Income Taxes

Aside from your real estate taxes, the other big-ticket item among deductible taxes are state and local income taxes, in areas that have them. You can deduct all state and local income taxes that have been withheld from your paycheck during 2007 as shown on Form W-2, from your pension on Form 1099-R, from investment income on Forms 1099-INT or 1099-DIV, or from other payments on Form 1099-MISC.

Deduct tax payments in the year that you make them. If it later turns out that you get a refund, don't subtract the refund from your otherwise deductible taxes - include it as income on Line 10 of Form 1040, but only if you itemized deductions in the year to which the refund pertained.

On the other hand, if your withheld state and local income taxes were not enough to cover your tax bill for last year and you had to send in a check along with your tax return last April 15, don't forget to include the amount as taxes paid in 2007 on Line 5 of Schedule A.

Election to deduct state and local general sales taxes. For tax year 2007, a provision in the Tax Relief and Health Care Act of 2006 allows individual taxpayers to elect to deduct either state and local income taxes or state and local general sales taxes as an itemized deduction on their federal income tax returns. The amount to be deducted is either (1) the total of actual general sales taxes paid as substantiated by accumulated receipts or (2) an amount from IRS-generated tables (found in IRS Publication 600, Optional State Sales Tax Tables) plus, if any, the amount of general sales taxes paid when purchasing a motor vehicle, boat, or other items as prescribed by the IRS.

The election will be of special interest to taxpayers who reside in states that impose sales and use taxes, but not a state income tax such as Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming (Tennessee and New Hampshire only have a tax applied to interest and dividend income). In other states, taxpayers can make a comparison between the IRS tables and their state income tax payments to see which results in a bigger deduction.

State disability fund taxes. If you, as an employee, had amounts withheld from your paycheck to pay mandatory taxes to one of the following state benefit funds, you can deduct the amounts: California, New Jersey, or New York Nonoccupational Disability Benefit Fund; Rhode Island Temporary Disability Benefit Fund; and Washington State Supplemental Workmen's Compensation Fund.

Foreign income taxes. Generally, you have the choice between deducting foreign taxes on Schedule A, or claiming a tax credit for them on Form 1116. Usually, the credit will do you the most good.