While there are many different life events that can affect your income in a variety of ways, there are five in particular that can have a profound impact on how you pay your taxes. These life events can affect how you file your taxes, what credits you can potentially receive and your overall tax burden:
The most obvious tax implication of starting a new job is a difference in income, which could put you into a higher (or potentially lower) tax bracket. A new job might also change your tax situation if part of your compensation comes in the form of some income alternative, like stock options.
Incentive stock options (ISOs) are not taxed like regular income and are instead taxed as income at the time of sale. A slight variation on the time-oriented capital gains rule applies. If you hold the shares for at least one year after exercising the option and then sell at least two years after the grant date, you’ll be taxed at the long-term capital gains rate rather than your normal income tax rate.
There’s no tax due on these when the option is exercised. The difference between the exercise price and the fair market value (FMV) of the stocks when they’re exercised is considered an adjustment when calculating the alternative minimum tax (AMT).
Non-qualified stock options (NSOs) have fewer tax benefits compared to ISOs. The difference between the exercise price and the FMV is considered taxable income, so it’s taxed at your income tax rate (and is subject to SS and Medicare taxes) rather than the capital gains tax rate. After the options are exercised, any gain or loss is treated like a capital gain or loss and the normal capital gains rules are applied.
Prior to marriage, workers file their taxes using the “single” filing status (or potentially head of household depending on circumstances). After marriage, they can choose one of several alternatives, including married filing jointly (MFJ), married filing separately (MFS) or, if circumstances make it appropriate, qualifying widow(er) with a dependent child.
This is entirely dependent on you and your spouse’s unique circumstances, but there are many potential situations in which the options can be highly beneficial. For example, changing from single to married filing jointly may take you down to a lower bracket if there’s a large disparity between your income and your spouse’s income. The standard deduction is also double for married filing jointly filers.
It’s also worth noting that the married filing separately has some notable disadvantages, like becoming ineligible for many credits or deductions available to joint filers as well as a lower standard deduction. MFS is often recommended only in specific circumstances, like if one spouse has significant debts.
There are some potentially impactful deductions available to people with homes or mortgages, like the home mortgage interest deduction on interest paid on up to $750,000 of debt for loans taken out after 12/15/2017. The deduction on mortgages obtained prior has a higher $1 million limit.
There are also potential deductions available on the capital gains from the sale of your primary residence (or a home that meets specific requirements). Single filers can exclude up to $250,000 and MFJ filers can save up to $500,000 of capital gains if the sale meets the IRS’ criteria.
The deduction is straightforward if you lived in the house you sold full-time for many years prior to the sale. However, claiming it can be more complicated if you haven’t owned or lived in the home for very long or if you’ve only lived in it intermittently and are trying to claim the credit for a second home or vacation property. There is wiggle room on eligibility, but you should discuss your situation with a tax preparer to find out if your real estate transaction qualifies.
There are also potential deductions and credits for:
Homes could also play a role in business-related deductions, like a home office deduction or rental income-related deductions.
There are a number of tax credits available to parents, like the Child Tax Credit and the Child and Dependent Care Credit. Having a child may also allow you to alter your filing status, which could have positive tax implications (like changing your bracket). You might also open a 529 savings plan if you have a child. Although 529 plans are funded with after-tax dollars, the growth of the money in the plan is tax-free, and withdrawals aren’t taxed if they’re spent on qualifying education expenses.
Retiring typically results in a steep drop in income, which means you might go down to a lower tax bracket. Whether withdrawals from retirement savings accounts are taxed depends on the account. IRAs funded with after-tax dollars are tax-free in retirement, while 401(k) withdrawals are taxed as income. Social Security is considered taxable, but even with these benefits, you may still be in a lower bracket than when you were working.
Do recent changes to your life circumstances have potential tax implications? The team at H&H Accounting Services can help ensure you maximize your tax savings from positive life changes while minimizing the potential harmful effects of life circumstances that may have a negative impact on your taxable income.
Learn more during a free consultation by calling us at (480) 561-5805.
