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Marriage Tax Penalty


There has been a lot of talk about the marriage tax penalty. Here are some of the frequently asked questions and answers.

Q: What exactly is the marriage tax penalty?

A: The marriage tax penalty is just a term meaning that a married couple will pay more in taxes thatn they would if ther were able to file as two single people instead. It isn't really a "penalty" such as paying your taxes late or filing late, but just represents an amount of additional tax.


Q: How bad is it?

A: Well, that depends on the individual situation. But, for example, a married couple earning $100,000 together, two children, and $15,000 in itemized deductions will pay $14,131 in tax. Now if the same two people earned $60,000 and $40,000 respectively, had one child each, and split the $15,000 in deductions between them, their taxable incould would be $47,000 and $27,000 respectively. Tax on that would be $9,320 and $3,720, for a total of $13,040, or $1,091 less.


Q: How long has it been like that?

A: Actually, for a long time. When income taxes first arrived, there was just one table for everyone. Single or married. But, back then most women didn't work. Once women started working, Congress introduced the married tax table, which saved married couples money over just the one table.


Q: Is anything being done about it?

A: There used to be a deduction to help offset the penalty, but it was repealed in 1986. The tax act of 2001 includes marriage tax penalty relief, but it didn't start until 2005. See the 2001 newsletter for details.
Update 2003 - The tax law changes for 2003 have amost eliminated the "marriage tax penalty". They did this by doubling the single standard deduction and the 15% tax bracket range for taxpayers filing "married filing jointly". However, the higher (25% and up) tax brackets for marrieds are not double that of singles, so taxpayers who end up in the 28% or higher tax brackets will not see a complete eliminations of the "marriage tax penalty", but will still benefit with  a reduced tax liability. Also, those taxpayers who itemize their deductions won't see a benefit from the increased standard deduction.



Education

Q: Is there a way to deduct private school tuition?

A: For K-12 education, no. However, there is a way to save for it, tax deferred or tax-free. Using a Coverdell education savings account (formerly called an Education IRA), a taxpayer can contribute up to $2,000 annually to the account and it can be used tax-free for private K-12 education tuition. Full contributions can be made by married couples with AGI under $190,000 or singles under $95,000. If the parents make too much, the grandparents can make the contributions if their income is low enough.


Q: What are the college tax incentives?

A: Currently, there are 3 college incentives. All college incentives are claimed by the individual claiming the dependancy exemption for the person attending college (parents for dependent children, etc). The Hope Education Credit is a tax credit that is good for 2 years (first 2 years of college). The credit is subject to income limits of the person claiming the credit (For 2008 the phaseout range is $48,000-$58,000 in income for Singles, $96,000-$116,000 for marrieds). It is a credit of 100% of the first $1200 in tuition, plus 50% of the next $1200 in tuition. There are other requirements as well.
The Lifetime Learning Credit is a 20% credit of up to $10,000 in tuition. There are income limits here as well (same as above), but not other requirements, such as "at least half-time" or enrolled in a qualified degree program. There are no time requirements for this credit.
Lastly, there is the tuition and fees dedcution. This deduction also has income limits (S: 80,000/MFJ: 160,000), but they are a little higher than for the 2 credits. Otherwise, it's rules are similar to the Lifetime Learning Credit.
It should be noted that if you file married filing seperatly, you CANNOT claim any of the above benefits.
You cannot use the same tuition for more that one incentive. Likewise, any other benefits (scholarships, grants, 529/Coverdell plan payouts) must be deducted from the tuition amounts before determining the tuition elligible for the incentives. Student loans do NOT need to be deducted.

Update 2009
The new American Opportunity Credit is very similar to the Hope credit, except it is good for 4 years per student instead of 2. Also, up to 40% of this credit can be refundable if you have no income tax liability. Previously, like the Child Tax Credit and the other eductation credits, you could not reduce your Income Tax below 0. If the credits eliminated all your income tax, and there was credit amount left over, you lost it. With this credit, you could get up to 40% of it refunded to you, like the Earned Income Credit. This credit is 100% of education expenses (Tuition, fees, and course materials) of the first $2000 and 25% of the next $2000. This credit begins to phase out at $80,000/$160,000 income levels like the Tuition and fees deduction, instead of the lower Hope and Lifetime Learning credit income levels. Lastly, this credit is only valid for tax years 2009 and 2010.



IRAs

Q: Can I put money into an IRA/deduct it?

A: Thats a question that there isn't a short answer to. First the easy part: If your W-2 form(s) (both yours and spouse, if married), do NOT have the pension plan box check, then yes, you can put into a Traditional IRA and deduct the contributions. The maximum since 2013 is $5,500 per person, $6,500 if over age 50.
Now, if the pension plan box is checked it gets more complicated. If both you and your spouse's W-2 has this box checked and your gross income is over $118,000 for 2015 or 2016 ($71,000 for Singles), you cannot deduct a traditional IRA contribution. You can still contribute to it, but you cannot deduct it. Incomes between $98,000 and $118,000 ($61,000 to $71,000 for Singles) can deduct a portion of the maximum allowed.
If one person's W-2 has the box checked and the other doesn't, there are 2 different rules that apply. For the person with the checked box, the same rules apply as above. For the person without the checked box (this is known as a Spousal IRA), the phase out range is between $184,000 and $194,000. (All limtiations are for 2016, for 2015 the only difference is the phase out for the spousal IRA is $183,000-$193,000.)
You might also want to consider a Roth IRA. Roth IRAs are not deductible. However, when withdrawn, they are tax free (assuming the qualifications are met). Not all taxpayers can contribute to a Roth IRA. Single people's income must be below $131,000 (phase out starts at $116,000) and married's below $193,000 (phase out starts at $183,000) (for 2015, for 2016 add $1,000 to each limit). Contribution limit amounts are the same as a Traditional IRA.
It should be noted that the total amounts contributed are PER PERSON, not per account or per type of IRA. One cannot contribute $5,5000 to a Traditional IRA and another $5,500 to a ROTH. Only $5,500 total.


Q: What is a Roth IRA?

A: A Roth IRA is a non-deductible IRA. However, when the money is withdrawn from a Roth IRA, the proceeds are tax-free if the conditions are met.
Contributions into a Roth IRA (the money you put in) can be withdrawn anytime without penalty. The earnings must meet guidelines to be withdrawn tax free.
Qualified withdrawals are not allowed during the first 5 years of the plan. After that, earnings are tax free for participants over 59.5, death/disability of the participant, or for a qualified first time home purchase. Withdrawals can also be made, penatly free but still subject to income tax, for qualified college expenses, medical expenses that exceed 7.5% of AGI, health insurance premiums for certain unemployed individuals, for IRS levy, or as subtantially equal payments over the life of the participant.