Taxes are very complicated -- and unfortunately the stakes are high when you're submitting info to the IRS. If you make an error, you could end up being audited and potentially owing penalties for back taxes. Or you could find yourself paying more than you actually should given your situation.
You don't want to be out any more money than necessary when dealing with the IRS, so it's a good idea to be aware of some common errors. By avoiding these three big tax mistakes, hopefully you can keep more of your hard-earned money instead of sending extra to the tax man.
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1. Choosing the wrong filing status
You get to pick how you want to file: single, married filing jointly, married filing separately, or head-of-household. Of course, you have to qualify for the filing status you select. But if you could potentially pick multiple statuses, such as head-of-household or single, or married filing jointly or separately, you don't want to pick the wrong one.
Filing as head-of-household raises the threshold you have to hit before moving to a higher income tax bracket compared to filing singly. And when it comes to credits and deductions that phase out as your income grows, you'll also have a higher threshold to hit before losing eligibility.
Filing as married filing separately, on the other hand, could mean there are certain tax breaks you're not allowed to claim at all -- such as the earned income tax credit or the student loan interest deduction. Of course, there are times when filing separately makes sense, such as one when spouse has substantial itemized deductions they lose eligibility for when both spouses' incomes are combined.
If you're not sure which filing status to choose, consider running the numbers both ways using online income tax calculators or estimators. Many tax-prep sites provide these and allow you to input your details -- including filing status -- to estimate your tax bill. Try them using any potential filing status you'd be eligible for and see which results in the lowest bill. Or you may want to get tax help at least once from an accounting professional. They can advise you, and if your situation stays largely the same from year-to-year, you'll know the right status to choose in the future.
2. Not claiming all your deductions and credits
Both deductions and credits reduce your tax bill, although credits are far more valuable -- deductions just reduce taxable income, while credits provide a dollar-for-dollar reduction in what you owe. A $1,000 deduction reduces $40,000 in income to $39,000, which provides a tax savings of $220 if you're in the 22% bracket -- but a $1,000 credit reduces your actual tax bill, so a $5,000 balance owed would come down to $4,000 and you'd save a grand.
Unfortunately, some taxpayers fail to claim the deductions and credits they should be eligible for. You may forego credits and deductions if you don't know they exist, or you may forego credits and deductions if you incorrectly think you don't qualify. For example, some people assume they can't claim any specific deductions if they don't itemize, but this isn't true. There are "above-the-line" deductions you can claim even with the standard deduction.
To make sure you don't miss out on any tax savings, check out these guides to tax deductions and tax credits. You can also choose a good tax filing software program that asks about your life to help you find credits. Or, again, tax prep help could be worth paying for if you have no idea what deductions and credits to claim. If you've had big lifestyle changes -- such as buying a house, having a baby, or starting a business -- that could change your tax situation.
3. Paying or filing late
In the U.S. tax system, you have to pay taxes on an ongoing basis. If you don't, you could owe penalties and interest. Usually, employers take care of your ongoing payment obligations for you. You fill out a W-4 to let them know what to withhold, and money is deducted automatically. But if you have money coming from anywhere other than an employer, such as from a side gig or rental real estate, there's a chance you could have to pay the IRS on a quarterly basis.
You're also expected to pay your taxes by tax day each year, which is usually April 15 or the next business day if the 15th falls on a weekend or a holiday. While you can request an extension until October by submitting a form on or before the April deadline, this is an extension only to file -- not an extension to pay. You'll still owe a penalty if you haven't paid in at least 90% of what's owed by April's due date.
The penalty for failure to pay is .5% of the amount owed, with a maximum penalty of 25% of the unpaid tax balance. Penalties accrue for each part of the month you're late. And you owe interest too.
As bad as this penalty is, the failure to file penalty is much worse. If you don't file your tax returns when due and you owe money, you'll owe a penalty of 5% of the unpaid tax balance for each part of a month you're late, up to a maximum of 25% of the unpaid balance. The minimum penalty once you're at least 60 days late is the lesser of 100% of the unpaid tax balance or $205. However, no failure to file penalty is assessed if you're owed a refund and you don't file on time.
Since you don't want to incur significant added costs, make sure you get your return in by the deadline if you think you may owe money. And do your very best to pay at least 90% of what you owe on time too.
Don't make these tax mistakes
Now you know a few key errors you should avoid unless you want to end up increasing your tax bill. By learning as much as you can about income taxes, you can make smart choices to ensure the IRS is happy while the maximum amount of money is left in your wallet.
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