Surprised by a Balance Due or Decreased Refund? Here’s What You Should Know

This year was the first-time taxpayers filed returns under the new tax law.  There was a lot of information (and misinformation) in the news leading up to the official opening of the 2019 filing season and the frequency of news stories has continued.  We’ve had many clients receive a bit of a shock when given the results of their 2018 return.  Many were pleasantly surprised by a larger than normal refund or, for some, their first refund in a long time.  For others, however, the new tax law resulted in a smaller than normal refund, a balance due for the first time, or a larger than normal (or larger than expected) balance due. I want to help shed some light on the possible causes of these surprising results and help explain the steps you can take for a preferable outcome next year.

First, a quick overview of the changes affecting the largest percentage of taxpayers (i.e. changes to the standard deduction, reduction in withholdings, and loss of the personal exemptions).

  1. Standard deductions were increased significantly from $6,350 to $12,000 (single), $12,700 to $24,000 (married filing jointly), and $12,200 to $18,350 (head of household). On your tax return, you can take a standard deduction or the sum of your itemized deduction – whichever is higher.
  2. A new withholdings table was introduced under the tax law resulting in the automatic reduction of withholdings. This is the “more money in your paycheck” part of the new law. This means that the amount of money being withheld for tax purposes from paychecks and retirement distributions generally dropped unless you requested a change to your withholdings.
  3. Personal exemptions are gone ($4,050 per person). There are no exceptions!
  4. Changes to tax brackets resulted in an overall decrease in the tax liability for many tax payers.

*There are MANY other changes, but these are the specific items that had the greatest effect on many of our clients.

In previous years, the standard deduction or the amount of itemized deductions (whichever is greater) was added to total personal exemptions and dependent exemptions.  This amount was used to reduce a taxpayer’s adjusted gross income and arrive at taxable income.  This is the amount used to calculate tax due and is income tax calculation in its simplest of terms!  Income limits exist and there are many more moving parts in tax calculation.  However, for further explanation of the effects of the new tax law, this is really the key concept you need to keep in mind.

Group #1: A surprise refund!

If your return is the same as last year and you made no changes to withholdings and yet you find yourself with a larger than normal or first-time refund, this is probably the result of the increased standard deduction.  If you are a single filer and have not itemized deductions on your return in previous years, then you were most likely taking the standard deduction of $6,350 (in 2017) plus the personal exemption of $4,050 (2017).  This gives you a combined income reduction of $10,400.  Even though the tax law has taken away the personal exemptions, the increase in standard deduction gives the same individual an income reduction of $12,000.  That’s a $1,600 increase.

Here’s an example: in 2017 a single filer who receives a W-2, has no children, and does not itemize has $6500 withheld for federal tax from his paycheck during the year.  At the end of the year, the tax due is $5,100 so this individual will get a refund of $1,400 ($6500 – $5100).  In 2018, this same individual, with no changes to his filing status, has $5,900 withheld from his paycheck (a result of the withholding changes) and ends up with a balance due of $4,100.  This gives him a refund of $1,800 for the year.  Not only does he get $400 more from the refund, but he also kept an additional $600 throughout the year as a result of the decreased withholdings ($6500 – $5900).

20172018
Standard Deductions$6,350$12,000
Withholdings$6,500$5,900
Total Tax Liability$5,100$4,100
Refund$1,400$1,800

Group #2: Taxpayers with a smaller than normal refund 

This is still a group most people are okay with because it means they didn’t have to write a check on April 15, however we have many clients who had grown accustomed to a sizeable refund and were surprised by a decrease on their 2018 return.  For some, the drop has been only a few hundred dollars, but others have received refunds for many thousands less.  Most commonly with our clients we saw this as a result of the loss of unreimbursed business expenses deduction or write-off.  In the past, taxpayers who have received a W-2, but incurred personal expenses in order to do their job (i.e. mileage, car expenses, home office expenses, travel, client meals, office supplies, etc) could write-off many of those expenses against their W-2 income.  For many, these write-offs could be substantial – tens of thousands of dollars in some cases.  These high write-offs could give a W-2 employee with appropriate withhholdings a refund of, for example, $8,000 because of the significant reduction of taxable income created by the unreimbursed business expenses.  With those write-offs gone, an $8,000 refund could be closer to $1,500 this year.

Here’s an example: a sales rep with a total income of $100,000 in 2017 itemized her deductions at an amount of $55,000.  This included $50,000 in unreimbursed business, home office, and vehicle expenses.  This individual ended up with a taxable income of $45,000 and a tax bill of $12,750.  Her withholdings were based on a $100,000 income so total tax withheld from her paycheck during 2017 was $20,000.  This resulted in a refund of $7,250 ($20,000 – $12,750).   In 2018, however, this person goes from taking an itemized deduction of $55,000 (remember – $50k in unreimbursed business expenses) to taking the standard deduction of $12,000.  That is a $43,000 drop in deductions!  Her withholdings automatically decreased by about $2,500 (more money in her pocket throughout the year) and her refund dropped to $1,350.  That’s a total of $3,850 back ($2,500 + $1,350), but it’s a far cry from the $7,250 refund she had gotten the year before.

20172018
Income$100,000$100,000
Deductions$55,000$12,000
Withholdings$20,000$17,500
Total Tax Liability$12,750$16,150
Refund$7,250$1,350

Group #3: First time balance due or a larger than normal balance due

Unfortunately, we encountered many people belonging to this group during tax season. Tax payers typically found themselves in Group #3 for 2 reasons:  an increase in income (from W-2 or 1099s, retirement accounts, stock sales, etc) and a decrease in withholdings.  Many of our clients who found themselves in Group #3 on Tax Day typically had a balance due with their filing in previous years.  For most, they were actually paying less total tax for the year even in instances where they had a slight increase in income.  It was the decrease in withholdings and, occasionally, the loss of exemptions that really get them in trouble.

Here’s an example: a married couple with one dependent took the personal exemption deduction of $12,150 (4,050 x 3) in 2017 alongside an itemized deduction of $16,500. That’s a total deduction of $28,650.  That same couple in 2018 took the standard deduction of $24,000 resulting in a $4,650 drop in deductions without changing anything about their household or deductions.  Both individuals receive W-2s and had a combined income of $155,000 and a total tax liability of $24,500.  Their withholdings totaled $20,000 and their tax bill on April 15th was $4,500 ($24,500 – $20,000).  In 2018, their income increased to $163,000, but their withholdings dropped to $15,000 ($8,000 more in income, but $5,000 less in taxes withheld).  Their total tax liability dropped down to $21,000.  If their withholdings had stayed at $20,000, even with the $8,000 increase in income, their tax bill would have only been $1,000.  Unfortunately, the automatic drop in withholdings gave them a $6,000 tax bill ($21,000 – $15,000).

20172018
Income$155,000$163,000
Deductions$28,650$24,000
Withholdings$20,000$15,000
Total Tax Liability$24,500$21,000
Balance Due $4,500$6,000

 

Key points to remember:

  • The increase in standard deduction resulted in a sizeable increase in deductions for tax payers who did not itemize in the past.
  • The loss of personal exemptions is less than added benefit of the standard deduction in single or married filing jointly households that do not have dependents. However, households with multiple depends or households that typically itemized a significant amount of deductions on their return likely saw a negative effect from this change.
  • Unreimbursed business expenses (which includes mileage and home office expenses) are no longer deductible if you receive a W-2. There are no exceptions.
  • Changes to the tax brackets resulted in an overall decrease in tax due for most taxpayers. Even if you had a balance due this year (for the first time or a balance that was larger than normal), you likely paid less tax total for the year.

Quick tips for 2019:

  • Don’t find yourself with a surprise tax bill this time next year. Do a withholding check-up and increase your withholdings where necessary.  If you are a contractor or are self-employed, talk to your tax professional about making estimated payments.  Remember that the IRS adds a penalty if you owe more than $1,000 at tax time even if you are a W-2 employee with withholdings (see our previous blog post on estimated payments for an explanation of our “pay as you earn” system).
  • If you received a sizeable refund, consider updating your withholdings to allow yourself to keep more money throughout the year. A refund is better than a balance due but getting thousands of dollars back in April isn’t always for the best.  After all, the US government is the only bank that will hold your money all year and not pay you any interest!
  • Review which expenses are still deductible under the new tax law and keep good records throughout the year so you can make the most of your deductions.
  • If you are a W-2 employee who typically has significant unreimbursed business expenses, consider talking to your employer about becoming a statutory employee. This will allow you to retain the benefits of your W-2 while also bringing back many write-offs you have lost under the new law.  Only a few categories of workers qualify for statutory employee status.  Learn more about this option on the IRS website
  • Take advantage of retirement benefits offered by your employer or explore options on your own to reduce your taxable income while also saving for the future (401ks, IRAs, HSAs, etc).

 

Major Tax Reform Changes Affecting Homeowners

Are you a homeowner?  Here are some big changes under the new tax law that may have affected itemized deductions on your 2018 return (and one big item that was left unchanged!):

Mortgage Interest Tax Deductions

In prior years, homeowners could deduct interest on loan amounts up to $1 million.  Depending on the interest rate, the deductible amount could easily top $30,000+ in a given year.  Under the new tax law, that limit has been decreased to $750,000 which can result in a substantial decrease in the amount of interest a taxpayer can deduct.   The change in the mortgage interest tax deduction cap only applies to new home buyers.  If you purchased your home prior to December 15, 2017, you can still deduct the interest on loan amounts up to $1million.  If you are married and filing separately, you can each deduct half of the amount – $375,000 or $500,000 depending on date of purchase.

Home Equity Line of Credit (HELOC)

Many homeowners have historically used a HELOC to upgrade their homes or even pay other expenses unrelated to their property.  One of the benefits of this type of loan was that interest could be written off on the homeowners’ tax return.  Under the new tax law, interest on HELOCs is no longer deductible through 2025.  The only exception is if the loan is being used to “buy, build or substantially improve the taxpayer’s home.”  The portion of the interest related to these activities is still deductible.  Second homes or vacations homes do not qualify.

Property Tax

Property tax deductibility is also limited under the new tax law.  Previously, homeowners could deduct property tax paid in its entirety – regardless of amount or number of properties.  For individuals who owned large homes or multiple homes, the total amount deducted each year for property tax could be considerable.  The new tax law has limited this amount to $10,000 per year ($5,000 per spouse if married and filing separately).  There are no exceptions and it doesn’t matter when you purchased the home.

Moving Expenses

Former tax regulations allowed for the deduction of moving expenses if the move was considered work related.  Some limitations existed including distance of move and the amount of time worked during the first 12 or 24 months.  That deduction is now completely gone except for active duty service and military members.

Capital Gains Exclusion is Still Available

Good news!  One major benefit to homeownership remained untouched by the tax reform bill: the capital gains exclusion.  Married taxpayers who file jointly can still exempt up to $500,000 in capital gains from the sale of their home (the amount is $250,000 for single filers or married filing separately filers).  To be eligible for this exemption, the home must have been the taxpayers’ primary residence for 2 of the last 5 years (i.e. rental properties or vacation homes are not eligible).  A rough calculation of your capital gains on the sale of a property is:

Sale Price – (Original Purchase Price + Improvements)

For example, if you purchased a home for $150,000 and spent $50,000 in renovations over the years you called it home, your investment in the home would be $200,000.  If you sold the home for $525,000, a single filer would be able to exempt $250,000 of capital gains but would have to claim $25,000 in gains (525,000 – 250,000 = 275,000).  A married couple filing jointly could exempt the entire $275,000 in gains because it falls under the $500,000 limit.

If you’re a homeowner, remember that the key to saving at tax time is good records!  Make sure you retain copies of your closing statement from your original purchase and receipts for any major renovations or property improvements completed.  This will help appropriately calculate your basis, or how much you’ve invested into the home, at the time you sell.  Each year be sure to gather a copy of your property tax bill and 1098 (mortgage interest statement) for your tax preparer.  These can amount to sizeable deductions and a reduction in your tax liability.  We recommend keeping all home-related records for the length of time you own the property plus seven years.

Questions about how these changes may affect you?  Levesque & Associates is happy to help!

 

 

Driving for Uber or Lyft? 2018 Tax Changes and 5 Tax Deductions You Can’t Afford to Overlook

If you drive for a rideshare service such as Uber or Lyft you are considered an independent contractor.  The new 2018 tax law includes a 20% pass through deduction which was designed to give small business owners a boost.  Rideshare drivers as well as other freelances and independent contractors can benefit from this as well.  Most drivers will be able to take a deduction equal to 20% of their total profit (income limits exist).  For example, a driver who earns $30,000 from fares and has $5,000 in expenses, has a profit of $25,000.  The deduction for this driver would be $5,000 (25,000 x 20%).

You are still eligible for the pass through deduction even if you only drive part time and have another job.  The deduction is only applicable to the profit earned from the rideshare position.  For example, a rideshare driver has a fulltime job from which he earns a salary of $50,000 and a W-2 at the end of the year.  He drives a few weekends a month to make extra money and at the end of the year has earned $10,000 from fares and has $1,500 in expenses.  His rideshare profit is $8,500 and his 20% deduction is $1,700.

Additional deductions exist for rideshare drivers.  Make sure you are not missing out on these common tax deductions.

  1. Mileage

Mileage is probably the single largest deduction available to those working with a rideshare service.  In general, drivers see the most benefit from taking the mileage deduction over deducting actual expenses.  With that being said, there are still some expenses drivers are allowed to deduct in addition to the mileage.  

  1. Cleaning Expenses

If you are taking the standard mileage deduction then fuel, oil changes, tires, car payments, car maintenance, vehicle registration fees, etc., are not deductible.  However, as a rideshare driver you can deduct the cost of car washes and car detailing.

  1. Other Vehicle Expenses

Additional, often overlooked expenses you can deduct alongside the standard mileage deduction are interest paid on your vehicle loan and annual ad valorem taxes.   Additionally, any tolls paid or parking costs incurred while driving for rideshare purposes are 100% deductible.

  1. Goodies for Your Passengers

Many drivers offer treats to their passengers.  Anything you purchase with the intent of distribution to your passengers for business purposes is deductible.  This typically includes bottled water, gum, mints, candy, etc.

  1. Phone (Maybe)

If you rent a phone from the rideshare company you work for then you can deduct the rental expense.  If you use your personal phone, it’s not as straight forward.  An applicable usage rate must be assigned and that rate is applied to the overall bill each month to get the deduction that will be included on schedule C of the return.  Examples of determining applicable usage rate is talk time, usage time, etc.  For rideshare drivers, because they use GPS, usage time can often be calculated as working driving time.

For everything listed here, it is critical that you keep receipts and track mileage according to the IRS guidelines.  For more about mileage deductions, rules you should know, and how to track your mileage, check out our previous blog post “All About Mileage.”

 

Mileage apps

Receipt apps