For many newlyweds, marriage can lead to a nasty tax surprise. There are situations when getting married can actually lead to you owing more in taxes, known as marriage tax penalties. This catches many people off-guard, especially when they file as a married couple for the first-time. To help you get ready, we've put together a complete guide to the marriage tax penalties as well as some ideas for how you can get around these problems.
When Do Marriage Tax Penalties Apply?
Marriage tax penalties typically hit couples where both people are working, they earn roughly the same amount of money, and are earning upper middle-class salaries or higher (about $75,000 a year each). This is because many of the tax rules don't properly adjust for married couples so they end up paying more taxes on the same amount of income compared when they were both filing as single taxpayers. We'll take a look at some specific examples in the next section.
The marriage tax penalty applies to all your income during the year of your marriage. Even if you got married in December, the marriage tax penalty would apply to your full year of income. These penalties are particularly costly for new couples who don't have children because they don't have as many other tax deductions to offset these new higher taxes.
Types Of Marriage Tax Penalties
Higher tax brackets: One way your taxes can go up after you marry is because the tax brackets don't quite double for married couples, even though there are two people earning income. For example, if you are single, you go into the 28% tax bracket once you start earning over $90,750. When you get married, the 28% tax bracket starts at $151,200, not double the single rate. As a result, you and your new spouse can end up paying more in income taxes after getting married despite earning the same income.
For example, two people both earn $90,000 a year, putting them both in the 25% tax bracket as single filers. After they get married, their combined joint income of $180,000 will push them into the 28% tax bracket. Even though they are still earning the same amount of income, they will owe a few hundred dollars a year in extra income taxes because of the way the brackets adjust.
Faster benefit phase outs: Many tax deductions and exemptions phase out if you earn too much per year. As a result, you can't take advantage of these deductions and exemptions to reduce the amount you owe in taxes. Once again, these exemption limits fails to adjust properly for a married couple so you may be eligible for fewer tax breaks after your marriage.
Extra tax surcharges: The government has recently launched two new surcharges in the past few years: there is a 0.9% surcharge for Medicare on all income and a 3.8% surcharge on investment income. These taxes only apply if you are single and earn over $200,000. The married threshold only goes up by 25%, to $250,000. If you fall into this category, you'll run into two brand new taxes that didn't apply when you were single, even though your income is exactly the same.
Less flexibility with deductions: When you file your taxes, you get to decide how to handle your deductions. You can either claim a standard deduction that everyone qualifies for or you can add up a number of expenses that are eligible for the itemized deduction. You can choose whichever approach gives you the best tax outcome.
When you get married, you and your spouse must both choose the same option. You can't have one person claim the standard deduction while the other itemizes. This is annoying if one of you has a lot of deductible expenses while the other does not because you aren't able to claim as large a deduction as when you were both single.
Preparing For The Marriage Tax Penalty
The marriage tax penalty is a tough one to get around. It can be so frustrating that in some rare cases, people don't get married just to avoid these extra taxes. For most people this isn't a realistic solution. Some other ways to prepare for the penalty include:
Adjust your tax withholding: Every time you receive a paycheck, your employer withholds some money for the IRS. When you first joined your job, you filled out a W-4 Form to estimate how much tax you owe every year and this is how your employer determines how much to withhold. If you underpay, you'll need to pay those extra taxes when you file your tax return.
Since getting married can cause your taxes to increase, you should update your withholding to make sure your employers adjusts your paycheck. Contact your HR department and submit a new W-4. This way you can pay off the marriage tax penalty throughout the year rather than getting hit with a large bill on April 15th because you miscalculated your withholding.
Consider filing separately: When you file taxes as a married couple, you can file jointly under one return or you can file separately where you each have your own return. Filing separately is not exactly like filing as two single people but it's similar. In some cases, this strategy can avoid the marriage tax penalty. It really depends on the situation and can be a fairly complicated calculation. You should have your accountant run the numbers both ways to see if you pay less of a penalty filing jointly or separately.
Save more for retirement: When you save for retirement through a 401(k) or Traditional IRA, you receive a tax deduction for your contributions. Every dollar you save for retirement is one fewer dollar that is being hit by the marriage tax penalty. If you aren't maxing out your accounts, this should be an extra motivation because otherwise more of that money will just go to the IRS.
Use a more tax-effective investment strategy: One of the most expensive parts of the marriage tax penalty is the extra surtax on investment income. It pays to adjust your investment strategy to one that generates less taxable income so you can avoid this surcharge. Some ways to avoid investment taxes include investing more through retirement accounts, buying cash-value life insurance, or using a more passive investment approach, meaning you buy and sell investments less often. Every time you sell an investment for a gain, you owe taxes but so long as you don't sell, you postpone those taxes.
Don't let the IRS spoil your wedding day. By planning ahead, you can prepare for the marriage tax penalty and minimize the financial hit. Although money isn't the most romanticized part of getting married, knowing how marriage affects your money ahead of time can actually save you marriage problems down the line.
If you are considering having children, you may be interested in finding out how having children affects your taxes. In that case you get benefits rather than penalties. If you're the type of person who likes to plan out your life, it may be worth working taxes for marriage and children into your financial planning.
If you plan to file your own tax returns, a software service like H&R Block (which now offers an H&R Block Online Free Registration) that gives you step by step guidance and unlimited expert tax advice (by chat) can make the transition from single to married tax life a lot easier.
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