“Just tell me where to sign.” Does that sound like something you’d say when the time comes to send in your tax return?
Many of the women I meet through my financial planning practice are experiencing a major life transition such as widowhood, divorce, a large inheritance, or retirement. Suddenly, it’s critical for them to understand their financial situation — but they don’t feel prepared.
For example, one woman came to us after she learned that the alimony she had been receiving should have been reported on her tax return, yet never was. If she had understood the Form 1040, she might have known she had to claim the alimony (and avoided the big penalties she had to pay).
But it’s not just alimony. Say you've inadvertently forgotten to add some interest you earned from a bank account — that could trigger an IRS audit down the road. If you're lucky, the IRS will just send you a letter pointing out the overlooked income and recalculate your taxes owed, but even that is something you’d probably prefer to avoid by doing your taxes correctly in the first place.
A basic understanding of your tax return is a great place to build confidence, but all too often, women fail to pay attention to the details of their returns, opting to just sign on the line. Don’t let fear prevent you from understanding your tax return: It’s not as onerous as it may seem.
Grab your tax return (or a blank Form 1040), and we’ll review a few parts of it to gain some insight into your financial well-being.
To begin, tax returns provide the details of your income. Income can come from various sources, including your wages, interest earned from bank accounts, dividends from stocks, alimony, gains from investments that have been sold, retirement distributions, rental real estate, unemployment, or Social Security. If you’re using Form 1040, your income is broken out by these various sources on lines 7 through 21. Knowing the various sources of your income can help determine how sustainable that income will be from one year to the next.
Line 22 is the total of all of your income (not to be confused with your taxable income). On the bottom half of page 1, you may see some adjustments that reduce the amount of taxes you will owe. Once you factor in your deductions, you will arrive at your Adjusted Gross Income (AGI). Many deductions and tax credits are based on your AGI, so it is an important number.
Now that you have a good understanding of your income on page 1, let’s move on to the top of page 2 where items that reduce your AGI are listed. For most people, standard deductions and personal exemptions — found on lines 40 and 42 — are the major ways to reduce the taxes you owe. Deductions for personal exemptions can be as high as $3,950 for each person in your family and at least $6,200 for standard deductions. If you have several deductions from expenses such as property taxes, mortgage interest, and gifts to charity, the IRS allows you to itemize them to capture an even greater reduction in taxes than the standard deduction.
On line 43, you’ll see your taxable income. This is the number used on the tax tables to arrive at what you owe (but there may also be subtractions to this number from certain tax credits for child care and education expenses).
If you’re working, you’ve likely had taxes withheld from your paychecks throughout the year and, if you derive income from sources other than employment, you may have been paying estimated taxes to the IRS during the year. These “pre-paid” taxes are listed on lines 64 and 65. Now you’ll arrive at what may be the most important number on your return: Your refund on line 75, or the amount you owe on line 78.
The schedules found behind page 2 provide the IRS details on the information listed on the first two pages of your return. So, when you’re ready to learn more, these are great sources for digging deeper into your finances.
Don’t just sign on the dotted line. Take a few minutes now to gain a better understanding of your finances and, if you don’t understand anything on your return, consult a friend or professional to ensure you do.
Janet Acheatel is Founder of the Women’s Practice at Hoyle Cohen and a member of the DailyWorth Connect program. Read more about the program here.