Twelve Tax Myths Debunked

The following article is reprinted with the permission of the AICPA.

Twelve Tax Myths Debunked

CPA's clients often have misconceptions about federal taxes. Here is a list of a dozen commonly encountered misconceptions followed by the correct explanation of the rules.

Myth no. 1. Taxpayers who take the automatic four-month extension instead of filing by April 15 are more likely to be audited.

Wrong. There is no correlation between extending the return-filing deadline and getting audited.

Myth no. 2. Using the preprinted label on the return increases the chance of getting audited.

Wrong. The label is used to speed up return processing and does not affect the selection of returns for audit.

Myth no. 3. Those who cannot pay their taxes should not file returns.

Absolutely wrong. Willful failure to file a return is a federal crime. Taxpayers who can't pay all or part of the tax should file their returns and attach form 9465 requesting an Internal Revenue Service installment payment plan.

Myth no. 4. Taxpayers who support their parents in nursing homes can't claim them as dependents because they don't live with them.

Not necessarily. Parents need not live with their children to be claimed as dependents. However, dependents who are not relatives under the tax law must live with the taxpayer. Certain taxpayers supporting dependents may qualify for the benefits of head-of-household filing status.

Myth no. 5. Money received as a gift or inheritance is taxable.

Not as a general rule. Money or property received as a gift or inheritances is exempt from the federal income tax. Payment of the federal gift or estate tax is the responsibility of the donor or the decedent's estate. However, if the gift or estate tax isn't paid by the donor or the estate, the IRS can try to get the tax from the donee or heir.

Myth no. 6. Spouses who have separated but have not yet obtained a divorce have only two choices when it comes to filing returns: file jointly or use married-filing-separately status.

Not always. There are important exceptions. A spouse may be able to file either as a single person or as the beneficial head of household. Various test imposed by the tax law must be met. Filing jointly usually means either spouse is liable for any tax later found to be owed by the other one.

Myth no. 7. Spending money to get a tax deduction is always the right move.

Not always. The days of the old-fashioned tax shelters are gone. Money should never be spent or invested just to gain a deduction.

Myth no. 8. A pay raise can cost a taxpayer money by pushing him or her into a higher tax bracket.

Hardly ever. The graduated rate bracket system prevents this. But because of certain quirks in the tax laws, higher-income individuals will feel the tax bite more as their income rises.

Myth no. 9. Tax-exempt income is never taxable.

Not always true. Income that is exempt from federal tax may be subject to state tax. Individuals receiving Social Security benefits who have considerable tax-exempt income may have to pay tax on a greater amount of such benefits.

Myth no. 10. The IRS always will accept canceled checks a proof of charitable contributions.

Wrong. The law has changed. A written acknowledgment from the charity required for charitable gifts of $250 or more.

Myth no. 11. The independent retirement account deduction is gone for those who have retirement plans at work.

Not entirely true. If a taxpayer's adjusted grows income for 1995 falls below $35, 000 for single filers and heads of households or below $50,000 for joint filers, he or she is entitled to deduct at least part of the IRA contribution. Also, nondeductible contributions up to $2,000 per year to an IRA (up to $2,250 for a spousal IRA) are still allowed; that investment can then grow on a tax-deferred basis.

Myth no. 12. State and local general sales taxes, tax on gasoline and driver's license fees are deductible for federal income tax purposes.

Not anymore, unless they qualify as business expense deductions. Sales and gasoline tax and license fees have not been deductible on federal return for many years. State and local income taxes, as well as real estate and personal property taxes, are still deductible as itemized deductions on the federal return.

Source: American Institute of CPAs.