People commonly refer to tax deductions as write-offs. With tax write-offs, it’s more than just writing it off. You have to qualify for a specific deduction and follow the rules related to that deduction.
How a Tax Write-Off Works
When you have expenses that you can claim a tax deduction for, you’re allowed to list them on your tax return. The deduction then reduces your taxable income.
It’s called a write-off because you’re writing off or wiping out part of your income. For example, a $1,000 deduction results in lowering your income by $1,000.
When you reduce taxable income, you also reduce your taxes owed unless you already had enough write-offs to owe $0.
How much are tax write-offs worth?
Tax write-offs are usually worth the cost of the expense times your marginal income tax rate. That’s because the reduction in tax is equal to the amount of the deduction times your tax rate.
For example, if you have a $1,000 deduction, it usually saves you $100 in taxes if you’re in the 10% tax bracket and $370 in taxes if you’re in the 37% tax bracket.
If you’re self-employed, you can add another 15.3% for business expenses. When you deduct business expenses, they reduce both your income taxes and self-employment taxes.
Different Kinds of Write-Offs
There are different categories of write-offs such as business expenses, medical expenses, education expenses, and other personal write-offs.
Business expenses are one of the most talked about tax write-offs. That’s because people think big companies can just write things off to get massive tax savings.
While it’s true a mega corporation might have an army of tax accountants trying to find more write-offs, they do have to play by the rules.
Qualifying business expenses are things that are ordinary and necessary to run a business. Common tax write-offs for businesses include:
- Gas and mileage
- Software subscriptions
- Work tools
- Employee salaries
- Contract labor
- Renting office space, coworking memberships, or the home office deduction
- Business insurance
- Office furniture
Medical expenses are a type of personal itemized deduction. Medical expenses are an example of a deduction with special limits.
With the medical expense deduction, you can’t deduct all of your expenses. You can only deduct the amount you spent that was over 7.5% of your adjusted gross income.
For example, if your AGI was $100,000 and you spent $10,000 on medical expenses, you can deduct $2,500. The formula is Expenses – AGI x 7.5% = Deduction. 7.5% of $100,000 is $7,500. $10,000 – $7,500 = $2,500.
The good news is that almost all of your expenses for medical and dental care plus insurance premiums are potentially deductible expenses. The main exceptions are:
- Many types of cosmetic work or other non-medically necessary procedures
- Expenses you pay for through a health savings account since you already got an HSA tax deduction
Education expenses are another special category of tax write-offs. When you have qualifying expenses from a trade school, college, or other higher education institution, you may be able to take an education tax credit.
The possible tax credits include the American Opportunity Tax Credit and Lifetime Learning Credit. Unlike other tax credits where you get a fixed amount, these credits are based on how much you spent.
Other Personal Tax Write-Offs
There are a number of other personal tax write-offs you may be eligible to claim. These include:
- Retirement savings in a traditional IRA or 401(k)
- Charitable contributions
- Real estate taxes and property taxes
- State income taxes or sales taxes
- Mortgage interest
- Hurricane disaster expenses
Some write-offs are fully tax deductible. Others have limits or only let you deduct a certain percentage of your costs. Many personal deductions also have income limits.