Another tax season has passed, and my wife and I have submitted our return. We received our refundquickly and put it to good use - paying off some of our medical bills. Each year as the tax season passes and the remainder of the year commences, we discuss what led us to the refund or the extra tax owed. We then adjust our W-4 forms and financial activity to suit our plans for the next year's return.
Payroll deductions
We both teach school full-time, so we make modest salaries. We range in the 12-15% tax bracketdepending on the tax laws of the year. We are not wealthy, but we have learned over time how make things work with our moderate income. We have the normal payroll deductions that most people would have: taxes, social security, Medicare, health insurance, and dental insurance. Florida has nostate income tax. We elect other payroll deductions as well, and many of ours qualify for pre-tax deductions.
Part-time employee vs. Freelance writing
· Part-time employee
I cannot understand this law. In the early part of 2011, I worked as an online adjunct for a college. I made approximately $2350 gross pay for four months of work. I had approximately $343 (15%) deducted as taxes, which is fine with me. After 19 years I grew accustomed to the job's tax rate. However, I stopped working the job after April.
· Freelance writer
I spent the last four and a half months of 2011 writing freelance and made approximately $2600 with no Federal withholding. I expected to pay 15% ($390) in taxes. When I entered this information into my return, I discovered that I had to pay $900 (35%) in taxes. That is a difference of $557 more in tax as a freelance contractor rather than an employee. I have no idea why the rules are so different for the same range of income, but they apparently are. At least I now know what to expect for next year and can prepare for it.
Deductible donations
We keep track of every transaction into and out of our credit union accounts on checkbook software. We give to our church all year long, and we make other various money and merchandise donations at times throughout the year. We keep all receipts from all donations in our tax folder so we can know at any time our total for the year to date. These donations reduce our taxable income, so we can calculate how much more refund we will receive or how much less extra tax we will owe depending on the year.
Adjusting our W-4 forms
We must consider our W-4 forms carefully from one tax season to the next. We must decide if we want more taxes deducted and have less net pay or have less tax deducted but more net pay. A large refund looks great, but it means we had too much tax deducted from our salaries. We deduct for our joint marital status with one dependent (our son) on our W-4 forms. That way, we have a little more in our paychecks each payday and still have a nice little something to look forward to each spring.
When I taught as an adjunct employee, I would claim single with no dependents on that W-4 and have additional taxes withheld from that extra income to reduce our tax burden the next spring. That job has gone away, so I now have to plan and save to cover the tax for my writing, which does not withhold tax.
Careful planning each year
The process resumes each year, and it takes careful planning. We keep track of tax law changes as much as we can. It does not always work the way we want, but we normally get that modest refund to help get us through our summers or pay down some bills. Careful planning and discipline allow us to reach our goals just as with any other major financial goal. Straying from the plan can ruin our goal very easily. Thankfully, we have learned from past mistakes, and we now understand how to manage all of our financial activity much better.
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Here is a great article I read about Employment and Self Employment Taxes. It is from SmartMoney taken from Yahoo Finance, written by Bill Bischoff. You have been hearing a lot about raising taxes and tax breaks. That all has to do with Income Tax. These are the other (not so) little taxes that everyone pays. As it stands right now, the money will run out, so one of two things needs to happen. We need to pay in more, or there needs to be less paid out. Over the next 20 years, I bet you can expect both of these things to happen, as well as the age ceiling raised for when you get your payouts.
-David Bixel
SmartMoney
While you hear a lot about the federal income tax, you don't hear much about the Social Security tax. That's odd because for many folks especially the self-employed Social Security tax can be the bigger hit. Here are some little-known truths about how the Social Security tax works and how much it can amount to.
As an employee, your wages are hit with the 12.4% Social Security tax up to the annual wage ceiling. Half the Social Security tax bill (equal to 6.2%) is withheld from your paychecks. The other half is paid by your employer. Unless you understand how the tax works and closely examine your pay stubs, you may be blissfully unaware of how much the Social Security tax actually costs.
The Social Security tax wage ceiling for both 2010 and 2011 is $106,800. If you made that much or more last year, the Social Security tax hit on your 2010 wages was a whopping $13,243 (12.4% x $106,800). Half came out of your paycheck. Your employer paid the other half.
For 2011, the tax hit is less, thanks to a one-year 2 percentage-point reduction in the Social Security tax withholding rate on wages -- from the normal 6.2% to 4.2% (your employer's 6.2% rate is unchanged). For 2012 and beyond, however, Social Security tax withholding on your wages will jump back to the standard 6.2% rate.
While many employees may not realize the magnitude of the Social Security tax, self-employed folks know it all too well. That's because the self-employed must pay the entire 12.4% tax rate out of their own pockets, based on the amount of their net self-employment income. This is one big reason why companies often prefer to treat workers as self-employed independent contractors rather than employees. Companies don't owe any Social Security tax on amounts paid to independent contractors.
For both 2010 and 2011, the Social Security tax self-employment income ceiling is $106,800 (same as the wage ceiling for employees). So if your 2010 self-employment income was $106,800 or more, you paid the Social Security tax maximum of $13,243 last year (12.4% x $106,800 = $13,243).
In 2011, the hit will be less thanks to a one-year 2 percentage-point reduction in the Social Security tax rate on self-employment income -- from the normal 12.4% to 10.4%. For 2012 and beyond, however, the Social Security tax on self-employment income is scheduled to return to the standard 12.4% rate.
To give you an idea of how the Social Security tax can add up over your working life, consider my personal situation. In 35 years behind the grindstone (about half as an employee and the other half self-employed), I've paid $219,000 in Social Security tax. My employers paid another $41,000. That amounts to $260,000 in total. During my time as a self-employed guy, I've had some years where my Social Tax bill exceeded my combined federal and state income tax bills.
Believe me, if I could get the $260,000 back, stop paying the tax, and forego receiving any benefits, I would do it in a heartbeat. In fact, if I could just stop paying the tax in exchange for walking away from any future benefits, I would do that too. Why? Because I have big doubts I will actually receive the promised level of benefits when the time comes.
And thanks to the government's official contention that there has been little to no inflation over the past few years, the Social Security tax ceiling has been stuck at $106,800 since 2009. However, the latest Social Security Administration projection says it will start rising again in 2012 and beyond. The projected ceilings for the next nine years are as follows.
If these numbers pan out, the maximum Social Security tax hit in 2020 would be $19,009 (12.4% x $153,300). That's assuming Congress doesn't increase the tax rate, which could easily happen. There's also a chance the ceiling will be increased beyond what you see here or even entirely removed in an attempt to put the system on a sounder financial footing. If there's no ceiling, you would owe Social Security tax on wages and self-employment income on every dollar you earn.
Another misunderstanding about Social Security: Some people think the government has set up an account with their name on it to hold the money to pay for their future Social Security benefits. After all, that must be where all the Social Security taxes on people's wages and self-employment income go, right? Wrong. There are no individual accounts. In fact, when the Social Security system runs a surplus (which it has in most years until now), the federal government sucks out the excess cash and issues the system an IOU. But the only way those IOUs will ever be paid is through future taxes. Meanwhile, the system is now projected to run out of money (including those nebulous IOUs) in 2036 unless taxes are raised or benefits are cut.
WASHINGTON – A Social Security tax cut that economists say should help the economy this year is off to a slow start. Consumers increased their spending last month at the weakest pace since June, even with the extra money in their paychecks.
Some people may be using the additional money to pay down holiday credit card bills or higher gas prices, analysts said. And harsh weather may have deterred some people from shopping in January.
Personal finance experts say the real test of the tax cuts impact will come this spring, when the Easter holiday sales begin.
Still, consumers increased spending by only 0.2 percent in January, the smallest gain since June, the Commerce Department said Monday. At the same time, their incomes rose 1 percent — the biggest jump in nearly two years and a reflection of the tax cut.
The increased income is part of an additional $110 billion that economists say workers will receive this year from the cut in their Social Security taxes. Most families will see about $1,000 to $2,000 in extra income. Households with two high-income earners could receive up to $4,000 more.
In December, when President Barack Obama signed the tax cut as part of a broader tax package, economists predicted Americans would spend about two-thirds of the extra money and save the remaining one-third. Higher-income taxpayers were expected to save a little more; lower-income households would spend a bit more.
Economists said the extra spending would help boost growth and could lead businesses to hire more. Still, all that was before tensions in the Middle East sent oil prices spiking. And a surge in global commodity prices is now expected to push U.S. food prices up slightly this year, too.
Many analysts say such inflation could siphon off most of the benefit of the tax cut. Several scaled back expectations for growth Monday after seeing January's disappointing report.
"It doesn't look like the economy is going to get any strong net boost from the Social Security tax cut," said Paul Dales, senior economist at Capital Economics. "It will just go to pay higher prices on food and energy."
Consumer spending was growing at the fastest pace in four years in the final three months of 2010, helping to support the overall economy. The weak showing in January raised questions about how strong consumer spending, which accounts for 70 percent of economic activity, will be this year.
The modest 0.2 percent rise in spending was even weaker when inflation was taken into account. After adjusting for price changes — particularly a steep rise in energy costs — spending actually dipped 0.1 percent in January. That was the poorest showing since September 2009.
One factor that the report doesn't take into account is how much was spent on reducing debt. Households may have boosted their spending in December — after hearing about the pending tax cut — and spent the extra money in January to pay credit card bills.
Marshal Cohen, chief industry analyst for a N.Y.-based consumer market research firm, cautioned that most people might not have spent a lot because they didn't see much change in their income after only one month.
"One or two percent in your paycheck is not going to change the way you live," said Cohen, of the NPD Group Inc. in Port Washington. "It'll make living easier. What it will do is keep you spending the way you've been spending, so it will keep the status quo."
Over time, however, as consumers have the opportunity to pay down credit card and other debt, they'll feel more like spending again, Cohen said.
That could bode well for retailers, who are now looking for shoppers to open up for spring.
"I think the next big event we need to watch for is Easter sales," said Arun Jain, professor of marketing research at the University at Buffalo School of Management. "That will reflect what they want to buy for spring. That to me will tell us how confident they are."
An early sign of that would be an increase in clothing sales at discount department stores such as Sears, J.C. Penney, and Target, Jain said.
J.C. Penney launched its spring advertising during Sunday night's Academy Awards show, buying seven 30-second commercials focusing on its "We make it affordable, you make it yours" clothing campaign.
"When people get these types of paycheck boosts from the government, typically the first area people will spend on is essentials for the family," Jain said.
Job growth would also boost spending.
Sal Guatieri, senior economist at BMO Capital Markets, predicted the government will report Friday that the economy added around 200,000 jobs in February, much better than the 36,000 jobs created in January.
Still, the weak January spending data caused him to trim his forecast for overall economic growth for the current quarter from a rate of 3.5 percent down to 3.2 percent.
He said the January numbers suggest many families are still stretched financially.
"The key going forward will be job growth," he said. "If we start to see jobs growing in a stronger fashion, that will support the consumer in the face of rising gasoline and food costs."
1. "Like it or not, you may need help with your taxes."
When Cindy Hockenberry and her husband sent in a tax-penalty payment in 2007, they knew there was a chance their math might not jibe with the IRS's. When that turned out to be true and the amount was much higher than expected, they decided to dispute it. Fortunately for them, Hockenberry's a pro. As tax research coordinator at the National Association of Tax Professionals, she spotted a glitch in the IRS's calculation; after visiting the local IRS office, the agency admitted its mistake and lowered the penalty. "There's no way the average taxpayer would have noticed," she says.
As recently as 2000, less than half of all taxpayers were using a preparer. Today 80 percent use software or a tax pro, "because they're scared of making a mistake," says Nina Olson, the National Taxpayer Advocate. "That's a sign the system's too complex." A pro may not be necessary for basic returns that include just a W-2 and, say, mortgage interest; in those cases, TurboTax will do. However, if you've made a lot of market moves or run a side business, consider a preparer. (You can find one at www.natptax.com; expect to pay $150 to $200 per return.)
2. "You don't have to be rich to get audited."
The IRS's job is to enforce the tax laws enacted by Congress and to collect what's due. Its primary weapon? The audit, whose use has more than doubled since 2000, to surpass 1 percent of all returns, according to the Transactional Records Access Clearinghouse, a Syracuse University data-research organization. The increase can be attributed to the rising number of so-called correspondence audits -- those done through the mail asking for specific information rather than, say, investigating your whole return, says Susan Long, codirector of the organization. "It's more efficient."
One way to get the IRS's audit sensors tingling is to claim deductions much higher than are typical for your income level. We'd share them with you, but the IRS keeps that information under wraps. What's more clear: Big charitable donations have been getting a much closer look, says Bob Meighan, VP of TurboTax. "It's been an area of abuse for a while," he says. To protect yourself, get a receipt for any donation you plan on deducting. And keep those receipts for seven years -- unless it suspects you of outright fraud, that's how far back the IRS will go with an audit.
3. "Fear is often our best weapon."
The threat of an audit is enough to send many folks scurrying to their tax preparer, and no wonder. "With audits, you're assumed guilty until proven otherwise," says Long. It's this fear, coupled with the complexity of the system, that causes some to overpay their taxes by not taking deductions they're entitled to, according to experts. A study by the Government Accountability Office found that 2.2 million people a year overpay, by an average of $438. "Americans are leaving a lot of money on the table," says Roni Deutch, a Sacramento-based tax attorney.
When the alternative minimum tax was introduced in 1969, it affected only a handful of taxpayers with high income and big deductions. But by 2010, it will hit 87 percent of married couples with income between $75,000 and $100,000. That's not what it was designed to do; the AMT was meant to force big earners with lots of deductions to pay their fair share. Now it "brings in a group of taxpayers the IRS has no problem with," says Olson. "The AMT has run its course." The problem is, the AMT hasn't been updated to account for inflation. Instead, Congress has been adjusting exemption criteria on a yearly basis. "It's just a Band-Aid," says Hockenberry.
The Band-Aid in this year's stimulus plan reduces the number of taxpayers subject to the AMT to 4.4 million -- it would've been 30 million, according to the Tax Policy Center. But if you're living in a high-tax state or married with two or more kids, you might find as you calculate both your regular return along with the AMT -- form 6251, which taxpayers are responsible for -- that you could be liable for the latter. Confused? The IRS offers AMT assistance at www.irs.gov; click on "Online Services."
5. "Just because we billed you doesn't mean you owe us money."
Receiving a CP2000, also known as a correspondence audit, sure sounds scary, but in most cases, you don't actually owe any more money. Not that the IRS will make that clear -- it's likely billing you because of a discrepancy on a certain deduction or reported income; then it's up to you to prove otherwise. But as the number of these audits have risen, up 176 percent since 2000, the chance for error goes up as well. The IRS says 98 percent of the audits it sends out require clarification, not payment, but Charlotte Ogorek, an Illinois-based enrolled agent, thinks it's more like 85 percent.
Even if the charge is unfounded, to appeal it could cost you anywhere from $500 to $4,000, depending on how long it takes, says Bill Wandel, a licensed taxpayer rep at JK Harris. If you plan to challenge a CP2000, contact your local taxpayer advocate from the IRS (go to www.irs.gov/advocate to find yours), who will provide advice and representation free. If it turns out you need even more expertise, contact a tax lawyer or an enrolled agent (a professional licensed by the IRS to represent taxpayers in front of the IRS). Find one at www.naea.org.
6. "If you don't pay, we'll sic a collection agency on you."
If you thought dealing with the IRS was bad, wait till you're past due on a payment and get turned over to one of the two private collection agencies the IRS taps to help collect its money. Since 2005, the IRS has been assigning delinquent taxpayer accounts to either Pioneer Credit Recovery or the CBE group of Iowa -- much like any other business or lender. "These are federal taxes," says Olson, the National Taxpayer Advocate. "The IRS should be collecting them." The retention of these private agencies costs $7.65 million annually, yet when the IRS works these cases instead, "it's three times more productive," Olson says. (A spokesperson for Pioneer Credit Recovery and CBE says the issue isn't who can do the work more efficiently; it's whether these taxes would be collected at all without the private collection agencies.)
If the IRS puts a private collection agency on your case, Olson says the first thing to do is to request that your case be turned back over to the IRS. The reason: IRS collectors have the authority to offer you a compromise settlement, something the private agencies aren't authorized to do.
7. "Want to go green? We'll help pay."
Tucked into last year's unprecedented $700 billion bailout plan was some pork that even a vegan could love. Congress not only added an extension of the eco-friendly Energy Policy Act of 2005, which was set to expire at the end of 2007, but it also sweetened the pot for homeowners looking to green up their homes.
Want to grab some energy from the sun? Starting in 2009, a number of energy-saving steps will garner tax breaks for green consumers. Installing a photovoltaic system for solar energy, for example, will net you a tax credit worth 30 percent of the total cost; at www.solar-estimate.org you can find out the price and potential savings of installing a system in your neighborhood. Or if you're gung-ho for wind energy, you'll get up to $4,000 or 30 percent of the cost of installing a small home windmill system to generate energy. Check out the National Renewable Energy Laboratory's "In My Backyard" tool at its Web site to see how much energy you can expect to get from a windmill. For homeowners who aren't looking to go quite that green, there will be a $500 onetime credit for installing energy-efficient windows, insulation or a central air system.
8. "April 15 isn't necessarily a hard deadline."
If you're one of the 112 million taxpayers who receive a refund every year rather than owing more, you have a lot more flexibility around the standard Apr. 15 deadline than you might think. Feeling rushed this year? By filling out IRS form 4868, which you can find online, you can buy yourself a no-questions-asked six-month extension on filing your taxes. And you can file the form requesting your extension as late as Apr. 15 without incurring any penalties. The only catch -- and it's significant for some: If you do owe any taxes, then you must still pay those by the 15th.
How do you know if you're going to owe taxes this year? If your life is basically the same year to year, then your refund is pretty much on autopilot, says Bell. But any big changes -- such as a large increase in salary, unexpected commission or year-end bonus, or having a child go from dependent to independent -- could potentially swing you into the loss column. So when in doubt, do the math in advance, or check with a tax pro to see if there's anything you should be worried about.
9. "We may be a government agency, but that doesn't mean your data's safe."
One things you may not be thinking about as you file your taxes this year is that the documents you're sending off to the IRS contain virtually every piece of information an identity thief would ever need to drive your credit, and your sanity, into the ground. And considering that data breaches are on the rise -- up 47 percent in 2008 from 2007, according to nonprofit Identity Theft Resource Center -- protecting your information, which includes your Social Security number and home address, should be paramount. But a recent report by the Treasury Inspector General for Tax Administration (TIGTA), an independent IRS oversight organization, casts some doubt on the agency's ability to protect your information. For example, TIGTA says two new systems the IRS is implementing to manage taxpayer accounts and account data were "deployed with known security vulnerabilities in the controls over sensitive data protection, disaster recovery and system access."
Alarming as this information is, it's hardly a new problem at the IRS, says J. Russell George, inspector general for TIGTA. "We've seen this before when they implement a new system. The organization's unwillingness to change its behavior is potentially harmful to taxpayers," he says. (The IRS had no comment.)
10. "We may still have your refund."
Waiting on a refund? Typically, it takes three to six weeks to get your money back from Uncle Sam, depending on whether you e-filed or sent your paper return through snail mail. Either way, the IRS does a pretty good job, by and large, of getting refund checks out to taxpayers in a timely manner. But the agency's record is hardly perfect: Every year a fraction of refunds -- belonging to more than 100,000 taxpayers, and with an average due of $988 -- never get to their destination.
What's the problem? According to the IRS, these undelivered refunds are mainly due to issues regarding the accuracy of a taxpayer's mailing address or direct-deposit information. For example, people move and don't leave a forwarding address, handwritten returns may be illegible, or the direct-deposit routing number may be off by a digit or two. If you haven't received your tax return in a reasonable amount of time, check out the IRS's "Where's My Refund?" tool on its Web site.
