Tax exemption is the right to exclude from tax certain amounts of income or assets.
Being tax-exempt or having a tax exemption seems like a way to lower your tax bill, but it can cause problems if you do not understand the difference between tax exemptions, exempt workers, and tax-exempt status. Here's how you can make "exempt" work for you.
What does it mean to be tax-exempt?
Being tax-exempt implies that some or all of the income or activities of a transaction, entity, or person are exempt from federal, state, or local taxes. Tax-exempt organizations are generally charities recognized by the IRS. They are exempt from federal taxes (that is, they have tax-exempt status), and donations made to them are generally tax-deductible.
Personal exemptions
Usually, you are allowed one exemption for yourself and, if married, an exemption for your spouse. These are classified as personal exemptions.
Your exemption: You can get an exemption for yourself unless another taxpayer can claim you as a dependent. If a taxpayer is entitled to claim you as a dependent, you would not be entitled to an exemption, even if the other taxpayer did not claim you as a dependent on their return.
Your spouse's exemption: Spouses have never been considered dependents, but you can claim an exemption for yourself and one for your spouse in a joint return. If you filed a separate return, you could only claim your spouse's exemption if they do not have a gross income, did not report it, and is not dependent for another taxpayer. This is true even though the other taxpayer did not claim the spouse as a dependent. If you got a final divorce or alimony before the end of the year, you can't take your ex-spouse exemption. This rule also applies if you fully provide for your ex-spouse.
Exemptions for dependents
Individuals had an exemption for each person they could claim as a dependent. You can request an exemption for a dependent, even if they have filed a return. A dependent is defined as:
Qualified child or
Qualifying relative
An overview of the rules for claiming an exemption for a dependent:
It is not possible to claim a married person who filed a joint return as a dependent unless the joint return was only a refund request. There is no tax liability for one or the other of the spouses in the separate declarations.
You cannot claim an individual as a dependent unless that person is a US citizen, a resident of the US, or a resident of Canada or Mexico for part of the year.
You cannot claim dependents if you or your spouse can be claimed as dependents of another taxpayer by filing a joint return.
You cannot claim someone as a dependent unless that person is your child or a qualified family member.
Who is exempt from taxes?
For individuals, "tax exempt" generally has three meanings.
Are you exempt from withholding tax?
You can withhold federal income tax by changing your W-4 at work. However, Social Security and Medicare taxes will still be deducted from your check.
In general, however, you can only be exempt from withholding tax if two things are true: Last year, you received a refund of all federal taxes withheld because you had no tax liability, and you expect the same to happen this year.
Did you receive non-taxable income?
This is rare because the IRC defines taxable income as gross income with fewer deductions. And gross income, according to federal law, "means all income from any source." It is a vast territory covering the income obtained, such as salaries and income from investments and other sources.
However, certain types of income are normally not taxable.
Are you exempt from the minimum wage and overtime rules?
The FLSA (Fair Labor Standards Act) requires that most workers receive at least a minimum wage and overtime. However, some external management, administrative, professional, and commercial positions are exempt from these rules.
The Department of Labor uses several tests to determine whether an employee is exempt from the minimum wage and overtime rules. They are generally linked to wages and work obligations.
What is tax exemption?
Tax exemption is the right to exclude certain amounts of income or assets from tax.
A few years ago, taxpayers could exclude $4,050 or more from their income by claiming personal exemptions. Personal exemptions no longer exist.
The difference between tax exemptions, tax deductions, and tax credits
Tax exemptions are not the same as tax deductions or tax credits.
Tax credits are dollar-for-dollar reductions to your tax account.
Tax deductions are generally expenses incurred that reduce the tax basis.
Tax exemptions gradually reduce what is considered income primarily; that is, exemptions usually come right off the top. Personal exemptions no longer exist.
There were two types of income tax exemptions: personal exemptions for you and your spouse and exemptions for dependents, usually for your children or other people you support, but these were removed with the entry into force of the new tax rules that took effect in 2018.
FOR MORE INFORMATION OR TO SEE HOW DON BELL LAW CAN BEST HELP YOU WITH YOU TAX FILING NEEDS, PLEASE CLICK THE BLUE TAB ON THIS PAGE.
THANKS FOR VISITING.
Don Bell Law