It's Not Fun, but It Has to be Done Benjamin Franklin wrote a 1789 letter that states, “But in this world nothing can be said to be certain, except death and taxes.” Even at the United States’ early beginnings, federal taxes were a necessary evil to fund various public projects and administrative costs. Today, federal taxes serve much of the same purpose. While virtually no one likes to prepare and file their taxes, it is a necessity if you want to avoid fines and further hassle. It is no secret that preparing and filing your taxes is notoriously complicated. Many people lament that it should not be so difficult to pay the government. However, some of the complications allow people to save money if they discover specific tax benefits. Knowing how to file your own taxes may be a good option if your tax situation is relatively straightforward, or if you are willing to learn the process. Why Do You Need to File Your Taxes Every Year? The short answer is that federal law requires that most individuals file taxes annually. Income taxes are assessed every year based on your income earned during that period. You then pay a percentage of that income to the government, less any deductions, adjustments, or credits that you qualify to receive. If you do not file (and pay) your taxes, then you may be assessed penalties and interest. The Internal Revenue Service (IRS) can even go as far as garnishing your wages and repossessing your property if you do not file and pay as required. The Benefits of Filing Your Own Taxes If you are one of the 43% of Americans that are doing your own taxes, you are certainly not alone. Roughly 53 million people prepared and filed their own taxes in 2018. There are many benefits to filing your own taxes, including: Saving money: Hiring a tax professional is expensive, and many people can prepare and file their returns on their own, completely free of charge. Control: Some people like knowing the exact information that is included in their return and being able to control the data, and for some, knowing precisely how the numbers work out, is comforting. Gain helpful information: When you prepare your taxes, you can see what items saved you money this year or which issues you should address so you can save money next year. While filing your own taxes is complicated, it can be beneficial under the right circumstances. There are several programs online that walk you through the process to help ensure you are taking advantage of all of your available deductions and credits. The Drawbacks of Filing Your Own Taxes In addition to the benefits, there are also some disadvantages to filing your own taxes. These include: Time and effort: Preparing and filing your taxes takes time and work You have to sift through financial information and deal with concepts that you may not understand well. The process can be frustrating and take a considerable amount of time. Error risk: If you do not completely understand how your taxes work, you run the risk of making a mistake because of misconceptions. If that happens, it could lead to underpayment and audits down the road. Questions: Even if you use a tax preparation software, you may still have questions that will remain unanswered unless you do significant research or reach out to a tax professional. For some people, the risk of having a substantial error that triggers the IRS’s attention is enough to scare them away from preparing their own taxes. Preparing for Filing Your Taxes When you begin work on your taxes, you should have information gathered throughout the year. Some of the most common items that you will need include: Social Security numbers for you, your spouse, and any dependents Information about wages, such as W2s or 1099s Investment income information Documents that represent any other source of income Information regarding adjustments to income, such as student loan interest paid, IRA contributions, and health savings account contributions, just to name a few Information regarding potential credits, including, for example, child care expenses, education expenses, or retirement savings contributions Data about any tax payments that you may have made throughout the year Keeping good records will help make tax preparation easier at the beginning of the year. [youmaylike] The Basics About What You Can Claim When Filing You must pay income taxes on all your income earned throughout the year. However, that income is reduced by a few things. The further you can reduce your taxable income, the less you tax you will pay. There are three general categories of tax reduction methods: Standard or Itemized Deductions Everyone can claim either the standard or itemized deductions. Standard deductions are a set amount that is based on your filing status. Itemized deductions are based on actual expenses that you incurred throughout the year. You can choose to use the higher deduction. The higher the deduction, the less tax you will have to pay on your income because your income decreases on paper. Itemized deductions include things like medical expenses, state and local tax payments, and home mortgage interest deductions. Itemized deductions will only decrease your income by a certain percentage, or up to a specific point. Adjustments Some adjustments to your income may also be available. These include things like paying student loan interest or alimony. Adjustments are more valuable compared to deductions because they decrease your income dollar for dollar. Credits A credit decreases your taxable income as well. Some credits are refundable while others are not. For example, you get a child tax credit simply for having children that qualify for that credit, but that credit will not be paid out to you if you do not have any tax obligations. On the other hand, the Earned Income Credit, which is available for low-income filers, will be refunded to you even if you do not owe any taxes. There are a wide variety of deductions and credits available. Take a look at the federal forms and related schedules to determine whether you might qualify for any of these. How to File Your Own Taxes If You Live Overseas If you earned income in the United States as a U.S. citizen or resident alien, you likely need to pay taxes on that income. This is true even if you live overseas. You can still choose to e-file or mail your tax return to the IRS once you have it prepared, just as if you physically lived in the United States. In some cases, you will be taxed on the income that you earned throughout the world. However, you may be able to deduct a portion or all of the revenue that was not made in the United States in some circumstances. Filing Online The IRS offers an online filing option that is free for individuals that have an adjusted gross income below a specific threshold. Generally, your income must be below $66,000 to qualify for this service. You can also file online by using a commercial tax preparation software. Examples of this type of software include: H&R Block TurboTax TaxCut TaxSlayer There are many programs available that will file your taxes for you, often for a fee. Knowing how to file your own taxes can be a great way to save money, but it can be tricky as well. If you want to file your taxes yourself, be sure to read the form instructions thoroughly and get familiar with various tax saving opportunities before you begin preparing your return.
Getting Your Life Back
Do you have consumer debt? In this article we’re going to look at how to pay it off and reach debt freedom sooner. We’ll start by looking at common types of debt, such as credit cards, personal loans and mortgages. After that we’ll look at strategic ways to pay off each type of debt. Finally, we’ll look at how to prioritize payments.
Types of Debt
Debt comes in all different shapes and sizes. Here are some of the most common types of consumer debt.
Credit cards let you borrow money from the bank to buy goods and services. A credit card is essentially an interest-free loan, provided you pay back any money that you borrow before your grace period (the time you have to pay off your credit card without incurring interest charges — usually 25 to 30 days) ends. If you fail to pay back your credit card in full, you’ll pay interest and be required to make minimum payments.
Credit card debt is considered revolving debt since it doesn’t come with a fixed number of payments. You can spend as much or as little as you like up to your credit limit, making it quite flexible, but also making it tempting to overspend.
A personal loan involves borrowing a fixed amount of money and repaying it in instalments over a set term. When you apply for a personal loan, it’s usually for a specific reason like buying a vehicle or a major home renovation. A personal loan may be secured or unsecured. When it’s secured, it means there’s an asset backing up the loan, such as real estate or a vehicle. Unsecured is when there’s no asset backing the loan.
A student loan is money you borrow for the purpose of paying for college tuition and other related school expenses. Depending on your financial situation, you may be able to get a student loan from the state or federal government and the banks. Student loans are usually considered “good debt” since it’s money you’re borrowing toward schooling that can boost your ability to earn income in the years to come.
A mortgage is a loan specifically used to purchase real estate. In exchange for loaning you money for a mortgage, the bank takes title on your property. This acts as security in case you fail to repay your mortgage. In terms of the repayment time frame, mortgages are usually repaid over 25 or 30 years. In fact, you may have the option of locking in your mortgage rate for the length of your mortgage, protecting you in case interest rates go up.
Home Equity Line of Credit
A home equity line of credit, or HELOC, is as the name implies — a line of credit secured by the equity in your home. HELOCs are a cheap and convenient way to borrow money, as long as they’re used responsibly. For example, using a HELOC to borrow money to buy an investment property or for home renovations that boost the value of your home can be a good use, while using a HELOC to go on a family vacation probably isn’t.
Strategic Ways to Pay Each Type of Debt Off
The debt avalanche and debt snowball methods are two popular ways to pay off debt. Let’s take a look at the two methods to help you decide which makes the most sense for you.
The debt avalanche is the most logical way to pay down debt for most people. When you use the debt avalanche method, you focus on paying down the debt that has the highest interest rate.
For example, let’s say you have two credit cards that you’re carrying balances on. One has an interest rate of 18% and the other has an interest rate of 25%. Using the debt avalanche method, you’d begin by paying off the credit card with the highest interest rate — so the one charging you 25% interest. (Keep in mind you’ll still want to make your minimum payment on your credit card at 18%interest; otherwise, you could hurt your credit score.)
Another popular way to pay off debt is the debt snowball method. With the debt snowball method, instead of focusing on the debt that has the highest interest rate, you’d focus on paying off the debt (credit card) with the lowest outstanding balance. One by one you’ll pay off all the debts you have — it’s kind of like rolling a snowball down a hill that keeps getting bigger and bigger.
If we go back to the earlier example, let’s say the credit card with an interest rate of 18% has a balance of $1,000, while the credit card with an interest rate of 25% has a balance of $5,000. Despite the credit card charging 25% having a higher interest rate, you’d focus on paying down the credit card with the 18% interest rate since the outstanding balance is smaller and you can pay it off faster. (You’d of course still make the minimum payment on the credit card at 25% interest.)
While the debt snowball method may not always make sense from a math perspective, humans tend to get more satisfaction from small victories. By paying off your smallest debt, it’s a small win. As you focus on the next biggest debt and the next biggest debt after that, you can celebrate the small wins along the way and keep yourself motivated on the way to debt freedom.
How to Prioritize Payments
First and foremost, as mentioned above, it’s important to make at least the minimum payments on your debts. If you don’t make the minimum payment, not only could it hurt your credit score, it can lead to a higher interest rate. If you have enough money to make the minimum payments on all your outstanding debt and you still have money left over, then your next decision is how to prioritize your debt repayment.
Of the debt types mentioned earlier, credit cards tend to carry the highest interest rate. As such, if you’re carrying credit card debt, it’s a good idea to focus on paying it off first. It makes little sense to make extra payments on your mortgage when the interest rate may be only 3%, when the interest rate on your credit card is 18%.
Once you have your credit card debt taken care of, if you still have other debt, you’ll need to decide how aggressively you want to pay it down. With a mortgage you may be able to make extra payments, but be careful. You don’t want to exceed your extra payments and end up owing a penalty.
Review the debt avalanche and debt snowball methods, decide the method that’s right for you and put a plan into action. The sooner you do, the sooner you’ll be on your way to debt freedom.