The Rules for Claiming Personal Exemptions

Although it might not feel like it at tax time, the Internal Revenue Service doesn't tax you on every single dollar you take in. The Internal Revenue Code offers numerous deductions you can use to shave away some of your income, and the IRS only taxes you on the balance.

Personal exemptions are one form of deduction you can use to reduce your taxable income as of 2017, and this in turn lowers the amount of income tax you'll pay because you're paying taxes on less.

The Personal Exemption Might Not Be Available Forever

There might or might not be a personal exemption available in tax year 2018. As of December 2017, it's still up in the air. Congress has been mulling over the Tax Cuts and Jobs Act, which makes some radical changes to the existing tax code. One of those changes, at least in the version of the bill proposed by the House of Representatives, eliminates personal exemptions. The Senate's bill also eliminates these exemptions, but only through 2025.

It remains to be seen whether the Act will be signed into law, and, if so, what provisions will make it into the final version, but keep in mind that there's no guarantee that personal exemptions will still be available in tax year 2018. 

Who Is Eligible?

All tax breaks come with a whole list of rules for using and claiming them and personal exemptions are no exception. A taxpayer is permitted to claim one personal exemption for himself and one exemption for each person he's able to claim as a dependent.

Married people who file jointly can claim two personal exemptions, one for each spouse, plus exemptions for each of their dependents. If they file separately, however, one spouse can claim the other spouse's personal exemption only in limited circumstances. 

A dependent can't claim a personal exemption for himself because the taxpayer who is claiming him as a dependent is already taking his personal exemption.

How Much Is the Personal Exemption?

The personal exemption amount is indexed for inflation. This means it can increase slightly from year to year to keep pace with the economy, although if the economy remains relatively steady, the personal exemption amount will also stay the same. For tax years 2016 and 2017, the personal exemption amount is $4,050. Here's how the exemption has increased over previous years. 

The Personal Exemption Amount Is Reduced Based on Income

Personal exemptions are subject to phase-out limits called the personal exemption phaseout or PEP. Phasing out means that the exemption gradually reduces by 2 percent for each $2,500 or fractional portion of $2,500 by which a taxpayer's adjusted gross income for the year exceeds a certain threshold amount. For people who use the married filing separately status, the personal exemption phases out by 2 percent for each $1,250 of adjusted gross income over the threshold. 

Here's an example of how this works. Let's say Darla has adjusted gross income of $300,000 in 2017. She files as head of household and claims two personal exemptions: one for herself and one for her daughter. The relevant threshold for 2017 is $287,650 for head of household filers. Darla's adjusted gross income of $300,000 exceeds this threshold by $12,350.

We take this excess amount and divide it by $2,500, which comes out to 4.94. We must therefore reduce her personal exemptions by two percent for each $2,500 or fractional part of $2,500, which works out to five reductions of 2 percent: five whole multiples of $2,500 plus one fractional part of $2,500.

Darla must therefore reduce her personal exemptions by 10 percent. Her personal exemptions are reduced this way: ($4,050 + $4,050) x 10 percent, or $810.

So Darla's two personal exemptions which total $8,100 before the reduction are worth only $7,290 after the phase-out limit, or $8,100 less $810.

The reduction in personal exemptions can be calculated using Worksheet 3 in Publication 501.

The phase-out limits did not apply in 2010, 2011, or 2012. The limitations on personal exemptions have been in place since then. 

How to Claim Personal Exemptions

Personal exemptions show up in two places on your tax return. The first place they appear is on page 1 of Form 1040. Line 6 has a space to indicate whether you're claiming personal exemptions for yourself, your spouse, and/or for your dependents.

Next, the deductible amount of your personal exemptions shows up on the second page on line 42, or line 26 if you file Form 1040A. Personal exemptions show up in just one place, on line 5, for taxpayers who file Form 1040EZ.

The Exemption's Effect on the Alternative Minimum Tax

Personal exemptions can only reduce federal income tax. They don't reduce the alternative minimum tax, sometimes called the AMT. Taxable income for AMT purposes is calculated without regard to personal exemptions.