What Are the Challenges of Filing a Tax Return?

The annual task of filing a tax return is a source of stress for many individuals. Navigating the intricate system of tax compliance presents a challenge filled with potential pitfalls and confusing requirements. This article will explore the common hurdles that contribute to the difficulty of preparing and filing an accurate tax return.

The Record-Keeping and Documentation Hurdle

A challenge in tax preparation begins long before any calculations are made; it lies in the gathering and organizing of necessary documents. The first step involves ensuring all income-reporting forms have been received. This includes the Form W-2 from an employer, as well as a variety of 1099 forms that report other types of income, such as the 1099-NEC for freelance work, 1099-INT for interest earned, 1099-DIV for dividends, and 1099-B for proceeds from brokerage transactions.

The responsibility for accurate reporting rests on the taxpayer, even if a form is not issued or received. The IRS receives copies of these information returns, so taxpayers must be proactive in tracking income from all sources and contacting payers if a form is missing. An incomplete collection of these documents can lead to an inaccurate return and potential notices from the IRS.

Beyond official forms, a challenge is the year-round record-keeping for expenses that could lead to deductions or credits. This requires organization to track cash and non-cash charitable donations, out-of-pocket medical expenses, or business-related costs for self-employed individuals. The IRS recommends keeping records for at least three years after filing.

Deciphering Complex Tax Rules and Terminology

A challenge in filing taxes is understanding the specialized language and rules of the tax code. The Internal Revenue Service (IRS) uses terminology with precise definitions that can be misinterpreted. Figures like Adjusted Gross Income (AGI), Taxable Income, and Modified Adjusted Gross Income (MAGI) each have distinct calculations and purposes.

AGI is calculated by taking your total gross income and subtracting certain “above-the-line” adjustments, such as contributions to a traditional IRA or student loan interest paid. Taxable income is then determined by subtracting either the standard deduction or itemized deductions from your AGI. MAGI takes the AGI and adds back certain deductions, and its calculation is used to determine eligibility for various tax benefits, like certain credits or the ability to contribute to a Roth IRA.

A frequent point of confusion is the difference between a tax deduction and a tax credit. A tax deduction reduces your taxable income, so its value depends on your marginal tax bracket. For instance, a $1,000 deduction for someone in the 22% tax bracket saves them $220 in tax. In contrast, a tax credit reduces your final tax liability on a dollar-for-dollar basis; a $1,000 credit reduces the tax you owe by the full $1,000.

Determining what income is taxable versus non-taxable can also be a challenge. While wages are taxable, other financial inflows are not as straightforward. For instance, gifts and inheritances are generally not considered taxable income to the recipient; any potential tax is typically owed by the giver or the estate. Life insurance proceeds paid out due to the death of the insured are usually not taxable income for the beneficiaries.

Making Critical Filing Choices

Taxpayers face several decisions during the filing process that have significant financial consequences. These choices shape the outcome of the return and require careful consideration of personal circumstances. One of the first decisions is selecting the correct filing status.

There are five filing statuses:

• Single
• Married Filing Jointly
• Married Filing Separately
• Head of Household
• Qualifying Widow(er)

Ensuring eligibility is important, particularly for the Head of Household status, which offers a more favorable tax rate and higher standard deduction than the Single status. To qualify for Head of Household, a taxpayer must be unmarried, pay for more than half the cost of keeping up a home, and have a qualifying child or dependent live with them for more than half the year.

Another choice is between taking the standard deduction or itemizing deductions. The standard deduction is a fixed dollar amount that varies by filing status and is adjusted annually for inflation. For the 2025 tax year, the standard deduction is $15,000 for single filers, $30,000 for married couples filing jointly, and $22,500 for heads of household.

Common itemized deductions include mortgage interest, state and local taxes, medical expenses, and charitable contributions. The deduction for state and local taxes is capped at $10,000, but this limitation is scheduled to expire at the end of 2025. The taxpayer must perform the comparison to see which option, itemizing or taking the standard deduction, results in a lower overall tax liability.

Addressing Non-Standard Income and Life Events

The complexity of filing a tax return increases when dealing with income sources beyond a standard salary or navigating major life changes. These situations often require additional forms, known as schedules, which come with their own detailed instructions. This is a hurdle for the growing number of freelancers, independent contractors, and small business owners.

Self-employment income must be reported on Schedule C, Profit or Loss from Business. This form requires the taxpayer to calculate gross income and then track and categorize all “ordinary and necessary” business expenses to deduct against that income. Individuals with net earnings of $400 or more from self-employment must also pay self-employment taxes using Schedule SE. Additionally, if these taxpayers expect to owe at least $1,000 in tax for the year, they are required to make quarterly estimated tax payments to avoid penalties.

Reporting the sale of investments like stocks, bonds, or real estate presents another difficulty. These transactions are reported on Schedule D, Capital Gains and Losses. The challenge involves correctly determining the asset’s cost basis, calculating the gain or loss, and distinguishing between short-term gains (assets held one year or less) and long-term gains (assets held more than one year), which are taxed at different rates.

Major life events also introduce new tax considerations. Getting married requires a decision on filing status, while a divorce can involve complex rules regarding alimony and which parent can claim dependent children. The birth of a child may make a taxpayer eligible for benefits like the Child Tax Credit, and buying a home can open up deductions for mortgage interest and property taxes, each with its own set of qualifying rules.

Navigating State and Local Tax Variations

Addressing state and, in some cases, local income taxes adds another layer of complexity to tax filing. While the federal tax system is uniform, state tax laws can differ significantly, creating additional challenges for taxpayers.

A difficulty is that state tax laws do not always align with federal laws. Many states use federal AGI as a starting point for their tax calculations but can “decouple” from specific federal provisions. This means a deduction available on a federal return might not exist at the state level, or a state may offer tax breaks unavailable federally.

The challenge is magnified for individuals with multi-state financial lives. Someone who lives in one state and works in another, or who moved between states during the tax year, is often required to file multiple state tax returns. This process involves filing as a resident in their home state and as a non-resident in the others, correctly allocating income, and claiming tax credits for taxes paid to another state to avoid double taxation.

Some taxpayers are also subject to income taxes at the city or county level. These local taxes add another layer of compliance, with their own forms, rules, and deadlines. This multi-tiered tax system means filing a federal return is only one part of a larger annual obligation.