Welcome back to Powering Your Retirement Radio. I am Dan Leonard your host. In the last episode on Top 10 Tax Facts, you should know, I got a fair amount of downloads and got more comments than normal. In this episode, I thought I address how to read your tax return.
As a financial advisor, I get asked, Why do you need to see my tax return? When I ask for documents.
As a tax preparer, I get a different question, did I give you everything? The answer to this is how should I know? Did you fill out the tax organizer completely? Which is usually followed up with I have to? Yes, if you want me to know for sure.
Before you turn in your documents to your tax preparer, pull out your prior year’s return. It will tell you if you have forgotten anything.
I need to make a confession, prior to becoming an Enrolled Agent and starting to prepare returns for clients, I was a horrible tax client. I didn’t fill out organizers, I never was sure I had all my documents. So, this episode reminds me of how I have learned to organize tax documents.
I want to walk you through your 1040 form which will tell you what documents you should have.
If you want extra credit print out Form 1040 and take some notes.
How to read a tax return
On the top half of page one, you have the following
Crypto Question – This is important.
All are straightforward. As Preparer, I need to know about your relationship status, where you reside, if you own any cryptocurrency, if there are any issues with your deductions, and if you have dependents. As a financial advisor, I know how many people I am planning for, that you are potentially an aggressive investor if you have a mortgage if you have kids, or dependents to include in the planning. Either way, I know a fair bit without even seeing a form.
The income numbers
Let’s look at the bottom half of page 1.
Line 1 – W-2 go here – You have a job and you are an employee
Line 2 – 1099-Int or a Consolidated 1099 – You have savings that are earning interest = Sch B
Line 3 – 1099-Div or a Consolidated 1099 – You own investments that pay dividends = Sch B
Line 4 – 1099-R – You rolled over a retirement account or you took a distribution from a retirement account or it goes on Line 5
Line 5 – 1099-R – You collect on a pension or an Annuity
Line 6 – SSA-1099 – You are collecting Social Security
Line 7 – You sold an investment or a property. The Capital Gain is reported on a 1099-B or 1099-S or a Consolidated 1099
Line 8 – This is other income. See Part I of Schedule 1 – State Refunds (1099-G), Jury Duty, Alimony, Unemployment, and since the Olympics are going on your Olympic, ParaOlympic Medals, and USOC prize money, too.
Line 9 – Phew – it is just math
Line 10 – Now Adjustments to income – Part II of Schedule 1 – Educator Expense, Self Employed Health Care Expense, Self Employment Tax, Student Loan Interest, IRA Deductions, and of course the nontaxable amounts of your Olympic, ParaOlympic Medals, and USOC prize money.
Line 11 – More Math
Line 12a – Schedule A Deductions or Standard Deduction
Line 12b – If you claim a Standard Deduction you can claim up to $300 in Charitable Deductions
Line 12c – Math
Line 13 – Qualified Business Deductions (QBI) for Business Owners
Line 14 – Math, again.
Line 15 – Math and this is your Taxable Income
On to page 2
Line 16 – Tax Calculation, the painful math
Line 17 – Come from Part I of Schedule 2. Alternative Minimum Tax and Excess Advance Premium Tax Credit
Line 18 – Math
Line 19 – Nonrefundable Child Tax Credit
Line 20 – Schedule 3 – Credits and Payments. Dependent Care Credits, Residential Energy Credits, Adoption credits, etc.
Line 21 and Line 22 – More Math
Line 23 – More Taxes, like additional taxes on HSA distributions, accumulated distributions from Trust, Golden Parachute payments. (Not as common for many)
Line 24 – More Painful Math – Your Total Tax
Taxes you have paid already
Line 25a – W-2 Withholdings
Line 25b – 1099 Withholdings
Line 25c – Any other form showing withholdings
Line 25d – Totals
Line 26 – Total of your Estimated Tax Payments
Line 27a – Earned Income Tax Credit
Line 27b – Noncombat Taxable Pay Election
Line 27c – 2019 Income which may qualify and expand credit due to Coronavirus
Line 28 – Refundable portion of Child Tax Credit or Additional Child Tax Credit
Line 29 – Form 8863 – American Opportunity Tax Credit
Line 30 – Recovery Rebate Credits (Stimulus Checks)
Line 31 – Part II of Schedule 3 – Extension Payments, Excess Social Security, Health Care Tax Credits
Line 32 – Math
Line 33 – Math – Your Total Payments
Refund or Tax Due
Line 34 – The happy line, which is the amount of your refund if you are getting one
Line 35 – What do you want to be refunded
Line 36 – What do you want to pay toward next years taxes
Line 37 – The unhappy line, What you owe.
Line 38 – The insult line, any penalties for underpayment
At the bottom of page 2
3rd Party Designee, who you’ll allow to talk to the IRS on your behalf.
Signatures, sign your return
Paid Preparer, if you paid someone to make sure their information is there, otherwise don’t pay them.
So as a preparer, if I have your return from last year, I can tell what you had on your return based on what lines are filled in. Without the schedules, I may not know everything, but I know where I need to ask more questions.
As a Financial Planner, with Lines 1 to 8, I have a pretty good idea if you have investment assets or are drawing income from retirement accounts. If all you have is a 401k I can see that from your W-2. Line 12 gives me a hint if you own or rent your home. Line 13 tells me if you have a business, even if it is a side hustle.
Page 2 of Form 1040, lets me know about the credits you collect, and where your withholdings are coming from. Finally, if you are retired and you owe, I know I can help by increasing your withholdings or lowering them if you get a big refund.
So, if I am doing your return do I need you to fill out the organizer? If I am trying to build a financial plan do I need you to answer a bunch of questions? In both cases, probably not, but it does make sense for you to give the professionals you are paying to help you as much information as possible.
All preparers and planners know most people are stressed about taxes and planning, having a copy of your return makes our job a little easier and allows us to ask intelligent questions.
That is it for this episode, and know you know why planners and preparers what to see your return. In true Jerry McGuire fashion, it helps me help you!
Until next time, look for your tax documents, find your 2020 return, be well and stay safe!
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