You take the vows, you do the dance, you cut the cake, and suddenly you’re not one anymore; you’re part of a pair. You have joined together in matrimony, now it’s time to decide whether to join together in taxation.
Once you file that marriage certificate, regardless of whether it’s the first day of the year or the last, you are married for the whole year in the eyes of the taxman, and from that day on you have two choices: file jointly or file separately.
There are all kinds of reasons to choose one over the other and there’s no simple answer (well, there kind of is, but that’s no fun!), so let’s take a look at what it means to file a return jointly with your spouse or to file separately.
I said “Yes!”
I’ll be honest with you, most of the time there is a simple answer to the question “should my partner and I file a joint return?” That answer is “yes.” The IRS wants you to file jointly. They did just about everything they could to make sure you would! The tax rates are better, increased standard deductions can make a big difference to some couples, and you can take advantage of more credits and deductions since many of these phase out or disappear completely on separate returns. Also, you only have to file one tax return, which saves you time and money. Despite all of the great reasons to file a joint return, it is not the right choice for every couple. Let’s take a look at some factors that can influence this decision.
You’re not a loan anymore
So, based on everything we know about filing jointly, why on earth would anyone want to file separately? One of the most common reasons couples opt to file two separate returns has to do with student loans. Most of us have them, and most of us are trying to pay them off. If the amount of your student loan repayment is based on your total income, than filing a joint return with your spouse that combines both incomes could increase your payment amount. If you both have loans to pay, well, when you’re staring down two inflated loan payments all of a sudden the tradeoff of facing higher tax rates might not look so bad.
Speaking of student loans, if you or your spouse have defaulted on those loans there is a pretty good chance that any refunds you might receive will be intercepted to be applied to those debts. If this is the case (or if there are other debts the government will grab your refund to cover), filing separately is a way to make sure that at least part of your refund makes it to your bank account.
On the other hand, if you have been paying your loans on time, chances are you have some interest you’d like to deduct. While the student loan interest deduction is often less valuable than anticipated due to a maximum deduction amount of $2,500 and phaseouts for higher earning individuals, the amount of the deduction is reduced to zero if you choose to file a married filing separate return, so keep in mind that filing jointly might be more advantageous in this case.
The Wages of Kin
To be filed under “problems we’d like to have” is another popular reason to file separate returns: you both make a lot of money. The U.S. has what is known as a “progressive tax” meaning that income is taxed at higher rates as you earn more. This is all well and good until you stack you and your spouse’s high incomes on on top of one another and you’re all of sudden facing some high tax brackets. There are situations where, even with the higher rates applied to separate returns, a high-earning couple can still come out with a lower overall tax bill by filing separately.
High incomes can affect more than just your tax rates; certain credits and deductions have phaseouts that kick in at certain dollar amounts. While many of these tax breaks are also affected by filing separate returns there are some situations where filing separately as a tax strategy can payoff.
A great example is the new 20% pass-through deduction passed in the most recent tax law (known as the 199A deduction) that can lead to some significant savings for those with qualified pass-through business income, such as from self-employment. However, for joint filers with combined income over over $315,000, the deduction can begin to phase out. So, if one spouse earns a high salary and the other is earning a more modest amount of freelance income, filing separately to stay under the income phaseout for the 20% deduction could result in significant tax benefits. A caveat: this strategy won’t help you in a community property state (see below).
Powers of Deduction
Every taxpayer is eligible to reduce their taxable income by a set amount called the Standard Deduction. For 2018 the standard deduction amount is $24,000 for joint filers or $12,000 for separate filers. Filing separately is simple enough if you and your spouse take the standard deduction, but there is a pretty major hiccup if deductions are itemized. Itemizing is most common when there is mortgage interest and real estate tax being paid on a residence or if there is a considerable amount of charitable giving. If you are filing separate returns and one spouse itemizes, the other MUST itemize as well. This can mean that one spouse will have over $12,000 in deductions while the other may only have a few hundred. This in itself may not be a deal breaker for filing separate returns, but it’s worth doing some comparisons.
For instance, you might be able to get a higher deduction by filing separate itemized returns, particularly when it comes to deductions which are limited by income, such as the medical expense deduction. For 2017 and 2018 amounts paid for medical expenses are subject to a “haircut” of 7.5% (increasing to 10% in 2019). What this means is that you have to reach at least 7.5% of your adjusted gross income (AGI) before any of your medical expenses are deductible. If one spouse has lower income than the other, filing two separate returns can mean taking advantage of more of those medical expenses. Keep in mind that since both partners have to itemize this strategy works best if there are other deductions to spread around (mortgage interest, charitable donations, etc).
To Halve and to Hold – Filing Separately in Community Property States
“What’s mine is yours” takes on a whole new meaning if you are lucky enough to live in one of the 9 community property states. If you reside in Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, or Wisconsin, filing separate returns can get quite a bit more complicated. When you file separately and you are a resident of one of these states, you and your spouse each report half of all community income, which means you combine your incomes and split them in half, regardless of who earned what.
If you chose to file separately, you’ll need to get acquainted with Form 8958, which is used to allocate amounts to each return. It is possible for partners in community property states to have separate property as well, but the rules vary from state to state so you’ll need to do some detective work if you think you might have separate property.
Jointly or Separately, you’re in it together. And Visor can help!
When it comes down to it, the decision to file jointly or separately should be made based on the unique factors of your individual situation.
At Visor, we’ll take out the guesswork by running both scenarios to determine which leads to a more optimal tax filing. Let a tax professional guide you through your tax filing as a married couple by signing up here.
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