5 tax myths that can cost you money

Myth 3: I'm over age 55, so I can sell my house tax-free

Wrong again, graybeard! You're thinking old law.

It used to be that if you were older than 55, you could exclude as much as $125,000 in gains from taxes, but only once. Now the rules are even better.

Under current law, age no longer matters. If the property sold was your principal residence for at least two out of the last five years, you can exclude from tax as much as $250,000 in gain (and $500,000 in gain on a joint return).

Your age is irrelevant, and you can take the gain exclusion every two years if you qualify. By the same token, if your property appreciates by $250,000 to $500,000 every two years, give me a call. I could use your help in finding a new house.

Myth 4: I can deduct my sales taxes

This is a funny one. You haven't been able to deduct any sales taxes for purchases made for personal use since 1986.

But the deduction has made a comeback of sorts. Starting in 2004 and renewed for returns filed in 2006 through 2009, you can deduct your sales taxes from your federal income taxes or your state income taxes, but not both. If you live in one of seven states -- Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming -- you just got a nice deduction. You don't pay income taxes in those states.

Don't get too chummy with this break if you live in one of those states, though. Congress will be asked to renew it before the end of this year. It probably will be renewed, but that action could get hung up in political fights.

Now, what about sales taxes paid on purchases made in the course of business? Easy. If you pay sales tax on an item bought for business and if the item itself would be allowed as a business deduction, then the sales tax on that item would be allowed as well -- no matter what.

Myth 5: I'm married, so I have to file a joint return

Again, not true. If you're married, you can always file "Married Filing Separately." That normally results in you having to pay more in taxes. But in some situations, it can be to your advantage.

For example, if one spouse has substantial medical or miscellaneous deductions, those deductions are subject to the 7.5% and 2% floors respectively. That is, only medical expenses over 7.5% of adjusted gross income and miscellaneous deductions over 2% of adjusted gross income are deductible. If I had $10,000 in income and my spouse had $90,000 in income, the first $7,500 in medical expenses and the first $2,000 in miscellaneous expenses aren't allowed.

But if I filed as "Married Filing Separately," the disallowance would only apply to the first $750 in medical expenses and the first $200 in miscellaneous itemized expenses. The potential availability of $8,550 ($7,500 plus $2,000, less the sum of $750 and $200) in additional deductions could offset the bracket and other limitations of filing separately.

Try it both ways, and see which gives you the lower total tax. You can change your filing status annually.

I should add a caveat on this filing myth. If you're married, you normally can't file as single or head of household. Let's say, though, that you're married but separated, and you have a child. There's a special rule that will let you file as a head of household.

You can qualify as an "abandoned spouse" if your spouse didn't live with you for the last six months of the year and you have a child living with you who qualifies as your dependent. If so, you can file as head of household rather than jointly or married filing separately.

Run the numbers and see which produces the lowest tax bill.

Our tax code is complicated and changes with painful regularity. Many of the old rules are poorly remembered and distorted into myths. Don't get caught in the trap of using the wrong rules. That can cost you big!

Updated July 6, 2009

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