Taxes are everywhere. You lose a chunk of your paycheck to state and federal income taxes. You pay state sales tax, and maybe even a local sales tax, on just about everything you buy, from a meal at your favorite restaurant to a new pair of socks. It's no wonder, then, that no one likes paying taxes. After all, a tax usually takes money out of your pocket or increases the cost of things you want to buy.
Fortunately, the federal tax code lists several deductible taxes so that it's possible for most taxpayers to recover or recoup a lot of the taxes they pay when they file tax returns for the year. How? Generally, you take a deduction in the amount of the taxes you've paid during the year. Deductions directly lower the amount of taxes you may owe at the end of the year. So, when you take advantage of the deductible taxes, you lower the amount of income taxes you owe.
What's a "Tax?"
A "tax" is a revenue-raising levy or charge by the federal government or a state, county, or city government. You don't have a choice in paying these taxes. Generally, the money collected through the tax is used to support the government's operation and to pay for various public services, and for infrastructure, like bridges and roads.
Which Taxes are Deductible?
The deductible taxes are :
- State, local and foreign income taxes
- Real estate taxes
- Personal property taxes
- State and local sales taxes
With the exception of sales taxes, discussed below, the taxes have to be charged to and paid by you during the current tax year in order for you to take the deduction.
State, Local and Foreign Income Taxes
Most states and many local governments, like cities and counties, have income taxes. Income taxes are charges against the money you make, or your "income." For most taxpayers, income comes from salary, wages, and tips, but interest you earn on bank accounts and tax dividends qualify as income, too.
Your state and local income taxes can be found on the W-2 Form that your employer gives you at the end of the year.
In addition to the state and local income taxes, you can also deduct:
- Estimated taxes that you paid to a state or local government during the year
- Payments of state or local income tax that you owed from a prior year. For example, if in 2008 you still owed state income taxes from 2007 and you paid them in 2008, the 2007 amount is deductible
- Any mandatory amounts withheld from your wages that are used to pay for benefits to protect against your loss of wages, such as state programs that provide disability or unemployment insurance benefits
"Foreign" income taxes are taxes that are charged on your income by a country other than the US. For example, if you work in London, England, your income is subject to that country's tax laws. You can deduct a foreign country's income taxes on your US tax return.
Real Estate Taxes
These are generally any state, local or foreign taxes that you pay on real property, such as your home. To qualify for the deduction, the taxes have to be charged the same way against all property in the area, such as the county, have to be on the "assessed" value. That's the value as determined by the taxing authority, such as the tax assessor for the county or other governmental unit.
Personal Property Taxes
You can deduct this tax if it's:
- A state or local tax
- Charged on personal property, like a boat or a car
- Based only on the value of the personal property, and
- Charged on a yearly basis, even if it is collected more or less than once a year, such as in monthly or semi-annual installments
For example, you pay a "luxury" tax on your boat when you register it each year in January. The tax is calculated at 1% of the boat's value, and you pay it in two equal installments, one in January and the other in June. All of the tax is deductible. However, say the tax is based on $.50 per 100 pounds of the boat's weight plus 1% of its value, then only the taxes based on value is deductible.
State and Local Sales Taxes
Changes in the tax laws in 2005 now let you deduct state and local sales tax. It's a trade-off, though. You can either deduct state and local income taxes or state and local sales taxes. You can't deduct both of them, so you need to figure out both taxes to determine which one will give you the bigger deduction.
There are two ways to figure out your state and local sales taxes:
- Deduct the actual amount of your sales taxes paid for the year. For this method, you'll need every receipt for all things you bought during the year, such as receipts from grocery stores, restaurants, and department stores. Add up the sales taxes from the receipts, and claim that amount as your deduction
- Use the calculator provided by the Internal Revenue Service (IRS), which will give you a standard deduction that's based on special sales tax tables created by the IRS. The calculator will give you the same result as if you use the worksheet and tables in the Schedule A instructions
You can't deduct several taxes, such as :
- Federal income taxes
- Social Security taxes, which generally are withheld from you paycheck by your employer and pay for an employee's old-age, survivors, and disability insurance
- Real estate taxes for improvements to property, such as assessments for streets, sidewalks, and sewer lines
- Estate, inheritance and gift taxes
- Fees or "taxes" for things like your driver's license, marriage license, or pet licenses
Taking the Deductions
In order to deduct these taxes, you have to itemize your deductions by filing Schedule A with your Form 1040 tax return. So, if you've paid any of the deductible taxes, you should take the time to see if your itemized deductions are more than your standard deduction.
Questions for Your Attorney
- In 2007 my wife and I bought new cars, but we didn't deduct sales taxes on our return. Can we file an amended return? Is it worth the time and expense?
- Can I include sales taxes from anywhere, or am I limited to deducting sales taxes I paid in my home state? If I can deduct sales taxes I paid while on vacation in 2008 my deduction will be a lot more than my deduction for state and local income taxes.
- My husband and I file separate returns. Can we each claim one-half of our deductible taxes? If I choose to deduct state and local sales taxes, can my husband deduct state and local income taxes?
- My city provides garbage removal as a city service, but the cost isn't itemized on my property tax bill. Receiving this service doesn't reduce my deduction for local property taxes, does it?