that the IRS has determined is really a hobby, your “hobby losses” will not only go away, but you will end up showing a taxable profit.
- Indirect miscellaneous deductions from pass-through entities: These expenses will be listed on the K-1 from the entity – S Corp, partnership, trust, or estate
- Fees for legal and tax services: Legal fees related to producing or collecting taxable income or getting tax advice can be written off on this line; make sure the attorney’s billing specifies a tax matter. So for example, if you are filing for a divorce and part of the attorney’s services include tax advice on division of assets or structuring support issues, etc., make sure the charges for those services are itemized separately so you may deduct them and have proof to show to the IRS in the event of an audit. After all, the legal fees for divorce are not at all deductible. Nor are fees paid for estate planning, will preparation or the creation of a living trust.
- Tax advice, tax planning, tax preparation: Even the purchase of tax software to prepare your income tax return is deductible on this line. Audit representation, fees paid to get an offer in compromise, installment agreement, to get a refund, or other tax problem resolution may be written off here.
- Loss on deposits in an insolvent or bankrupt financial institution: There’s been a lot of this going around. And this tax saving deduction allows you to recoup a bit of the loss. I’ve seen this deduction erroneously listed on Schedule D. if you previously listed it there, consider amending your return as losses on Schedule D are limited to $3,000 per year.
- Loss on traditional IRAs or Roth IRAs: when all amounts have been distributed to you. You cannot take the deduction when you still have a balance left in your IRA. Be sure your plan administrator has tracked the basis for you so you know exactly how much to deduct.
- Repayments of income: Any taxable income previously or currently reported, that you have had to repay may be deducted here.
- Repayments of social security benefits
- Safe deposit box rental: except if being used to store jewelry and other personal belongings.
- Service charges on dividend reinvestment plans
Once these expenses are totaled, you must reduce the deduction by subtracting 2% of your adjusted gross income. That’s right; you do not get the full benefit. And remember that the expenses you can write off must be closely associated with the production of taxable income or pertain to taxes. Keep good records!
Bonnie Lee is an Enrolled Agent admitted to practice and representing taxpayers in all fifty states at all levels within the Internal Revenue Service. She is the owner of Taxpertise in Sonoma, CA and the author of Entrepreneur Press book, “Taxpertise, The Complete Book of Dirty Little Secrets and Hidden Deductions for Small Business that the IRS Doesn't Want You to Know.” Follow Bonnie Lee on Twitter at BLTaxpertise and at Facebook.