Now that 2016 is in our rearview mirror, we can all start earnestly gathering information to prepare our tax returns. Yippee! Sarcasm aside, this is a time many of us are calculating whether this year will bring a tax refund or an unwelcome tax bill. Finding yourself owing the IRS more than you expected, can result in lots of frustration and confusion. That mindset, plus the fact that income tax laws are terribly complex, leaves us ripe for media-promulgated income tax myths. I’ll take this opportunity to bust some of those myths and reveal the truth about how our tax code works.
Myth #1: “If I make more money, I’ll get pushed into the next tax bracket, and I’ll be worse off.”
Actually, our federal income tax system has a progressive structure, so that the first portion of your earned income is not taxed at all because of the standard deduction and personal exemptions. The next chunks of income are taxed at 10%, 15%, 25% and so on, to the top rate of 39.6%. So, if you are married and your taxable income (after deductions) edges into the 25% bracket, ONLY the income ABOVE $75,300 (for 2016) is taxed at 25%. Income earned up to that amount is taxed at the lower rates. So, go ahead and make more money. It’s a good thing.
Myth #2: “40% of people don’t pay any taxes.”
That often-quoted number refers only to federal income taxes. Don’t forget about the 7.65% FICA tax for Medicare and Social Security (double that if you are self-employed), 7% sales tax (in Buncombe County, NC), roughly 24% tax on gasoline, state income tax (5.75% in NC), maybe another $200 each year for property tax on vehicles, and property tax if you own a home. It is virtually impossible for someone to not pay any taxes.
Myth #3: “My money will be wiped out by the death tax. My kids will hardly get anything.”
There is no tax on dying. There is a potential tax on passing assets to heirs. However, the first $5,450,000 is exempt from federal estate taxes (in 2016). (North Carolina repealed its estate tax in 2013.) If you are married, that $5+ million goes to your spouse tax-free and he or she gets to exempt another $5+ million at death. So, only if you have more than $10,900,000 of assets passing to heirs should you worry about estate taxes ($5,450,000 if you are single or widowed). Advanced estate tax planning strategies may be used to reduce estate taxes. Also, there is no “inheritance” tax. Heirs do not pay tax on assets they receive from an estate. So, don’t be afraid to leave money to the kids.