Everyone wants to pay as little as possible in taxes, but reducing tax liability is of special concern for seniors, many of whom are retired and living on fixed-income.
Fortunately, the government offers tax breaks to help older folks hold onto more of their hard-earned cash. Here are four tax deductions and credits every retiree needs to know about.
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1. Larger standard deduction
Most people take the standard deduction rather than itemizing deductions — or listing all their qualified deductions individually — when filing their taxes. The standard deduction is a set dollar amount that you can subtract from your taxable income, based on your filing status. For most people, taking the standard deduction offers a better deal on your taxes than itemizing the deductions you’re claiming.
Here are the standard deductions for each tax filing status:
Adults who are 65 and older get an extra $1,600 added to their standard deduction if they’re filing as single, head of household, or married filing separately. Married couples filing jointly may add another $1,300 for each spouse who is 65 or older, as can qualified widow(er)s. You must be at least 65 on Jan. 1, 2019, to qualify for this larger standard deduction for the 2018 tax year. This higher standard deduction reduces your taxable income, so you pay taxes on a smaller base amount, keeping more of your money.
2. Higher tax filing threshold
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A higher tax filing threshold is not a tax break per se, but it may still help you save. You are required to file a tax return if you earned more than the standard deduction for your filing status. Because seniors have higher standard deductions, they can earn more money before being triggering the need to file a tax return.
Remember, taxable income includes money withdrawn from tax-deferred retirement accounts, and it may include your Social Security benefits, based on the result of the Social Security earnings test. This means your benefits may be taxed if your combined income — your gross income, minus any tax deductions you qualify for, plus nontaxable interest and half of your Social Security benefits — exceeds $25,000 for single adults or $32,000 for married couples.
If you’re unsure whether you need to file a tax return, consult a tax professional or consider filing a return anyway. This is smart if you’ve had taxes withheld from your paychecks throughout the year or you qualify for refundable tax credits, like the Earned Income Tax Credit for low-income families, because you may get a nice refund back.
3. Tax Credit for the Elderly or Disabled
The Tax Credit for the Elderly or Disabled is worth anywhere from $3,750 to $7,500 for seniors 65 and older in 2018. This is a tax credit, not a tax deduction, so rather than reducing your taxable income, it reduces your tax liability dollar for dollar. So if you owe $5,000 in taxes and you qualify for a $5,000 tax credit, the two cancel each other out and you won’t owe anything. You must be at least 65 by the end of the tax year in order to qualify for this credit.
The value of the credit will depend on your tax filing status and your income from other sources. You can calculate yours by following the instructions on the IRS Schedule R Form or by using its Interactive Tax Assistant tool. This is a nonrefundable tax credit, which means that you won’t get any money back from the government if the credit you qualify for is larger than the amount you owe.
4. Catch-up contributions
Young working adults may contribute up to $19,000 to a 401(k) and $6,000 to an IRA in 2019. These limits are up slightly from $18,500 for 401(k)s and $5,500 for IRAs in 2018. But in either year, adults 50 and older are allowed to contribute an extra $6,000 to a 401(k) or $1,000 to an IRA. These are known as catch-up contributions, and they can help you increase your retirement savings and possibly reduce your taxes as well if you are closer to retirement.
Contributions to tax-deferred retirement accounts, like traditional IRAs and 401(k)s, reduce your taxable income in the tax year you make it. So if your salary was $50,000 last year and you contributed $5,000 to a 401(k), your taxable income would only be $45,000. By taking advantage of catch-up contributions to these accounts, not only do you increase your nest egg, but you also qualify for a bigger tax deduction this year.
Contributions to Roth 401(k)s and Roth IRAs will not reduce your taxable income for the year. The tradeoff is that you won’t pay any taxes on Roth distributions in retirement like you will with tax-deferred retirement accounts. Stick to tax-deferred traditional 401(k)s and IRAs if you want to take advantage of the tax deduction this year.
If you use software to file your taxes or if you hire an accountant, you shouldn’t worry about determining which tax deductions and credits you qualify for, or how much they’re worth. But it still pays to understand the tax breaks that are available to seniors because you may want to modify your behavior, like increasing your tax-deductible retirement contributions, to reduce what you owe even further.
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