Filing For Dollars: Seven Tax-Time Tips For Military Families
By Mitch Swanda, USAA Financial Planning Services
Spring 2005
Even with April 15 only weeks away, there is still time to reduce this year's tax bill.
It's tempting to rush through your tax return, even if it means passing up opportunities to save money. But investing some time in advance to plan this year's return can result in a smoother filing process - and a potentially bigger refund check.
Here are a few money- and time-saving tax tips for military families to consider this spring.
Count Your Combat Pay
Military members who served in combat zones last year stand to benefit from the Working Families Tax Relief Act of 2004, which President Bush signed into law in October. The new law allows combat pay - typically exempt from taxes - to count as income when calculating the Child Tax Credit, which can reduce a family's tax obligation by as much as $1,000 per qualifying child.
The law also gives military personnel the option to count combat pay as income if it will help them take advantage of the Earned Income Tax Credit (EITC). Depending on your income level, marital status and how many kids you have, the EITC could lower your tax bill by several hundred to several thousand dollars, some of which may be returned as a refund.
Contribute To Retirement Accounts
There's still time to sock away extra retirement savings and deduct it from your 2004 taxes, if you or your spouse didn't contribute the maximum $3,000 in 2004 to an Individual Retirement Account (IRA). If your modified adjusted gross income (MAGI) is less than $45,000 ($65,000 for a married couple filing jointly), the contribution can be fully deductible. You can take a partial deduction if your MAGI is between $45,000 and $55,000 (between $65,000 and $75,000 for married filing jointly).
As an alternative, the Roth IRA offers a different type of tax savings. The contributions are not tax-deductible, but the earnings grow tax-free and are tax-free for qualified withdrawals when you reach retirement age. To make the maximum contribution of $3,000, your MAGI must be less than $95,000 ($150,000 for married filing jointly). Those earning between $95,000 and $110,000 ($150,000 and $160,000 for married filing jointly) can make a partial contribution.
Both the traditional IRA and the Roth IRA generally allow 2004 contributions until April 15, 2005. Also, the maximum contribution increases to $3,500 for taxpayers who are age 50 or over by the end of 2004.
The military's Thrift Savings Plan (TSP) is another important investment vehicle offering the same benefit of tax deferment as a traditional IRA. Generally, contributions to the TSP are made on a pre-tax basis, unless you are contributing non-taxable income such as income earned in a combat zone.
Itemize To Maximize Deductions
It may be easier to take the standard deduction, but some people can save a bundle if they take the time to itemize specific deductions. Some deductions are well known, such as those for mortgage interest, state and local income taxes, and charitable gifts. But taxpayers sometimes overlook other opportunities for deductions that can add up to serious savings.
Certain expenses are deductible if, when combined, they add up to more than two percent of adjusted gross income. These include tax preparation fees, job-hunting expenses, professional dues and safe-deposit box rental, among others (find a full list of deductions at IRS.gov. Additionally, new legislation for 2004 allows those who itemize to deduct either their state income taxes or sales taxes. If you estimate that your total deductions add up to more than the standard deduction amount, itemizing is the way to go.
Military homeowners may qualify for a big break. Married couples can exclude up to $500,000 in profits from the sale of their home ($250,000 for a single taxpayer) from capital gains taxes, but typically the home must be the owner's principal residence for at least two out of the five years preceding the sale. However, a taxpayer or spouse placed on qualified official extended duty often can suspend the two-out-of-five-year stipulation for up to 10 years. The exemption applies retroactively to May 7, 1997. Go to IRS.gov and search for Publication 3, "The Armed Forces Guide."
Lay The Paper Trail
Effectively organizing your records may not cut your tax bill, but it can save money if it means less time spent by a tax professional sorting through your paperwork. Set a goal now to round up all of the proper documentation, including last year's tax forms, this year's W-2s and receipts for deductible expenses. Be careful not to throw out any tax-related documents even if they don't look important. In addition to a speedier and more accurate tax return, having the right information in your files can help you handle an audit if one should occur.
If you prepare your own return, determine which IRS forms you'll need to file your taxes and have them handy before you begin. Running to the post office or library isn't necessary these days, as most IRS tax forms are available online for easy downloading at IRS.gov. Most state-specific tax forms also can be found online at your state government's website.
Another indispensable document is the Armed Forces' Tax Guide (IRS Publication 3), also found on the IRS website. This guide explains the many tax rules that apply specifically to service members and contains detailed information about tax law changes for the current year.
Take Advantage Of Extensions
Uncle Sam realizes that when you're busy defending your country, your tax return is probably the last thing on your mind. Though you can't put off filing taxes forever, check to find out if you qualify for a deadline extension. Generally, if you or your spouse are serving in a combat zone or hazardous duty area, the IRS offers several options to let you delay filing returns, paying taxes, making claims for refunds, contributing to IRAs and other actions. A complete list of qualifying combat zones is in the Armed Forces' Tax Guide.
If the rules apply to you, you can file an extension and take up to 180 days after leaving the combat zone before filing or paying taxes. In the event that filing a return is still required, a durable power of attorney allows a designated person at home to complete the forms and submit them on the absent service member's behalf.
File Electronically, With Caution
Filing your return online can make the process faster and more convenient but, before you take your taxes to cyberspace, be aware of financial pitfalls to avoid. Depending on which service you use to e-file, enticing opportunities may arise to obtain "fast cash refunds," "instant refunds" or "express money," which promise to provide your refund on the spot. Be aware that these opportunities can be loans in disguise, known as refund anticipation loans (RALs), where you're required to pay back the amount when the real IRS check comes through. If the IRS denies your refund, you're still accountable for the loan.
The best bet is to wait for the official IRS refund, which can take a few weeks but usually shows up much faster when you file online versus mailing in paper forms. And if you opt to have the funds directly deposited into your bank account, you could receive a refund in as few as seven days.
Don't Deny A Helping Hand
Even with the best tax preparation software at your fingertips, you might find that you need some help, especially if you have a complicated tax situation.
Most major military installations have a tax assistance center staffed with trained military members or volunteers providing tax assistance and electronic filing for free. Service members stationed abroad also can get tax information through mid-June at U.S. embassies and consulates.
If you find you need professional help, meeting with a financial advisor or CPA often can pay for itself in the form of reduced taxes.
Whether it's cutting your tax bill, boosting your refund or both, with knowledge on your side you can march into tax season with confidence and peace of mind.
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Mitch Swanda served six years in the U.S. Navy and is a salaried Certified Financial Planner™ practitioner with USAA Financial Planning Services, one of the USAA family of companies. USAA is a diversified insurance and financial services organization that has served the military community since 1922.The preceding discussion should not be interpreted as tax, legal or estate planning advice for any individual. You should consult with your personal tax, legal or estate planning professional for any specific guidance relating to your circumstances.
