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Navigating Tax Season with Clarity: Understanding Income Taxes

According to the National Taxpayers Union Foundation (NTUF), taxpayers and businesses spend around 6.5 billion hours each year just to comply with tax filing requirements, costing a staggering $364 billion.

While the details of taxes can be complex, the income tax process itself is straightforward. However, many Americans prefer not to deal with it, which is why almost half hire a tax professional for their annual filing.

While the details of taxes can be complex, the income tax process itself is straightforward. However, many Americans prefer not to deal with it, which is why almost half hire a tax professional for their annual filing.

Getting Started

The tax process starts with income, and generally, most income received is taxable. A taxpayer’s gross income includes earnings from work, investments, interest, pensions, and other sources. All these sources of income are combined to calculate the taxpayer’s gross income.

What’s Not Considered Income?

Some items are not considered income, such as gifts, inheritances, workers’ compensation benefits, welfare benefits, or cash rebates from a dealer or manufacturer. In 2024, you can gift up to $18,000 per person without triggering gift or estate taxes. An individual can give away up to $13,610,000 without owing any federal tax, and couples can leave up to $27,220,000 without any federal tax. Note that some states may have their own estate tax regulations.

From gross income, certain adjustments are subtracted. These adjustments may include retirement plan contributions and half of self-employment taxes, among other items. This results in the adjusted gross income.

Next, deductions are subtracted from the adjusted gross income. Taxpayers can choose between the standard deduction or itemized deductions. The standard deduction amount varies based on filing status, as shown on this chart:

Filing Status Married

(Filing Jointly)

Married

(Filing Separately)

Single Filers Head of Household
Standard Deductions Amount $29,200 $14,600 $14,600 $21,900

Chart Source: IRS.gov, 2024

Itemized deductions can include state and local taxes, charitable contributions, mortgage interest, and certain unreimbursed job expenses. Note that there are limits on the amount of state and local taxes that can be deducted. For example, the mortgage interest deduction is limited to the first $750,000 of the loan, and the state and local income taxes deduction is capped at $10,000.

Once deductions are subtracted, the result is taxable income. Taxable income determines the gross tax liability. Finally, any tax credits are subtracted from the gross tax liability. Taxpayers may receive credits for various items, including energy-saving improvements, resulting in the taxpayer's net tax.

Understanding how the tax process works is one thing; actually doing it is quite another. Always consult with a tax professional and financial adviser to tailor these strategies to your specific situation. While some may feel confident handling their own finances, enlisting the help of a professional can potentially help save you time and money. Ready to meet with a OneDigital adviser to discuss your unique needs? Schedule a one-on-one today!

Looking to learn more about the ways your investment structure impacts your taxes? Check out the article, “Tax Tips, Tools, And Answers For An Easier Tax Season” to get answers to some of your frequently asked questions, like, how do retirement plan and health savings account (HSA) contributions affect my tax bill and are my social security benefits taxable?

Investment advice offered through OneDigital Investment Advisors LLC, an SEC-registered investment adviser and wholly owned subsidiary of OneDigital.

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