“Adjustments to income” sounds like you go to the tax shop and they adjust your income, so it gives you a smoother ride through life. In reality, these are amounts that subtract from your income before you take your standard or itemized deduction. They are therefore “above the line” deductions, and are seen in a special light by the IRS in terms of particular worthiness as to deductibility. As their name indicates, after you subtract adjustments from your income you have your “adjusted gross income” – a phrase that should ring a bell because it’s referenced constantly in our hyper financialized culture.
First, the vast majority of taxpayers don’t have many above the line deductions. Most have only one or two. So before you get too excited, understand that they’re not easy to obtain and special circumstances generally apply. Without further ado, let’s dive into the different adjustments to income.
If you’re a teacher and you pay money out of your own pocket for classroom expenses, then you have incurred educator expenses. However, these expenses must be qualified, meaning that they have to fall into line with certain requirements. Specifically, qualified educator expenses are professional develop courses and equipment, books, and supplies. Homeschooling expenses are not qualified. This deduction tops out at $250 for single filers and $500 for joint filers if both spouses are educators. Enter any educator expenses on Schedule 1, line 10.
Business Expenses of Reservists, Performing Artists, and Fee-Basis Government Officials
Armed Forces reservists, performing artists, and fee-basis government officials are potentially eligible to deduct their employee business expenses. What is not self-explanatory about this category is how this deduction is accounted for.
I’ll provide some background first. As a result of the Trump tax reforms, the U.S. Congress suspended employee business expenses, generally accounted for on Form 2106, Employee Business Expenses. However, the IRS essentially repurposed this form to only allow for Armed Forces reservists, qualified performing artists, and fee-basis state or local government officials to account for and deduct their employee business expenses, which, as previously stated, are totaled on Form 2106 and then entered on, Schedule 1, line 11.
Health Savings Account (HAS) Deduction
Health savings accounts allow for tax deductible income to be contributed by the employee and tax exempt contributions by his or her employer. These funds are then to be used for qualified medical expenses. How much? For 2019 between employee and employer the total contribution limit is $3,500 for a plan covering only the employee and $7,000 for married filers.
This deduction equates to a combination of employer and employee contributions up to the maximum of either $3,500 or $7,000, as applicable. Report health savings account contributions on Form 8889, Health Savings Accounts (HSAs), and then enter any adjustment deduction on Schedule 1, line 12.
This is another casualty of the Trump tax reforms. Whereas it used to be that you could take an adjustment deduction for moving expenses, you now have to be a member of the Armed Forces in order to do so. As a result, this deduction is not available to many people anymore.
However, if you are in the Armed Forces, then use Form 3903, Moving Expenses, to account for your moving costs, which include expenses like transportation and storage along with traveling and lodging. Subtract from these expenses any amounts that were paid to you or reimbursed by the government for the purposes of relocating you. When you account for the total deduction on Form 3903, report it on Schedule 1, line 13.
Deductible Part of Self-Employment Tax
The self-employment tax is how social security and Medicare taxes are figured for those with self-employment income. You figure the tax on Schedule SE, Self-Employment Tax. To put this in perspective, the self-employed pay both sides of social security and Medicare taxes, for a total of 15.3% on profit. The reason for this is due to the fact that those who work for themselves are their own employee and employer, so both sides totaling 15.3% apply.
To lighten this burden of having to pay the full 15.3%, as opposed to only 7.65% as is the case with W-2 employees, the IRS allows for an adjustment deduction of one half of the total self-employment tax, which is calculated by taking the full amount of the tax and dividing it by two. Report this deduction on Schedule 1, line 14.
Self-Employed SEP, SIMPLE, and Qualified Plans
This adjustment deduction pertains to retirement plans contributed to for small business owners and their employees. SEP stands for simplified employee pensions and SIMPLE for savings incentive match plan for employees. Qualified plans include so-called H.R. 10 plans or Keough plans, along with 401(k)s. A whole article could be written about these because the requirements for their set up and contribution are complicated and copious. Suffice it to say, you’ll probably know if you have and contribute income to one of these, and if you do, you can probably deduct that income. For more information on this topic, see IRS Publication 560, Retirement Plans for Small Business. Report this deduction on Schedule 1, line 15.
Self-Employed Health Insurance Deduction
If you were self-employed and paid for your own health insurance, then you may be able to deduct amounts paid for health insurance premiums. This applies whether you own a sole proprietorship or single member LLC, are a partner in a partnership, or a shareholder in an S corporation. As long as you’re employed by your company and provide services to that company, you may be eligible to deduct your health insurance costs. This applies to not only your own health insurance costs, but also those of your spouse, dependents, and children under 27, regardless of whether those children are your dependents. However, you may not take this deduction for any month you were eligible to take part in an employer-provided health insurance plan. For example, if through your wife’s job you can be insured, then for those months where her insurance coverage was available, you can’t take the deduction for self-employed health insurance costs. Report this adjustment deduction on Schedule 1, line 16.
Penalty on Early Withdrawal of Savings
This is a pretty nebulous category, and it was always puzzling to me before I looked into it. My main question always pertained to what type of savings they were referring to. Well, here’s the answer. The IRS is speaking of a certificate of deposit or other deferred interest bearing account before maturity. The way these accounts work is that you promise the bank to place your money in these accounts that bear higher interest than a normal savings account, but you promise not to withdrawal those funds until after a certain time period has elapsed since the initial deposit. In this way, you promise to wait until the account has matured. However, if you take the funds out of the account before they mature, you owe a penalty for such an early withdrawal. That penalty will be reflected on Form 1099-INT or Form 1099-OID and it is deductible on Schedule 1, line 17.
Alimony is what you pay your former spouse to allow them to live in the way that they became accustomed to living while you were married to them. Seems unfair, huh? Well, it’s the law in a lot of states, but not Texas where I live. Anyway, as a silver lining to that potentially life-long alimony cloud over your head, the IRS used to allow the payer of alimony to deduct these payments against income, so you didn’t pay taxes on the money you paid your ex-spouse, he or she paid those taxes. It’s only fair, really.
However, these rules have now changed, and you can’t deduct alimony any more if it is part of an arrangement that was entered into, through a divorce decree, after December 31, 2018. But if you were obligated to pay alimony on or before December 31, 2018, then you may be able to still deduct alimony. Note that the IRS wants to know the social security number of your ex and the date of your divorce decree on Schedule 1, lines 18b and 18c, respectively.
An IRA is an individual retirement account. This account allows an individual to set up a fund for the purpose of saving for retirement. Additionally, when one thinks about IRAs two types come to mind – traditional and Roth. If the requirements are met, a Roth IRA allows for post-tax dollars to be contributed, but growth in the account is tax free. A traditional IRA allows for pre-tax dollars to be contributed, but all distributions in retirement are taxable. The IRA deduction pertains to traditional IRAs. This topic gets fairly complicated so I’ll give a synopsis of the deduction in this article.
You must have earned income to take the deduction. Earned income is generally derived from a job or through your labor. As a counterexample, dividends and interest are not earned income. The maximum you can deduct for an IRA contribution is $6,000 ($12,000 if married filing jointly and each spouse has a separate IRA) if under 50 at the end of the tax year, and $7,000 ($14,000 if married filing jointly and each spouse has a separate IRA) if over 50 at the end of the tax year. However, you may not take the full deduction if, among other reasons, your (and your spouse’s) total earned income was less than the maximum deduction. In that case, you may only deduct up to earned income. Also, if you or your spouse is covered by a retirement account through employment, most likely a 401(k), then the deduction for a traditional IRA may be reduced or eliminated. Report the deduction for IRA contributions on Schedule 1, line 19.
Student Loan Interest Deduction
(I actually wrote a whole post on this topic earlier here.)
This is one that hits a lot of former students hard. You gotta pay these student loans back, so the IRS throws you a bone and lets you deduct the interest, up to $2,500 in a given tax year. Hey, if you can’t have your student loans completely forgiven, this is the next best thing. Basically, if you paid interest on a qualified student loan for yourself, spouse, or dependent at the time of the loan’s disbursement, your filing status is not married filing separately, and your modified adjusted gross income is less than $85,000 single or $170,000 if filing jointly, then you can deduct at least some of your student loan interest. You’ll also need to make sure that the underlying loan proceeds need to have been spent on qualified education expenses, which are things like tuition, fees, room and board, etc. This deduction is reported on Schedule 1, line 20.
Tuition and Fees Deduction
The tuition and fees deduction was recently extended by congress for tax years 2018, 2019, and 2020. However, it was not announced as extended until after the filing date for 2018 had already passed, so if you’re interested in taking it for 2018, you have to file an amended return on Form 1040X, Amended U.S. Individual Income Tax Return.
To summarize, the tuition and fees deduction is available if you are any filing status other than married filing separately, your modified adjusted gross income was less than $80,000 ($160,000 if married filing jointly), you were a citizen or resident of the United States, and you can’t be claimed as a dependent on another’s tax return. Furthermore, you must receive a Form 1098-T, Tuition Statement, which represents funds you spent on qualified education expenses from an eligible educational institution. Note that you can’t take either the American opportunity credit or the lifetime learning credit and also take the tuition and fees credit. However, you can take the tuition and fees deduction while also taking the deduction for student loan interest. Finally, the maximum deduction is $4,000, and it’s reported on Form 8917, Tuition and Fees Deduction, before being carried over to line 21 of Schedule 1.
If you’re interested in more information about income and adjustments to income, see IRS Publication 17.
I hope you had fun reading about income adjustments. I know I had fun writing this. If you are having problems with your above the line adjustments to income found on Schedule 1, give Dino Tax Co a call at (713) 397-4678 or email firstname.lastname@example.org. The first phone consultation with us is always free. Also, like us on Facebook at www.facebook.com/dinotaxco.