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Top Twenty Tax Myths and Why They’re Wrong

You can hear a lousy tax take almost anywhere from your hairdresser to the grocery store.

Today, with a smartphone and a social media account, taxpayers have a platform to share that advice almost immediately. And the more it’s shared, the more legitimate it may appear to taxpayers.

Countering bad advice, especially during tax season, is crucial. Here’s a look at some tax myths—and why they’re wrong.

  • Filing taxes is voluntary. Most tax myths have some basis in truth, which is why they spread so easily. It’s true that the US tax system is characterized—even in IRS publications—as voluntary. But context is important: our “voluntary” tax system means that taxpayers complete returns and calculate the tax due, instead of having the government do it for you. Filing a tax return may involve making some choices, but the requirement to file income tax returns isn’t voluntary. Tax filing requirements are clearly explained in the tax code in Sections 6011(a), 6012(a), and 6072(a).

  • If you file for an extension, you don’t have to pay your taxes until you file your return. It’s so easy to get an extension that some taxpayers believe that they don’t have to pay until they file. That’s not true. The requirements for requesting an extension can be found at Treas. Reg. 1.6081-4(b), and the language making clear an extension of time to file won’t extend the time to pay the tax due is in the Treas. Reg. 1.6081-4(c). Failure to pay on time can result in penalties.

  • You can choose your filing status. For federal purposes, you can select from one of five filing statuses: Single, Married Filing Jointly, Married Filing Separately, Head of Household, and Qualifying Widow(er) With Dependent Child. It’s often confusing for taxpayers when a life event—like a marriage or divorce—happens during the year. It feels like that should result in a choice. But for federal income tax status, marital status is determined as of the last day of the calendar year. If you are married on December 31, you are considered married for the year. If you’re not married on December 31 because you were never legally married or you were legally separated or divorced according to the laws of your state, you are not married. It doesn’t matter what happens in between.

  • You don’t have to pay tax if you’re paid in cash or cryptocurrency. It’s easy to tell how this myth got started: There’s no paper trail. Payment by check or credit card is easy to trace because it ends up on a bank statement. You don’t always deposit cash in the bank, and you may move cryptocurrency without reporting systems in place. But just because it’s not on a bank statement doesn’t mean that it’s not reportable or taxable. I was once paid in children’s toys, and I had a client who was paid in copper wiring. Income is income, no matter how you’re paid.

  • You don’t have to pay tax on Social Security. If Social Security retirement benefits were 100% taxable, that amount would put most taxpayers over the filing threshold. So Congress came up with a formula to exempt taxpayers who rely solely on those benefits: If your only source of income is your Social Security check, it isn’t taxable. But since everyone knows someone who doesn’t need to pay tax on Social Security, that has spiraled into the idea that no taxpayers pay tax on benefits. That’s not true. Once you reach retirement age, whether your Social Security benefits are taxable depends on your filing status and how much other income you receive.

  • It’s better not to make more money because you’ll pay more taxes on all of your income. The notion that increasing your income increases your overall tax rate stems from a misunderstanding of marginal tax rates. Your marginal tax rate is your top tax rate: It’s the rate you’ll pay on the next dollar of taxable income. For federal purposes, rates go up as income goes up, but—and it’s a big but—everyone pays the same rate for the same income. When you hit a higher tax rate, like 37%, you only pay the higher rate on income over the threshold amount. You don’t pay 37% on all income. The result is a blended tax rate, sometimes referred to as your effective tax rate.

  • You can claim the home office deduction as an employee because of the pandemic. Many of us are working from home during the pandemic. In some cases, your employer may require you to work from home. That feels like an excellent reason to deduct the cost of the internet and other home office expenses. But it’s not. As a result of the 2017 tax law for the tax years 2018 through 2025, employees who work from home can no longer claim the home office deduction. There is no hardship exemption or pandemic waiver and the reason you are working from home doesn’t matter.

  • In a volatile market, you’ll owe tax on your stocks or cryptocurrency if the value goes up or down significantly. Stocks and cryptocurrency go up and down: It’s part of the game. Does that mean that you have a tax consequence? Not unless you have a realized gain or loss due to a taxable event, like a sale or a transfer. If you only have a gain or loss on paper, for federal income tax purposes, it doesn’t mean anything. There are typically no tax consequences to you for an unrealized gain or loss.

  • Expenses are always valuable tax deductions. Tax deductions are useful because they reduce your taxable income which reduces your tax due. That’s a good thing, right? But there is often a rush to lard up on expenses simply because they generate deductions. Don’t be fooled: You’re still spending money. Even if you can deduct the costs, they should be ordinary and necessary—that’s important for tax and business reasons. If you save 25% in tax due to the deduction, you’re still out of pocket as in 100% in costs less the 25% tax savings. Be sure that it’s worth it before you spend.

  • If you file for an extension, your chances of getting audited will go up. I’m not sure how this myth got started, but the data doesn’t support it. In fact, some practitioners—including me—suggest that an extension could actually lower your chance of an audit. It’s better to file a complete, accurate return on an extension than a rushed, sloppy return just to meet the due date. And extensions are easy: You don’t even have to explain why you’re asking for one. The IRS understands that there are legitimate reasons why taxpayers may need more time to file.

Top Twenty Tax Myths and Why They’re Wrong—Part 2

Bad tax takes aren’t limited to questionable TikTok videos: You can find them almost anywhere. And the more those takes are shared, the more legitimate they may appear to taxpayers.

Countering lousy advice, especially during tax season, is crucial. Here’s a look at some tax myths—and why they’re wrong. This is part two of an effort to bust common tax myths. If you don’t see your favorite lousy tax take here, check out Part 1.

  • If you create an LLC, you can write off your lifestyle. This myth has really gained traction during the pandemic as a result of some TikTok videos suggesting that anything is deductible if it’s inside of a business. Spoiler alert: You can’t deduct personal expenses on your tax return, ever. You can deduct legitimate expenses incurred in your trade or business—even if you don’t have an entity—so long as they are “ordinary and necessary.” Under tax code Section 162, an ordinary expense is one that is common and accepted in your trade or business, while a necessary expense is “one that is helpful and appropriate for your trade or business.” It doesn’t matter if those expenses are incurred inside of an LLC or a corporation since creating an entity doesn’t change their character.

  • If you start an S corporation, you don’t have to pay payroll taxes. S corporations gained popularity because they allow owners to claim different tax treatment for salary and distributions. You pay income tax and payroll taxes—typically, Social Security and Medicare taxes, which are referred to as FICA taxes—on salary, but distributions are only subject to income taxes. Some business owners see this as a boon: Why not just convert to an S corporation and pay yourself $0 in salary? Abracadabra: Your FICA taxes are gone! As you can imagine, the IRS is on to this strategy and requires that S corporation owners be paid “reasonable compensation” for services to the business. That compensation is subject to payroll tax.

  • You can save money by making your employees independent contractors—they just need to sign off. Running a business can be expensive, so it’s not unusual for employers to think of ways to cut costs, including the temptation to characterize employees as independent contractors. In 1987, the IRS released Revenue Ruling 87-41 which outlined tests to determine if a worker is an independent contractor. Since then, the IRS has simplified things by issuing “common law rules” or three categories to consider when determining the degree of control and independence. The categories are: behavioral control, financial control, and type of relationship. No matter what a written contract might say—even if the worker agrees—the facts as applied to these tests ultimately determine the classification for IRS purposes.

  • You don’t have to pay tax on money that you received illegally. Tax code Section 61(a) defines gross income as income from whatever source derived, including but not limited to, “compensation for services, including fees, commissions, fringe benefits, and similar items.” There’s no exception for illegally gotten gains. Don’t believe me? Look at Al Capone.

  • If you don’t receive a tax form, like a Form 1099, you don’t have to report the income. This myth is likely tied to the holy grail of tax and accounting: The paper trail. We like having official forms to match up on your tax returns but you don’t need Form 1099 to file your taxes in all cases. If you are an independent contractor, you should keep records of your income—and expenses—and report those on your tax return even if you don’t receive a form.

  • If you reinvest the proceeds from the sale of your house, you don’t have to pay any tax. This is another example of where a tax myth has some basis in fact: Before 1997, homeowners were subject to capital gains tax when they sold their primary home but could get a break if they bought a replacement home worth the same or more. There was also a provision which allowed homeowners age 55 or older to claim a one-time capital gains exclusion. Some taxpayers remember that rule and appear to have mashed it up with a like-kind exchange: Under Section 1031, you can avoid capital gains taxes when you sell an investment property if you reinvest the proceeds in a like property or properties worth the same or more. Neither the old 1997 rule nor Section 1031 applies to the sale of your home: Now, homeowners can exclude capital gains of $250,000—$500,000 for married taxpayers—when they sell their homes, no matter their age or whether they buy a replacement property.

  • Taxes work the same for federal and state. It’s easy to talk in generalities. I’m guilty of doing this, too. But it’s important to note that there are significant differences in how tax breaks and tax items are treated on the federal and state level. Not all states follow the fed’s lead on tax legislative: Fewer than half of the states have rolling conformity, and even those states often make exceptions. The home office deduction for employees? Not deductible for federal purposes, but might be in states like California. PPP forgiveness? It can’t be included in income for federal purposes, but some states like Maine aim to tax it. Don’t assume that the IRS rules apply to your state—or vice versa.

  • You don’t make enough money to be audited. High-income taxpayers, those with incomes of $10 million and above, are audited at a higher rate than taxpayers in every other income category. Those numbers may make you think that you won’t be audited if you make much less, but that isn’t true. In 2015, the last year that the IRS released comprehensive data, more than half a million taxpayers making up to $50,000 had their returns audited. That’s a relatively small percentage of all of the returns submitted, but it’s still not zero. You can be subject to examination at all income levels.

  • Getting a tax refund means that the IRS has accepted your tax return. When your tax refund lands in your bank account, you may be tempted to issue a sigh of relief and assume that all is well—and it may be. But significant chunks of tax return processing, like forms matching and issuing refund checks, are automated. A refund check doesn’t mean that the IRS has approved your return: Your return may still be pulled for review. The IRS generally has three years to review your return—more in cases of substantial understatement of income or fraud.

  • Your tax preparer is responsible for any mistakes. Mistakes can happen, even when you’re dealing with a reputable tax preparer. But when you sign your tax return, you are confirming that “I have examined this return and accompanying schedules and statements, and to the best of my knowledge and belief, they are true, correct, and complete.” In other words, you are ultimately responsible for what gets reported on your tax return. If your tax return does have an error, don’t ignore it. Instead, talk with your preparer about the best fix.

Original article by Kelly Phillips Erb, Bloomberg Tax


To contact the reporter on this story: Kelly Phillips Erb in Washington at

To contact the editors responsible for this story: Rachael Daigle at; Colleen Murphy at

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