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.
Making Smart Decisions
What exactly does “living within your means” mean, anyway?
Let’s find out. We’ll take a closer look at the term and how you can better live within your means.
What Does It Mean?
Simply put, “living within your means” involves a person only spending what they make and not a nickel more. Somebody who is living within their means will ensure they don’t overspend and go into debt.
The concept becomes trickier once we think about it a little more. Let’s look at an imaginary person who makes $5,000 per month after taxes. This person spends $3,000 on their fixed expenses and $2,000 every 30 days on designer shoes. We’re talking dozens of pairs each year, all worn a handful of times before being stuffed into the back of some closet.
Technically this person is living within their means. They’re worth nothing outside of whatever the shoe collection is worth, but they’re not going backward. This person is in a good place compared to somebody who has to borrow $50 per month to put food on the table.
Are You Living Within Your Means?
The equation to figure out whether you’re living within your means is ridiculously simple. Even you math haters can handle it.
Income - expenses = >$0
That’s it. Easy, right?
It’s usually pretty easy to tell whether you’re living within your means. If you have no savings, every month you stay above zero is a win. Even if there’s only $5 left at the end of the month. And if you do have a couple of bucks stashed away, the goal is to make sure that balance is going up each month. Or at least you’ll want it to stay the same.
The key to figuring out whether you’re living within your means is knowing what your income and expenses are. Make sure you’re using after-tax dollars for your salary when figuring out your budget. And make sure you tally all your expenses. Things have a way of adding up. It’s a good idea to estimate potential expenses a little on the high side.
How You Can Do It
If you’re currently going backward each month, don’t sweat it. We can help. Here are some ways you can better live within your means.
The first step is to take a look at your expenses. Most people spend more than 50% of their income on just three categories:
These categories are where you’ll want to start. They’ll get you the best bang for your buck when trying to cut expenses.
Take a critical look at what you pay for rent each month. Could you survive in a smaller space? Do you really need that second bedroom? Moving is a lot of work, but it’s worth it to save hundreds of dollars each month. Or, if you don’t want to move, invite a friend to move in and split the rent.
Transportation is another easy category to cut. You might not even need a car if your city has a good public transit system. Moving closer to work can save both housing and transport costs, especially if you end up within walking distance of the office. Or maybe a cheaper car is the answer.
Let’s pivot to food. Most millennials — myself included — spend way too much money eating out. There’s nothing wrong with this, provided you can afford it. If you’re spending too much every month, cutting back on restaurants is an easy way to free up a couple hundred bucks. Saving money on groceries is easy too, provided you meal plan around sale items rather than what you might really want.
Is credit card debt getting you down? Then find ways to get that payment lower. Transfer the balance onto a card with a lower interest rate. Or try to consolidate the debt into something that increases your monthly cash flow — even if that entails paying a little more in the long-term.
Remember the Top Line
Many savers focus on expenses, since they’re the low-hanging fruit. I’d bet even pretty frugal folks can find a few hundred dollars of fat in their spending.
But we shouldn’t forget about the other half of our equation. Income matters too, and there are easy ways to increase that number. And remember, somebody who’s working more will spend less cash on leisure activities.
The easy way to earn more is to sign up for more hours at work. This is especially lucrative if you’re paid hourly. If you’re on salary, then get a side hustle. There are hundreds of things you can do to make a little extra cash, and some of these activities have other positive side effects too. Reffing junior sports will help keep you in shape, for example.
Combine a little extra cash with a little less spending and you’ll get that much closer to living within your means.
Have an Emergency Fund
Many folks can keep themselves afloat on a month-to-month basis, but get into trouble when unexpected expenses come up. A medical emergency or unexpected car repair knocks them into debt, a hole they can never climb out of.
The key is avoiding this in the first place. An emergency fund will allow you to pay for unexpected expenses while keeping your month-to-month cash flow intact. You’d then slowly contribute back to the emergency fund until it’s fully funded again.
Some folks insist on keeping three months’, six months’, or even a year’s expenses inside their emergency fund. I’d start with $1,000 and work up from there.
Even once your emergency fund is full, don’t stop saving. Start putting cash into your retirement accounts or start planning for a new car once the old one wears out.
The Bottom Line
If you’re not currently living within your means, don’t sweat it. By using a combination of cutting expenses and increasing your income, you can get there. It might take drastic moves to cut down your lifestyle, but you’ll feel great once you start making financial progress each month.
An emergency fund will also help with those unexpected expenses, annoying things that pop up at the worst times.
Life is better lived without financial stress. You can get there. It’ll be worth all the sacrifice.