The Costliest Mistakes You Can Make on Your Taxes

DailyWorth

What if just a few hours — or even minutes — of effort could result in hundreds, maybe even thousands, more dollars in your bank account? You’d make the effort, right?
 
Well, maybe. At tax time each year, many of us take shortcuts or overlook important items that cost us big bucks, payable to Uncle Sam. Next year, don’t pay more than you owe. Rather than waiting until the last minute then rushing to file your taxes on time, start early and put in a little time. Do more research. Plan ahead. And you’ll be able to avoid these costly tax mistakes.

Skipping Charitable Deductions

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Donating money, goods or services to a charitable organization and neglecting to take deductions for those contributions can be a costly mistake for many taxpayers, says Steven Warren, CPA at Minneapolis-based Lehrman, Flom & Co. While most of his clients deduct all of the charitable contributions they are entitled to, “sometimes I don’t learn about all of their deductible contributions until I start asking them about deductions I suspect they may have,” Warren says. You can deduct your out-of-pocket charitable contributions as well as mileage for charitable activities. 
 
You can take deductions for cash and non-cash charitable donations, such as used clothing or furniture. To take this deduction, you must maintain as a record a written communication from the qualified organization including the date and amount of the contribution. For non-cash contributions of $250 or more, you’ll need a written acknowledgement of the contribution from the organization, with a description and a good faith estimate of the value of the goods and services.

Omitting the Home Office Deduction

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If you work from home, don’t be shy about claiming a home office deduction, says Bryan Pukoff, CPA, principal in charge of tax at Rehmann’s Southeast Region. This year, the rules for home office deductions have been loosened, so taking it requires less time-consuming figuring and recordkeeping.
 
“The home office must be used regularly and exclusively for business,” Pukoff says. “Under a new simplified option, taxpayers can take $5 a square foot up to 300 square feet without worrying about the paperwork and recordkeeping burden of claiming actual expenses.” 

Alternatively, you can keep track of household expenses such as utilities and pest control and deduct the percentage of those expenses to reflect the amount of space your office uses in the house. (For instance, if your office occupies 5 percent of the square footage of your house, deduct 5 percent of household expenses.) 

Overlooking Other Deductions

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In addition to charitable contributions and your home office, many taxpayers forget other important expenses that qualify for deductions. For instance, you can deduct for:

  • Job-hunting expenses. That includes mileage, business cards, subscriptions to job posting websites and admissions to job fairs.
  • Education expenses. The Tuition and Fees Deduction allows you to deduct up to $4,000 from your income for qualifying tuition expenses paid for you, your spouse or your dependents. These expenses cannot include room and board, transportation or other optional expenses.
  • Home mortgage expenses. The interest you pay on a home mortgage is almost always deductible. When you refinance, the deductible mortgage points must be amortized, or spread out over the life of the loan, rather than deducted all at once.

Forgetting Income

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If you earn dividends and interest on brokerage or investment accounts, it may be easy to forget about that income when tax time rolls around. But it’s still income and it must be reported; otherwise, you’ll end up owing taxes plus interest. If your brokerage firm sends you a 1099, they’re also sending a copy to the IRS. So if you don’t include it on your tax return, the IRS will bill you later — and the bill will be bigger. For each month or part of a month that the tax remains unpaid, the IRS imposes a failure-to-pay penalty of .5 percent. (The late payment penalty cannot exceed 25 percent of the net amount of the tax due.) 

If you’ve sold stocks or other investments, take time to track the cost basis, Warren says. Without the cost basis, you will have to pay taxes on the entire sales price. But if you report the cost basis, you’ll only have to pay on the earnings (or possibly get a refund, if you sold the investment at a loss). A more common basis mistake is not including the reinvested dividends, which causes you to underreport and not pay enough in taxes, Warren says. If you do that, you’ll again be responsible for paying the owed tax plus interest and penalties.

Withholding Too Much from Paychecks

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The most common costly mistake made by average income earners is to withhold too much money from their regular paycheck, says Brian Heckert, founder of Financial Solutions Midwest. “We find that most employees are withholding too much through the W-4, which then reduces their weekly income,” Heckert says. “Sometimes this can amount to over 8 percent of their income. By simply withholding the correct amount, they can use that extra 6 percent to 8 percent towards saving into a 401k plan and thereby save taxes and increase their retirement income.” 

While 6 percent to 8 percent may not seem like a lot, average earners who correct such a mistake could increase their savings by up to $4,000 per year, which could amount to $400,000 more in retirement savings over a 30-year period, Heckert says. By paying more than you owe, you may wind up with a larger refund, but you’ve essentially given the IRS an interest-free loan all year long.

Selecting the Incorrect Filing Status

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Taxpayers who don’t use the filing status that is correct or best for their situations often end up paying much more in taxes than required, Warren says. If your life situation has changed or will change, he advises telling your CPA — ahead of time, if possible — to allow time to plan.
 
For instance, most married people pay less tax if they file jointly. Those who have children or other dependents living with them will usually pay less tax if they file as “head of household” or “qualifying widow(er)” than if they simply file “single.”
 
While using the wrong filing status is a mistake that can be corrected, it’s a hassle. If you realize you’ve done this, “file an amended tax return to correct the situation shortly after discovery,” Warren says. “You will either receive any refund due or have to pay in with the amended return, depending on the change. However, if the statute of limitations has expired, then it is too late and you need not bother amending.”

Missing Deadlines

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One of the most frequent costly tax mistakes people make is simply not filing on time “and not paying enough in a timely manner,” Warren says. When the IRS says April 15, they mean it.
 
Sure, you can file for an extension — but if you wait to pay owed taxes whenever you submit the late return, you will also owe interest and possibly penalties. To save the most money, plan ahead and file on time, paying any owed taxes when due.

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