Tax Tips: State and Local Taxes

Here at the Daily Deduction, we spend a lot of time thinking about federal taxes, but chances are high that the state tax man took a bite out of your budget this year too.

Fortunately, you can bite back on your Form 1040 with the state and local tax deduction.

Which taxes are deductible? The big three are income tax, sales tax and real property tax. By adding them to your list of itemized deductions, you can make April 15 a little less, um, taxing.

If you decide to deduct your taxes, you must choose between the income tax and the sales tax. Of course, you’ll want to claim the largest one. How do you figure them out? To calculate your income tax deduction, find out how much state and local tax your employer withheld from your salary. Then, add any taxes that you paid during 2008 for prior years. For instance, if your employer withheld $5,000, and the state tax agency sent you a bill for $200 because you underpaid your state taxes last year, you can deduct a total of $5,200 on your federal return this year.

To calculate the sales tax deduction, you can either add up the sales tax from all of your receipts, or you can use the table found in the instructions to Schedule A (pdf) to estimate an amount. The table is based on your income; a bigger income means a bigger deduction.

If you live in a state that has no income tax, like Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming (New Hampshire and Tennessee limit their state income taxes to dividend and interest income), the choice is easy – you’ll definitely claim the sales tax deduction.

Unlike income and sales taxes, real property tax is always deductible, even if you claim one of the other two taxes. In order to claim the deduction, you must own the property that generates the tax, and you must not use it for a business. In addition, the tax must be determined with reference to your property’s value, and the money raised by the tax must be used for the good of the whole community. This means that the bill for installation of new gas lights in your neighbor’s gated community is not deductible but the county assessment that you paid to support the local schools is.

One last thing: If you receive a refund from your state, county or city next year for taxes that you deduct this year, make sure that you include the refund in your 2009 federal income.

You can’t hide from the hometown tax man, but at least you can pass along some of the cost by deducting your state and local income, sales and property taxes.

— David Perry

Consumerist has teamed up with MainStreet.com to bring you tax tips every day between now and April 15th. This frees up Tax Cat to do more important things — like trying to claim hairball meds and catnip as business expenses.

Looking for more deductions? You’ll find tons at MainStreet.com.

More from MainStreet.com: