What Is an Exemption?
An exemption reduces the amount of income that is subject to income tax. There are a variety of exemptions allowed by the Internal Revenue Service (IRS). Previously, the two most common types were personal and dependent exemptions. But with the changes brought about by the 2017 Tax Cuts and Jobs Act (TCJA), the personal exemption has disappeared until the end of 2025. Dependent exemptions, along with other types, continue to exist.
- An exemption reduces the amount of income that would otherwise be taxed.
- Until the end of 2025, personal exemptions have been repealed and replaced by higher standard deductions.
- There are a variety of other exemptions and they can come in many forms.
- Certain income, such as income made from municipal bonds, counts as exempted income.
How an Exemption Works
Prior to the Tax Cuts and Jobs Act, there used to be a personal exemption. It could be claimed in addition to the standard deduction by people who did not itemize their tax deductions. Instead, there is now one higher standard deduction, passed with the TCJA. While exemptions used to make a bigger difference in calculating your annual taxes prior to the TCJA, they still can drastically change your tax situation by reducing taxable income.
The personal exemption was repealed with the 2017 reforms but, as mentioned, was essentially replaced with higher standard deductions for both couples and individuals. For tax year 2022, the standard deduction is $12,950 if you file as single, $19,400 for heads of household, and $25,900 for those married filing jointly. For tax year 2023, the standard deduction increases to $13,850 if you file as single, $20,800 for heads of household, and $27,700 for married filing jointly taxpayers. These changes were among many in the Tax Cuts and Jobs Act.
Through the 2017 filing year, individual tax filers were able to claim $4,050 for each taxpayer, spouse, and dependent child. Previously, for example, a taxpayer who had three allowable exemptions could have deducted $12,150 from their total taxable income. However, if that person earned over a certain threshold, the amount of the exemption would have been phased out and eventually eliminated.
Tax filers were only able to claim a personal exemption if that person was not claimed as a dependent on someone else's income tax return. This rule intentionally set exemptions apart from deductions. For example, take a college student with a job whose parents claimed them as a dependent on their income tax return. Because someone else claimed the student as a dependent, the student could not claim the personal exemption but could still claim the standard deduction.
In most cases, tax filers could also claim a personal deduction for a spouse, as long as the spouse was not claimed as a dependent on another person's tax return.
In many cases, dependents most commonly include the minor children of the taxpayer. However, taxpayers may claim exemptions for other dependents as well. The IRS has a litmus test for determining who is considered a dependent, but in most cases, it is defined as a relative of the taxpayer (parent, child, brother, sister, aunt, or uncle) who is dependent on the taxpayer for support.
The Child Tax Credit doubled to a maximum of $2,000 per child under the Tax Cuts and Jobs Act, from $1,000 per dependent previously. Certain income thresholds exist, affecting how much credit a family can actually receive.
Other Types of Exemptions
In addition to the above, exemptions can come in many forms, including the following:
Exemption from withholding
Employers withhold income tax from their employees and remit it to the IRS. However, a person who has no tax liability can request an exemption from withholding. This simply means that the employer will withhold Medicare and Social Security taxes from the person's paycheck, but will not withhold income tax.
Certain kinds of income are exempt from taxes. Exempt income includes municipal bond income, and gifts under $16,000 in 2022 and $17,000 in 2023. Any distributions from health savings accounts (HSAs) used for qualified medical expenses will also be not taxed.
The W-4 form allows employees to let employers know how much tax to withhold from their paycheck based on the employee's marital status, number of exemptions and dependents, etc. Every time an employee starts a new job, they are required to fill out the W-4, which helps the employer estimate how much money to remit to tax authorities.
What Is a Qualified Dependent?
A dependent is a person who relies on someone else for financial support, and typically includes children or other relatives. The IRS determines who qualifies as a dependent. Only one taxpayer can claim a given dependent on their income tax return.
What Type of Income Is Tax Exempt?
Income from municipal bonds is exempt from taxes. Distributions from health savings accounts (HSAs) are exempt if they are used for qualified medical expenses. Qualified distributions from Roth 401(k) plans and Roth IRAs are also tax-exempt.
How Much Is the Standard Deduction?
The standard deduction for tax year 2022 is $12,950 if you file as single or married filing separately and $25,900 for those who are married and file jointly. In 2023, it increases to $13,850 if you file as single and $27,700 for married taxpayers filing jointly.