Proper tax preparation can make tax season a lot less complicated and help you file your federal tax return well before the tax deadline. We suggest preparing for tax season as early as possible and staying up-to-date with tax regulations, especially because they change from year to year. While doing your own taxes is fine for most people, companies require the expert touch of a tax professional.
In this article, we’ll cover what you need to know before the next tax season starts. Whether you’re looking for actionable tax season tips or tax filing advice, keep reading to learn more.
Therefore, before we move on to your expectations for the year, we have decided to list down some of the main factors that you should consider. While an economist or a financial expert could name countless factors affecting the taxation system, we have decided to list down three that directly affect the US economy.
Taxable Income
A progressive federal tax system will increase the tax rate in the same proportion as your income. The tax bill determines the amount of taxable income. Since the taxes affect the economy from the supply-side, it is the marginal tax rates that determine how taxable income is taxed. This allows the federal tax authorities to divide the sector that pays income taxes into different ranges known as tax brackets.
After the government identifies a tax bracket for each business or worker, the income is then taxed at a specific rate from each bracket.
Tax Credits
The second major factor that affects income tax is the tax credits. Unlike some of the other factors affecting income tax, tax credits apply to the final tax bill instead of the taxable income. These tax credits are available only to certain taxpayers in a particular circumstance. These are people who earn below a certain amount, or individuals who have childcare expenses they can’t afford or have decided to adopt a child.
Tax credits are also associated with getting a post-secondary education or installing energy-efficient equipment at home. Enrollment in a government health insurance plan also earns individual tax credits. The benefit of these credits is that some of them are even refundable; this means that if the tax credit exceeds the liability, you will get the difference refunded to you.
Tax Deductions
Handling tax deductions can be complex, as they lower a person’s tax liability by reducing their taxable income. While many taxpayers claim standard deductions based on age, income, and filing status, they can also itemize eligible expenses such as mortgage interest, charitable contributions, and medical expenses to maximize their deductions.
The Tax Cuts and Jobs Act of 2019 introduced significant changes to the tax code under President Trump. These changes impact individuals differently, depending on various factors. Wealthy banks and corporations have benefited significantly from the reforms, enjoying lower corporate rates and preferential treatment. However, small and new businesses may bear a heavier tax burden, necessitating preparation for five essential challenges this tax season.
Annual Adjustments
Before 2018, the Consumer Price Index for All Urban Consumers (CPI-U) determined inflation adjustments for tax brackets, standard deductions, and other tax provisions. The CPI-U tracked a basket of goods impacting the average US household, making it a natural metric for adjusting tax figures over time.
However, the new tax reforms introduced the Chained CPI as the new metric for adjustments. Unlike CPI-U, the Chained CPI accounts for real-life consumer behavior, such as substituting expensive goods with cheaper alternatives. As a result, the Chained CPI grows at a slower rate, which means higher tax brackets will gradually apply to lower-income taxpayers as real inflation outpaces the income thresholds of marginal tax brackets. This change, though subtle year-to-year, will significantly impact inflation adjustments over time, causing more taxpayers to fall into higher tax brackets.
Higher Standard Deduction
The Tax Cuts and Jobs Act doubled the standard deduction, significantly affecting most American households. Taxpayers can now choose between the higher standard deduction and itemized deductions, depending on which offers greater benefits. Itemized deductions involve adding all eligible expenses, such as mortgage interest, charitable contributions, and medical expenses, and subtracting the total from the adjusted gross income. The standard deduction, a fixed amount, simplifies the process for many.
Historically, around 70% of Americans opted for the standard deduction, but experts now predict over 95% will do so due to the increased amount. This shift means fewer taxpayers will find itemizing beneficial, simplifying tax filings for most and reducing the complexity of tax returns. However, some may still benefit from itemizing, especially those with significant deductible expenses.
Modifications in Mortgage Interest
The mortgage interest deduction, a key tax break encouraging homeownership, underwent significant changes under the new tax reforms. While the deduction itself remains, two major modifications were introduced. First, the total deduction limit decreased from $1 million to a lower amount, reducing the tax benefits for high-value mortgages. Second, the $100,000 home equity loan interest deduction was eliminated unless the loan was used for substantial home improvements, qualifying it as residence debt.
These changes mean that while mortgage interest remains deductible, the benefits are less generous, especially for high-value homes and home equity loans not used for home improvements. Homeowners and potential buyers must now consider these changes when planning their finances and evaluating the tax implications of their mortgage and home equity loans.
Changes in the Alternative Minimum Tax
The Alternative Minimum Tax (AMT) ensures that high-income taxpayers pay a minimum amount of tax, even after deductions and credits. Initially, lawmakers consider repealing the AMT, but it remains in place with significant changes. Taxpayers must calculate their taxes twice: once using the standard method and again using the AMT method, which often requires professional assistance or specialized software.
The AMT’s inability to adjust with purchasing power over time has increased its impact on middle-class taxpayers, contrary to its original intent. The new reforms increased the AMT exemption amount, reducing its reach, but it still affects many. This change aims to prevent middle-class taxpayers from being unfairly burdened by the AMT, but they must remain vigilant about their tax calculations to ensure compliance and avoid unexpected tax liabilities.
No More Personal Exemptions
The increase in the standard deduction came at the cost of eliminating personal tax exemptions. Previously, taxpayers could deduct $4,050 for themselves, their spouse, and each dependent, significantly reducing taxable income for families. A married couple with three children could claim a $20,250 exemption.
However, the new tax reforms combined the standard deduction and personal exemptions into a higher standard deduction, simplifying the tax code but reducing overall tax breaks for larger families. High earners were already limited in claiming personal exemptions, but the elimination impacts average families and small business owners, who now lose a significant deduction. The individual tax changes are set to expire by 2025, and if not extended, the return to the previous tax code could further complicate tax planning and increase the tax burden for many.
Ensure Tax Season Success with Professional Assistance
Staying on top of the latest tax laws can help you avoid owing taxes or being fined. Additionally, proper preparation, including understanding taxable income, tax credits, and deductions, ensures you can file your federal income tax return accurately and on time. The recent changes in tax laws, such as the shift to Chained CPI and the increase in the standard deduction, have significant implications for taxpayers. With modifications to mortgage interest deductions and the continued impact of the Alternative Minimum Tax, professional assistance becomes invaluable. Avoid the pitfalls of managing your taxes alone and ensure all income documents are correctly handled.
Fully Accountable offers expert outsourced accounting services to help you navigate these complexities. Our professionals stay updated on the latest tax regulations and are equipped to handle your tax needs, ensuring you file your tax return accurately and on time. Don’t risk penalties or overpaying — let Fully Accountable manage your taxes, giving you peace of mind and financial confidence. Schedule a call today to learn how we can help you with your taxes next season.
