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Paying sales tax can sting, particularly when you're purchasing big-ticket items like an automobile or furniture. But the Internal Revenue Service (IRS) provides a bit of a silver lining in the form of a federal sales tax deduction. Sales taxes you pay during the course of the year qualify for the deduction, but there are some rules and details that can complicate the claims.
You can either claim the standard deduction or itemize your deductions when you file your tax return. You can't do both. You'll have to itemize them on Schedule A of the federal Form 1040 if you want to claim a deduction for sales taxes you've paid.
This option isn't always the best choice for everyone. Many taxpayers find that the standard deduction is larger than the total of all their itemized deductions. Claiming the standard deduction is a better deal for them because it reduces their taxable income more. Deductions are subtracted from your overall gross earnings and you pay tax on the balance.
The standard deduction was worth $12,950 for single filers and $25,900 for married filers with joint returns in 2022, the return you'll file in 2023. The standard deduction increases to $13,850 for singles in the 2023 tax year and to $27,700 for married couples who file jointly. You'll save more money by taking the standard deduction if your total itemized deductions don't surpass these thresholds.
You have another choice to make in addition to choosing between the standard deduction and itemizing your deductions. You can deduct state and local income taxes or you can deduct sales taxes that you paid during the year, but you can't claim both. Again, you'll want to choose the option that gives you the greatest advantage.
The sales tax deduction works best for people who live in states with no income tax so the income tax deduction isn't available to them. It can also work for those whose sales tax deduction is larger than their state income tax deduction would be. Tally up the sales taxes you paid during the year to make sure claiming this deduction is worth your while.
State and local tax (SALT) deductions are limited to no more than $10,000, regardless of whether you claim income taxes or sales taxes. This drops to $5,000 if you're married but filing a separate return. You're limited to these figures even if you paid more in these taxes.
You have two options for calculating your sales tax deduction if you decide to claim it. You can use your actual sales tax expenses, or you can use the optional sales tax tables that are available from the IRS.
The actual sales tax method is easy, at least in theory. Simply keep all your receipts throughout the year and add them up at tax time. Your deduction is the total amount of all the sales taxes you paid, assuming it's less than that $10,000 limit. The downside to this method is that it requires a lot of meticulous recordkeeping, but it can result in a higher deduction.
You can make it easier on yourself by saving your receipts and maintaining a spreadsheet. Be disciplined about regularly entering the sales tax from every receipt to keep a running tally that's easy to reference at tax time. You'll be faced with a mountain of receipts that must all be added up when you prepare your tax return otherwise.
You can also use a personal finance app to keep track of what you spend. Many apps allow you to snap pictures of your receipts and will keep track of them for you as you spend and collect them.
The IRS provides a Sales Tax Calculator for small, everyday expenditures. You can add on sales taxes you paid on big purchases, such as vehicles, boats, aircraft, or home additions. The IRS even offers a worksheet in its instructions for Schedule A to help you keep track of these figures. The IRS might want to verify large purchases so it's important to keep the receipts for your biggest purchases, even if you use the sales tax tables.
The IRS tables are broken down by your state, your income, and the number of exemptions you claim. These tables are just estimates, but they do take many crucial factors into consideration. Some states have higher sales tax rates than others, and the tax tables take that into account, too. People with more income at their disposal tend to spend more, and the tax tables factor that in as well.
You're better off using the tables if you actually spent less than this number that the IRS assigns to you, and you're allowed to do that. Start adding up those receipts to get a better deduction if you think you might have spent more than the IRS estimate.
Some people who claim the state and local income tax deduction must report their state income tax refunds as taxable income on their returns in the following year. This isn't the case if you claim the sales tax deduction, so you might come out ahead over the long term by taking the sales tax deduction if your sales tax deduction is about the same as your income tax deduction and you decide to itemize.
It's best to check with a tax professional if you're unsure about whether to claim a deduction for income taxes or sales taxes.
There are a few more special rules for those who are married but filing separately, in addition to the lower $5,000 deduction ceiling. You and your spouse must both itemize, or you must both take the standard deduction if you file your federal tax returns using the married filing separately status.
Both of you must also use the optional sales tax tables or calculate the actual sales tax you paid. The tax laws don't allow for the mixing and matching of these deductions when you file separate returns.
Deductible taxes at the federal level also include state and local real estate taxes and state and local personal property taxes. You can generally deduct these in addition to state income taxes or sales tax that you paid, but they're subject to the same $10,000 cumulative limit or $5,000 if you're married and filing a separate return.
You have the option of amending your tax return by filing IRS Form 1040-X to replace the original Form 1040 tax return that you filed. You can change the deduction you claimed on the new return. You generally have three years from the date you filed the first return to do this or two years from the date you last paid taxes on that return, whichever is later.
