Don’t Let the Tail Wag the Dog Pig
You often hear of people saying that you should or should do something “because you get a tax deduction.” Changing your normal course of action just because a tax incentive is usually not a good idea. One can point to the 10% tax credit on home purchases in 2008. Home prices fell on average a total of 20% over the next 3 years and NOT taking of advantage of the tax credit could have saved a purchaser thousands on the price of a house.
There are a few tax breaks that are difficult to take full advantage and typically, modifying your course of action will not yield any benefit. We will assume a single individual making $40,000/yr. Below are a few examples:
Medical expenses – Medical expenses are deductible when they surpass 10% of (Adjust Gross Income) AGI and only when an individual itemizes. For our example, our single person would not only need to pay more than $4000 in medical bills for the year, he would need an additional $5950 in itemized deductions (mortgage interest, state sales tax, property tax) in order to receive a tax benefit from the medical bills. Often the amount paid in medical bills does not produce a tax benefit except in the case of extraordinarily costly procedures.
Hobby expenses – Trying to deduct expenses from a hobby is a difficult task unless there are a lot of expenses to claim. Similar to medical expenses, hobby expenses must first surpass an AGI amount, this time 2%, and a taxpayer must itemize on their return. For our example, the taxpayer must incur about $800 in expenses before being able to take deductions on an itemized return. You can only deduct hobby expenses up to hobby income received, so you can never show a “hobby loss”. In reality, the taxpayer would be better off cutting expense in order to make his hobby more viable.
Unreimbursed Business Expenses – Unreimbursed business expenses like mileage, meals, and accommodations can provide a tax benefit but only when expenses surpass 2% of AGI and only when an individual itemizes. An employee would have to spend about $800 out-of-pocket before getting a tax benefit, which is not a very attractive situation. A tax payer would be much better off getting reimbursed for business expenses.
At Tax Relaxer, we understand and explain the differences in tax deductions. Let us know if we can help this tax season!
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