It’s March 14 — and that means you have one month and one day to get your taxes done. In this third column of tax tips, "Today" financial editor Jean Chatzky responds to reader questions. Happy filing!
Q: I remember hearing a year or two back about the government planning to eliminate taxes on dividends. Did the law go through, and how will it affect me at tax time?
A: Yes, the law went through. Here’s the background:
Dividends are the profits some companies pay out to their stockholders throughout the year. The IRS used to regard tax dividends as normal income. If your income caused you to be taxed at 25 percent, then any dividend payments you received would also be taxed at 25 percent. The law that went into effect in the spring of 2003 didn't eliminate dividend taxes, but rather reduced them to 15 percent (or 5 percent for taxpayers in lower income levels).
How much the new tax law will affect you depends on whether you own stocks or mutual funds that pay dividends, and how much income you derive from those dividend payments. People who depend on an income stream from investments that pay high dividends, such as utility company stocks, will fare the best, since the IRS won't tax that portion of their income as much as it had in the past.
Be aware that the new rules don't apply to income from money market funds, bond funds, or certain types of stock dividends that the IRS classifies as interest (such as dividends from Real Estate Investment Trust stocks). Also, the law doesn't affect any dividends from investments already in tax-deferred vehicles like 401(k) plans or IRAs.
Q: I'm an artist — a painter, actually. I have a full-time office job, mostly for the health insurance, but also because I don't make enough money from my painting to support myself. One room in my apartment is entirely devoted to being an art studio. I'm wondering how much money I need to earn from selling paintings in order to write off deductions like the art studio, supplies, and so on. Or does my full-time job make it so that I cannot claim artist/painter as a second profession?
A: I have good news for you: It doesn't matter that you have another job. The government will allow you to deduct your art supplies, the percentage of rent and utilities that your studio occupies in your apartment, and any other expenses that relate to your painting business.
Also, the IRS has no income threshold you must reach in order to claim these deductions. In fact, your business could even lose money, and you'd still be allowed to claim them. After all, not every business venture is a moneymaker, especially in its first few years. However, if your painting business were to lose money several years in a row, your deductions could raise a red flag at the IRS and invite an audit.
If that were the case, an auditor would want you to prove that your painting business is indeed a business and not just a hobby. You would need to provide evidence that you are operating the venture as a means to make money. A few ways to do that are:
- Apply for a checking account and a credit card to use exclusively for your painting business
- Maintain good records of your income and expenses
- Actively market your paintings, and keep a log of your efforts
- Print up business cards and letterhead
- Join a professional artists association
- Subscribe to professional trade journals
Q: Any last-minute tips on how can I lower my tax bill?
A: As simple as it sounds, you need to make sure you're taking advantage of all the breaks available to you. That means maximizing your deductions and credits.
A deduction is anything that will lower your income, bringing you to a lower tax bracket.
Credits are even more valuable than deductions. They lower your tax bill dollar for dollar. The per-child tax credit is $1,000 for this filing year (it phases out when adjusted gross income tops $75,000 for singles, $110,000 for couples).
Despite these freebies, some people don't take full advantage of the breaks the government has to offer. USA Today, for example, reported that many, many eligible parents with kids in college aren't taking advantage of the Hope Credit or Lifetime Learning Credit, which could be worth thousands of dollars a year. Among the other perks people often miss are deductions for:
- Student loan interest
- Points you paid getting a mortgage or refinancing
- Job hunting expenses
- Charitable contributions, including mileage you use when you volunteer
Last year's tax return comes in particularly handy in this exercise. Compare it to this year's to see if you've missed any deductions or credits you typically take.
Jean Chatzky is the financial editor for “Today,” editor-at-large at Money magazine and the author of “Talking Money: Everything You Need to Know About Your Finances and Your Future.” Her latest book, "Pay It Down: From Debt to Wealth on $10 a Day," is now in bookstores. Copyright ©2005. For more information, go to her Web site, .