This article by Col. Curt Sheldon, USAF (Ret) originally appeared in Military Officer, a magazine available to all MOAA Premium and Life members. Learn more about the magazine here; learn more about joining MOAA here.)
With two months left to file your personal income taxes, it’s time to learn some lessons from the major changes to the U.S. tax code that taxpayers encountered last year. Here are pro tips for military taxpayers to see how those changes work for you and how to make the most from your 2019 returns.
1. You Might Want to Itemize, Even When You Can’t
Around tax season, I often have people tell me, “I can’t itemize this year.” That actually isn’t true. Under the tax code, you elect to itemize your deductions. You can itemize even if the amount you itemize is less than the standard deduction. So why would you want to do that?
Prior to the Tax Cuts and Jobs Act (TCJA), it usually didn’t make sense to elect to itemize if your itemized deductions were less than the standard deduction. That isn’t the case anymore. Under the TCJA, the standard deduction essentially doubled for most taxpayers. Many states didn’t follow suit, and most states require that if you take the standard deduction on your federal return you must take it on your state return. Therein lies the problem.
[RELATED FROM 2019: Read Before You File: MOAA’s 5-Part Series on Tax Code Changes]
You might end up with a really small standard deduction on your state return, which results in paying more state taxes than what you save by taking federal standard deduction. This applied to several of my tax clients in 2018.
Here are real results from a return I worked on for two retired Army officers. They had $10,000 in state and local taxes (SALT) and $13,937 in mortgage interest for a total of $23,937 in itemized deductions — just below the standard deduction. If you pay state income taxes and have combined deductions close to the standard deduction, calculate your taxes both ways.
2. Consider Deducting Sales Tax Instead of Income Tax
If you itemize your deductions, you have the option of choosing between claiming your state income tax paid or an estimate of state sales tax paid. For most retired officers and those on active duty who pay income tax, the sales tax deduction will be less than the income tax deduction. Even if that is the case, you might want to consider taking the sales tax deduction anyway.
Under the old tax law, that didn’t necessarily make sense. Under the TCJA, it might. That is due to the limitation on SALT deductions. You can only deduct up to a maximum of $10,000 in SALT. If you pay a lot in property taxes, you might be close to that limit, and claiming the sales tax might get you to $10,000.
What difference does it make? Well, state income tax refunds are taxable income, if you take a deduction for paying them. If you deduct sales tax instead, your state income tax refund will not be taxable.
To get the maximum sales tax deduction, include your tax-free income in the calculation of the sales tax deduction. Active duty servicemembers will want to include Basic Allowance for Housing and Basic Allowance for Subsistence. Retired officers will want to include any VA disability compensation.
What if the sales tax won’t get you to the $10,000 limit? Then you should probably claim the income tax. If you receive a state tax refund, the taxable portion will be prorated.
3. Should You Claim Your Child as a Dependent?
One of the big things that changed with the TCJA was the elimination of exemptions. To refresh your memory, an exemption was an approximately $4,000 deduction from your income for yourself, your spouse, and each dependent on your tax return. The exemption was replaced with a $2,000 tax credit for children under age 17 and for $500 for other dependents.
When your children are young, there isn’t really any argument about whether they are your dependents or not. But once they head off to college, it becomes a little more blurry. Why should you want to get your child off your tax return? There are a couple of reasons:
Your child in college might qualify for the refundable portion of the American Opportunity Credit. (Your income might be too high for the credit.) This means your child could get a refund of income taxes greater than what was withheld from pay.
If your child has investment income, as a dependent that income will likely be taxed at a higher rate than if your child is not a dependent.
You can’t just arbitrarily decide that your child isn’t a dependent. If attending college and under age 24, your child is not your dependent if he provided more than half of his support. Determining support is a little complicated. But if you think your family’s tax burden might decrease by not claiming a child as a dependent, check IRS Pub 17 and sharpen your pencil to determine if your child isn’t your dependent anymore.
4. You Both Can Be Residents of the Same State
When I was on active duty and got married, my wife was forced to change her state of residency for state tax purposes when we moved.
About halfway through my career, the law changed and spouses of servicemembers were allowed to maintain the same state of residency as the servicemember if the spouse actually resided in that state with the servicemember. While not a part of the TCJA, that law changed in 2018.
On Dec. 31, 2018, President Donald Trump signed into law the Veterans Benefits and Transition Act. This law changed the Servicemembers Civil Relief Act to state that a spouse need not reside in the state of legal residence of the servicemember in order to claim that state as his or her residence for income tax purposes. The new law went into effect in 2018.
There are a couple of caveats:
- Based on the original law, both spouses must live together.
- Not all income is exempt. If you operate a business, your business income might be taxable by the state where the business is located.
If, on the other hand, the spouse is self-employed as a consultant, the state would not be allowed to tax the income.
If you weren’t aware of this change, you can file an amended return for 2018. That doesn’t mean the state will happily send you a refund.
You might have to provide more information. You’ll also want to take advantage of this benefit going forward.
[RELATED: MOAA's Military Spouse Page]
5. Make Sure You Plan Ahead to Bunch Charity Contributions
While I believe that it is good to support charity regardless of the impact on your taxes, that doesn’t mean that you shouldn’t maximize the tax benefit of doing so. As a result of the TCJA, you might want to do a bit of planning to maximize the benefit. The TCJA significantly raised the standard deduction. It just about doubled for most of us. That means it is more difficult to recognize tax benefits from contributions. However, if you bunch your contributions, you might improve your results.
One way to do this is to contribute every other year. Say your deductions — excluding charitable contributions — add up to $20,000 and you file as a married couple. Let’s also assume you routinely give $6,000 a year to your favorite charity. Add the two together, and you have $26,000 in itemized deductions.
But what if you went to your charity and said, “I’m going to support you like I always do, but instead of giving you $6,000 this year, I’m going to give you $12,000 in January.” How much would you save in taxes? Below are the results for a couple in the 22% bracket. If you routinely support charity, you might want to use this approach.
Col. Curt Sheldon, USAF (Ret), CPA®, EA, is a retired fighter pilot.