At Molen & Associates your tax preparation experience begins with a one-hour interview with one of our many competent tax professionals. You sit across the desk from them and as you hand them documents they ask you questions about your year. This hour is one of the most important financial hours of not only your previous year, where we handle the accounting of your income tax, but also for your coming year. Sitting in front of you is a tax professional ready to answer just about any questions you throw at them.
In this article I’d like to take a few minutes to tell you about the most common questions my clients ask me, in no particular order, and the answers I give them. As always, the answers in this article are of a general nature and are not applicable in every situation. To have your personal questions answered based on your specific facts and circumstances, give us a call today and get your free 10-minute phone consultation with a tax professional.
Q: Should I change my withholding?
A: In my experience there are four types of taxpayers
- The Owing Taxpayer – This taxpayer wants to owe at least $1,000 on their tax return because they can’t stand the thought of the federal government keeping one extra dollar of theirs during the year.
- The Break-even Taxpayer – This taxpayer would love if their refund and amount owed were both $0. The financial experts recommend you strive for this. However, tax laws and deductions are always changing and it’s easy to find yourself either owing $500 or getting a refund of $500. This taxpayer is comfortable with either outcome.
- The Buffer Taxpayer – This taxpayer says they “want to break even” but what they really mean is they want their bank account to at least break even, which means they really just don’t want to have to pay. They’re aware that their refund could be $0, or it could be $2,000. As long as the outcome is- they don’t have to write a check, they’re happy.
- The Big Refund Taxpayer – This taxpayer uses their tax refund as a quasi-savings account. They know they pay too much federal income tax withholding from their paychecks, but they use that large refund amount to take trips, buy necessary household appliances, vehicles, etc.
Which of these taxpayers is right? The answer is any of them. They each make decisions for themselves and accept the outcome. Which taxpayer are you? Is that where you want to be or if you could choose would you be in a different group? You can choose, and our tax professionals can help you! (See THIS blog post for more information on Tax withholding)
Q: I got married last year, how do I file?
A: Filing statuses are actually quite rigid, there is not nearly as much flexibility in which status to choose as many people would have you believe. If you are married by Dec 31st of the previous year, then you only have two options. Married Filing Joint or Married Filing Separate. I cannot begin to tell you the amount of times friends, families, attorneys or even divorce decrees give incorrect information in regard to filing statuses. If you are married, you absolutely cannot file two separate returns as Head of Household and Single respectively. You may file Married Filing Separate, but that comes with some potential downsides. Before making a decision on how to file, you should consult with a competent tax professional. (Read more about this topic on THIS blog post)
Q: I renovated my house last year, how much of it can I deduct?
A: This one depends on many factors, but generally the answer is $0. The maintenance, repairs, renovations and improvements on your primary residence are almost never deductible. That doesn’t mean they won’t help you in the long run, but you cannot write them off as an itemized deduction on your tax return. Instead, the amounts are used to increase your basis in your home. Basis is a running calculation to determine what you’ve paid for your home. In some cases, how much you’ve paid for your home, both the original purchase price and the improvements you’ve made to the home since you bought it, can be used to reduce capital gains tax on the sale of the home. Basis also matters for many other cases, such as the 2017 Hurricane Harvey Safe Harbor calculations.
Pro Tip: As long as you own the home you should keep documentation of all major purchases and improvements. Eventually you may need to prove them to either the IRS or potential buyers.
Q: I bought/sold/refinanced my house last year. What do I bring to my tax appointment?
A: Generally, you should bring the packet of paperwork you received from the title company at closing. That packet will contain a tremendous amount of unnecessary information but has the Closing Disclosure or HUD-1 Statement in it. If you’re familiar with these statements and can pull it from the packet and bring it to your tax appointment, it will save you from lugging that large file around. However, if you aren’t familiar with these two statements, then I suggest you bring it all. Additionally, you’ll need to determine if you paid any mortgage interest in that calendar year. If you did you should expect to receive a 1098 Mortgage Interest Statement in the mail by January 31st of the filing season.
Pro Tip: Some mortgage companies will post their statements online and will not mail them. They usually do this when you’ve elected to receive statements electronically rather than by mail. If you’ve done so you may need to check online for your 1098 Mortgage Interest Statement. This is especially true when you’ve sold a home, because often times they’ve disconnected your online account with that loan number, and it makes it even more difficult to find.
Q: I have taken/plan to take money from one of my retirement accounts. How does this affect my tax return?
A: Unfortunately, it has become more and more common for retirement accounts such as an IRA or 401(k) to be seen less as a retirement account and more like an emergency savings account. When taking distributions from retirement accounts you need to consider at what rate the money will be taxed. This is based on your tax bracket and the 10% penalty if you’re below the age of 59 ½. Let’s look at a hypothetical example:
In 2019 John Doe, a single 42-year-old marketing consultant, decides that he needs to take $20,000 out of his 401(k) in order to make some much needed repairs on his home. John earns a salary of $110,000 in 2019 without taking the retirement distribution into account. After his pre-tax contributions such as insurance and retirement contributions, as well as his other tax deductions, John expects to have a taxable income of $85,000. Based on this information the 401(k) distribution would be taxed at a marginal tax rate of 24%, but also will be subject to the early withdrawal penalty of 10%. This means he’ll pay 34% of his distribution in taxes, for a total tax of $6,800. When John requests the distribution he’ll need to have them send in that $6,800 as federal income tax withholding and he’ll only receive a check of $13,200.
If John needs to have cash-in-hand of $20,000 then the math changes again. He would then have to distribute about $30,000 and have $10,000 of federal income tax withholding just to receive cash-in-hand of $20,000.
Pro Tip: If you’re withdrawing money from an employee retirement account such as a 401(k), check to see if your plan has an option of borrowing against the account. If you have that option available, you may be able to save yourself a lot of money in the long run. Give us a call if you have specific questions!
Conclusion
I have answered hundreds of thousands of tax questions in my career. Many of those are commonly asked questions that I’m able to answer almost without thought. However, even after all of that I’m still surprised by some of the more odd or unusual questions clients ask me that I’d never heard before. Molen & Associates is committed to being an education focused firm. We will happily answer your tax questions while not just telling you the answer, but helping you understand the why. If you’ve ever wanted to know the “why”, Molen & Associates is the firm for you.
Call (281) 440-6279 and tell us what questions are on your mind today!
Kevin Molen
Tax Manager
