Developing The Life Skill of Tax Filing – Part 2
When developing the life skill of tax filing, we need to know the common terms that we mix up. This helps us to identify our potential errors, so we can file an accurate return. We are also more confident when interacting with the tax authorities!
In our last article, we started off with assessable income against taxable income. As a quick recap, here’s the formula that shows how they are different:
The key between the two is deductible expenses. These are expenditure we incurred that the tax authorities allow us to include in our tax filing. Such expenses can be costs incurred to earn income (For example, a laptop for remote workers or gear for tradespersons). It can also be other allowed expenses (E.g. donations).
In some countries, you will be required to keep receipts and records of expenses. Others might allow you to claim a fixed prescribed amount. Here’s a good read on the two.
Here, it’s important to know that deductible expenses help to decrease your taxable income. The impact of such claims on your final tax bill though is dependent on your tax rate. For example, if I claim $1,000 of deductible expenses and I am taxed at 17%, my expenses only help me to save $170 in tax!
This brings us to the next common misconception:
Deductible Expenses versus Tax Offsets
Both deductible expenses and tax offsets reduce the tax we pay but in different ways and extent. Let’s look at a general tax filing formula that applies to most countries:
From the above formula, we know that tax offsets are applied directly to our tax bill. So if I had $150 worth of assessable tax payable, and managed to get $150 worth of tax offsets, then my tax bill is effectively zero!
Compared to deductible expenses, tax offsets have a greater impact on your final tax bill. As such, if you are thinking of what to spend your limited money on to get a tax reduction, it may be worthwhile checking out the tax offsets (otherwise known as reliefs) first before the deductible expenses!