The Basics of Income Taxes

Every year around this time we at Financial Finesse see an increase in demand for our Tax Basics workshop.  The thing about our Tax Basics workshop is that it is exactly what it says it is—basic.  We don’t discuss tax theory.  We don’t attempt to understand the alternative minimum tax.  Instead we focus on the tax concepts that affect the majority of taxpayers across the U.S.  Understanding things like tax credits, exemptions, and deductions is critical to making sure you don’t end up on an H&R Block commercial finding out that you “voluntarily” let the government have over $8,000 because you didn’t know the tax benefits of education (in case you are interested, see IRS publication 970, Tax Benefits for Education).

I’m not sure why there is such mystique around personal income taxes.  Maybe it’s because no one ever taught us this stuff in school.  Perhaps it’s because of the sheer size of the tax code (71,684 pages according to this website).  Whatever the reason, we’ve got to get over it.  “Tax basics” is not an oxymoron.

I’m not saying there isn’t a need for tax preparers, enrolled agents, or CPAs.  I’m just suggesting that for most taxpayers their federal (and in many cases, state) income taxes may not be as complicated as they may seem.  If you have never prepared your own taxes, either by hand or with the help of software, I challenge you to give it a try.  You may discover a whole new appreciation for our tax code.

Here are some simple steps to get you started on preparing your 2011 federal tax return:

Step 1: Gather your tax papers

Before you tackle the 1040, make sure you gather all of the paperwork and tax forms you will need.  W-2’s, 1099s, and 1098s are just some of the more common tax forms that are mailed to you at the beginning of the year letting you know what information has been reported to the IRS. Payroll information like W-2s and 1099s (if you’re an independent contractor) should be received sometime before the end of January, so if you haven’t gotten anything by then, give your payroll department a call. For help knowing what tax forms you may need, check out this tax preparation checklist: http://tax.yahoo.com/checklist.html. If you prefer using software, here is a comparison of some of the major products: http://tax-software-review.toptenreviews.com/

Step 2: Prepare your return

Once you’ve gathered all of the appropriate documents, it’s time to start preparing your return.  The most common federal income tax form is the 1040, but for less complicated returns there is the 1040A and the 1040EZ.  If you’re not sure which form to use, the IRS offers guidelines on their website: http://www.irs.gov/newsroom/article/0,,id=251988,00.html.

Step 3: Have a tax preparer review your filing (optional)

Since this may be the first time you have attempted to file your own return, you may be a little nervous.  That’s okay.  If it would make you feel better, have a tax professional review your return.  There are several advantages to doing this.  For starters, you may have a lot of questions your tax preparer can answer for you.  Also, since you may have done a bulk of the work in preparing the return, you preparer may not have to charge as much for simply “reviewing” your return. Another advantage is peace of mind. For tips on choosing a tax return preparer, visit http://www.irs.gov/newsroom/article/0,,id=251962,00.html

Step 4: File your return (not optional)

Whether or not you have a preparer review your return, you must file your 2011 return no later than April 17th, 2012. If you have it reviewed by a preparer, your preparer may offer to file it for you as part of their services, but there may be a fee involved.  Under the IRS Free File Program, ALL taxpayers are eligible to file electronically for free.  In addition, taxpayers with less than $57,000 in adjusted gross income may use Free File software which can save you even more.

I realize that this only scratches the surface, but for many taxpayers the surface is the most they’ll ever need to scratch.  As I said earlier, there is plenty of work for tax professionals, and depending on the complexity of your personal situation, their services may be very valuable, but you may never know how valuable until you give it a try on your own. Remember, there are a ton of resources out there to help you, including the IRS website, so visit http://www.irs.gov/newsroom/content/0,,id=104608,00.html for additional tax tips, and find out for yourself how “basic” taxes can really be.

 

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