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Suppose I have paid $3000 in state income taxes in 2022, but I expect to receive a $1000 refund. I am itemizing deductions on my 2022 federal return, so normally I would deduct $3000, then include the $1000 refund in my 2023 taxable income.

Is there a way that I can choose to deduct only $2000 on my 2022 return, and then not include the $1000 refund in my 2023 taxable income?

This would be beneficial if I will be in a higher tax bracket in 2023 than in 2022.

In case it's relevant, suppose:

  • I do not expect to itemize deductions for 2023.

  • I am not hitting the $10000 cap on state tax deductions.

  • My state general sales tax deduction would be much lower (let's say $500), so it doesn't enter the picture.

I looked through Pub. 525 to try to find an answer. The Recoveries section talks about excluding some or all of a refund if you weren't allowed to deduct the full amount of your state taxes due to the $10000 cap. But it's not clear to me whether the same principle would apply if you could have deducted the full amount but chose not to.

2 Answers 2

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Is there a way that I can choose to deduct only $2000 on my 2022 return, and then not include the $1000 refund in my 2023 taxable income?

No, because you're a cash based taxpayer and 2022 has already ended. There's no provision of retroactive refunds, so you deduct taxes paid in the year paid, and include in the income refunds received in the year received.

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  • ... which, if you're in the same tax bracket both years, should balance out.
    – keshlam
    Jan 22, 2023 at 6:54
  • My understanding was that my refund from 2022 is still taxable income for 2023, even if I apply it toward my 2023 tax liability. The instructions for Form 1040 Schedule 1 Line 1 (2022) say "If you chose to apply part or all of the refund to your 2022 estimated state or local income tax, the amount applied is treated as received in 2022." So I don't think that actually helps. Jan 22, 2023 at 7:07
  • Good point. One more reason not to overpay taxes.
    – littleadv
    Jan 22, 2023 at 7:10
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If you don't want to make have the refund taxable, and the =$10,000 SALT limit doesn't protect the refund, then the most obvious way is to not-itemize. That could result in significantly greater taxes now , just to not have to pay slightly higher taxes later.

If you were asking about something that the IRS doesn't know about, such as charitable deductions, then you could decide to not claim all your your charitable deductions. Yes, I know there is no concept of a refund with a charitable deduction. But my point is that your state income tax amount is mentioned on your W-2.

Because the IRS can see the state income tax on their copy of the W-2, they are likely to notice it at some point. It could be after the initial review, which could see it as a typo, and send you a check after making an automatic adjustment. The IRS could also flag it during document matching and send you a notice about the mismatch.

When I was in college a neighbor of my parents did something similar. They only put down for their state taxes their net state taxes on Schedule A. Late in the calendar year, it was noticed by the IRS. It took several rounds of letters to get it resolved. They determined it was not worth the pain. The funny thing is that weren't doing it to save money, they were doing it because they thought it made more sense.

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  • I'm looking for the way to minimize total taxes across both years. I have a lot of other itemized deductions for 2022, so I definitely want to itemize even with this issue. My next alternative would be to take the state sales tax deduction instead. I'll be running the numbers both ways to see which ends up better in my case (the numbers in the question are just examples). Jan 22, 2023 at 15:39

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