By TARA SIEGEL BERNARD/ Reprinted from NY Times
For many tax filers, this tax season may be unlike any other.
If you’ve lost your job, are searching for a new one or attempting to strike out on your own, your tax return may be affected. The same is true if you are collecting unemployment, lost your home in foreclosure or tapped your retirement accounts early.
These tough financial times, in fact, are raising so many, and so varied, tax-related questions that the Internal Revenue Service has set up a special section on its Web site addressing them: What if I lose my job? What if I can’t pay my taxes? What if my income declines?
The answers to these questions could change your usual strategy, which is why many of you need to take extra care when doing your taxes this year. And if there’s any silver lining to earning less money, it may be that you’re more likely to qualify for the many tax breaks that come with limits on how much you can earn to claim them.
Indeed, taxpayers who earned too much to collect the stimulus checks mailed out last year — but have watched their income decline or disappear altogether since then — may have a chance to collect the extra cash now.
When every dollar counts, you want to be sure to take advantage of all breaks available. Below are 10 tips for tax filers feeling the ill effects of the recession:
1. UNEMPLOYMENT The good news is that unemployment benefits were extended last year. The bad news is that those benefits are taxable. Your tax bracket is based on total income, including any money earned before you were laid off. “That catches a lot of people off guard,” said Mark Steber, vice president of tax resources at Jackson Hewitt. You should receive a 1099-G that will show what you received from unemployment and any tax you elected to have withheld. If you didn’t elect to withhold taxes, you may owe them now. Severance and pay for vacation or sick time is also taxable.
2. MORE DEDUCTIONS When you income drops, you’re more likely to qualify for certain tax breaks that phase out if you earn too much money. Tax professionals said that more people are qualifying for the Earned Income Tax Credit, which is aimed at working people and families with low incomes: a married couple filing jointly with two children and an adjusted gross income less than $41,646 in 2008 may be eligible for a maximum tax credit of $4,824. The credit is refundable, which means that even if you do not owe any taxes, you’ll receive the credit in the form of a check from Uncle Sam.
If you’re on the hunt for a new job, many of your costs may also be deductible, as long as you itemize your deductions instead of taking the standard deduction. Deductible expenses include résumé paper, printing, travel expenses, long-distance calls and faxes, postage, even meals and lodging expenses. But job expenses are considered a miscellaneous deduction, which means you can only deduct costs that exceed 2 percent of your adjusted gross income. Since other expenses can also be included in the miscellaneous bucket — from tax preparation fees to work uniforms — be sure you’re including them all, said George Jones, a senior tax analyst at CCH.
If you need to relocate for a new job, moving expenses are deductible for all taxpayers, as long as your new job is located at least 50 miles farther from your old residence than your old job was.
A smaller paycheck will also make it more likely to qualify for the medical deduction: Medical expenses, including health insurance costs, exceeding 7.5 percent of your adjusted gross income are deductible, as long you itemize.
And more taxpayers are also likely to qualify for the child tax credit, the additional child tax credit, as well as the Saver’s Credit, which allows some I.R.A. and 401(k) plan participants to reduce their tax bill by up to $1,000 — even though they’ve already received a tax benefit by excluding their contribution amount from their gross income. But to qualify, married couples filing jointly need to have adjusted gross income of $53,000 or less, according to CCH.
3. REBATE Remember the stimulus checks distributed last year in an attempt to jump-start the economy? If you earned too much to qualify, but your income dropped last year (or you had a child), you may still have a chance to claim it (or more of it). Here’s why: Since the government wanted to get the money into people’s hands quickly, eligibility was based on taxpayers’ 2007 tax returns. But taxpayers have the chance to claim the Recovery Rebate Credit — or a larger portion of it — based on their 2008 income if they didn’t receive the maximum amount.
Single taxpayers with incomes of less than $75,000 will get the full $600 credit, though people with incomes up to $87,000 will receive a reduced amount. Married taxpayers filing jointly with income up to $150,000 will qualify for the $1,200 check, though it phases out completely at $174,000, according to Mr. Jones. You can claim the rebate on line 70 of your 1040 tax return.
4. DISCHARGED DEBT Normally, if a portion of your mortgage debt is forgiven, the amount erased is considered taxable income. But Congress has temporarily lifted that rule for debts wiped out on your primary home. So if your lender restructured your loan and reduced the amount, or you had debt forgiven as part of a foreclosure, you will not owe taxes on that amount — up to $2 million, or $1 million for married people filing separately — as long as the debt reduction occurred from 2007 to 2012, according to Mr. Jones.
There are caveats. This only applies to debt used to purchase, build or improve your home. It does not apply to those who used cash from refinancing their mortgage to pay off credit card debt, for example. And it comes at a cost. When you sell your home, you may end up paying more in capital gains taxes. That’s because participating in this break will reduce the cost basis of your home by the amount of the debt forgiven.
If you’ve had other debts discharged, you may be exempt from paying taxes on the forgiven debt if you have declared bankruptcy or are insolvent (your total debts exceed assets), according to the I.R.S.
5. I.R.A. AND 401(K) WITHDRAWALS Taxpayers who tapped their I.R.A. (and did not repay it within 60 days) will owe income taxes. Those under age 59 ½ will also owe a 10 percent penalty. There are some cases where the penalty is waived. If, for instance, you used the money to pay for your medical insurance after you lost your job, according to the I.R.S., you would not pay a penalty. Participants in 401(k) plans are subject to similar rules, though withdrawals that are deemed qualifying hardships — like costs tied to foreclosure, eviction and education — are still subject to the penalty if made before age 59 ½. But you can take penalty-free withdrawals if you left your job the year you turned 55 or later.
Roth I.R.A.’s can be tapped without penalty, as long as you withdraw your own contributions and not investment earnings.
6. NEWLY SELF-EMPLOYED Many people who have lost their jobs are attempting to strike out on their own. Just “be aware you are now self-employed and there are whole series of new rules,” Mr. Steber said. Some of those rules are good — “There are a lot of deductions and benefits,” Mr. Steber said. And some are bad — “You owe self-employment taxes, including Medicare and Social Security, and you are responsible for both parts.” While most workers typically split this 15.3 percent combined tax with their employer, the self-employed must pay the entire amount. It’s also important to keep meticulous records of all expenses.
7. CAN’T PAY TAXES If you can’t afford to pay your taxes, you should still file your return on time and pay as much as you can to avoid penalties and interest, the I.R.S. said. But call the I.R.S. to see whether you can get an extension, a payment plan or other relief.
8. INVESTMENT LOSSES Most Americans are fortunate enough to still be employed, though their retirement accounts have been decimated. The upside, at least for eternal optimists is that investors can use their investment losses (in taxable accounts only) to offset an equal amount of gains. But if you don’t have any gains, or your losses exceed your gains, losses can be used to offset up to $3,000 of ordinary income (or $1,500 for married individuals filing separately). Remaining losses can be carried over to future years — indefinitely.
9. FILE ONLINE If you file your taxes electronically and chose to receive your refund via direct deposit, it could take as few as 10 days to receive the money. Filing on paper could take several weeks.
10. GET HELP If you’re entering uncharted territory, you may want to consult with a professional. And make sure your tax preparer knows all the facts pertinent to your changing circumstances. “Not telling them is not going to give you the best answer,” Mr. Steber said.