Home Mutual Funds How Do Tax Exemptions Work in Your Favor?

How Do Tax Exemptions Work in Your Favor?

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Filing Status 2023 2024
Single   $13,850 $14,600
Married Filing Separately  $13,850 $14,600
Head of Household $19,400 $21,900
Married Filing Jointly $27,700 $29,200
Qualifying Surviving Spouse $27,700 $29,200

Itemized Deduction

An itemized deduction is an alternative to the standard deduction. A taxpayer may claim one or the other but not both.

Tax rules permit specific types of transactions to be deducted from a taxpayer’s income. If a taxpayer incurs enough of these transactions (or incurs just one very large transaction), it may be more favorable for them to itemize their deduction as opposed to taking the standard deduction. It’s best to take the one that offers the largest deduction amount.

Examples of itemized deduction categories include:

Tax authorities will often require taxpayers to report both their gross income and their tax exemptions as opposed to only reporting a single net number.

Property Tax Exemptions

State and local governments may give property owners certain exemptions from real estate taxes owed on their property.

The exemptions are designed to reward or protect certain classes of homeowners by reducing the amount of taxes paid on the property. Here are some common property tax exemptions:

  • Homestead: This exemption is for taxpayers who own a home that they use as their principal residence in a state or municipality that wishes to encourage that. For example, Florida offers a homestead exemption of up to $50,000 to homeowners who are Florida residents. The exemption is not available to those who own vacation homes in the state.
  • Age and Disability: Seniors and the disabled qualify for property tax reductions in some localities. Age alone may not be sufficient. You may need to demonstrate a financial need to qualify. Even the definition of the term senior varies by locality. For instance, Washington State offers a senior exemption from age 61, as well as for veterans and disabled retirees while other states may have different thresholds for this age.
  • Public Service: Military veterans may claim a property tax exemption in some localities, though some restrict the eligibility to disabled veterans. The exemption may continue for the surviving spouse or parents. Some localities offer exemptions for volunteers. For example, New York gives exemptions to volunteer firefighters and ambulance workers.

These are just examples of the exemptions that may be available in some states and municipalities. Others are available for people renovating old houses, installing renewable energy systems, or surviving a spouse.

State and local tax exemptions may benefit veterans, senior citizens, or people with disabilities.

Some exemptions are limited to a portion of property taxes. For example, the New York State School Tax Relief exemption, which is no longer available to new applicants, applies only to the school tax portion of the bill. 

Double Dipping

Taking one exemption does not preclude a taxpayer from taking others. For example, a Miami homeowner who takes the homestead exemption might also qualify for other exemptions if they are a disabled veteran.

Property tax exemptions are not automatic. Homeowners must apply for them and demonstrate their eligibility.

Tax-Exempt Organizations

Charities, fraternities, labor organizations, trade associations, churches, and other entities operate for a specific purpose that does not include making a profit. The law lets these entities operate without any income tax obligation on the money they receive. However, they pay employment taxes for their staff, just as for-profit businesses do.

Tax-exempt status means that the funds they raise are not treated as income that would be taxed but rather as contributions that are not taxed.

Exemptions vs. Credits

Some taxpayers may file both exemptions and credits on certain tax returns. Both are generally favorable for the taxpayer, but each has a different mechanism for benefiting the filer.

Tax exemptions reduce the amount of income you owe tax on. Instead of having to pay taxes on your gross earnings, you’re allowed to subtract certain figures from this amount to arrive at your AGI. For example, if you earned $100,000 last year but are eligible for a $5,000 deduction, your taxable income is $95,000.

Tax credits, on the other hand, directly impact the amount of tax you are assessed. Say that, for a single filer, the applicable 2024 tax table dictates that $95,000 of taxable income be assessed a tax amount of $15,953. A tax credit of $1,000 would reduce the amount of taxes owed to $14,953.

Non-refundable tax credits can reduce the amount of tax owed to $0 while refundable tax credits can go further and create a tax refund for the taxpayer.

Why Do I Have To Fill Out Form W-4?

IRS Form W-4 is called the Withholding Certificate. You must complete this form in order to tell your employer how much federal tax must be withheld from your paycheck. A new form must be filled out every time you change employers or whenever your personal situation changes. For instance, you may consider filing a new form if your marital status changes or if you have a new baby.

Is It Better To Claim 0 or 1 Exemptions on a W-4?

Taxpayers who list a lower number of exemptions on their W-4 will have more money automatically withheld from their paychecks for taxes. Taxpayers who report 0 exemptions on their W-4 will have the most amount of tax automatically withdrawn.

What Organizations Are Exempt From Tax?

The IRS permits companies that meet certain criteria under Internal Revenue Code Section 501(c)(3) to be exempt from federal tax. These organizations include but are not limited to religious, charitable, scientific, literary, educational, or other specific types of entities.

The Bottom Line

Taxpayers usually do not pay taxes on the gross (or full amount) of income they earn. This is because some or all of this income may be exempt from taxes.

Tax exemptions are built into tax codification to provide benefits to certain demographics, individuals who recently entered into specific types of transactions, or specific legal entities.

Tax exemptions work by reducing the amount of income on which income tax is calculated.

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