Saturday, April 27, 2013

What Happens if You Make a Tax Error? & Is It Better to Itemize Your Taxes or Not?

Gregory Hamel for Demand Media writes: Preparing a tax return can require filling out dozens of tax forms and making hundreds of calculations, which introduces the possibility that you'll make a mistake somewhere along the way. The effect of a tax error depends on a variety of factors such as what caused it and whether it resulted in an underpayment of tax. Small errors may do little more than cause a slight delay in processing your return, while major errors can result in tax penalties.


The complexity of tax filings makes it easy for small errors like mistakes in computations to find their way into returns. The Internal Revenue Service usually corrects small math errors for you, so you might not have to do anything to correct them yourself. The government can also request missing forms so that it is able to process your return. Certain mistakes, like listing the wrong Social Security number, may cause your return to be rejected, in which case you have to correct the error and resubmit it.


Mistakes that cause you to report the wrong amount of income or tax breaks are more severe than general errors. The purpose of a tax return is to ensure that you pay the correct amount of tax. Errors related to income reporting and tax breaks can cause you to pay the wrong amount. If the IRS suspects you are claiming too many deductions and credits or failing to report income, it can audit you to investigate your tax records. On the other hand, if you forget to claim tax breaks, you could end up paying more tax than you should.


If tax errors cause you to underpay on taxes or miss the tax filing deadline, you could be hit with tax penalties. According to the IRS, a late payment penalty of one-half a percent of the amount of tax you owe is tacked onto your bill for each month your payment is late up to a maximum of 25 percent. You can also be slapped with a failure to file penalty of 5 percent of the amount owed for up to five months until you submit your return. If you show disregard for IRS filing rules by making careless errors, you could face a 20 percent penalty for negligence. Intentional errors on a return can lead to a fraud penalty of 75 percent and criminal prosecution.


Although the IRS can correct certain small errors on your return, it is up to you to fix mistakes that cause you to overpay. You can alter a previously filed tax return by submitting an amended return using Form 1040X. An amended return can allow you to change your tax filing status and claim deductions and credits you forgot the first time around. Form 1040X must be filed within three years from the due date of your original return or within two years from the date you paid the tax, whichever is later. If your original return resulted in a tax refund, wait until you receive your refund before mailing in your amended return, which cannot be filed electronically.

Is It Better to Itemize Your Taxes or Not?

Filing a tax return gives you the chance to claim tax deductions that cut the amount of tax you owe. Each deduction you claim shrinks your taxable income, which reduces the amount you pay and may even drop you to a lower tax bracket. One of the most important decisions you make when fling a tax return is choosing whether to itemize your deductions. Whether it makes sense for you to itemize depends on your tax filing status and the itemized deductions you can claim.


The standard deduction is a fixed amount that the Internal Revenue Service lets you subtract from your annual income when filling out your tax return. If you claim the standard deduction, you can't itemize your deduction on Schedule A. The amount of the standard deduction varies depending on your tax filing status. For example, for the 2013 tax year the standard deduction is $6,100 for single taxpayers and $12,200 for married couples filing jointly.


Itemized deductions are tax write-offs that you can only claim if you forfeit your standard deduction and file Schedule A of Form 1040 with your tax return. A variety of common living expenses count as itemized deductions, such as property taxes, home mortgage interest, and certain medical and dental expenses. Certain job-related expenses like the cost of working out of a home office and using your car for your job are also deductible.


To choose the best deduction option, you need identify all of your itemized deductions and add them up. If the total of your itemized deductions is greater than your standard deduction, you stand to save on your taxes by itemizing. On the other hand, if your itemized deductions are less than your standard deduction, it’s better not to itemize. Homeowners are more likely to benefit from itemizing than renters, since property taxes and mortgage interest alone may exceed the standard deduction.


Most itemized deductions are offered on expenses over which you have little or no control. For example, you have to pay your property taxes and mortgage to keep your home. You can, however, boost your itemized deductions by giving to charity: you can take an itemized deduction for any cash you donate as well as the fair market value of property you give away. If your itemized deductions are just below your standard deduction toward the end of the year, charitable giving can put you over the top. You won't save money by itemizing if you use this strategy, though.
For example, suppose you're a single taxpayer in the 15 percent bracket, and your itemized deductions amount to $6,050. If you make an extra charitable contribution of $100, you will save $7.50 on your tax bill: the 15 percent of the extra $50 you got to write off by itemizing $6,150, instead of taking the $6,100 standard deduction. You've spent $100 to save $7.50. If your goal were strictly to save money, you'd be better off taking the standard deduction. On the other hand, this strategy can allow you to give money to a good cause and save yourself a few bucks.


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