Taxpayer asks:
I’m helping my daughter do her CT taxes. Last year she got a CT refund. If I’m reading the federal form correctly, it looks like she has to declare the state refund as federal income in 2009. Is that correct? Isn’t that double taxing? If that is correct, is there a way around that ?
Thanks for the help,
Taxgirl says:
I can see why this would be confusing… because it is. You need to report the state refund because it might be taxable.
The easy rule is that it’s not taxable if, in the year you paid the tax, you didn’t itemize deductions or you elected to deduct state and local general sales taxes instead of state and local income taxes. If that doesn’t apply to you, you’ll have to figure out whether it’s taxable. Most folks can use the worksheet in the form 1040 Instruction booklet (downloads as a pdf) – it’s on page 23. However, if certain circumstances apply (the most popular being that your refund was for a tax year other than 2008; someone claimed you as a dependent in 2008; or if you owed Alternative Minimum Tax in 2008), you may need to use Pub 525 (downloads as a pdf) – see page 25.
The idea that it might be taxable makes sense if you think about it. If I claimed a deduction for $1000 in taxes paid to PA for 2008 but then got $200 back, I really only paid out $800 to PA, right? So realistically, that’s all I should be able to claim as a deduction. The IRS solves this problem by counting the amount that I received as a refund as income the next year. That makes it a wash.
But if I didn’t claim it at all (for example, I didn’t itemize or take the deduction), then I shouldn’t have to include it as income.
I know it’s confusing but there’s a method to the madness (believe it or not, the IRS is trying to be fair here). I hope that makes sense.
Before you go: be sure to read my disclaimer. Remember, I’m a lawyer and we love disclaimers.
If you have a question, here’s how to Ask The Taxgirl.
Hello. If I live in a state that does not have local taxes but went to school and worked in a state that has local taxes, how do I get the local refunded? I should not have paid any in local taxes, correct? Thank you.