What Everyone Ought to Know About Their Income Tax Returns – Part 1

Tax

              HOW TO START YOUR RETURN ON THE RIGHT FOOT

As in any important relationship, you need to make a good first impression on your return. Messing up your name, address, or social security number will get you rejected immediately when trying to close the deal and file your Form 1040.

In addition to making sure you get your vital information correct, the first two sections of your return contain two key components: your filing status and your dependents.

Know your status

In short, your filing status represents your living situation for the applicable tax year. It will affect many other parts of your return like how much you get for your standard deduction, whether you can take the Earned Income Credit, or even if you can amend your return later on. So it’s important that you choose the correct status. And if you have multiple options, pick the one that benefits you the most.

Here are the current five filing statuses:

  • Single (S) – You are unmarried or considered unmarried on the last day of the filing year. To be considered unmarried you must be legally separated under a divorce or separate maintenance decree. State law governs whether you are married or legally separated.
  • Head of Household (HOH) – You are unmarried (or considered unmarried) on the last day of the year and have a dependent (more on this later).
  • Married Filing Jointly (MFJ)– You are considered married on the last day of the year, and you wish to file both taxpayers’ information on the same form.
  • Married Filing Separately (MFS) – You are considered married on the last day of the year, but you wish to file separate forms.
  • Qualifying Widow(er) ­(QW)– If your spouse died in the applicable tax year, you can still file MFJ as your filing status, even though you technically aren’t married on the last day of the year. In addition, in the two following years after the death, you can claim the Qualifying Widower status, if you have a dependent child.

You’ll notice these definitions focus on your situation the last day of the year.  Therefore, when determining which status fits your circumstances, start with your living arrangement on the last day of the year and see if any exceptions apply.

Get extra deductions for the people you support

The second crucial part to the introduction on your return deals with your exemptions, an allowance of money that you can claim for each person on your return. For 2014 (the return we are completing in 2015), you can subtract $3,950 from your income for each exemption. You get one for yourself, a spouse (if applicable), and one for each dependent.

Simply put, your dependents are people that you support throughout the tax year. They fall into one of two categories:

Qualifying Child:

  • Relationship: the dependent must be your son, daughter, stepchild, foster child, or a descendant of any of them. This person can also be your brother, sister, half brother, half sister, stepbrother, stepsister, or descendant of any of them.
  • Age: The dependent must be under 19 on the last day of the year, a student under the age of 24, OR permanently and totally disabled.
  • Residency: The child must have lived with you for over half the year. There are some exceptions for temporary absences because of illness, education, business, vacation, or military service.
  • Support: The dependent could not have provided over half of his/her support.
  • Joint Return: The dependent could not have filed a joint return.

Qualifying Relative

  • Not a qualifying child:  see definition above.
  • Relationship: This dependent must have lived with you all year as a member of your household, OR be related to you including children, siblings, parents, or descendants thereof.
  • Gross income test: The dependent’s gross income must be less than the personal exemption amount in the applicable year. Again, for 2014 that amount is $3,950.
  • Support test: You must provide more than half of the dependent’s support. Notice this definition differs for a qualifying child, where the dependent does not provide over half of his or her support.

If someone you support falls into one of these two categories, you get to deduct more money from your income.  Congrats!

Tricks of the Trade

Here are some common problems that arise when it comes to filing status and dependents:

  • Don’t try to claim HOH status when married: you have to be unmarried or considered unmarried (this can include living apart from your spouse for the last six months of the year) in order to claim HOH status. If you are married, you must claim MFJ or MFS.
  • It’s usually more beneficial to file MFJ vs.MFS: MFS limits or disallows certain credits on your return. So make sure if you are choosing MFS, you don’t lose any credits in the process.
  • Don’t forget about the gross income test for Qualifying Relatives: The gross income test doesn’t allow for a qualifying relative to earn much money. You also need to consider what type of income he or she receives. This limit is often overlooked when determining whether a person may qualify as this type of dependent.

Once you understand your filing status and who you can claim as a dependent, you have the proper foundation to take the relationship with your return to the next level.

However, don’t relax yet. One of the most important sections – gross income – trips up many taxpayers on their return.   More on that in Part 2.

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