Back to Federal Income Tax for Individuals and Small Businesses

Federal Income Tax for Individuals and Small Business

  • 8501. Who must file a federal income tax return?

    • Taxpayers with annual income that equals or exceeds certain threshold amounts are required to file a federal income tax return for the year. The threshold amounts are indexed annually for inflation. The 2017 Tax Act modified the rules governing who is required to file a tax return for tax years beginning in 2018 through 2025. Because of the suspension of the personal exemption, unmarried individuals whose gross income exceeds the applicable standard deduction are now required to file a tax return for the year.

      Married individuals are required to file a tax return if the individual’s gross income, when combined with his or her spouse’s gross income, is more than the standard deduction that applies to a joint return and (1) the individual and his or her spouse, at the close of the tax year, shared the same household, (2) the individual’s spouse does not file a separate return and (3) neither the individual nor his or her spouse is a dependent of another taxpayer who has income (other than earned income) in excess of $500.

      A return must be filed by every individual whose gross income equals or exceeds the following limits in 2021:[1]

      (1)  Married persons filing jointly – $25,100 (if one spouse is 65 or older – $26,450; if both spouses are 65 or older – $27,800).

      (2)  Surviving spouse – $25,100 (if 65 or older – $26,450).

      (3)  Head-of-household – $18,800 (if 65 or older – $20,500).

      (4)  Single persons – $12,400 (if 65 or older – $14,100).

      (5)  Married persons filing separately – $12,550 (if 65 or older – $14,250).

      (6)  Dependents – every individual who may be claimed as a dependent of another must file a return for 2021 if he has unearned income in excess of $1,100 (plus any additional standard deduction if the individual is blind or elderly) or total gross income that exceeds the sum of any additional standard deduction if the individual is blind or elderly plus the greater of (a) $1,100 or (b) the lesser of (i) $350 plus earned income, or (ii) $6,400.

      Taxpayers claiming the additional deduction for blindness may need to attach additional documents to a tax return to verify entitlement to the additional standard deduction.

      Certain parents whose children are required to file a return may be permitted to include the child’s income over $2,100 on their own return, thus avoiding the necessity of the child filing a return (see Q 8588). The 2017 Tax Act provided new rules with respect to the unearned income of minors, which were repealed for tax years beginning in 2020. Absent the repeal, that income would have been taxed at the rates applicable to trusts and estates, while the earned income of minors would have been taxed at the ordinary income tax rates applicable to single filers. For the 2018 and 2019 tax years, taxpayers have the option of electing either set of rules

      A taxpayer with self-employment income must file a return if net self-employment income is $400 or more.

      An individual who was subject to wage withholding but did not have gross income in excess of the threshold amounts described above may desire to file a return in order to receive a refund of the withheld taxes. Similarly, an individual not required to file a return may desire to file a return in order to receive a refund resulting from a refundable credit (a tax credit or refund payable to the taxpayer even if he or she had paid no tax), such as the earned income credit.

      When filing a claim for refund, taxpayers should consider the mailbox rule, which takes the date of mailing into consideration rather than the date the IRS receives the return. A district court recently confirmed that the “mailbox rule” applies to govern the date a return claiming a refund is filed with the IRS. Claims for refunds can generally be made within the immediate three years preceding the date the claim is filed plus extensions. The ruling, which noted that the IRS has previously agreed to follow the mailbox rule in these situations, means that if an otherwise late return is also a claim for a refund or credit, the date mailed is considered the date filed even if it is mailed after the original due date for the return.[2]

      [1].     IRC Secs. 6012(a), 63(c), 151; Rev. Proc. 2020-45.

      [2].     Treas. Reg. §301.7502-1(f), Harrison v. United States, No. 3:19-cv-194 (W.D. Wis. 2020).

  • 8502. How are 2020 federal income tax filing and payments requirements impacted by the COVID-19 pandemic?

    • Generally, both the federal tax filing deadline and payment deadline for the 2019 tax year were extended from April 15, 2020 to July 15, 2020 in response to the coronavirus pandemic.  The previously applicable caps ($1 million (for individuals) and $10 million (for corporations)) were removed in subsequent IRS guidance,[1] so that now, any amount of tax due was allowed to be deferred to July 15.

      The IRS released FAQ that clarifies that the filing and payment extensions (from April 15 to July 15) apply regardless of whether the taxpayer is sick or quarantined because of COVID-19.  The time period to make a 2019 IRA contribution or pay the 10 percent penalty tax for distributions included in income was also extended to July 15.  Employees who made excess deferrals to a retirement plan and were required to remove those amounts by April 15 remain subject to the April 15 deadline.  The deadline for making HSA and MSA contributions for 2019 was moved to July 15, 2020.

      For fiscal year taxpayers with 2019 returns due April 15, the deadline was extended to July 15 regardless of whether April 15 was an original or extended filing deadline.

      Taxpayers facing filing or payment deadlines that are not April 15 must note that their deadlines have not yet been extended.  The relief also does not apply to payroll or excise tax payments (deposit dates remain unchanged, but employers may be eligible for the new paid sick leave tax credit, see Q 8552).

      Taxpayers do not have to do anything to take advantage of the extension–they simply file their returns and make required payments by the new July 15 deadline.  Taxpayers who filed and schedule a payment for April 15 must, however, take action to reschedule their payment for July 15 if they wish (by contacting the credit or debit card company if the payment was scheduled directly with the card issuer).  To reschedule other forms of payment, the following instructions have been provided:

      • For IRS Direct Pay payments, taxpayers can use their confirmation number from the payment to access the “Look Up a Payment” feature. Modifications or cancellations can be made up until two business days before the payment date. The email notification received when scheduling the payment will contain the confirmation number.
      • Taxpayers using the Electronic Federal Tax Payment System (EFTPS) should click on Payments from the EFTPS home page, login, then click “Cancel a Tax Payment” from the left menu and follow the instructions. This must be done at least two business days before the scheduled payment date.
      • Payments scheduled as part of filing a tax return (authorizing an electronic funds withdrawal) can be revoked (cancelled) by contacting the U.S. Treasury Financial Agent at 888-353-4537. Calls to make a payment cancellation request must be made no later than 11:59 p.m. ET, two business days prior to the scheduled payment date.

      For taxpayers whose federal income tax return filing due date was postponed from April 15 to July 15, 2020, the due date of that taxpayer’s Section 965 installment payment was also postponed to July 15, 2020.

      For any taxpayer whose federal income tax return filing deadline has been postponed from April 15 to July 15, 2020, the due date for Form 8991 and the BEAT payment has also been postponed to July 15, 2020.[2]

      Taxpayers who wish to make a claim for a refund based on the 2016 tax year (which must be made by April 15, 2020 to be timely) remain subject to the April 15 deadline.  The relief similarly does not change the deadlines for making 2019 estimated tax payments.

      Subsequent IRS guidance in Notice 2020-23 expanded relief to taxpayers with a federal filing or payment obligation arising after April 1, 2020 and before July 15, 2020.  Specifically, deadlines are extended to July 15, 2020 for actions required with respect to (1) estate and trust income tax payments and return filings, (2) estate and generation-skipping transfer tax payments and return filings on Form 706 and related forms, (3) gift and generation-skipping transfer tax payments and return filings on Form 709 and related forms, (4) estate tax payments of principal or interest due as a result of an election made under IRC Sections 6166, 6161, or 6163 and annual recertification requirements under Section 6166.

      Similarly, taxpayers who faced deadlines with respect to Tax Court actions between April 1 and July 15 have their deadlines postponed until July 15.

      Notice 2020-23 also gives the IRS itself an additional 30 days to perform certain time-sensitive actions with respect to “affected taxpayers” made difficult because of a lack of access to information during the COVID-19 outbreak.  “Affected taxpayers” is defined as follows:

      (1) persons who are currently under examination (including an investigation to determine liability for an assessable penalty under subchapter B of Chapter 68);

      (2) persons whose cases are with the Independent Office of Appeals; and

      (3) persons who, during the period beginning on or after April 6, 2020 and ending before July 15, 2020, file written documents described in IRC Section 6501(c)(7) (amended returns) or submit payments with respect to a tax for which the time for assessment would otherwise expire during this period.

      The 30-day extension applies if the last date for performance of the action is on or after April 6, 2020, and before July 15, 2020.[3]


      [1]      Notice 2020-18.

      [2]      IRS FAQ available at: https://www.irs.gov/newsroom/filing-and-payment-deadlines-questions-and-answers.

      [3]      Notice 2020-23.

       

  • 8503. Who is allowed to file a joint federal income tax return? Who is eligible to file as a qualifying widow(er) with a dependent child?

    • Only legally married spouses may file joint returns. As a result of the Supreme Court’s decision in the Windsor case, the federal government now recognizes same-sex marriages that were legally executed in any U.S. state. As a result, the IRS must apply the tax laws to same-sex spouses in the same way as they are applied to all spouses.

      Although the income and deductions of both spouses are reported, a joint return may be filed even if only one spouse has income. If one spouse dies during the tax year, the spouses are considered married for the entire year, and thus may file a joint return.

      Qualifying Widow(er)

      For two years following the death of a spouse, the surviving spouse may file as a “qualifying widow(er)” with a dependent (using the joint filer tax brackets), if he or she satisfies the following requirements:

      •The surviving spouse was entitled to file a joint return with the deceased spouse in the year of death, even if a joint return was not filed;

      •The surviving spouse has a child or stepchild (excludes a foster child) for whom an exemption can be claimed;

      •The child lived with the surviving spouse all year; and

      •The surviving spouse paid more than half of the cost of keeping up the home.1

      Finally, if the surviving spouse remarries, he or she can no longer file as a qualifying widow(er,), and instead must elect to file as either married filing separately or married filing jointly.


      1 .IRC Sec. 2.

  • 8504. Who is eligible to file a federal income tax return as head of household?

    • An individual who meets the following requirements may file a tax return as head of household:

      •Taxpayer is not married or considered married (excluding a qualifying widow(er) with dependent child,1 see Q 8503);

      •Taxpayer paid more than half the cost of maintaining a home for the tax year;

      •A “qualifying person” (see Q 8505) lived with the individual for more than half the year (except for temporary absences); and

      •Taxpayer is not a nonresident alien.2


      1 .IRC Sec. 2(b)(1).

      2 .IRC Secs. 2(b), 2(d).

  • 8505. Who is a “qualifying person” for purposes of determining head of household filing status?

    • As discussed in Q 8504, in order to claim head of household filing status, an individual must maintain a home for a “qualifying person.” A “qualifying person” is a:

      1.“Qualifying child” (i.e., son, daughter, or grandchild) who is either:

      (a)Single (even if an exemption cannot be claimed for the person); or

      (b)Married and can be claimed as an exemption.

      2.“Qualifying relative” who is the individual’s father or mother and for whom an exemption can be claimed.

      3.“Qualifying relative” other than a parent (i.e., grandparent, brother, or sister) for whom an exemption can be claimed.1


      1 .IRC Sec. 2(b)(1); IRS Publication 17.

  • 8506. What does it mean to be considered unmarried for purposes of determining filing status?

    • An individual who is legally married may nonetheless be considered unmarried if the individual meets all of the following requirements:

      •Taxpayer filed a separate return;

      •Taxpayer paid more than half the cost of maintaining the home for the tax year;

      •The other spouse did not live in the home during the last six months of the tax year;

      •The home was the main abode of the individual’s child, stepchild, or foster child for more than half the year (except for temporary absences);

      •Taxpayer can claim the child as an exemption or cannot claim the exemption because the exemption was transferred to the non-custodial spouse.1


      1 .IRS Publication 17.

  • 8507. What are the tax advantages of filing as head of household?

    • Filing as head of household is much more tax advantageous than filing separately. The main advantages are a higher standard deduction ($18,800 for 2021) and lower tax rates.1


      1 .Rev. Proc. 2019-44.

  • 8508. What is a taxable year for individual income tax purposes?

    • The basic period for computing income tax liability is one year, known as the taxable year. The taxable year may be either (a) the calendar year or (b) a fiscal year. A “calendar year” is a period of twelve months ending on December 31. A “fiscal year” is a period of twelve months ending on the last day of a month other than December.1

      Although most individuals report tax liability using a calendar year, it is possible to use a fiscal year. In any event, the year used for reporting tax liability must generally correspond to the taxpayer’s accounting period.2 Thus, if the taxpayer keeps books on a fiscal year basis the taxpayer cannot determine tax liability on a calendar year basis. If the taxpayer keeps no books, however, reporting on a calendar year basis is required.3 Once the taxpayer has chosen a tax year, it cannot be changed without the permission of the IRS.4 A principal partner cannot change to a taxable year other than that of the partnership unless the principal partner establishes, to the satisfaction of the IRS, a business purpose for doing so.5

      A personal service corporation is required to use the calendar year for computing tax liability unless it can establish a valid business purpose for using a different period. The code specifically provides that deferral of income to shareholders does not constitute a valid business purpose.6

      Under certain circumstances, partnerships and S corporations are required to use the calendar year for computing income tax liability.7

      A short period (one that is less than twelve months) return is required where (1) the taxpayer changes the taxpayer’s annual accounting period, and (2) a taxpayer has been in existence for only part of a taxable year.8 A short period is treated in the law as a “taxable year.”9

      Example: On June 1, 2021, ASK, Inc., a C corporation reporting its tax liability based on a calendar year, began doing business. Since ASK was not operating for the entire calendar year, a short period return (June 1 through December 31) is required.

      If the short period return is made because of a change in accounting period, the income during the short period must be annualized, and deductions and exemptions prorated.10 However, income for the short period is not required to be annualized if the taxpayer was not in existence for the entire taxable year.11 For a discussion of the considerations applicable in determining a taxpayer’s accounting period, see Q 9016 to Q 9022.

      For the final regulations affecting taxpayers who want to adopt an annual accounting period (under IRC Section 441), or who must receive approval to adopt, change, or retain their annual accounting periods (under IRC Section 442), see Treasury Regulation Sections 1.441-0 to 1.441-4.12

      For the general procedures for establishing a business purpose and obtaining approval to adopt, change, or retain an annual accounting period, see Revenue Procedure 2002-39.13

      In Revenue Procedure 2003-62, the IRS has set forth the procedure under which IRC Section 442 allows individuals (e.g., sole proprietors) filing tax returns on a fiscal year basis to obtain automatic approval to change their annual accounting period to a calendar year.14

      The exclusive procedures for (1) certain partnerships, (2) S corporations, (3) electing S corporations, (4) personal service corporations, and (5) trusts to obtain automatic approval to adopt, change, or retain their annual accounting period are set forth in Revenue Procedure 2006-46.15


      1 .IRC Secs. 441(a), 441(b), 441(d), 441(e).

      2 .IRC Sec. 441(f)(1).

      3 .IRC Sec. 441(g).

      4 .IRC Sec. 442.

      5 .IRC Sec. 706(b)(2).

      6 .IRC Sec. 441(i).

      7 .See IRC Secs. 706(b), 1378.

      8 .IRC Sec. 443(a).

      9 .IRC Sec. 441(b)(3).

      10 .IRC Secs. 443(b), 443(c).

      11 .Treas. Reg. §1.443-1(a)(2).

      12 .See Treas. Reg. §§1.441-0 to 1.441-4.

      13 .2002-1 CB 1046, as modified by, Notice 2002-72, 2002-2 CB 843, and further modified by, Rev. Proc. 2003-79, 2003-2 CB 1036.

      14 .2003-2 CB 299, modifying, amplifying, and superseding, Rev. Proc. 66-50, 1966-2 CB 1260, and modifying and superseding, Rev. Proc. 81-40, 1981-2 CB 604. See also Ann. 2003-49, 2003-2 CB 339.

      15 .2006-45 IRB 859.

  • 8509. How does a taxpayer compute annual tax liability?

    • Editor’s Note: The 2017 Tax Act suspended the personal exemption from 2018-2025 and limited many itemized deductions to which a taxpayer might have otherwise been entitled.

      A taxpayer computes the amount of tax owed using the following basic steps:

      1. Gross income for the taxable year is determined (see Q 8513);

      2. Certain deductions are subtracted from gross income (above the line deductions) to arrive at adjusted gross income (see Q 8521 to Q 8523);

      3. The deduction for personal and dependency exemptions is determined (prior to 2018 after 2025, see Q 8516 to Q 8520);

      4. Itemized deductions are totaled (see Q 8524), compared to the standard deduction and the additional standard deduction, if applicable (see Q 8521), and (generally) the greater amount, along with the deduction for exemptions (prior to 2018 and after 2025), is deducted from adjusted gross income to arrive at taxable income;

      5. The proper tax rate is applied to taxable income to determine the tax (see Q 8510); and

      6. The following amounts are subtracted from the tax to determine the net tax payable or overpayment refundable: (1) credits (see Q 8552 and Q 8562), and (2) prepayments toward the tax (e.g., overpayments or credits from a prior tax year carried over, tax withheld by an employer or estimated tax payments).

      In some cases, there may be an alternative minimum tax liability. The steps in calculating the alternative minimum tax are explained in Q 8572.

  • 8510. What are the current income tax rates for individuals?

    • Based on a taxpayer’s filing status, the following individual income tax rates are applicable in 2021:1

      Taxable Income

      Tax Rate

      Single Married Filing Jointly Including Qualifying Widow(er) with Dependent Child Married Filing Separately

      Head of Household

      10% $0 to $9,950 $0 to $19,900 $0 to $9,950 $0 to $14,200
      12% $9,950-$40,525 $19,900-$81,050 $9,950-$40,525 $14,200-$54,200
      22% $40,525-$86,375 $81,050-$172,750 $40,525-$86,375 $54,200-$86,350
      24% $86,375-$164,925 $172,750-$329,850 $86,375-$164,925 $86,350-$164,900
      32% $164,925-$209,425 $329,850-$418,850 $164,925-$209,425 $164,900-$209,400
      35% $209,425-$523,600 $418,850-$628,300 $209,425-$314,150 $209,400-$523,600
      37% Over $523,600 Over $628,300 Over $314,150 Over $523,600

      The applicable tax rates and income thresholds imposed by the 2017 Tax Act are set to expire for tax years beginning after December 31, 2025.


      1 .P.L. 115-97; IRC Sec. 1(j)(2); Rev. Proc. 2019-44.

       

  • 8511. Why are many tax provisions indexed for inflation each year?

    • Many tax provisions are indexed annually for inflation so that increases in a taxpayer’s income that result solely from inflation do not push them into a higher tax bracket or over thresholds that would reduce or eliminate certain tax benefits.

      Example: Asher, who is a single taxpayer, earns $83,500 as the manager of a computer superstore. Assume at that income level, Asher is at the very end of the 24 percent tax bracket. At the end of the year, he receives a cost of living adjustment (another term for an adjustment for inflation) that increases his salary to $84,500. If tax brackets were not indexed for inflation, Asher’s cost of living raise of $1,000 would be taxed at 32 percent. Yet, based on inflation, $84,500 of today’s dollars is the equivalent of $83,500 of yesterday’s dollars. Thus, without indexing, Asher would experience a tax hike. However, by adjusting the tax brackets by inflation, Asher’s tax liability essentially remains unchanged.

      Under prior law, the indexing factor (referred to in the IRC as the cost-of-living adjustment) was the percentage by which the Consumer Price Index (CPI) for the prior calendar year exceeded the CPI for a year designated as a reference point in each respective IRC Section. In all cases, the CPI was the average Consumer Price Index as of the close of the twelve-month period ending on August 31 of the calendar year.1

      The 2017 Tax Act provides that items that are adjusted annually for inflation will be adjusted based on the Chained Consumer Price Index for All Urban Consumers (C-CPI-U), as published by the Department of Labor, for tax years beginning after December 31, 2017 (this change is therefore permanent).2

      The following are examples of tax sensitive items that are indexed for inflation:

      •     Individual income tax brackets

      •     Basic standard deduction

      •    Additional standard deduction (taxpayers sixty-five or older)

      •     Exemptions (prior to their suspension for 2018-2025

      •     Alternative minimum tax exemption amount

      •     Maximum earned income credit

      •     Overall limitation on itemized deductions (prior to the suspension of these limits for 2018-2025)

      •     Education credits (Hope Scholarship, American Opportunity and Lifetime Learning Credits)

      •     Adoption credit

      •     Child tax credit

      •     Low income housing credit

      •     Phase out of exemptions (prior to their suspension for 2018-2025)

      •     Deductibility of interest on education loans3


      1 .IRC Secs. 1(f)(3), 1(f)(4).

      2 .IRC Secs. 1(f)(3), 1(f)(6).

      3 .See Rev. Proc. 2019-44 for 2020 numbers.

  • 8512. What indexing factor does the IRS use to make the adjustments for inflation?

    • The indexing factor (referred to in the IRC as the cost-of-living adjustment) used prior to the 2017 tax reform was the percentage by which the Consumer Price Index (CPI) for the prior calendar year exceeds the CPI for a year designated as a reference point in each respective IRC Section. In all cases, the CPI is the average Consumer Price Index as of the close of the twelve-month period ending on August 31 of the calendar year.1

      The 2017 Tax Act provides that items that are adjusted annually for inflation will be adjusted based on the Chained Consumer Price Index for All Urban Consumers (C-CPI-U), as published by the Department of Labor, for tax years beginning after December 31, 2017 (this change is therefore permanent).2

      Planning Point: Many expect that this modification to the inflation indexing method will push more taxpayers into higher tax brackets more quickly than under prior law. This is both because of the fact that C-CPI-U indexing makes it appear that inflation is growing faster than under CPI indexing, and because many employment-related increases in income are based on the CPI. Tax policy center research shows that, since 2000, the C-CPI-U has grown at a consistently slower rate than the CPI.3

      Essentially, the C-CPI-U is designed to take into account the fact that individuals change their purchasing habits as the cost of certain goods increases or decreases (in order to substitute lower priced goods for higher priced goods). C-CPI-U is designed to take into account purchasing patterns both before and after a price change.

      Regardless of the system used, in calculating the new tax rate schedules, for example, the minimum and maximum dollar amounts for each rate bracket (except as described below) are increased by the applicable cost-of-living adjustment. The rates (percentages) themselves are not adjusted automatically for inflation. This method of increase explained above, however, does not apply to the phase out of the marriage penalty in the 15 percent bracket.4

      The Secretary of the Treasury has until December 15 of each calendar year to publish new tax rate schedules (for joint returns, separate returns, single returns, head of household returns and for returns by estates and trusts) that will be effective for taxable years beginning in the subsequent calendar year.5 As a practical matter the new numbers for the following tax year are often available as early as October of the preceding year. For a schedule of current tax rates, see Q 8510.


      1 .IRC Secs. 1(f)(3), 1(f)(4).

      2 .IRC Secs. 1(f)(3), 1(f)(6).

      3 .See Bureau of Labor Statistics Release (comparing CPI movement vs. C-CPI-U movement), available at https://www.bls.gov/news.release/cpi.t05.htm.

      4 .IRC Sec. 1(f)(2).

      5 .IRC Sec. 1(f)(1).