FREE NEWSLETTER

Outside the Box

Michael Flack

MY FIRST JOB AFTER college was as an officer in the U.S. Navy. I was an engineer on a nuclear-powered submarine, the USS Albuquerque. While I didn’t make the Navy a career, it left one indelible imprint on me: the need to understand how things work.

Before ever setting foot on the Albuquerque, I spent more than a year learning exactly how nuclear power propelled a submarine, everything from how to operate a valve—it isn’t as simple as you think—to how the reactor worked on a sub-atomic level. The point of the training: understanding how it all worked was just as important as how to work it. The reactor wasn’t a mysterious black box that provided power, but rather a force that needed to be continuously studied and eventually mastered.

When I left the Navy for corporate life, the headhunters I used made it clear to me that corporations do not view training and knowledge as favorably as the Navy and, in fact, many companies viewed training as a cost to be avoided.

And they weren’t wrong, as I quickly learned whenever I had an issue with a corporate software program. I would call the IT help desk and inform the folks there of the problem, and generally they provided the correct solution. But when I asked how the issue came about or how to prevent it in the future, I was met with silence. It quickly became clear to me that, while many people understood how to operate various IT systems, few—if any—truly understood how they worked. On the Albuquerque, technical knowledge was a badge of honor to be proudly displayed, but in corporate America it was a sign that you were no longer on the fast track. I said to myself, more than once, “You’re not in the Navy anymore.”

I thought about that recently when I was doing my taxes. I use TurboTax and, while its data entry capabilities and general layout leave much to be desired, the biggest disappointment is that it’s just a $70 black box. You input the numbers from your W-2s, 1099s, K-1s and so on, and TurboTax spits out the size of your refund, if you’re lucky, or amount owed, if you aren’t. If you’ve used TurboTax or one of its competitors, you know these programs provide zero context, analysis or tax training. I think this is done to ensure you keep coming back every year. Problem is, you’re none the wiser about your specific tax situation or how to create a tax game plan for the future.

Prior to the personal computer, you had only two options. You either took your shoebox full of receipts, W-2s and 1099s to your accountant or you got out your pencil, calculator and IRS instructions and got to it. Note that I said pencil. You knew mistakes would be made, but that when it was all done you would be thoroughly familiar with each and every number. I’m not sure if tax regulations have become more complex, but I do know that using pencil, calculator and IRS instructions is no longer an option for most of us. I tried entering all the details from a single K-1 using a pencil… once. Maybe it’s due to the deep state, TurboTax lobbyists or just plain laziness, but now the only two realistic options for ordinary mortals are your computer or your accountant.

Our Weekly Newsletter

If, at this point, you’re content to let TurboTax continue to spit out your tax forms, read no further. But if you’ve always been bothered that TurboTax doesn’t provide at least a modicum of tax analysis, and instead just changes the refund amount like the reels on a slot machine whenever you input another 1099 box number, read on to learn how this TurboTax knowledge vacuum can burn you. Here are two examples:

  • Foreign tax credit. If you’re married filing jointly and pay more than $600 in foreign tax, your foreign tax credit will be limited. If you’re also retired, it may be drastically limited, as I discovered.
  • Standard deduction. If you’re employed and think that the standard deduction is the portion of income not subject to tax, you would be correct. What if you’re retired and not earning “wages, salaries, tips, etc.”? You would still be correct—but perhaps missing a golden opportunity.

For those who are married filed jointly, the standard deduction for 2021 is $25,100. If you’re retired and not yet drawing a pension, annuity or Social Security, keeping your ordinary income—including interest, unqualified dividends and short-term capital gains—below this amount may enable you to pay no federal tax.

But here’s the kicker: That can be true even if you have hefty amounts of qualified dividends and long-term capital gains. Suppose you claim the standard deduction in 2021. This year, you could have total income of up to $52,950 if you’re single and $105,900 if you’re married, and you wouldn’t owe any taxes on your long-term capital gains and qualified dividends.

I only realized this after a few years of not quite understanding why the TurboTax refund number did and didn’t change after inputting various categories of income and deductions. It finally took me creating my own tax spreadsheet to fully understand the ramifications—and the huge opportunity it offers retirees. For those of you thinking there are websites with tax calculators I could have used, I will defer to Nassim Nicholas Taleb, who said, “What I learned on my own I still remember.”

TurboTax and its ilk are the perfect black box. They give answers without understanding and facilitate forms without context, all done with a veneer of insight. It has cost me more than a couple of bucks and makes me wonder if maybe I should hire an accountant. But then I wouldn’t even have the pleasure of inputting my tax numbers, removing me from the process even further. Would my new accountant then become a more expensive and shinier black box? And I don’t even want to think about the cost of her inputting all those K-1s.

Michael Flack blogs at AfterActionReport.info. He’s a former naval officer and 20-year veteran of the oil and gas industry. Now retired, Mike enjoys traveling, blogging and spreadsheets. Check out his earlier articles.

Do you enjoy HumbleDollar? Please support our work with a donation. Want to receive daily email alerts about new articles? Click here. How about getting our weekly newsletter? Sign up now.

Browse Articles

Subscribe
Notify of
33 Comments
Inline Feedbacks
View all comments
macropundit
macropundit
5 months ago

So true. I used to do my own taxes by following instructions and understood very little about what I was doing. I started having someone else do it and they don’t want to answer questions. I’ve not escaped the black box yet.

You say: “This year, you could have total income of up to $52,950 if you’re single and $105,900 if you’re married, and you wouldn’t owe any taxes on your long-term capital gains and qualified dividends.”

But you don’t say why. Can you explain why that is? I get qualified dividends and took some small capital gains this year. How do I go about finding out what money is taxed at what rates? 3.8% surtax not an issue for me.

Also, I tried to calculate my effective fed and state tax rate, but the % seems too low. Shouldn’t I divide taxes paid by AGI?

Last edited 5 months ago by macropundit
Jonathan Clements
Admin
Jonathan Clements
5 months ago
Reply to  macropundit

To understand the 0% capital gains rate, check out this article by Rick Connor:

https://humbledollar.com/2020/08/much-appreciated/

mjflack
mjflack
5 months ago

C Campbell, Just tried to access my 2019 return via TT, they will “allow” me to view the pdf, but not to “access” the return. If I cannot access then I’m unsure how to use Forms. If you know how to access Forms on a 2019 Return, please let me know. Thanks for the feedback.

C Campbell
C Campbell
5 months ago

Just toggle into Forms view in TurboTax. Then you can see exactly how all the computations are being done and it is not a black box at all. You can even right click any cell inside the forms view and find out where the source data is coming from and from what regulations they are pulling the calculations. Perhaps you have never explored this. I have built my own spreadsheets, and when I was not quite sure of some subtlety I would mock it up in TurboTax and go to the forms view to make sure I had modeled it correctly.

Edwin Belen
Edwin Belen
5 months ago

Love this post but will say, your expectations are high. The tax code is complicated for most. Embarrassing to admit that I am a CPA (not a tax CPA), and always plugged in the numbers. Now that I’m closing in on retirement, I have spreadsheets to predict what our tax will be, which has forced me to go back to basics. Last year was the first time I could compare against my expectation and I came very close. Getting a little more complicated this year and began tracking our incomes and expected numbers that then feed my year end tax calculation. Excited to continue focusing on this as I never had much of a need as both my wife and I worked and didn’t have much income outside of ordinary income.

mjflack
mjflack
5 months ago
Reply to  Edwin Belen

Edwin Belen, thanks for the compliment, but I don’t understand the “your expectations are high” comment. I think for $70 TurboTax should provide a modicum of insight and the calculations behind why the amount of my refund changes when I input a new number from a 1099. I just want a little something.

Patricia Moore
Patricia Moore
5 months ago

I completely agree with what you say about TT. I learned to do income taxes back in 1980 b/c my Father had a tax prep company in our little town. I’ve always done out taxes since, unless I felt out of my league with a move, or living overseas. I don’t love that TT will file your forms for you without showing you what’s actually on the forms, or even which forms are being submitted. I’m too stingy to hire a CPA and, as others have pointed out, the hard work is keeping all my financial #s straight. After that, it’s just data entry.

But that whole QBI thing is such a monster and TT does nothing to help understand it. We own some rental properties so we could make it work, but then TT says it won’t eFile! I might look into Free Fillable Forms next year, if I can still recall the name a year from now.

Thanks for a great article!

mjflack
mjflack
5 months ago
Reply to  Patricia Moore

Patricia Moore, thanks for the compliment. The fact that TT contains details of my prior K-1s makes it difficult to switch to a different outfit, but this may be the year.

Olin
Olin
5 months ago

Once upon a time I did my own taxes before software programs came along. Then it got more complicated for me, so I tried a tax person and a CPA. Then I thought I’d try the software program, but ran into an issue and had to contact a CPA on what to do, and that’s when I learned you have to learn how to manipulate the system to get it correct.

Went back to using a tax person, and then a different CPA in hopes of getting some tax strategy advice. The CPA made some errors and no tax advice provided.

Now I’m back to the tax person who uses a $25K tax software program (so they say) and yet it couldn’t figure out a simple Form 8606 proration, and I’m still waiting for the taxes to be completed.

No human or tax software is perfect, at least from my experience.

mjflack
mjflack
5 months ago
Reply to  Olin

Olin, I don’t want perfection, just a little explanation of the calculations behind my results. So that I can learn a little more about my unique situation and how to reduce my taxes.

Letro evets
Letro evets
5 months ago

If you have a business an accountant is mandatory.
We fill out the accountant’s tax organizer 2 hours, include documents from folder and drop at office.
Accountant will email with any questions. We pick up, check and sign. During active business years the accountant would do quarterly meetings. Also if an audit accountant helps.

I keep a spreadsheet from accountants summary to approximate actions during the year. Study accountants work on your return and learn about your taxes. We still have a small business in retirement and yield benefits including writing off accountant fee.

Bottom line hire professionals, spread wealth, have peace of mind and contacts as you age.
The return is 50 pages, accountant $500, so $10 per page. Also a second and third set of eyes is worth every penny ! This discussion reminds me of work. I was chief chemist and people would tell me well I had chemistry
in HS. I would just say me too.
I have a local crew mow to employ and have contacts for other jobs.

When I was a 21 year old plumber did a leak service call. Lady of house showed me leak under kitchen sink. I fixed leak , gasket backwards, in 5 minutes and called to the lady. She said what do you need? I said leak is fixed please check.
She said my husband was under that sink the last 2 weekends cursing.
I said is he a plumber. She said insurance. I said time is valuable. She asked how I fixed leak so fast. I said doing plumbing since 10 years old and $10,000 of parts on truck. I have many stories. Best recovered a man’s wedding ring cleaning a sewer. I told him go now and apologize to your wife, no extra charge.

Schedule F farm income find that in turbo tax LOL.
Siblings received farm income from passed uncle’s estate.
Now the cheap turbo folks are confused , yes they all had calculus.

Last edited 5 months ago by Letro evets
booch221
booch221
5 months ago

Your accountant probably uses some kind of computer software and just inputs the numbers.

It would be a great idea for Consumer Reports to test tax preparation programs like Turbo Tax, H&R Block, TaxAct, etc and see how they perform when inputting the same numbers. Then have a CPA do it.

Last edited 5 months ago by booch221
Ormode
Ormode
5 months ago
Reply to  booch221

A CPA who does a lot of complex tax returns once told me that the young guys don’t know anything about the actual tax code, they just plug numbers into software. I don’t know why you would hire anyone to do that, when you can do it yourself.
If you want tax advice, I guess you’ll have to research the code yourself.

mjflack
mjflack
5 months ago
Reply to  Ormode

Ormode, I have every indication you are correct: When you pay a CPA to “do” your taxes, you are paying a clerk to enter your numbers into the firm’s tax software. If you do it yourself, at least you would have a (very) little better understanding of how it all works.

mjflack
mjflack
5 months ago
Reply to  booch221

booch221, I agree regarding TurboTax, TaxAct, etc, and accountants. They are all just data entry devices that provide zero education or tax planning.

R Quinn
R Quinn
5 months ago

One of my sons just called me complaining about his tax preparer. It seems the “expert” just carried $24,000 in his wife’s former spouses alimony payments over from 2019 when none existed in 2020. Only discovered because my son didn’t want to sign return until he looked it over.

This year I struggled over one entry in TurboTax which not typical. While I was on my iPad I called them and not only did they talk me through it, but used an arrow to show me where to click for each step (without seeing my data).

parkslope
parkslope
5 months ago
Reply to  R Quinn

I took over doing my mother’s and my sister’s taxes after finding similar lazy mistakes on their tax returns that were prepared by CPAs. In the process, I learned about how retirement home expenses that include a substantial buy-in are taxed as well as how to handle taxes for a musician who works for two organizations and also freelances.

Last edited 5 months ago by parkslope
Thomas Taylor
Thomas Taylor
5 months ago

I was a practicing CPA who did a lot of taxes through the years until switching to a different accounting path several years ago. In my experience, the tax code has become ever more complicated since I first started out some 30 years ago. While we did rely on the software, a partner/mentor in my early days always had us take a few complicated returns and do them by hand each year. As to a postage card return, I always think back to my first tax course in the early 80’s. My professor said Congress’s ability to tax and grant favors or (disincentives) through the tax code was just too powerful to ever give up. Almost 40 years later, his prediction still stands. Although there’s always hope.

mjflack
mjflack
5 months ago
Reply to  Thomas Taylor

Thomas Taylor, Sounds like you had a good partner/mentor, as just plugging numbers into a computer and then printing out the resultant forms provided does not educate. I wouldn’t mind giving it a shot myself, except for the damn K-1s.

Last edited 5 months ago by mjflack
Doug K
Doug K
5 months ago

I used to do my taxes down at the public library, which had all the tax forms and regulations handily available. Then life and taxes got more complicated..

First program I used was TaxAct, which in its early iterations had good help pages which explained what the software was up to. It got steadily worse until it was just a series of forms to be filled out, with links to the IRS documents, and no explanations. Tried TurboTax but their politics are detestable, also it made several mistakes that I caught and one that I didn’t. Tried HR Block these last two years, it also made mistakes each year. At least the mistakes were different 😉 so our tax software is learning I guess.

My protocol is to do the taxes with the horrible software, then print out all the forms and check them against the regulations: scribble on the forms and go back to the software to correct its mistakes. Soon I’ll have to break down and get an accountant to do my taxes, as I’ve started to make mistakes too.

As part of Biden’s tax reform I’d really like to see a public option, like those most other countries use (outlined in the link above). The IRS sends you a pre-filled form which you can sign and send back, or correct if needed.

mjflack
mjflack
5 months ago
Reply to  Doug K

Doug K, I do the same, though you have to pay TurboTax to get the printed forms so that once you notice an error, you have to amend your taxes before you’ve even filed them – it becomes a real mess. The public option you mention makes good, common sense for everyone involved except for TurboTax.

R Quinn
R Quinn
5 months ago
Reply to  Doug K

Their politics seem no different than any company or organization trying to protect their business or points of view. Even the AARP lobbies for laws that benefit seniors at the expense of younger Americans.

R Quinn
R Quinn
5 months ago

I’ve used TurboTax for years. As long as it’s doing the calculations correctly, I don’t care how it works. The endless pages of the tax code and regulations are a black box too. I’m trusting it determines if the standard deduction is best or not. Not sure why I would want to keep my income low to avoid paying an incremental amount in taxes on higher income. All I know is in the end I’m paying taxes on my pension, 85% of my SS, mutual fund capital gains, interest and dividends and it’s virtually impossible for me to do better than the standard deduction under the current law. Travel and golf and my grandkids deserve more attention than black boxes I can’t do anything about.

Ormode
Ormode
5 months ago

I would suggest that instead of TurboTax, you use Free Fillable Forms. Once you have a spreadsheet that mirrors your tax forms, you can input the numbers into Free Fillable Forms and it does the basic arithmetic, and copies numbers from form to form.
It is pretty easy to implement IRS worksheets as spreadsheets, and just put in your numbers every year. I have a spreadsheet for the Dividends and Capital Gains Tax worksheet, and one for the Capital Loss Carryforward and one for Unrecaptured Section 1250 Gains. You just have to check to make sure the law hasn’t changed.

mjflack
mjflack
5 months ago
Reply to  Ormode

Ormode, Interesting idea, though I have K-1s which are impossible to model via a spreadsheet.

Ormode
Ormode
5 months ago
Reply to  mjflack

You are generating K-1s for a partnership, or just putting in your own K-1? Both can actually be done with spreadsheets. On the 1040 and Schedule D, there is just one line where you put in your K-1 totals. I always thought that was a little strange – how does the IRS know if your number is correct? One year I got several K-1s with long-term capital gains and losses, and just added them up and put one number on my Schedule D.

mjflack
mjflack
5 months ago
Reply to  Ormode

Ormode, My K-1s are from Master Limited Partnerships (MLP). I don’t think it is a simple as summing “just one line” as “Ordinary business income (loss)” (box 1) is treated differently than “Qualified Dividends” (box 6b). Also, you have to take into account “carried forward losses”, foreign tax, and charitable deductions listed in box 16, as well as the effect of other boxes. Trust me, if you want to do it right, it can get very complicated. You make a good point though as it must be impossible for the IRS to know if all these K-1 numbers get reported on Sched D, 1040, Form 116, etc. correctly. I have a feeling, whoever wrote the rules on K-1 reporting did this on purpose to benefit those who receive K-1s.

stelea99
stelea99
5 months ago

As a long time user of TTax, I appreciate the feeling of working with a black box. This is especially true when you use TTax’s step-by-step process. However, you can improve your understanding of how the underlying variables are working by using TTax’s What-If feature. This feature, which is available via opening Forms, allows you to create several scenarios of what your taxes might be in the subsequent year. As you change any of the inputs, you can immediately see the impact on your future tax bill. Full disclosure, I did take a class on income tax accounting in 1966.

mjflack
mjflack
5 months ago
Reply to  stelea99

stelea99, I’ll have to give the “What-If feature” a try. But why can’t TurboTax provide an explanation each time my refund amount changes? Hey! I was born in 1966, so maybe this is kismet!

parkslope
parkslope
5 months ago
Reply to  stelea99

I agree. While I wouldn’t want to submit taxes without TT, I make a point of doing the necessary homework to understand all of TT’s calculations.

IAD
IAD
5 months ago

Love this post! I spend days doing my taxes because I want to understand what is going on, and still miss things.

mjflack
mjflack
5 months ago
Reply to  IAD

IAD, Thanks for the kind words. I have a relatively simple tax return, but still, spend days on it (and know enough to know that I still don’t know enough).

R Quinn
R Quinn
5 months ago
Reply to  IAD

But would Turbox Tax, etc. miss them?😎

Free Newsletter

SHARE