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Economic News Reports

Financial Advice: Top 5 Tax Questions

Financial Advice: Top 5 Tax Questions

Taxation is a general concept for devices used by governments to extract money or other valuable things from people and organizations by the use of law. A tax formula contains at least three elements: the definition of the base, the rate structure, and the identification of the legal taxpayer. The base multiplied by the appropriate rate gives a product, called the tax liability, which is the legal obligation that the taxpayer must meet at specified dates.



I know that this may sound technical, but it is important to understand what tax is in order to avoid tax debt pitfalls.

The purpose of taxation is to finance government expenditure. One of the most important uses of taxes is to finance public goods and services, such as street lighting and street cleaning.

Some tax questions come up every season, such as the details behind the earned income tax credit or which education credits to claim. Other issues come up so infrequently that they raise even more questions when people run into them, like whether a foreclosed home is counted as income because the debt was canceled.

These are the top tax questions tax pros say they get from filers, and their answers.

1. Does cancellation of debt count as income?

Should you owe money to somebody, whether in the form of credit card debt, a loan on your home or student loans, and the debt is canceled, such as having your house foreclosed, the amount written off is counted as income to you says Lindsey Buchholz, principal tax research analyst for H&R Block which says this is one of the top tax debt questions it's getting from customers this year. But you report the debt as income in the year it was actually canceled.

If you are insolvent at the time of the settlement, meaning you have more liabilities than assets, then you should not have to pay any taxes on the forgiven debt.

The publication you want to review is IRS publication 4681. You need to read about the exemption for insolvency.

You need to calculate your net worth and if it’s negative, you won’t owe any money on your forgiven credit card or other debts. Always speak with a tax professional to confirm for your unique situation.

2. What constitutes earned income for the earned income tax credit?

Buchholz says people often don't know what counts as "earned income" and that people also often move in and out of eligibility for the earned income tax credit, which is why this tax question comes up year after year as a source of confusion for tax filers.

The earned income tax credit provides money back to low-income individuals and families whose incomes fall below certain thresholds.

Earned income is wages, tips, salaries, self-employment earnings and some long-term disability benefits. Investment income does not count as earned income, and if you otherwise qualify for the earned income tax credit, but have investment income above $3,350, you're no longer eligible, Buchholz says.

Interest, dividends, retirement income, Social Security, unemployment benefits, alimony and child support do not count as income toward the EITC.

Childless adults can use earned income credit.

Some stories incorrectly referred to the significance of investment income on the Earned Income Tax Credit. Investment income does not count as earned income and if someone is eligible for the credit, but has investment income above $3,350, they no longer qualify for the Earned Income Tax Credit.

3. Who counts as a dependent?

This is a common tax question, particularly from unmarried couples wondering if they can claim a boyfriend or girlfriend as a dependent, says Lisa Greene-Lewis, Certified Public Accountant, who monitors the questions on TurboTax, she claims that people are often surprised to learn that in some circumstances, they can.

"There are some qualifications," she says. "If you're not a relative, the person you're trying to claim has to live with you the entire year. you have to provide over half of their support, and they can't make over $3,950."

Grandparents can also claim grandchildren as dependents if they've provided more than half of the kids' support, but the kids don't necessarily have to live with a grandparent to be able to be claimed.

4. If I freelance, how often do I have to do my taxes?

This is one frequent tax question among freelancers, they often don't realize that they have to submit their taxes four times a year, says Sara Horowitz, founder and executive director of Freelancers Union and author of an e-book called The Freelancers Union Guide to Taxes.

"The federal government wants you to pay taxes on your money as you earn it," Horowitz says. "They don't want you to hold on to it interest-free until the end of the year." Freelancers have to submit estimated taxes on Jan. 15, April 15, June 15 and Sept. 15 each year.

5. As an independent contractor, what can I deduct?

"Every year around this time, I get calls related to tax questions about whether various things can be deducted, like meals, travel, marketing," says Scott Bishop, director of financial planning at STA Wealth Management in Houston. When it comes to being self-employed, the more documentation and notes you have about your business expenses, the better, Bishop says.

Typically most tax questions are related to deductions, in general you can deduct any expenses directly related to doing business, whether it's the Wi-Fi in your home office or camera equipment you have to buy if you're a wedding photographer. You can't deduct expenses that would be considered optional for the job or are also for personal use, such as clothes for an event or a spouse's airfare if they come along on a business trip.

"Deduct what you think you can deduct, but document it very very well," Bishop says. "If you go for a business meal you want to write on that receipt who you saw and what you talked about."

Your Rights as a Taxpayer

When thinking about taxes many things come to mind but one thing you should remember is the IRS Taxpayer Bill of Rights

After researching the tax questions that people ask for the most I found out that most people do not even know that they have rights as a taxpayer, Whether or not you agree with the arguments above, the IRS gives you certain rights regarding your taxes.

The IRS provides the following ten rights so they can work with you, not against you:

    The Right to be Informed

    The Right to Quality Service

    The Right to Pay No More than the Correct Amount of Tax

    The Right to Challenge the IRS's Position and Be Heard

    The Right to Appeal an IRS Decision in an Independent Forum

    The Right to Finality

    The Right to Privacy

    The Right to Confidentially

    The Right to Retain Representation

    The Right to a Fair and Just Tax System

For more information about your taxpayer rights, review IRS Publication 1, Your Rights as a Taxpayer.

Bottom Line

At the end of the day, taxes are like a foreign language to anyone. It is only natural to have questions. Knowing your rights as a taxpayer is important and it may benefit you longer down the road. Should you have trouble with your taxes and have one of the above frequently asked questions, consider consulting with a tax debt professional.



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