Consider this your crash course in audit preparedness. You’ll learn about common audit triggers and tips for how to handle the audit process.

So What Does Being Audited Mean, Exactly?

If you are being audited by the IRS, it means that the agency plans to review your tax return and confirm that the information you’ve provided is accurate. The main goal is to determine whether your income, expenses, and credits – which determine the amount of taxes you owe – have been reported correctly.

Learn more: Get to grips with personal taxation by exploring our comprehensive guide on how do taxes work for individuals.

Different Types of IRS Audits

Not all audits are the same. The IRS may perform the following types of audits:

• Correspondence audit
• Office audit
• Field audit
• Taxpayer Compliance Measurement Program (TCMP)

The exact procedures of each of these audits are quite different. If you receive an audit notice from the IRS, check to see what type of audit to expect.

How Does the IRS Select Who to Audit?

On average, the IRS audits just 3.8 out of every 1,000 tax returns — yielding an audit percentage of just 0.38%^[1]. Still, that may not be terribly reassuring if you’re currently on the receiving end of an audit. According to the IRS, audit selection criteria are based on random selection, computer screening, and auditing returns with a high probability of non-compliance.

What Do I Do if I Receive an Audit Notice?

If you receive an audit notification in the mail, don’t panic. Not all audit types will place you under intense scrutiny. Before you do anything else, check the following:

• What is the stated reason for the audit?
• Does the letter specify the year being audited?
• What type of audit can you expect?

Read this notice carefully, as it will contain important information about why you’re being audited and what to expect. There may also be instructions on what to do next, so read the full letter immediately after you receive it.

Learn more: Find out how to effectively settle IRS tax debt, even if it’s 2, 3, or 4 years old, with our practical guide.

Common Types of IRS Audits

Not every IRS audit is created equal. The IRS uses several different types of audits, each of which has its own level of detail. Here’s what to expect from each type of audit.

• Correspondence Audit – A correspondence audit is the simplest type, as well as the most common. Correspondence audits make up 85% of all audits^[2]. In this audit type, the IRS will simply send a letter asking for clarification about a portion of your tax return and provide a means for you to send information back.
• Office Audit – If the issue is too complex for a correspondence audit, you may receive a letter requesting an “office audit” or a face-to-face audit. In this audit type, you’ll come to an IRS office to answer questions about your tax return. Make sure to bring any documentation about deductions or credits at this time.
• Field Audit – Field audits are the least common, though they’re also the most invasive. During a field or office audit, an IRS agent visits your home or office to discuss your return. This is the most comprehensive audit type. It may examine your lifestyle, income, and business activity. You may want to consult an attorney or accounting professional to help you through this process.
  Field audits are very rare, and it would be very unusual for you to face one.
• Taxpayer Compliance Measurement Program (TCMP) – This rare form of audit is most common among high-income individuals, and it is simply designed to collect statistical data for future audits. The IRS may select specific items for this audit, and you’ll be asked to provide documentation, such as bank statements or receipts, to support your income or deductions.

Learn more: New to filing taxes? Our guide walks you through everything you need to know when filing taxes for the first time.

Common IRS Audit Triggers

While some audits are simply a matter of random selection, the IRS also uses computer systems to flag tax returns for an audit. This can happen due to some of the following common audit triggers.

• Math Errors – Always check your math! If you perform a calculation incorrectly, the IRS may flag your return and leave you subject to an audit.
• High Income – According to a 2022 report by the Government Accountability Office, higher-wage earners were generally more likely to get audited than those from lower income brackets. Those making more than $500,000 per year were especially more likely to be audited^[3].
• Unreported Income – Your employers send forms W-2 and 1099 to both you and the IRS. If your tax return is missing this information, you may receive an audit notice about your unreported income.
• Early Retirement Withdrawals – Did you make an early withdrawal from your retirement account? If so, this may also trigger an audit to ensure that you report these distributions accurately.
• Related Party Audits – You may receive an audit notice if someone you’re financially connected to receives an audit. A common example would be a business partner. If your business partner submitted a tax return that didn’t comply with established regulations, you may also be audited.

Learn more: Our article explains what happens if you don’t file or pay taxes, and why it’s crucial to stay compliant.

Navigating the Audit Process

What does being audited mean for you? The answer depends on the type of audit you’re facing, but there are still some general things you should do from the moment you first receive the audit notice.

Read the Letter Carefully

First, read the audit notice carefully. Make sure that you understand the key elements of the audit.

• What year(s) is the IRS is looking at?
• What is the reason for the tax audit?
• What type of audit will you be facing?

Look for any specific instructions and/or deadlines that will influence your next steps.

Verify the Letter’s Authenticity

Understandably, you may be concerned that the letter is part of some type of fraud or phishing scam. You can verify the letter by checking the contact information against that of the IRS website or by checking that your name, contact information, and Social Security number are accurate. When in doubt, contact the IRS directly through the information on their website.

Respond Immediately

Never, ever ignore a letter from the IRS. Doing so can actually worsen the situation. The letter will usually request a response. Respond immediately and provide any requested documentation. In a correspondence audit, this may be all that’s needed to clear up the situation and move forward.

Cooperate Fully

Unfortunately, there’s not much you can do to get out of the audit. Make sure to cooperate to the best of your ability. Be honest about all of your information. Even a hint of hostility or dishonesty could severely hurt your case.

Keep Detailed Records

Save everything the IRS sends you. Organize your records by date. This will help you maintain your own records as well as provide a trail of documentation that you may need if you choose to seek professional assistance.

Seek Professional Help

If you’re facing a complex tax audit, you may not feel comfortable handling it yourself. You can choose to seek the assistance of a CPA or even a tax attorney to be your advocate with the IRS.

How Far Back Can the IRS Go?

Don’t be surprised if you receive an audit notice for a tax year older than your most recent return. The IRS is fully capable of reviewing past returns to determine prior liability.

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For Tax Fraud: Forever

There is no statute of limitations for tax fraud or failing to file a tax return. If the IRS suspects you of these crimes, there is no limit to how far back they can investigate.

For Most Audits: 3 Years

The good news is that the statute of limitations is much shorter for other types of audits. The standard rule is that the IRS can look back at the previous three years. Just be aware that this is three years from the due date (usually April 15), so if you file early, the statute of limitations does not begin until the official April deadline.

For Large Errors: 6 Years

Here’s where it gets a little confusing. For large errors, the IRS can go back six years. A “large” omission is more than 25% of your gross income^[4]. This extends the statute to a full six years.

Understanding the Lookback Period

Keep in mind that the IRS may or may not actually look back this far. In fact, the IRS website states that most audits cover only two years’ worth of returns^[5]. And since correspondence audits (the most common type) are designed to address minor issues, taxpayers can often anticipate a fast turnaround.

Still, it’s always a wise idea to maintain clear, detailed tax records. The good news is that if you use electronic filing systems you can save your financial records indefinitely, so you’re always prepared.

Learn more: Get ahead of tax season with our review of the best tax software providers for 2024, ensuring a smoother filing experience

Consider Professional Help

If you are being audited by the IRS, should you immediately call a CPA or tax attorney? Not necessarily. A simple correspondence audit may be cleared up by providing some additional information. But you might consider reaching out to a professional if any of the following apply.

• Office and Field Audits – Though less common, office and field audits are a bit more invasive. You might request a CPA or tax attorney to represent you.
• Complex Tax Issues – Does your tax situation involve business expenses, rental income, foreign income, or income across multiple states? If so, a CPA may be able to help you sort through complex tax issues to clear up the audit as smoothly as possible.
• Tax Debt – If you’re already aware that you owe tax debt, you might consult a tax professional who can assist you in negotiating a settlement or payment plan with the IRS.
• Tax Fraud – A tax attorney can help you if you’re being investigated for tax fraud. At the very least, they can advise you on your rights and help you resolve the situation with minimal legal consequences.

What Does Being Audited Mean for You?

One thing is certain: being audited doesn’t have to mean the end of the world. If you know more about why you’re being audited and what to expect from the process, you can move forward with greater peace of mind.

If you’re not quite sure how to move forward, don’t hesitate to reach out to a professional. It’s important that you get help right away, especially if you’re facing a deadline from the IRS. After all, the sooner you address the audit, the sooner you can get on with life.

The post What Does Being Audited Mean? appeared first on FinMasters.

Fortunately, the foundations of the American tax system have remained consistent for a long time. The tax deductions and credits available may change from year to year, but the basic principles do not. Here’s an introduction to the different types of taxes for individuals in America and an overview of how they function.

In this post:

• How Income Taxes Work
  • Ordinary Income Taxes
  • Payroll Taxes
  • Self-Employment Taxes
  • Capital Gains Taxes
• Other Taxes
• Getting Professional Help

How Income Taxes Work

America taxes its citizens in many ways, but income taxes seem to get the most attention. There’s something viscerally upsetting about giving up such a large part of the fruits of your labor. I know my jaw hit the floor the first time I saw how much of my paycheck disappeared thanks to federal and state taxes.

Despite the discussion and scrutiny, Americans still seem to understand their income taxes the least. Here’s what you need to know about how income taxes work.

Some of the taxes in this article exist only at the federal level, some at the state, and others at both. The rules and rates vary widely from state to state, so make sure to double-check the details that apply in your location.

How Ordinary Income Taxes Work

Ordinary income includes things like your wages, interest from your savings accounts, and ordinary dividends. It gets taxed at the federal and the state level, and it’s usually what causes people to have to file an annual tax return.

There’s a surprisingly persistent misconception about ordinary income taxes: that earning more money can bump you into a higher tax bracket and leave you paying more tax on all of your income.

As a Certified Public Accountant (CPA), many people have asked me to help them avoid this, but that’s not how ordinary income taxes work. America’s income tax is progressive, which means that the government taxes you at a specific rate for every range of earnings.

For example, if you’re a single filer, you’ll only pay 10% on your first $11,000, but you’ll pay 12% on income from $11,000 to $44,725.

These are the progressive federal tax brackets for the 2023 tax year (check your local state government’s website for their rates):

Income taxes are calculated by applying the rates above to your taxable income. That’s your gross income adjusted for any above-the-line deductions (like contributions to retirement accounts) and either itemized deductions or the standard deduction.

Learn More: Would you like to pay less money in taxes? Take a look at our favorite tips for lowering your annual tax bill: 8 Practical Ways to Cut Your Taxes.

How Payroll Taxes Work

Income taxes aren’t the only thing that your employer deducts from your paycheck. They are also responsible for withholding payroll taxes, also known as FICA taxes. Unlike federal or state income taxes, payroll taxes are flat, not progressive. They include the following two taxes:

• Social Security at 6.2%
• Medicare at 1.45%

Both employers and employees have to pay this tax on all salaries, bonuses, and tips for a total of 7.65% payroll tax each.

Unlike income taxes, there’s not much you can do to avoid payroll taxes when you’re an employee. Any deductions you can qualify for only affect your adjusted gross income, which has no bearing on payroll taxes. The tax rates apply to your gross W-2 wages.

How Self-Employment Taxes Work

Self-employed people (as sole proprietors) pay the same income taxes that employees do, though they can take deductions for ordinary and necessary expenses that help reduce their income.

Taxation 101: How Do Taxes Work For Individuals?

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One notable difference is that, because the IRS considers them both employer and employee, they have to pay double the FICA tax: 15.3% total instead of 7.65%. Fortunately, they can deduct the “employer” half of that tax as a business expense.

How Capital Gains Taxes Work

The next most common set of income tax brackets are the capital gain tax brackets. They’re generally more favorable than ordinary income tax rates, but they follow a similarly progressive structure. They apply to:

• Profits on capital assets sold after a year: If you sell a capital asset (like a car, house, or stock) at a gain after holding it for a year, the profits get taxed at capital gains rates. If you hold it for less than a year, the profits are ordinary income, and you’ll pay your marginal (highest) tax rate on them.
• Qualified dividends: Dividends from qualifying businesses get taxed at capital gain rates. Most dividends are qualified, but check the 1099-DIV form that your investment brokerage sends around tax time to make sure yours are.

Here are the federal capital gains tax brackets for the 2022 tax year (check your state website for its capital gains tax rates):

Which of the three rates you pay depends on your total taxable income for the year, not solely on how much capital gains income you earn.

Learn More: Tax-advantaged accounts can help you avoid paying capital gains tax on the dividends and gains generated by assets you invest in for retirement. Take a look at our introduction to the options available: An Introduction to Tax-Advantaged Retirement Accounts.

Other Taxes

Unfortunately, your income isn’t the only thing that you have to pay taxes on. Federal and state governments collect revenues in several other ways. Some of the most common are:

• Property Taxes: State and local governments charge property taxes on real estate, whether they’re personal or investment properties. They may demand anywhere from 0.28% to 2.47% of a property’s value each year.
• Estate and Gift Taxes: Transferring your wealth to someone (except your spouse) may trigger estate or gift taxes if your assets are valuable enough. Fortunately, they have to be really valuable. There’s an exclusion of $16,000 in gifts per recipient each year. There’s also a lifetime exclusion of $12,6 million that protects people when they exceed this, including estate transfers at death.
• Sales and Excise Taxes: State and local governments collect sales and excise taxes when you buy goods and services. The rates vary, ranging from 0% in Alaska to 7.25% in California.

These taxes don’t get as much widespread attention as taxes on income and earnings for many reasons. Not every American owns a house to pay property tax on, sales taxes only amount to a few dollars in most transactions, and gift taxes are easily avoidable for most people. It’s still worthwhile to acknowledge them. Property taxes are a vital consideration when buying a home, and sales taxes are a significant aspect of a city’s cost of living. Don’t ignore the other types of taxes just because they’re not coming out of your paycheck every two weeks.

Learn More: Interested in learning which of the taxes we’ve covered means the most to the IRS? Take a look at our review of their biggest sources of revenue: Federal Tax Revenues: Where Does the Money Come From?

Getting Professional Help

The tax guidance industry generates billions in revenue each year for good reason. Understanding how the code works and which variables affect each other is a full-time job. Unless you make it yours, you’ll probably be unable to keep up with all of the complications.

If your tax return only includes W-2 wages, you can get away with filing your taxes on your own. Look into the IRS Free File Program, which is designed for taxpayers filing relatively simple tax returns. If you’re self-employed or have a sophisticated investment strategy, it’s probably worth the money to hire a tax expert. A Certified Public Accountant or Enrolled Agent can help you make sure that you’re not missing anything that could cost you.

The post How Do Taxes Work? | Understanding Taxes for Individuals appeared first on FinMasters.

While there’s plenty of advice on tax savings, much of it involves major commitments like buying a home or starting a business. Not all strategies require big life changes. For those without the time or resources for complex tax planning, here are eight straightforward strategies to reduce your tax burden.

1. Reduce Your Tax Withholding

If you are a salaried worker, your employer automatically withholds a portion of your paycheck to cover your taxes for that pay period. It’s convenient and lets you pretty much forget about your taxes until you need to file.

Most people set their withholding allowance when they start a job and then forget about it. If you’ve been getting a tax refund all along (which you probably have^[1]), you’ve been withholding too much.

To avoid penalties, you only need to pay the lesser of the following:

• 100% of the previous year’s tax liability
• 90% of the current year’s tax liability

If you withhold more than that, you’re just giving the government an interest-free loan. You might enjoy getting that lump sum every year, but it’s not a bonus. It’s been yours all along, and you could’ve been using that money to invest or pay down debt the whole year.

If you’re trying to cut your taxes because you want to boost your cash flow, reducing your withholding is a great way to do it. You’ll see an immediate increase in your paycheck.

Just be careful not to reduce it below the thresholds above.

2. Use the Best Filing Status Available to You

Your filing status may seem pretty straightforward, but it plays a significant role in calculating your annual tax bill. It has a direct impact on:

• The size of your standard deduction
• Your eligibility for tax credits and deductions
• The width of your progressive tax brackets

If you’re not married, filing as head-of-household is far superior to filing as single. To qualify as head of household, you have to be unmarried, pay for more than half of your household’s expenses, and claim a qualifying child or dependent^[2].

If you qualify, your standard deduction will increase by $6,250, you’ll have wider tax brackets at the lower rates (which reduces your effective tax rate), and you’ll be able to access some unique tax credits.

Married couples can choose to file jointly or separately. Filing jointly will usually give you more valuable tax credits. If one spouse earns much more than the other, there is a chance that you might want to file separately. If you can’t immediately tell which choice makes the most sense, run your return both ways or consult a tax professional.

8 Tips to Help You Pay Less Tax

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3. Contribute to Tax-Advantaged Accounts

Of all the tools that help you cut your taxes, tax-advantaged accounts might provide the most bang for your buck and require the least amount of effort.

Here’s what happens when you invest in deductible tax-advantaged accounts like traditional Individual Retirement Accounts (IRAs), traditional 401(k)s, and Health Savings Accounts (HSAs):

• Your contributions lower your tax bill for the year.
• The annual tax savings increase the pool of cash you have to invest, which grows larger with compound interest.
• Taxes on the investment income within the account are deferred until you take distributions (and can even be tax-free for HSAs).

Contributions to these accounts are considered “above the line” deductions. They’re separate from itemized deductions (those come later) and reduce your Adjusted Gross Income (AGI).

Reducing your AGI is one of the most efficient ways to cut your taxes because the American income tax system is progressive. That means that the last dollar you earn will fall into a higher tax bracket than the first dollar.

When you lower your AGI, it always starts with your “last” dollar, saving you from paying taxes on it at your highest marginal tax rate.

Your AGI also plays a big role in calculating a lot of other important numbers in your tax return. For example, many tax credits and deductions are only available to those with a low enough AGI, so anything you can do to reduce it is valuable.

Accounts like Roth IRAs and Roth 401(ks) won’t give you an above-the-line tax deduction, but your distributions are guaranteed to be tax-free in retirement.

4. Use Other Above the Line Deductions

Contributions to retirement accounts aren’t the only way to reduce your AGI and cut your taxes. There are a few other deductions that you might get to take advantage of, such as:

• Student Loan Interest: If you’re still paying off your student loans, take a deduction for the interest on the outstanding balance.
• Alimony: If you’re paying alimony to an ex-spouse and your divorce agreement was made before 2018, you can deduct that expense from your AGI.
• Penalty on Early Withdrawals: If you have to take a distribution from your retirement before age 59 1/2, you’ll probably have to pay a 10% penalty on it. That can be costly, but you can minimize the damage by claiming a deduction for the penalty.

Unlike retirement contributions, which you should actively try to maximize, these deductions are a form of damage control. They subsidize undesirable expenses, like student loans, divorces, or unavoidable emergencies. You won’t seek them out, but they can reduce the impact of adverse events.

Consult a tax professional to see if you qualify!

5. Reach the Threshold for Itemized Deductions

The standard deduction has increased dramatically since the Tax Cuts and Job Act (TCJA) came into effect in 2018, roughly doubling from the 2017 amount.

The increase (along with the simultaneous removal of many previously legal deductions) made it much more difficult to make itemizing worthwhile. The number of taxpayers to pull it off decreased from roughly 46 million to just 16 million^[3]. 

Itemizing is still possible and potentially lucrative if you can substantially exceed the standard deduction. Here are four deductions that are commonly used by successful itemizers:

• Medical expenses over 7.5% of your AGI
• Mortgage interest on the first $750,000 to $1,000,000 of principal
• State and local income taxes (or state sales taxes)
• Charitable contributions up to $10,000

You shouldn’t try to rack up medical expenses or mortgage interest in the hopes that you’ll qualify for a tax deduction, but if you already have a large mortgage balance and perhaps a dependent parent in a nursing home, itemizing can still work out in your favor.

If you find yourself falling just short of the threshold to itemize, one great way to put yourself over the edge is to double up on your charitable expenses. For example, you could donate $6,000 in one year instead of $3,000 over two years.

6. Take Advantage of Tax Credits

Qualifying for tax credits requires a bit more foresight than most deductions, and many people fail to use them effectively. If you’re eligible and you plan carefully they can save you a lot of money.  

Check these tax credits and see if you qualify:

• Retirement Savings Contribution Credit: Previously called the Saver’s Credit, it’ll reward you even further for putting money into your retirement accounts. 
• Earned Income Tax Credit: This credit only requires you to earn ordinary income, though the income limits are on the low end.
• Child and Dependent Care Tax Credit: You can take a tax credit for a percentage of the expenses you pay to have someone care for your child or dependent so that you can go to work.

Tax deductions are applied at the beginning of your tax calculation process. They simultaneously lower your marginal tax rate and the amount it’s applied to, both of which indirectly reduce your tax bill.

But tax credits are applied at the end of your tax calculation process. They directly reduce your tax bill, dollar for dollar.

7. Tax-Friendly Investments Can Minimize Your Tax Drag

If you’re a diligent saver, you may eventually have more cash than you can fit into your tax-advantaged accounts. At that point, your investments will start to add to your tax bill.

When you buy paper assets (like funds, stocks, or bonds) through a regular brokerage account, you’ll owe tax on the income it produces each year in the form of interest, dividends, and capital gains (even if you don’t sell your asset).

These costs are your asset’s “tax drag” and can take a surprisingly hefty toll on your returns.

To cut your taxes on these assets, put your most tax-inefficient investments, like the following, into your tax-advantaged accounts:

• Real estate investment trusts (REITs)
• High-turnover active funds
• High-yield corporate bonds

Investments like these produce a lot of taxable income as they grow. Something more stable, like a low-cost index fund, does not and would be better in a taxable account.

8. Use tax-loss harvesting

For the particularly active or ambitious, tax-loss harvesting can be another way to increase the efficiency of your investments and cut your taxes. Here’s how it works.

Even in a well-designed portfolio, you’re going to have periods with negative returns with some assets operating at a loss. If you sell those assets and lock in your capital losses, you can offset them against any capital gains you might have in the same year. If you use the proceeds to immediately purchase a replacement asset, you can maintain the integrity of your portfolio and avoid missing out on any time in the market.

There are a few important limitations to keep in mind:

• You can only harvest losses in taxable accounts, not retirement accounts like an IRA or 401(k).
• Losses are first applied to capital gains of the same variety (long-term vs. short-term), then to the opposite, and then to ordinary income up to $3,000.
• You must buy a “significantly different” asset to replace what you sold OR wait 30 days before repurchasing it to avoid a wash-sale, which would disallow your deduction.

With those restrictions in mind, here’s an example of effective tax-loss harvesting:

Consult a Tax Professional.

When you execute them properly, these practical strategies can help you pay significantly less in taxes each year. However, the regulations and implications that surround them can be tough to figure out on your own. If you make a mistake, you could face significant penalties.

When in doubt, consider working with a tax professional to avoid making any mistakes. Interview a few Certified Public Accountants (CPAs) to find one that can help you formulate an effective tax strategy and stay within the rules.

The post How to Save on Taxes in 2023: 8 Tips to Help You Pay Less Tax appeared first on FinMasters.

Many people seek professional tax assistance, but using tax prep software is a good alternative, especially if you’re filing a relatively simple return.

Can You File Your Taxes On Your Own?

Yes. You can self-prepare your tax returns and submit them online through the IRS e-file system.

Both options are popular. According to the IRS filing season statistics database, about 45% of submitted tax declarations in 2022 were self-prepared, and 55% were done by tax professionals.

The real question is: Should you do your own taxes?

You can safely prepare your tax return using free tax software if you have one main income stream (a salaried job), few debts, and investment assets. But more complex tax situations like self-employment, rental property ownership, or multiple investment income streams warrant paying for premium tools and advice.

Modern tax software programs offer access to both DIY and managed tax prep options.

Best Tax Software of 2024

Selecting tax software can be as time-consuming as doing the returns. To save you the effort, we analyzed a dozen popular online tax filing ups and rounded up the 6 best tax software companies.

BEST FOR SMALL BUSINESS OWNERS

TaxAct

TaxAct is a national tax software provider that first launched an app for professional tax preparers. They later released a consumer version for filing federal and state returns electronically. The online tax software guides you through all applicable tax forms with a convenient questionnaire to prepare your tax returns.

Pricing: Free version available. Then, from $19.55.

• $100K filing accuracy guarantee
• Convenient business expenses filings
• Submit multiple tax returns for the same year from one account

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BEST FREE TAX SOFTWARE

Cash App Taxes

Cash App Taxes is a free tax-prep feature available in Cash App’s digital wallet. Great for DIY tax filing, Cash App determines which tax forms you need to fill in and pulls together the necessary data. Though there’s some manual typing to do, you can get done with your federal and state taxes in very little time. Then you can track your tax refund online.

Pricing: Free.

• All major IRS forms and schedules supported
• Fast, convenient tax prep in under 15 minutes
• Free filing of business or freelance income

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BEST FOR PROFESSIONAL TAX ASSISTANCE

TurboTax

TurboTax is the biggest name in the tax software space, and for good reasons. Impeccable user experience, on-demand tax advice, and guided tax filing experience have earned TurboTax a 4.6 rating from 200K+ reviews. It may not be the cheapest tax software, but it is one of the most comprehensive ones. 

Pricing: Free plan available. Then, from $39.

• DIY or done-for-you federal and state tax filings
• All tax forms, deductions, and tax credits supported
• Money back if you get a bigger state refund from another provider

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BEST VALUE FOR MONEY

Jackson Hewitt

Jackson Hewitt operates over 6,000 tax prep services locations around the country (including 3,000 in Walmart stores). In 2022, it debuted a $25 flat-free online tax filing service for federal and unlimited state tax returns. The service covers all common tax situations and helps you whizz through both forms with automatic calculations.

Pricing: $25 flat fee.

• Multiple ways to submit tax documents online or in-person
• Advance loans for early access to tax refunds
• Extra tax services at a reasonable price

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BEST FOR STATE TAX FILINGS

eFile

eFile is a Florida-based tax software provider offering a preparation platform for self-filing. The app helps you collect all the necessary tax documents, run a preliminary tax bill estimate using one of the 15+ calculators, and then sit down to do your return. You get started for free and pay only when you e-file the final return.

Pricing: Free plan available. Then, from $25.

• All state income tax returns for only $32
• No sneaky upgrades to higher tiers
• Top self-service tools and resources

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BEST PERSONALIZED SUPPORT

H&R Block

H&R Block offers a long list of financial and tax prep services. The company operates a network of 8,900+ retail tax offices across the country and offers online DIY or managed tax preparation and filing services. H&R Block is one of the world’s largest and oldest tax preparation companies and has been in business since 1955.

Pricing: Free plan available. Then, from $19.95.

• Upfront, transparent pricing plans
• Virtual tax prep + desktop tax software
• Extra banking and lending services

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TaxAct

TaxAct is a highly regarded national tax preparation software launched in 2000. Since then, the company has accurately processed over 90 million tax returns (federal and state). In 2022, TaxAct was purchased by Cinven, a global private equity firm, for $720 million because of its high Net Promoter Scores (a measure of customer experience) and customer retention rates.

On the free plan, you can report W-2 income, unemployment income, and retirement income. Plus, claim child tax credits, earned income credits, and your stimulus credit. 
For other tax situations, opt for one of the three premium plans: Deluxe, Premier, or Self-Employed.

Plans are based on the number of supported IRS forms. Deluxe allows more deductions for dependents, student loan interest, mortgage, HSA contributions, and more. Premier includes support of investment income filings, rental income, royalties, and foreign income filings.

Self-employment income filings are available on the highest tier, but the plan is well worth the money. That’s because you can also access a deductions maximizer tool, year-round support, and real-time tax alerts.

If you also need help with business taxes, TaxAct has affordable plans for Partnerships, S-Corps, C-Corps, Estates & Trusts, and Nonprofits. Both can be bundled with personal tax return prep to save on fees.

TaxAct plans are cheaper than other tax software providers like TurboTax and eFile. State filing fees, however, are steeper. If you have tax returns due in several states, look into other tax software companies.

Cash App Taxes

Cash App Taxes software was originally launched as Credit Karma Tax but rebranded to ‘Cash App Taxes’ in 2020 post-acquisition. The main selling point is simplicity: Users can view their transactional wallet history and export the data for tax purposes in one click to prepare a federal filing, then a state tax return.

To get started, navigate to the “Taxes” tab in the Cash App. Then answer a couple of quick questions and input the missing data. You can report salary, self-employment income, interest, and investments (on Form 1099).

Cash App supports W-2 imports — as uploads or mobile pictures — but the data processing experience can be inconsistent. On the pro side, you can upload the past year’s tax returns created with TurboTax, H&R Block, or TaxAct to pre-populate some forms. On the downside, you can’t import 1099 forms from banks and brokerages.

You can also file business taxes with Cash App if you report as a Sole Trader, Partnership, S-Corp, or C-Corp. However, this tax provider doesn’t support certain business tax credits (e.g., Credit for Small Employer Health Insurance Premiums) and Schedule K-1 filings.

State tax filings are more nuanced. As of January 2023, Cash App only supports e-filings in 17 states. Though they promise to start supporting a total of 40 states and Washington DC by the end of the year. Also, you can only file one state return with Cash App. Multi-state, part-year state and non-resident state filings aren’t supported.

Cash App Taxes has limited customer support. The official live chat hours are 8:00 a.m. to 8:00 p.m., but responses can be delayed. You can also reach the team by email (if you manage to find the proper address). No phone support is available, though. But that’s how things are with most free tax filing services.

Cash App Taxes is a great option for tax self-preparation if you live in the supported state, have reasonably good tax literacy, and have a relatively simple tax situation.

Pricing: free, but you will need to open a Cash App account.

TurboTax by Intui

TurboTax has been around since 1984 and has been owned by Intuit since 1993. This tax software has been through multiple updates, so it has a modern UX feel and compliance with the latest editions of the US tax code.

You have two options with TurboTax:

• DIY tax filing (with a free plan available)
• Done-for-you personal and business tax prep

If you want to prepare taxes yourself, TurboTax helps estimate your adjusted gross income (AGI) via a helpful questionnaire.

You can also auto-upload all financial and tax documents as PDFs or photos. An in-built scanning tool sweeps all the information to ensure 100% accuracy. TurboTax promises to pay for federal or state tax penalties or interests if the app makes a calculation error.

The app also provides tips for tax savings, such as claiming all above-the-line deductions like student loan interest rates, IRA contributions, or alimony payouts. Then, you can submit itemized deductions for various expenses (which must not exceed 7.5% of your AGI) to optimize your tax bill.

If you get stuck at any stage, contextual prompts are available. You can also request help from a tax professional for a separate fee or opt for a full-service tax prep package, starting at $169.

TurboTax Full Service includes access to a certified CPA who’ll work on your filings in real time. You can discuss different tax optimization strategies, go through all your deductions, and tap them for any other tax questions year-round. The above features make TurboTax the best overall tax software for those who can afford it.

For cash-strapped folks, TurboTax offers a free tax filing service for qualified taxpayers. It includes Form 1040, filing only for W-2 income with some deductions (IRS standard deduction, EIC, child tax credit, and student loan interest deduction).

Otherwise, TurboTax will automatically apply the appropriate paid plan for e-filing your taxes.

Pricing	Do It Yourself	TurboTax Live	Full-Service
Basic		$89 (state & federal)	$209 federal $49 per state
Deluxe	$59 federal $39 per state	$129 federal $49 per state	$259 federal $49 per state
Premier	$89 federal $39 per state	$179 federal $49 per state	$369 federal $49 per state
Self-Employed	$119 federal $39 per state	$209 federal $49 per state	$399 federal $49 per state

Jackson Hewitt

Jackson Hewitt has a massive physical footprint of affordable in-person tax services. You can drop your documents at a Walmart with a tax pro and get everything sorted. Reasonable prices and excellent service make JH a solid choice for first-time tax filers.

If you already know the chops, the $25 flat fee online service is a better option, especially when you’re filing in multiple states. The price doesn’t change.

Jackson Hewitt’s online tax service covers all 1040 forms, plus reporting on Schedule A to K-1. The app guides you through all the filling sections using a self-paced interview. You can skip one if it doesn’t apply to your tax situation, which saves time.

When anything is unclear, click an embedded link to get a short explanation or navigate to a pop-up screen with extra details. If you’re still struggling, Jackson Hewitt has an extensive knowledge base. Or you can contact support via phone, email, or live chat. Note: Support only deals with product-related or troubleshooting questions — you shouldn’t expect tax advice.

You can also apply popular tax credits and itemized deductions. Although, you’ll have to input most of the information manually. Jackson Hewitt’s tax software doesn’t support import forms. Be careful with the numbers because there’s no professional backup. You can’t request a tax return review by a professional filer online.

On the pro side, you get other guarantees like 100% calculation accuracy. If there’s any number-crunching error, Jackson Hewitt will compensate for any tax penalties from the IRS. Likewise, the team guarantees a maximum refund. If you prove them otherwise, the company will refund your $25 fee and pay an extra $100.

For additional peace of mind, you can buy a Protection Plus package for $29.95. It includes:

• Audit Assurance — an option to have Jackson Hewitt tax professionals liaison with the IRS or State tax authorities in case you’re flagged for an audit.
• ID Theft Restoration — Jackson Hewitt will work with the credit reporting agencies to remedy an identity theft incident, plus provide six months of credit monitoring services.

Identity theft is expensive, and recovery can take time. Having extra support is a sound idea.

eFile

eFile extends a comprehensive set of DIY tax prep features for a more affordable price than TurboTax and H&R Block. Unlike the two, eFile auto-downgrades you to a lower plan after you’re done declaring taxes. If you don’t use premium features, you’re not paying for them.

If you have a W-2 income below $100K (joint or single) with no dependents and claim limited tax credits, you can qualify for a free federal tax return submission.

Alternatively, the paid tiers are only $25/$35+ $32 for unlimited state tax filings. For comparison, state tax returns cost $44.95 each with TaxAct. eFile operates in 41 states plus Washington DC, meaning you can save a lot if you draw income from multiple places (e.g., have investment properties in several states).

 eFile covers many common tax situations, including:

• Self-employment, freelance, business, farming, or clergy income
• Household employment taxes
• Capital gains and losses
• Unemployment income
• Standard and itemized deductions
• Education credits and deductions
• Business credits and deductions

As part of your plan, you get assigned a Taxpert®: a dedicated support professional, available to answer any queries you have via your personal support page. Most replies arrive within a day or faster.

On the downside, eFile doesn’t offer any extra advisory services or return reviews by qualified tax professionals.

H&R Block

H&R Block, founded by Henry and Richard Bloch, has been in the tax business for almost 60 years. Unlike other legacy companies, H&R Block successfully transitioned into the digital era. Apart from in-person tax assistance, the company offers:

• DIY online tax filing
• Guided online tax preparation
• Managed tax e-filings
• Desktop tax software

Each option has several paid tiers and a Basic (free) plan for online tax filing. The free tax service includes capped W-2, unemployment, interest/dividend income, education and student loan deductions, child tax credit, and earned income tax credits. That’s more features than TaxAct or TurboTax gives away for free.

With a paid plan, you can handle more advanced scenarios like:

• HSA or retirement plan contributions
• Child and dependent care deductions
• Cryptocurrency income reporting
• Rental income declaration
• Freelance and self-employed income reporting
• And more

If you want to work with a tax pro, plans start at $85 for virtual, in-person, or drop-off submissions. You can start with one way and switch to another at no extra cost. In this case, you receive personalized advice, extra guidance, and a qualified sweep by a tax professional with at least 10 years of experience (as H&R Block advertises).

In turn, users with high financial literacy can save money by using a downloadable H&R Block tax app (starting at $19.95). The desktop software supports personal and business tax filings, locally and with the IRS. In this case, however, extra $19.95 state e-filing fees apply.

That said, a virtual tax filing service is more convenient. This way, you can auto-import some of your tax forms, including W-2 and different versions of 1099s. Then e-file your return straight from your account.

On the support side, you can either use self-help resources or the Live Chat feature on-site. Or opt for an add-on Online Assist service (starting at $40) to get unlimited on-demand chat or video screen-casting sessions with a CPA or a tax prep expert. That’s an affordable way to get extra help without leaving your home.

The appointed expert won’t review or e-file complete tax returns. If that’s what you want, look into one of the “File with the Tax Pro” plans starting at $85 + state fees.

Pricing	Do It Yourself	Desktop tax software
Basic	$0 federal $32 per each state	$29.95 license + $39.95 for each state $19.99 e-file fee
Deluxe	$55 federal $32 per each state
Deluxe + State		$54.95 license + $39.95 for more than one state submission $19.99 e-file fee
Premium	$75 federal $32 per each state	$74.95 license + $39.95 for more than one state submission $19.99 e-file fee
Premium & Business		$89.95 license + $39.95 for more than one state submission $19.99 e-file fee
Self-employed	$110 federal $32 per each state

Best Tax Software Comparisons Table

	TaxAct	Cash App	TurboTax	Jackson Hewitt	eFile.com	H&R Block
Federal and state tax returns prep
Multiple state submissions
Joint fillings for married couples
Self-employment income filings
Business tax filing
Foreign-sourced income filings
Investment income filings
Supported OS	Windows macOS Web	Mobile-only	Windows macOS iOS Android Chromebook Web	Web only	Web only	Windows macOS Web
Offline app version
Tax form imports
Tax refund tracker
Tax credits and deductions
Audit support
Tax advisory
Tax extension filing
In-person tax filing assistance
Live online tax filing assistance
Pricing	From $19.95	Free	From $39	$25 flat fee	From $25	From $19.95

What Happens If You Fail to File Taxes?

If you missed the first tax deadline (April 18, 2023), you can request an extension and submit your return until Oct 16, 2023. But don’t drag your feet any further. Taxes aren’t fun, but failure to report your income leads to worse consequences.

Think about tax filing as going to the dentist. The longer you delay your visit, the more painful and expensive the whole ordeal will get. File for your taxes even if you are unable to pay the total amount due right now. The penalties for not filing taxes are worse than those for not paying them.

What Happens if You Don’t Pay Your Taxes?

When you don’t pay your taxes, you will receive a notice from the IRS explaining your bill, accumulated penalties, and interest, along with instructions for resolving the problem. The authorities will help you arrange a payment plan if you can’t pay the balance immediately.

No action on your part will create more problems. The IRS will forcefully collect the outstanding payment via wage garnishment, bank levies, or the seizure of property and vehicles. Tax authorities have ten years to collect unpaid tax payments and will use all available means.

If money is tight, seek professional credit counseling. Many non-profits help cash-strapped individuals set up a tax repayment plan for free.

When Should You Hire a Tax Professional?

A tax return is a ledger. It contains a detailed list of all the money you’ve earned and spent on deductible expenses. Tax software helps consolidate the numbers and streamline the total calculations and takes advantage of the IRS free file program to electronically submit your federal return (and e-file state return when applicable).

Many apps also direct you towards extra deductibles and tax credits up for grabs, but they can never compare to a tax professional’s knowledge, especially regarding business deductions.

Working with a tax professional is better for people with multiple income streams: a traditional job, several side hustles, and many investment assets. A qualified tax pro can suggest various tax tips for legally optimizing your tax bill for this year (and the coming ones).

Finally, if you feel you don’t understand how taxes work, what your tax liabilities are, and when they come up, working with a professional at least once is an excellent way to fill this knowledge gap. By paying for pro advice once, you can avoid costly mistakes in the future, like tax penalties and arrears.

The post 6 Best Tax Software Providers for 2024 appeared first on FinMasters.

Let’s take a closer look at the audit process, what triggers an IRS audit, and what you can do to avoid one.

What Is an IRS Audit?

When you file your taxes, you are telling the government how much you owe them before paying up. It’s the honor system in action. However, not everybody is honorable, and some people try to cheat.

The audit system is the tool the IRS uses to spot attempts to cheat.

An audit does not mean you are being prosecuted or even that you are necessarily in trouble. It just means that your return has been selected for a closer inspection.

Unlike in the movies, you won’t have men in suits knocking at your door. Over 90% of IRS audits are by mail: the IRS will simply mail you a notice asking for additional information.

In rare cases, an audit may involve a visit to an IRS office, and an actual field audit is even rarer.

If you get an IRS audit notice, you don’t need to panic. You do need to comply with the requests in the notice as quickly as possible. Never ignore the IRS. They will not go away.

The IRS audits a fraction of the returns it receives each year. For the fiscal year of 2021, they audited 738,959 returns, which represented around 0.63% of all audits it had received^[1].

The IRS audits more returns from low-income taxpayers and minority taxpayers than from others. This is primarily because these taxpayers are more likely to prepare their own returns, which can result in mistakes. Wealthier taxpayers hire professionals who know what triggers an IRS audit and how to avoid one.

Learn more: Ever wonder how do taxes work? Dive into our post for a straightforward breakdown tailored for individuals.

What Triggers an IRS Audit

The IRS relies heavily on automated systems that are programmed to detect problematic filings. There are several ways that this can happen:

• Inconsistency. The IRS has information from many sources, including your past filings and information supplied by your employers. If your current filing is not consistent with this information, it could trigger an audit.
• Abnormality. The IRS has a detailed statistical profile of taxpayers. If your return is very different from those of other similar taxpayers, it may stand out as unusual enough to provoke an audit.
• Connections. If your business partners, investors, or other related taxpaying entities are being audited, you may be audited as well.
• Random Selection. The IRS will sometimes perform random audits.

You can’t do much about a random audit, but if your return is properly prepared there’s little risk there. Your connections may also be outside your control. The other two categories are within your control, and if you understand what triggers an IRS audit you can do a great deal to avoid one.

Learn more: Discover the potential consequences in our detailed guide on what happens if you don’t file or pay taxes.

15 Things That Can Trigger an IRS Audit

If you’re wondering what triggers an IRS audit, this list of the most common issues is a starting point. These aren’t the only potential triggers, but they are some of the easiest to avoid.

1. Not Reporting All of Your Income

If you don’t report a part of your income, say a bonus or an extra commission, this could set off an audit. Similarly, if you take a side gig, let’s say work as a freelance writer, you have to report that extra income you are making if you want to avoid a visit from the taxman.

But, how could the IRS know about your side gig? When the agency receives a W-2 form, the form doesn’t contain anything about your freelancing income.

However, the IRS already knows about you freelancing because your employer, the company for which you are writing all those articles, has already sent the IRS a copy of all of its expenses, including the payments it made to you.

Learn more: Curious about the prevalence of tax evasion? Our article provides insightful tax evasion statistics and analysis.

2. Using Nice, Neat Numbers

Understanding what triggers an IRS audit is crucial when dealing with your tax forms. Most of the numbers on these forms will end in decimal points and look more like a phone number than they do a neat round number. In other words, it is much more likely to see numbers like $13,623.54 than it is to see $12,000.

The reason is that when filling out your forms, you are doing calculations with percentages, and those rarely lead to whole numbers.

3. Making Errors in Your Calculations

Even though making a mistake is human, the IRS is far from divine, and they do not forgive. You don’t want to make mistakes.

What counts as a mistake?

• Writing a 7 when you really meant a 2
• Missing out that all-important 0
• Writing a sum that is completely off of the mark

You get the picture. Just be diligent, double-check your numbers, and have someone look over your work when you’re done.

The IRS will fine you if they spot your mistake, and it doesn’t matter whether you meant to make that mistake or not. They are more likely to sue you if they think there was a deliberate attempt at fraud, but you are much better off avoiding mistakes completely.

4. Earning Too Much or Too Little Money

To understand what triggers an IRS audit, it’s important to consider the IRS’s history of auditing outliers, specifically people whose earnings are significantly different from the median income. More accurately, if your reported income falls below $25,000 or exceeds $500,000, then you’re in a bracket that historically faces a higher-than-average chance of an IRS audit.

5. Having Volatile Income

In their ever-zealous hunt to weed out fraudulent tax returns, the IRS considers large changes in income or expenses as a red flag that deserves to be investigated.

So, if your income skyrocketed or, God forbid, plummeted over the past year, you might expect the IRS to come and ask you about this swing in fortunes.

Ever wonder what triggers an #IRS-audit? Our post breaks down the common causes you should know about. #TaxTips

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6. Misfiling Employer Stock Options

Employer stock options are one of those things that cause the IRS a lot of headaches. The main reason is that most employees aren’t aware that they need to report these options to the IRS. So, they neither report the sale nor report any gains from said sale.

However, if you sell your employer’s stock options, then you should report both the exercise price (i.e., the price at which you bought the stock) and the sale price. The difference between the two becomes the cost basis upon which the IRS will tax you.

7. Misclassifying Your Employees

Usually, if you have an employee, you will file a W-2 on their behalf to the IRS each year. However, if you classify your employees as independent contractors, filing a W-9 and 1099 instead, the IRS may come after you.

But why would a business classify an employee as an independent contractor in the first place?

Well, there are many reasons, including lower business insurance costs and avoiding some small business taxes. Moreover, this misclassification allows businesses to reduce their overall labor costs.

To make sure that you don’t make this mistake, you should be clear on how the IRS distinguishes between an employee and an independent contractor.

8. Having a Cash-Based Business

Some businesses are, by their very nature more cash-heavy than others. For instance, nail salons and car washes are famous for mostly relying on cash. (Breaking Bad anyone?)

The problem with cash-heavy businesses, however, is that they tend to underreport their income, and the problem gets exacerbated for businesses where employees make tips.

The IRS targets these businesses more heavily than others.

9. Transacting in Digital Assets

Ever since the cryptocurrency boom back in 2020, when the price of a single Bitcoin passed $60,000, investors have been flocking to blockchain technology, hoping to achieve above-average returns^[2].

However, since a lot of these technologies ensure anonymity, the IRS has been having a hard time keeping track of the billions of dollars people are raking in through the crypto space. And although the IRS is still figuring out its footing in this area, it is starting to wade more and more through these murky waters.

For instance, on Form 1040, the IRS inquires whether you have bought or sold any crypto assets over the past year. The IRS also uses data analytics and AI to better track digital asset transactions. If you are engaged in crypto transactions the IRS may be curious.

10. Owning Financial Assets Outside of the USA

Similar to digital assets, financial assets outside the US can be hard to track, especially if they aren’t owned under your name. As a result, the IRS tries to crack down on anyone it suspects to have foreign financial accounts yet hasn’t disclosed them.

More accurately, should the IRS have reason to believe that you have $10,000 or more abroad but haven’t filed a Foreign Bank Account Report, FBAR for short, they will likely audit you. An FBAR audit is never fun for anyone. For one thing, if the IRS finds that you have misreported your foreign assets on the FBAR, they might go after you for civil penalties and even criminal prosecution.

11. Failing to Report All of Your Stock Trades

Failing to report all of your stock trades can lead to an audit. After all, anytime you make a profit off of a stock trade, that profit is subject to capital gains tax. The only scenario where you don’t get taxed is when the stocks are in a tax-deferred retirement account.

Just as your employer reports your income to the tax authorities, your brokerage firm also reports your trades.

Learn more: Explore the 5 best online brokers for stock trading to enhance your investment strategy in our latest review.

12. Failing to Report Dividends, Interest, and Rent

If you forget to report all the dividends, interest, and rent you collected over the past year, the IRS might want a few answers. And the larger the amounts you left off of your 1099 form, the more likely it is that you will be audited.

If forget to report a small amount of passive income, then the IRS might let it slide, especially if the agency sees it as an honest mistake. Don’t count on this, though. Reporting accurately is always your best bet.

13. Too Many Charitable Contributions

The IRS allows charitable donations to be deductible. The donations don’t have to be purely monetary. If you donate your clothes, vehicles, or assets, you can have these donations appraised and deducted.

However, if the IRS suspects that you might be reporting false donations, they might audit you.

This is why when deducting donations, you need to provide the proper documentation, including a letter from the charity you donated to, confirming your contribution. If your contribution is large compared to your stated income, yoFu’re giving the IRS a reason to audit you.

14. Having Too Many Losses on Your Schedule C

Many self-employed taxpayers who operate as sole proprietors will try to diminish their tax obligations by lowering their stated income or inflating their expenses on their Schedule C.

However, the IRS wasn’t founded yesterday, and they have plenty of experience with these types of cases. In fact, any time a business reports a loss, the IRS scrutinizes the business and tries to find out the validity of these losses.

If you are a sole proprietor, filing a Schedule C increases your chances of getting audited.

15. Claiming Too Many Business Expenses

When you run a business, you are taxed according to your profits, not your revenue. So, what types of expenses are you allowed to deduct? A lot.

Here are some types of business expenses that the IRS considers deductible:

• Meals
• Travel
• Entertainment expenses
• Parts of your home (through what is known as a home office deduction, individuals working from home can consider a part of their monthly rent or mortgage payment as a business expense and deduct it from their revenues)

However, to safeguard against abuse and the illegal use of tax shelters, the IRS has clear conditions on what can and can’t be considered a business expense: Simply, the expense must be necessary and ordinary.  Necessary means that the expense helped generate revenue, and ordinary means that it is a common expense within your industry.

Expenses that don’t follow IRS conditions are not deductible. You can’t use your personal expenses as a business deductible. Your hobbies aren’t business expenses, even if you might make some money from them every once in a while.

If you have a car that is critical for your business, you still shouldn’t claim the entire vehicle as a business expense. After all, it is a safe bet that you also use that car for personal trips. You should log your mileage and track how many miles were for your business and how many were for your personal matters.

Your business expenses need to be similar to other businesses within your industry, and that make as much money as you. Any discrepancy might lead the IRS to your doorstep.

16. Claiming the Earned Income Tax Credit (EITC)

The Earned Income Tax Credit, or EITC for short, helps low-income households by reducing their tax obligations. If a household earns below a specific threshold, they qualify for the credit.

The problem is that around a quarter of EITC claims go to households that qualify on paper but don’t meet the criteria in real life. Many of these falsely filed claims are a result of misinterpreting the law, but are intentionally fraudulent. As a result, the IRS does everything in its power to weed out these fallacious claims.

The EITC is a leading trigger for IRS audits, so if you are going to claim it, be careful and be sure you fully understand the rules.

Learn more: Discover how to save on taxes with our 8 strategic tips designed to reduce your tax bill effectively.

Three Simple Rules for Avoiding an IRS Audit

It’s important to understand what triggers an IRS audit, but you can also look at the challenge in much more general terms. Try these rules.

1. Don’t cheat. You may think you see a way to cut a corner and reduce your tax bill, or someone may have told you they have a foolproof way to cut your taxes. Don’t do it. The IRS has a lot of experience in detecting tax fraud. You will probably be caught, and the consequences can be severe. Just don’t do it.
2. Be careful. Filing your tax return is serious business, and sloppiness can get you in trouble. Take your time, double-check your figures, and review the instructions in detail. The more careful you are, the less likely you are to trigger an IRS audit with a simple mistake.
3. Ask for help. If you are doing your own taxes, it’s easy to find yourself in over your head. Going ahead when you don’t understand what you’re supposed to do is a great way to trigger an IRS audit. If you need help, reach out to a tax professional or use the IRS free file system.

IRS audits are likely to be triggered by either mistakes or intentional attempts at tax fraud. Avoid both and you are much less likely to face an audit.

Putting It All Together…

The IRS looks for any sign that the return is inaccurate and uses those signs to determine who gets audited. Most of this work is done by automated systems that are very efficient and do not ignore anything. Understanding what triggers an IRS audit and avoiding those triggers can save you a lot of trouble and stress.

To avoid an audit, your best option is to report everything honestly and accurately. If you are in a situation where an audit is just more likely, e.g. you have a cash-heavy business, keep meticulous records, file your returns carefully, and keep all financial records for six years.

The post What Triggers an IRS Audit? appeared first on FinMasters.

The post How Many People Evade Taxes? 2024 Tax Evasion Statistics appeared first on FinMasters.

Federal Capital Gains Tax Rates

The federal government assesses capital gains taxes at the following rates.

2022 Capital Gains Tax Rates

2022 Short-term capital gains tax rates

2022 Long-term capital gains tax rates

2023 Capital Gains Tax Rates

2023 Short-term capital gains tax rates

2023 Long-term capital gains tax rates

What Are Capital Gains?

Capital gains are the profits you earn from selling an investment. The investment in question is usually an asset like a stock or bond but it can also include things like real estate.

When you sell an asset, you can figure your capital gain by taking the amount you sold it for and subtracting the amount you paid.

For example: If you buy a stock for $50, then sell it for $75, your total capital gain would be $75 – $50 = $25.

You can also experience capital losses, where you sell something for less than you paid.

For example: Imagine buying a stock for $50 and then selling it for $40. In that scenario, you would have a capital loss of $50 – $40 = $10.

The capital gains taxes you have to pay will be based on your net capital gains. If you sell multiple investments, some for a loss and some for a gain, you have to calculate how much you made (or lost) overall.

Short-Term Capital Gains vs. Long-Term Capital Gains

Some capital gains are treated differently from regular income when it comes to taxes. What determines how the gains are treated is whether the gains are considered short-term or long-term.

If you buy an investment and hold it for less than a full year, any profits you earn are considered short-term capital gains because you only held the asset for a short period.

The good news is that short-term capital gains taxes are simple. You treat short-term capital gains like regular income, and they’re taxed at your normal income tax rate.

If you hold an asset for more than one year, then any profits you earn from selling it are considered long-term capital gains. Long-term capital gains receive preferential tax treatment, so you’ll pay a lower tax rate on these gains. Like income taxes, the rate you pay will be based on your taxable income for the year.

State Capital Gain Taxes

On top of federal capital gains taxes, you may also have to pay state capital gains taxes. How these taxes work, as well as the tax rate, can vary from state to state.

For example, in 2022, Massachusetts charged 5% for long-term capital gains and 12% for short-term capital gains while Wyoming doesn’t charge capital gains taxes at all.

When thinking about the size of your tax bill, you need to consider both federal and state taxes.

How to Calculate Your Tax Bill

To calculate your capital gains tax bill, you’ll need a few pieces of information.

First, you need to know how much taxable income you have in a year. To calculate this, simply add all of the money you’ve earned and subtract deductions such as retirement account contributions and the standard deduction.

Then, you need to calculate your short-term capital gains. To do this, you’ll need to know the price you paid for every investment you sold during the year plus the price at which you sold those investments. If that sounds like a lot, the good news is that your brokerage should send you this information.

Subtract your short-term losses from your short-term gains to find your net short-term gains for the year. Multiply those gains by the tax rate for the tax bracket you fall into to find your short-term capital gains tax for the year.

Note: You might wind up moving to a higher tax bracket due to your capital gains, in which case a portion of the gains get taxed at the higher rate, which can make the math slightly more complicated. The higher rate will only apply to income above the threshold for that tax bracket.
Learn more about how taxes work

If your losses exceed the gains, you can deduct up to $3,000 of those losses from your normal income to reduce your tax bill. If you lost more than $3,000, you may carry those losses to future years to take deductions in the future.

For example: Imagine you have $5,000 of short-term gains in 2023 along with $3,000 in short-term losses. Your net short-term gains would be $2,000.
If your taxable income was $45,000 and you’re filing as a single person, you’d pay tax at a rate of 22% on that $2,000 in gains, for a total tax bill of $440 on your short-term gains.

Next, calculate your net long-term capital gains in the same way. Subtract your long-term losses from the long-term gains to find the net long-term gain. Multiply that number by the appropriate tax rate for your income to find your long-term capital gains tax.

Like with short-term losses, you can use a net long-term loss to offset regular income, up to a total of $3,000 per year across both long and short-term losses.

For example: If you have $10,000 in long-term gains and $2,000 in long-term losses during 2023. Your net long-term capital gain is $8,000.
If your taxable income is $47,000 and you’re filing as a single person, you’d pay tax at a rate of 15% on those gains, making your long-term capital gains tax bill $1,200.

Conclusion

To make a long story short, short-term capital gains, meaning those on investments held for less than a year, are taxed like normal income. If you hold an investment for at least one year, you pay a noticeably lower tax rate on the gains, but still, you have to pay taxes.

Before you decide to sell an investment, consider the taxes you will pay on the proceeds and factor them into your calculations of gain or loss.

To reduce the amount of tax you pay on your investments, try to invest in tax-advantaged accounts like IRAs or 401(k)s and hold your investments for the long-term.

The post 2022-2023 Capital Gains Tax Rates and How to Calculate Your Bill appeared first on FinMasters.

Get Serious

The IRS may not be as aggressive as some other debt collectors. They won’t call you every day, call your workplace, or harass you continuously. That doesn’t mean you can ignore your debt. Tax debt is among the most serious forms of debt you can have. You can’t escape it: most tax debts cannot be discharged in bankruptcy. Unlike other creditors, the IRS can seize assets, garnish wages, and take other enforcement actions without a court proceeding.

Never ignore an IRS notice. Always respond promptly. File every tax return on time, and if you’ve missed one, catch up as soon as possible. If you have multiple debts, give your tax debts the highest priority, even if another collector is giving you a hard time. Never try to cheat the IRS. You cannot go to jail because you owe more than you can pay. You can and will be imprisoned if you intentionally cheat.

Take IRS debts seriously. If you owe money to the IRS, face the problem and get to work. The IRS will happily work with you and offers several ways to make payment easier. If you try to run, hide, or ignore them, things probably won’t go well.

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Request Your Transcript

Start by learning to learn where you stand with the IRS. The IRS offers a mechanism that allows you to view your tax status online. You’ll need to create your own IRS account and establish your unique login credentials.

Once you have an account you’ll be able to download an account transcript. The transcript will show what tax has been assessed to you, what you have paid, and what remains unpaid.

Get into Compliance

You cannot resolve any tax dispute or delinquency without first getting into tax compliance. In most cases, you will be considered compliant if you have filed all tax returns for the most recent six tax years and current tax period payments are being made.

The IRS can extend the compliance beyond six years under some circumstances^[2]. For example, if you have a history of tax issues, if the IRS thinks you have received illegal income, if they think you owe a large amount and some other circumstances – returns may be required beyond six years. Management-level IRS personnel must approve enforcement action on returns more than six years old.

If you do not meet these special circumstances, you can achieve compliance by filing the tax returns for the most recent six tax years and setting up a payment program.

Getting Right with the IRS

There is a tax debt resolution program offered by the IRS for almost every taxpayer circumstance. The best program for you depends on a variety of factors, including the amount you owe and your current finances.

Installment Agreements

Installment agreements are payment plans for paying off tax debt. If you successfully enter into an installment agreement, the IRS will stop collection enforcement activity as long as you make your monthly payments on time.

There are four different types of installment agreements:

1. Guaranteed: The IRS will automatically agree to an installment plan if you owe $10,000 or less. The minimum monthly payment the IRS will accept is the total of your balance due, including penalties and interest, divided by thirty-six months.
2. Streamlined: To qualify for a Streamlined Installment Agreement, you must owe $100,000 or less in assessed balances of taxes, penalties, and interest. If you are dealing with business tax arrears, your business must owe $25,000 or less in taxes. You must agree to fully pay off the balance within eighty-four months (seven years). One of the advantages of a streamlined installment agreement is that the IRS will probably not take any additional enforcement actions such as bank levies, wage garnishments, seizure, or Social Security levies. Setting up a streamlined installment agreement will put you in good standing with the IRS.
3. Non-Streamlined: If you don’t meet any of the other criteria for a streamlined or guaranteed installment agreement, you may qualify for a non-streamed installment agreement. Under a non-streamlined installment agreement, you will pay off as much of the tax debt you can afford to pay, based on the IRS’ review of Form 433-F financial statement, over a ten-year period. Once the ten-year “statute of limitations” period has lapsed, any remaining tax debt may be forgiven.
4. Partial Pay Installment Agreement: The partial pay installment agreement allows you to pay back an amount deemed reasonable, considering your income and essential living expenses. You’ll submit the Form 433-F financial statement to determine the amount you must pay, and the IRS will require you to resubmit the financial statement every two years for review. If your income or expenses change, your payment will also change.

Be scrupulously honest in all documents you submit. If you try to hide income or exaggerate your needs your agreement could be rejected. If the IRS approves your agreement, pay your installments scrupulously.

Offer in Compromise

An offer in compromise may allow you to settle your tax debt quickly for less than the balance you owe. It is difficult to get an offer in compromise approved by the IRS: most requests are rejected.

There are only three situations when the IRS may accept an offer in compromise:

1. Doubt as to Liability: There’s a genuine dispute about the amount you owe, or whether you owe anything at all;
2. Doubt as to Collectability: Your assets and income are less than the full amount of the tax liability, and the IRS believes your tax debt may not be fully collectible; or
3. Effective Tax Administration: There’s no doubt that you owe the full amount and that the IRS could collect it, but paying in full would create a financial hardship , or there are exceptional circumstances that would make it unfair and inequitable for the IRS to collect the full amount.

While filling out your offer in compromise, you can choose from two different payment options:

1. Lump Sum: You include at least twenty percent of your offer upfront. Then you’ll pay the remaining balance in five or fewer payments within five months of the date the IRS accepts the offer; or
2. Periodic Payment Plan: Include your first payment with the offer. You’ll pay the remaining balance within six to twenty-four months, based on your proposed terms. You’ll also need to continue making payments while the IRS is considering your offer; otherwise, they will reject your offer without appeal.

If you want to make an offer in compromise, you must confirm your eligibility and properly prepare IRS Form 656.

Temporary Delay of Collection

If you can prove to the IRS that you cannot afford to pay the tax debt you owe, the IRS may decide that your debt is uncollectible and grant a temporary delay of collection. Before this is granted the IRS will assess your income and expenses to determine whether or not you have the ability to pay.

The IRS will not take enforcement action against you while this status continues. Interest will continue to accumulate on the amount that you owe. If your financial circumstances improve you will have to start making payments on your debt. Your finances will be re-evaluated every year to determine whether you are able to pay.

Innocent Spouse Relief

Most married taxpayers file joint tax returns. If your spouse or former spouse has created a tax deficiency without your knowledge, you may be eligible for innocent spouse relief. The IRS may eliminate all or part of your tax liability if you can prove that you didn’t know about the items that created the tax deficiency and that it would be unfair to hold you liable.

There are several forms of innocent spouse relief, and this IRS document explains them fully.

Consider Professional Help

If you owe money to the IRS, consider consulting a qualified tax adviser or tax attorney. You’ll have to pay for the services, but if you negotiate a better deal you could still come out ahead.

If you are invited for a collection interview, consult a tax adviser before your interview. You’ll need to be well prepared. You are entitled to representation at an interview, so consider retaining an attorney to represent you.

You have the right to courteous and professional treatment. If you feel that isn’t given, you can request to speak to a supervisor.

Consider a Loan

The IRS suggests taking out a loan to pay your tax debt^[3]. The interest on your loan could be lower than the penalties that the IRS assesses. That could make a loan a cost-effective solution.

Your lender will also have the range of collection options that the IRS has. A loan could be dischargeable in bankruptcy, but be careful about taking out a loan to pay taxes if you are considering bankruptcy. If you take out a loan with the intention of having it discharged in bankruptcy the lender can challenge the discharge and your entire bankruptcy proceeding could be at risk.

Take the Initiative

If you owe tax arrears or have received a notice from the IRS concerning a tax deficiency, don’t panic. You are going to survive this. Communicate immediately with the IRS agent handling your case. Taking the initiative to make contact is a sign of good faith and could make negotiation easier. Start by catching up on any returns you haven’t filed. Then choose the IRS tax resolution option that is most beneficial for your specific situation.

Tax debts will not go away, and the IRS has a wide range of options for collecting them. On the brighter side, the IRS does not want to seize your property or garnish your wages. If you take the effort to work with them, they will work with you.

The post How to Tackle Tax Debt: What to Do When You Owe Money to the IRS appeared first on FinMasters.

Let’s look at the most recent federal tax revenue reports, breaking them down by source and comparing them to historical data.

Sources of Federal Tax Revenue

There are three main sources of federal tax revenue: individual income taxes, payroll taxes, and corporate income taxes. Other sources of federal tax revenue include excise taxes, estate tax, customs duties, and other fees.

Figure 1: Sources of federal tax revenue in 2022 (in millions of dollars)

Let’s break those data down into percentages:

• Individual income taxes: 53.7%
• Corporate income taxes: 8.7%
• Payroll taxes: 30.3%
• Excise taxes: 1.8%
• Other taxes: 5.5%

Figure 2: Federal receipts as a percent of GDP (1934-2022)

The tax-to-GDP ratio measures a nation’s tax revenue relative to the size of its economy (measured by gross domestic product). It is one indicator of how much of a country’s economy goes toward sustaining its government. Since World War II US federal tax revenues have averaged around 19.5% of the GDP, regardless of fluctuations in marginal tax rates. Most developed countries have a higher tax-to-GDP ratio than the US: the OECD average is 34.1%.

Federal Individual Income Taxes

Individual income taxes are by far the largest source of federal revenue. They account for 53.7% of total federal tax revenues.

Federal income taxes are progressive: the more you earn, the larger the percentage of your income that you will pay in taxes. Depending on how much you earn you will fall into one of the seven tax brackets, ranging from 10% to 37%.

Table 1: 2023 federal income tax brackets

It’s important to remember that when your income increases and puts you in a new tax bracket, all of your income will not be taxed at the new, higher rate. Only the portion of your income that is above the cutoff will be taxed at that rate.

Federal Corporate Income Taxes

The corporate income tax is the third-largest source of federal revenue, after individual income taxes and payroll taxes. It accounts for 8.7% of total federal tax revenues.

All corporations that have residency in The United States pay corporate income taxes at a rate of 30.5%. US-based foreign-owned companies also pay corporate income tax on profits earned from activities in the US.

The importance of the corporate income tax as a source of federal revenue has been steadily declining from the 1950s to the 1980s. It now averages less than 2% of GDP.

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Figure 3: Federal Corporation and Individual Income Tax as a % of GDP

Federal Payroll Taxes (Social Insurance and Retirement Receipts)

Payroll taxes are the second-largest source of income of the federal government, accounting for 30.3% of the total federal tax revenues.

Figure 4: Composition of federal payroll taxes in 2022

Most payroll tax revenue is used to fund the two Social Security trust funds: the Old-Age and Survivors Insurance (OASI) Trust Fund and the Disability Insurance (DI) Trust Fund. OASI pays retirement and survivors benefits, while DI pays disability benefits. Social Security taxes are paid into these US Treasury accounts and used to pay benefits.

Federal Excise Taxes

Excise taxes are consumption taxes imposed by the federal government on sales of some goods and services. These include products like fuel, airline tickets, tobacco and alcohol, and health-related goods and services. Excise taxes account for 1.8% of the total federal tax revenues in 2022.

Figure 6: Sources of federal excise tax revenue

The majority of excise taxes came from only 5 categories: tobacco, alcohol, aviation, transportation (highways), and health (supplementary medical insurance). The government also imposes excise taxes on local telephone services, medical devices, indoor tanning services, vaccine injury compensation, black lung disability, oil spill liability, and others.

Excise tax revenue as a percent of GDP has declined over time, as GDP has grown faster than average annual excise tax receipts.

Figure 5: Excise tax collection as a percent of GDP has declined over time.

Other Federal Taxes

Other federal taxes include estate taxes, customs duties, and various other small fees. All these other taxes combined represent 5.5% of total federal tax revenues.

The estate tax is a tax on assets that are transferred from deceased persons to their heirs after their death. These include assets such as cash, real estate, stocks, etc. The estate tax affects people who are able to pay the most and is considered the most progressive tax. The tax rate ranges from 18% to 40%.

Federal estate taxes are imposed only on relatively large estates. The level at which estate taxes are imposed changes from year to year. The biggest recent change occurred in 2018 when the Tax Cuts and Jobs Act of 2017 more than doubled the exempt amount to $11.18 million per taxpayer (from $5.49 million in 2017). Today roughly two out of 1000 estates are large enough to pay the federal estate tax.

17 states also impose state taxes on inherited wealth. These states will have their own exemption levels and tax rates.

Figure 5: Federal estate tax exemption (2001-2022)

Why Do We Pay Federal Taxes?

The Constitution grants the US Government the power to collect revenue by taxing its citizens.

The Congress shall have Power To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the common Defence and general Welfare of the United States; but all Duties, Imposts and Excises shall be uniform throughout the United States; 

Article I, Section 8, Clause 1 of the United States Constitution

Just as individuals earn wages for their work, the government taxes its citizens in order to provide services to them. These services include:

• Defense and security,
• Social security,
• Health programs like Medicare and Medicaid,
• Veterans benefits,
• Benefits for federal retirees,
• Safety net programs like unemployment insurance, food stamps, low-income housing and others,
• Environmental, health, safety, and financial regulations,
• Support for State and local education programs.

States and local governments also impose and collect their own taxes in order to pay for the services they provide to their citizens.

Taxes are inevitable. Every government in the world collects them. That doesn’t mean they’re popular. Taxes and tax rates often become political issues and may inspire a great deal of passionate argument. Understanding how taxes are collected and how the money is used can help us to bypass emotion and develop fact-based positions on tax-related issues.

The post Federal Tax Revenues: Where Does the Money Come From? appeared first on FinMasters.

Don’t worry. For most people who are filing taxes for the first time the process should be relatively simple. You’ll probably only have a few documents to worry about and you might even be able to file for free with software that walks you through the process. Let’s dive into what you need to know when filing taxes for the first time!

In this post:

• Who Has to File Taxes?
• Common Sources of Taxable Income & Tax Forms
• How to File Taxes
• Different Methods of Filing Taxes

Who Has to File Taxes?

First things first: do you even have to file? Or are you going to bookmark this article and check back next year?

You can use the IRS’s “Do I Need to File?” quiz to get a specific answer based on your situation. In general, you don’t have to file if you earned less than the amount of your standard deduction. That amount changes based on your age (under vs. over 65), filing status (single/joint/etc.), and the year.

As an example, the 2020 standard deduction for a single filer under 65 is $12,400, so you may not have to file if you made less than that.

However, this rule changes if you have special circumstances requiring you to file. For instance, if you have a business or are self-employed, you’re required to file if your net self-employment income was at least $400.

So the short answer is, you usually have to file if you made more than your standard deduction amount from any source, or more than $400 from self-employed work.

Common Sources of Taxable Income & Tax Forms

If you’re a first-time tax filer, chances are you don’t have a billion different sources of income yet. That’s good; it keeps things simple! You can view the IRS’s full list of income types here, but for now, we’re just going to hit the most common ones. 

Wages and Salaries 

If you’re a traditional employee who receives a paycheck from an employer, that income counts as wages or salaries. Your employer will withhold a portion of your paycheck for taxes throughout the year and will issue you a W-2 form at tax time. 

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Business/Self-Employment Income 

Do you do any kind of work for yourself or as a side hustle? This could include freelancing for clients online, running a summer business mowing lawns around your neighborhood, delivering food or groceries through an app, etc. This is self-employment or business income. You’ll report this income on a Schedule C form along with your Form 1040.

If you did over $600 of work for one client, they’re responsible for issuing you a 1099 form. If you did under $600 of work per client or don’t receive a form, you’re responsible for tracking and reporting this as miscellaneous income.

One account for everything business. If you are self-employed or run a small business, Bonsai can let you know when the taxes are due and how much taxes to pay. Learn more →

Interest Income 

Did you save some of your money in a bank account that pays interest? Awesome; you’re building your net worth and making free money! But this qualifies as income too. If you made more than $10 in interest, your bank will send you a 1099-INT form.

Investment-Related Income 

If you’re dabbling in the stock market, you might have made money in a few different ways. Dividend income will be shown on a 1099-DIV form, which you’ll get from your broker. If you bought a share and sold it at a profit, the profit will be subject to capital gains tax; your brokerage will send you this information on a 1099-B form. 

For instance: If you bought a stock for $5 and sold it for $15, you’ll be taxed on the $10 you gained.

Note that stock-related taxes only apply if you’re trading in a taxable account. You don’t have to worry about reporting dividends received or trades made within tax-sheltered accounts like an IRA or 401k.

How to File Taxes

Now that you know what kinds of income you might be earning and what forms you might expect, let’s look at the steps to filing your own taxes for the first time.

1. Understand Your Sources of Income

In order to know what to expect, you’ll want to keep records of any finance-related activities you’re doing throughout the year. Were you an employee at multiple companies? Expect multiple W-2s. Do you have multiple bank accounts? You’ll probably get an interest form from each one. Are you a freelancer working for a variety of clients? Keep records of your income from all of them.

If you’re being paid through PayPal, TransferWise, or similar services, you can usually download a transaction record that will include your work payments.

2. Know Your Dependent Status

If you’re filing taxes for the first time because you’ve recently become an adult, you may be used to your parents handling everything and claiming you as a dependent. 

Before you file taxes on your own, check in with your parents to make sure they don’t plan to claim you as a dependent this year. Your social security number cannot be used twice, so if they claim you, it will cause problems when you try to file. (Or, if you file first, it’ll cause problems when they try to claim you.) 

Review the IRS’s rules for qualifying dependents to figure out whether you could be considered a dependent or have any dependents yourself (e.g. if you’re a new parent or you support an elderly relative).

3. Gather the Necessary Documents 

Most tax forms come by mail throughout the month of January. Pick a designated place (e.g. a desk drawer) to set aside any forms you receive, so you don’t have to hunt through stacks of mail when you’re ready to file. 

You’ll probably have some combination of W-2s and 1099s. There might be some other forms in there too, depending on your situation—for instance, you might get a form to deduct student loan interest, tuition expenses, or mortgage interest. If you aren’t sure what a form is, check the IRS website for guidance.

You also need basic identifying information like the social security or tax ID numbers of everyone included on your tax return.

4. Review Your Deduction and Tax Credit Options

All filers can choose whether to take the standard deduction (a set amount of $12,400/person in 2021) or to itemize deductions. Itemizing is a lot more work, as it means you need to list out all your qualifying tax-deductible expenses like certain medical and dental costs, charitable contributions, or state and local taxes. 

As a first-time filer, you’ll probably be better off choosing the standard deduction. If you didn’t spend more than $12,400 on qualifying expenses like the ones above, it isn’t worth it to itemize.

Even if you take the standard deduction, there are some “above-the-line” deductions you can take to reduce your tax bill. These include traditional retirement plan contributions, health insurance premiums, contributions to a Health Savings Account, and more.

You can also review the IRS’s list of tax credits here, which are even more powerful than deductions if you’re eligible for any.

5. Consider Business Expenses

If you had any business or self-employment income, you can deduct any relevant business expenses from your business income. For instance, if you bought a lawnmower to run that summer lawn-mowing business, that’s a business expense. Or if you freelance using the internet, you can claim a portion of your internet costs as a business expense.

6. Plug In Your Numbers

All that’s really left to do is take the information from your forms and records and transfer it all to the Form 1040 that you’ll ultimately submit to the IRS. Next, we’ll quickly cover some different methods of accomplishing this! 

Different Methods of Filing Taxes

Time to talk logistics: what method will you choose to file your taxes for the first time?

Filing Taxes Online or With Software

Using a tax website or software to file your taxes is undoubtedly the easiest way to get it done. Usually, these programs will prompt you with easy-to-understand questions that guide you through the process. The software might ask “Did you receive a W-2 form?” If you did, all you have to do is type in the information on the W-2. They’re designed to be intuitive, making them perfect for first-time tax filers.

If you earned under $72,000 in 2020, you’re eligible to use the IRS Free File Program to file your taxes online through an IRS partner website for free. 

If you earned over $72,000, you’ll need to pay to use tax software. Popular options include TurboTax, H&R Block, TaxAct, and others.

Doing Your Taxes on Paper

Want to try your hand at doing it the old-school way? In my opinion, paper taxes are taxes on “hard mode”, but it’s still a valid option. 

There are a couple different ways to get paper tax forms:

1. Download Form 1040 and any relevant schedules from IRS.gov and print them
2. See if your local library or post office offers free paper tax forms.

IRS.gov also has a Forms & Instructions page where you can access detailed instructions about how to fill out your tax forms.

Using Professional Assistance

If the idea of taxes is still making you sweat, there’s no shame in calling in the pros. You can use the service of a qualified tax preparer to file your return. You’ll provide them with all your relevant documents and details, then let them take care of filling in forms and looking for deductions. However, these services cost money, so unless your taxes are quite complex I’d encourage taking a crack at it yourself first! It’s always a good idea to understand what’s going on with your finances, and most first-time filers will be facing relatively simple situations.

Once you’ve filed your taxes a few times, you’ll be breezing through 1040s in your sleep. Well, okay, you probably don’t want to dream about taxes. Totally fair… but also a good reason to get them off your mind! File now and you won’t have to worry about taxes until next year.

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