Question & Answer
With the dramatic increase in the costs of a college degree, many people are looking for ways to help offset those costs. The American Opportunity or Lifetime Learning Tax Credits are two options available to taxpayers who pay qualifying expenses for an eligible student (the taxpayer, spouse and dependents). The American Opportunity Tax Credit provides a maximum $2,500 credit for each eligible student. Because of this credit’s higher limit, it is used predominantly for students in their first four years of college. The Lifetime Learning Credit provides a maximum credit of $2,000 per tax return and is used predominantly for a student’s post-baccalaureate years or non-degree programs. Though a taxpayer often qualifies for both of these credits, only one can be claimed for each student each year. The credits are subject to student eligibility requirements and income limits that could reduce the amount claimed on your tax return.
In addition to tax credits, students may alternatively qualify for a tuition tax deduction of up to $4,000 on federal or state income taxes. There are many other tax planning strategies related to the funding of college education costs that could help you save taxes and achieve those college goals. Please give us a call to further discuss these issues.
Gambling winnings are fully taxable and must be reported as income on your tax return. As a casual gambler, you can deduct your gambling losses, but only up to the extent of your winnings. You can claim your gambling losses up to the amount of your winnings as an other miscellaneous itemized deduction on Schedule A of your Form 1040. If you take the standard deduction instead of filing Schedule A, the gambling losses are not deductible. You cannot reduce your gambling winnings by your gambling losses and report only the difference. You must report the full amount of your winnings as income and claim your allowable losses separately. You should keep accurate records that reflect the winnings and losses separately. If you are going to deduct gambling losses, you must have receipts, tickets, statements, or other documentation to support the losses, and you should retain these records in the event you are audited by the IRS or state.
On July 31, 2015, President Obama signed into law P.L. 114-41, the “Surface Transportation and Veterans Health Care Choice Improvement Act of 2015.” It includes a number of important tax provisions, including revised due dates for partnership and C corporation returns and revised extended due dates for some returns. These due date revisions are effective for tax years beginning after Dec. 31, 2015, which means that these changes generally won’t go into effect until 2016 returns have to be filed.
• Partnerships will have to file their returns by the 15th day of the third month after the end of the tax year. Thus, Partnerships using a calendar year will have to file by Mar. 15 of the following year. This accelerates the filing deadline for partnerships by one month.
• C corporations will have to file by the 15th day of the fourth month after the end of the tax year. Thus, C corporations using a calendar year will have to file by Apr. 15 of the following year. This defers the filing deadline for C corporations by one month.
• Form 1065 (U.S. Return of Partnership Income) will have a maximum extension of six-months (currently, a 5-month extension applies). The extension deadline will end on Sept. 15th for calendar year taxpayers. The net effect is that the extension due date is unchanged from the prior law.
• Form 1041 (U.S. Income Tax Return for Estates and Trusts) will have a maximum extension of five and a half months (currently, a 5-month extension applies). Therefore, the extension deadline will end on Sept. 30th for calendar year taxpayers.
If you contribute to a retirement plan, like a 401(k) plan or an IRA, you may be able to claim a Retirement Savings Contribution Credit, otherwise known as the Saver’s Credit on your Federal income tax return. This credit can help you save for retirement and reduce the taxes you owe. The Saver’s Credit is in addition to other tax savings you get if you set aside money for retirement such as deductible contributions to a traditional IRA.
Here are some key facts that you should know about this important tax credit:
The maximum Saver’s Credit that can be taken is $2,000 if you are married and file a joint return and up to $1,000 if you are single.
- For 2014, you may have been eligible for the credit on if you were:
- Married filing jointly with income up to $60,000
- Head of household with income up to $45,000
- Married filing separately or a single taxpayer with income up to $30,000
- Other rules that apply to the credit include:
- You must be at least 18 years of age.
- You can’t have been a full-time student in 2014.
- No other person can claim you as a dependent on their tax return.
- You must have contributed to a 401(k) plan or similar workplace plan by the end of the year to claim this credit. However, you can contribute to an IRA by the initial due date of your tax return (generally April 15th) and still have it count for the return year you are filing.
- File Form 8880, Credit for Qualified Retirement Savings Contributions, to claim the credit.
Divorce or separation can have a big impact on your income taxes. The following are some of the key items that you may need to consider:
- Child Support – If you pay child support, you cannot deduct it on your income tax return. If you receive child support, it is not includible in your taxable income.
- Alimony Paid – If you make payments under a document such as a divorce decree or written separation agreement, you may be able to deduct those payments as alimony. If the decree or agreement does not require the payments, they do not qualify as alimony.
- Alimony Received – If you receive alimony, it is taxable income to you in the year received. Keep in mind that this increase to your taxable income will increase the taxes you owe. You may need to increase the taxes you pay during the year to avoid an underpayment penalty. To do this, you can make estimated tax payments or increase your withholdings from W-2 wages.
- Name Changes – If you change your name after divorce, notify the Social Security Administration in order to avoid a matching problem when you file your subsequent tax return. The name on your tax return must match SSA records. A name mismatch could cause a delay of your refund.
Certain job hunting expenses are eligible for a tax deduction. To qualify for a deduction, the expenses must be incurred while searching for a job in your current occupation. Expenses for searching for a job in a new occupation are not deductible. You also cannot deduct job search expenses if you are looking for a job for the first time, or if there was a substantial break between the end of your last job and the time you begin looking for a new job.
Common deductible job search expenses include the cost of preparing and mailing your resume to prospective employers, job placement fees, and travel expenses. If you incur travel expenses while job hunting, you may be able to deduct the cost of the trip if the purpose of the trip was primarily to look for a new job.
Job hunting expenses are deductible whether or not you are currently employed, and whether or not you actually find a job. However, there are limitations. Reimbursed job search expenses are not deductible. If you are reimbursed in a later year by an employer, you must include the amount you received in your gross income, up to the amount of your tax benefit in an earlier year. Job search expenses are usually deductible as a miscellaneous itemized deduction, limited by two percent of your adjusted gross income. As with all tax deductions, you need to maintain adequate records and documentation of your expenses. Please give us a call if you have any questions.
If you are an employee you usually have taxes withheld from your paycheck. However, if you do not have taxes withheld or don’t have enough tax withheld, then you may need to make estimated tax payments. If you are self-employed you typically pay your taxes this way as well. You should pay estimated taxes in 2015 if you expect to owe $1,000 or more to the IRS when you file your tax return for the year. Normally, estimates are paid four times a year on April 15, June 15, Sept. 15 and Jan. 15. You may need to adjust your estimated tax payments if you have or expect to have a big change in income or for major life changes that also affect your tax return such as marriage or the birth of a child. Please give us a call if you have any questions or concerns about the need for estimated tax payments.
Federal law requires U.S. citizens and resident aliens to report any worldwide income, including income from foreign trusts and foreign bank and brokerage accounts. This does not include shares of foreign companies or mutual funds with international holdings if they are held in your U.S.-based brokerage account.
Taxpayers with an interest in, or signature or other authority over, foreign financial accounts whose aggregate value exceeded $10,000 at any time during 2014 must file Form 114, Report of Foreign Bank and Financial Accounts (FBAR), with the Treasury Department by June 30. There are no extensions for time to file. Penalties for noncompliance can be substantial. Please give us a call to discuss if you have any questions.
A 529 plan is an education savings plan operated by a state or educational institution designed to help families set aside funds for future college costs. Contributions to a 529 plan are not deductible on your federal tax return, but your investment grows tax-deferred, and distributions to pay for qualified higher education expenses generally come out tax-free. Contributions to an Oregon 529 plan offer additional state tax benefits. For 2014, on your Oregon tax return you can subtract from adjusted gross income contributions you made to an Oregon 529 College Savings Network account during the tax year of up to $4,530 for married filing joint and $2,265 for all others. Please call us if you want further details and to discuss your personal situation.
Don’t fall for phone or phishing email scams that use the IRS as a lure. Thieves often pose as the IRS using bogus refund schemes and warnings to pay past-due taxes. The IRS does not initiate contact with taxpayers by email to request personal or financial information. This includes any type of e-communication such as text messages and social media channels. The IRS also does not ask for PINs, passwords, or similar information for credit card, bank, or other accounts. If you get an unexpected email, don’t open any attachments or click on any links contained in the message. Instead, forward the email to email@example.com. Please call us if you have any questions or are concerned about a possible scam you may have received.
If you miss the April 15 filing deadline and you are due a refund, there is no penalty for filing a late tax return. But, if you owe taxes and you fail to file and pay timely, you will typically owe interest and penalties on the late taxes. There are seven facts you should know about these penalties:
- If you file late and owe federal income taxes, you may incur a failure-to-file penalty for late filing and a failure-to-pay penalty for paying late.
- The failure-to-file penalty is usually 10 times more than the failure-to-pay penalty, so if you can’t pay what you owe by the due date, you should still file your tax return timely and pay what you can. .
- The failure-to-file penalty is normally 5% of the unpaid taxes for each month a tax return is late, not to exceed 25% of your unpaid taxes.
- There is a minimum penalty of the smaller of $135 or 100% of the unpaid tax if you file your return more than 60 days past the due date (or extended due date).
- The failure-to-pay penalty is typically 0.5% per month of your unpaid taxes and applies to each month your taxes remain unpaid and starts accruing the day after taxes are due. The maximum penalty can reach 25% of your unpaid taxes.
- If the 5% failure-to-file penalty and the 0.5% failure-to-pay penalty both apply in any month, the maximum penalty amount charged for that month is 5%.
- If you filed an extension by the due date of your tax return and paid at least 90% of the taxes you owe, you may not have a failure-to-pay penalty. However, you will still owe interest on any taxes you pay after the April 15th filing date.
The IRS issued the optional standard mileage rates for 2015 to be used in determining deductible costs of operating an automobile. Effective on January 1, 2015, the standard mileage rates for the use of a car, van, pickup or panel truck are:
57.5 cents per mile for business miles driven, up from 56 cents in 2014;
23 cents per mile driven for medical or moving purposes, down half a cent from 2014; and
14 cents per mile driven in service of charitable organizations.
Adequate records must be maintained to substantiate the mileage claimed in connection with the calculation of deductible costs.
Taxpayers always have the option of claiming deductions based on the actual costs of using a vehicle rather than the standard mileage rates.
First, remember that your donations to qualified charities combined with your other itemized deductions (medical expenses, real estate taxes, state income taxes, mortgage interest, etc.) on Schedule A must be more than your Standard Deduction.
Second, you must have a record of the donation, like a cancelled check. If you donate $250 or more, you must get a statement from the charity.
Third, household goods must be in at least good used condition to claim a tax deduction. You should get a statement from the charity and note the fair market value or thrift shop value for the donated items, as well as your estimate of the items’ original cost.
Fourth, donations are deducted in the year you make them. Charging a donation to your credit card or mailing a check before the end of the year both count as donations this year.
Last, keep in mind that special rules apply when donating a car, boat or airplane to charity.
If you have any additional questions, please contact your accountant at Wicks Emmett LLP for further information on charitable donations.
The contribution limit for employees who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan is increased from $17,500 to $18,000.
The catch-up contribution limit for employees aged 50 and over who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan is increased from $5,500 to $6,000.
The limit on annual contributions to a traditional or Roth IRA remains unchanged at $5,500. The additional catch-up contribution limit for individuals aged 50 and over also remains at $1,000.
If you have questions and would like further information on any of these or other tax-related matters, please do not hesitate to call your Wicks Emmett LLP accountant.
Yes! Taking these steps can help you save time, save tax dollars and save for retirement:
Start a filing system for tax records. If you don’t one, you should start one. Keeping good records now will save you time and help you file a complete and accurate tax return.
Make a charitable contribution. If you plan to give to charity, consider doing so before the end of the year. If you itemize your deductions, you can claim your contribution as an itemized deduction. You must give to a qualified charity and save your receipts in order to claim the deduction.
3. Contribute to retirement accounts.
If you contribute to a traditional IRA by April 15, 2015, you can take a deduction for your contribution amount up to the lesser of $5,500 or compensation (subject to certain limitations if you or spouse is covered by an employer sponsored plan).
b. If you contribute to a 401(k) or other similar employer plan, you can elect to make tax deferred contributions of your wages up to $17,500. Contributions should be made by December 31, 2014. If you are over the age of 50 you can make additional “catch-up” contributions up to $5,500.
According to the IRS, alimony is deductible by the payer in arriving at adjusted gross income and taxable income to the payee [IRC Secs. 71(a) and 215(a)]. For post-1984 divorce, a payment is treated as alimony for federal tax purposes if all of the following requirements are met (IRC Sec. 71):
The payment must be part of a written divorce or separation instrument.
Spouses cannot live together after divorce.
The payment must be made in cash or cash equivalents.
The payment must be paid to or on behalf of a spouse or former spouse.
The divorce or separation instrument cannot specifically state that payments are not alimony.
The paying spouse and receiving spouse must file separate returns.
The payment cannot be called child support or deemed to be child support.
The alimony must terminate at the death of the receiving spouse.
Keep in mind, each payment or stream of payments is tested separately for all alimony criteria. If a payment or stream of payments fails one of the tests, that payment cannot be treated as alimony for tax purposes.
Taxpayers are free to choose the tax effect of alimony. Alimony can either be deductible to the payer and taxable to the payee or an “election out” can be made and the alimony can receive the same tax treatment as child support and property settlement payments (nondeductible to the payer and nontaxable to the payee). Contact us for complete details.
Loaning money to your corporation may allow you to deduct losses that otherwise would be suspended if you had a traditional business loan, even if you personally guarantee the loan. Every company is different, and the facts change based on your company’s unique set of circumstances. To take advantage of all the tax benefits of loaning funds to your corporation, it is necessary to properly document the transaction and follow the guidelines set out by the IRS regarding repayment. If you are a shareholder and are considering loaning money to your corporation or obtaining bank financing, please consult with us and we can help you structure it properly to make the most of your investment.
In 2013, 50% special bonus depreciation was allowed for qualified property additions. This provision expired at the end of 2013.
In addition, the expanded Section 179 deduction and qualifying property limits for 2013 will be reduced in 2014. In 2013, a business could take a maximum deduction of $500,000 of qualified trade or business property additions if the amount of qualifying property placed in service at was at or below the threshold of $2,000,000. For each dollar of qualifying property over the threshold amount, the maximum deduction is reduced by $1. For 2014, the maximum deduction and threshold amount is reduced to $25,0000 and $200,000, respectively.
Although expired at the end of 2013, both of these provisions are included in the EXPIRE Act of 2014, a bi-partisan extenders package, and it is possible that they will be retroactively extended for two more years. Please ask your accountant if you would like more information on these provisions.
How much, if any, of your social security benefits are taxable depends on your total income and marital status. Generally, if social security benefits are your only source of income, your benefits are not taxable. However, if you received income from other sources, you may have to include up to 85% of your social security benefits in your taxable income.
The amount of benefits includable in income depends on your provisional income. To calculate provisional income you start with your adjusted gross income; add back tax-exempt interest and other amounts excluded from income, plus onehalf of your social security benefits. You must also add back the deduction for student loan interest, qualified tuition and fees, and the domestic production deduction.
None of the taxpayer’s social security benefits are included in income if provisional income does not exceed the following base amounts:
1) $25,000 if single, HOH, qualifying widow(er), or married but filing a separate return and the taxpayer did not live with spouse at any time during the year. –
2) $32,000 if MFJ.
3) $0 if married but filing a separate return and the taxpayer lived with spouse at any time during the year.
Up to 50% of social security benefits are included in gross income when the taxpayer’s provisional income exceeds the previous base amounts but is less than the adjusted base amounts. The adjusted base amounts are as follows:
(1) $34,000 if single, HOH, qualifying widow(er), or married but filing a separate return and the taxpayer did not live with spouse at any time during the year.
(2) $44,000 if MFJ.
(3) $0 if married but filing a separate return and the taxpayer lived with spouse at any time during the year.
Up to 85% of social security benefits are included in income if provisional income exceeds the adjusted base amounts. Note that Oregon does not tax any amount of your social security benefits. If you’re nearing retirement and would like more information on how social security benefits may affect your taxable income, please give us a call.
A shareholder’s investment in an S-corporation is called “basis.” S-corporation profitability increases basis; loans from shareholders increase the basis of the lender; losses or distributions of money or property to owners decrease basis. Losses passed through an S-corporation to its shareholders are deductible up to the amount of their basis in the company.
A shareholder lending their own money or money they have personally borrowed to the company increases their basis. This can be a tax planning strategy to allow the shareholder to deduct losses that would otherwise not have been allowed. Conversely, if the company borrows money from the bank, basis does not increase, even if the bank requires the shareholder to guarantee the loan.
If a shareholder loans the S-corporation money, the debt should be documented through a written, unconditional promise of a fixed amount on a specified date or on demand, similar to a bank loan agreement. If a loan is not in writing, it could potentially produce negative tax consequences. If you as a shareholder are considering loaning your S-corporation money, please consult with your tax advisor. Debt basis is one of many factors to be considered in making this decision.
In 2013, 50% special bonus depreciation was allowed for qualified property additions. This provision expired at the end of 2013.
In addition, the expanded Section 179 deduction and qualifying property limits for 2013 will be reduced in 2014. In 2013, a business could take a maximum deduction of $500,000 of qualified trade or business property additions if the amount of qualifying property placed in service at was at or below the threshold of $2,000,000. For each dollar of qualifying property over the threshold amount, the maximum deduction is reduced by $1. For 2014, the maximum deduction and threshold amount is reduced to $25,0000 and $200,000, respectively.
Although expired at the end of 2013, both of these provisions are included in the EXPIRE Act of 2014, a bi-partisan extenders package, and it is possible that they will be retroactively extended for two more years. Please ask your accountant if you would like more information on these provisions.
For 2014, the maximum you can contribute to all of your traditional and Roth IRAs is the smaller of $5,500 ($6,500 if you’re age 50 or older), or your taxable compensation for the year.
In addition to the contribution limits, there are also income limits for contributing to a Roth IRA. If you earn more than a certain amount of income, your contribution may be limited or completely phased-out. For 2014, the AGI phase-out range for taxpayers making contributions to a Roth IRA is $181,000 to $191,000 for married couples filing jointly ($114,000 to $129,000 for singles and heads of household). Remember that contributions to a Roth IRA are not deductible.
Contributions to a traditional IRA are allowed regardless of the amount of income you earn. But the deductibility of the contributions may be limited or phased out once you reach certain income levels. There are different AGI limits depending on whether you or your spouse is covered by a workplace retirement plan as well. Note, even if you earn too much to get a deduction for contributing to an IRA, you can still contribute; it’s just non-deductible. Please give us a call to discuss if you have any questions.
Now and moderate-income individuals can earn a nonrefundable tax credit of up to $1000 ($2000 MFJ) for making eligible contributions to a qualified retirement plan, an eligible deferred compensation plan, or an IRA. You can claim the credit if the following apply:
1. You must be 18
2. No one else can claim you on their tax return
3.You are a full-time student
4.Your AGI is not more than $43,125 ($28,750)
The amount of the credit you can get is based on the contribution you make (max of $2000 per person/$2,000 per spouse on a joint return) and your credit rate. The credit rate ranges from 10%-50% depending on your income and your filing status. Start making contributions now to claim the credit on your 2014 tax return.
For more information on the Retirement Savings Contribution credit, give us a call.
Generally, children or other dependents may be claimed by the person(s) with whom they lived with for more than half of the year. So if a divorce decree specifies joint custody and is silent as to shared or alternating tax benefits, it may come down to counting the days to determine which parent is entitled to the tax benefits for each child. If the divorce decree awards custody to one parent, typically the tax benefits are also going to go to that parent.
However it isn’t all bad news. The noncustodial parent may still be able to claim one or more children. This is accomplished by having the custodial parent sign form 8332: Release/Revocation of Release of Claim to Exemption for Child by Custodial Parent. That can be easier said than done and may require some negotiating ahead of time. The form is then mailed to the IRS after your return has been e-filed.
Beginning on January 1, 2014, the standard mileage rates for the use of an automobile (which includes cars, vans, pickups or panel trucks) will be:
• 56 cents per mile for business miles driven
• 23.5 cents per mile driven for medical or moving purposes
• 14 cents per mile driven in service of charitable organizations
Taxpayers always have the option of deducting their actual costs rather than using the standard mileage rates. Remember, no matter which option you choose, be sure to keep a mileage log of your business, medical, moving, and charitable miles.
If the moving expenses are related to work, then yes, you may be able to deduct the cost of the move. In order to deduct work related moving expenses, you must meet all three of the following requirements:
1. Your expenses are incurred within one year of the date you first report to work at a new job location.
2. Your new job location must be at least 50 miles farther from your former home than your previous job location.
3. You must work for at least 39 weeks at your new job location for the first year. Self-employed individuals must meet this test and also work full time for a total of at least 78 weeks during the first 24 months of moving in the general area of the new job. If your tax return is due before this requirement is met, you can still deduct the expenses if you expect to meet the time test.
Feel free to call our office to ask about your specific situation.
In early 2013, the IRS released regulations which provide taxpayers an optional safe-harbor method to calculate the home-office deduction. Beginning in tax year 2013, individual taxpayers who elect this method can deduct an amount equal to the “allowable square footage” of the home multiplied by the current IRS prescribed rate of $5 dollars. The “allowable square footage” of a home is the portion of the home that is used exclusively in a qualified business use, but not to exceed 300 square feet. The maximum a taxpayer can deduct annually under the safe-harbor method is $1,500. Please give us a call to discuss if you have any questions.
Beginning January 1, 2014, the Patient Protection and Affordable Care Act requires that most everyone pay a penalty based on the months in which they are not enrolled in an acceptable insurance policy. Health insurance coverage will be reported and the penalty will be calculated annually on an individual’s income tax return. Please give us a call if you’d like more details.
Taxpayers over age 70½ can make tax-free transfers from an IRA directly to a charity. Any amounts transferred count toward your required minimum distribution, but they are not deductible as charitable contributions. Unless Congress takes action, however, this provision is scheduled to expire on December 31, 2013. So making the donation in 2013 while the provision is still in effect may be advantageous. Feel free to call our office to ask about your specific situation.
One unique aspect of owning your own business is the ability to hire your children. There are many benefits to hiring your children to work in the family business that can reduce the family’s tax burden, save payroll taxes, and keep the business in the family. It is important that compensation paid to family members is reasonable and comparable to what would be paid to a nonfamily member for the same work. If not, the IRS may recast it as income to the business owner and the hoped-for tax benefits will evaporate.
Reducing Income Taxes. Usually, children (especially minors) are subject to lower income tax rates than their parents. In this case, shifting taxable income away from the parents and to their children is an effective way to lower the family’s tax burden. The standard deduction for a dependent with earned income equals his or her earned income plus $350 (up to $6,100 for 2013). Thus, up to $6,100 of earned income can be completely sheltered from tax. And, the next $8,925 of wages will be taxed at only 10%.
Sheltering Wages With an IRA. Paying a child wages enables the child to fund either a traditional or Roth IRA contribution. The ability to compound income either tax-deferred or tax-free for many years is a powerful way to build wealth. Paying your children wages of $5,500 this year will allow them to contribute the maximum amount to their traditional or Roth IRA.
Reducing Payroll and SE Taxes. If your business is operated as a sole proprietorship (or partnership where you and your spouse are the only partners), employing your children under age 21 can reduce payroll taxes. This is because wages paid to a child under age 21 are exempt from the FUTA tax. They are also exempt from FICA tax if the child is under age 18. Furthermore, the wages reduce your self-employment (SE) income and, thus, reduce SE tax. (This exemption doesn’t apply if your business is operated as a C or S corporation, or as a partnership with partners other than your spouse.)
Executing a Business Succession Plan. It’s never too early to start planning to transition ownership of your business to the next generation. The business’ continued success depends on the existence of a capable and experienced successor to the owner. Thus, if your children are your intended successors, it is critical that they become involved in the business several years before the ownership transition is made.
It is important that the business maintains regular records of the child’s work hours and complies with the formalities of an employer-employee relationship, such as having the child complete Form W-4 and providing the child with a Form W-2 at year-end.
In many situations, employing family members makes good tax and business sense. Please give us a call if you would like to discuss any of these matters at greater length.
Beginning January 1, 2013, high-income clients will be subject to a new 3.8% Medicare tax on unearned income and a 0.9% Medicare tax on earned income. The current 2.9% Medicare payroll tax (split equally between employer and employee) is withheld from all wages. It applies only to earned income, which is wages you are paid by an employer, plus tips. Under the new tax provision, high-wage earners will owe an additional 0.9% on earned income above certain thresholds ($200,000 for single filers, $250,000 for joint filers). In computing the $200,000 withholding threshold, the employer must disregard the wages received by the employee’s spouse. Thus, the employer must withhold the additional Medicare tax only on wages in excess of $200,000 for the year, even though the tax may apply to a portion of the employee’s wages below $200,000 (for example, if the employee’s spouse also has wages, they are filing a joint return, and their combined wages exceed $250,000). Couples in this situation may have to make estimated tax payments to cover the additional Medicare tax, because the amounts withheld by their employers won’t be sufficient.
The law also imposes a new 3.8% Medicare surtax, which is levied on the lesser of net investment income or the excess of modified adjusted gross income (MAGI) above $200,000 for individuals, $250,000 for couples filing jointly and $125,000 for spouses filing separately.
For tax planning purposes, it’s important to know that “unearned” investment income subject to the new 3.8% Medicare tax includes such items as net rental income, dividends, taxable interest, net capital gains from the sale of investments, royalties, and passive income from investments in which you do not actively participate. Net investment income not subject to the Medicare surtax includes items such as tax-exempt interest from municipal bonds (or funds) and withdrawals from a retirement plan such as a traditional IRA, Roth IRA, or 401(k). Also exempt are items such as life-insurance proceeds, Social Security benefits, and income from businesses in which you actively participate, such as S corporations and partnerships.
It is important to be prepared for this new Medicare surtax so that it isn’t significantly higher than you anticipated. Reducing adjusted gross income is difficult for those who are still working but there are a number of strategies available that can help, such as maximizing your contributions to pretax retirement plans like 401(k) and 403(b) plans. Please give us a call to discuss how the new Medicare tax may affect your personal situation.
Losses resulting from Ponzi-type investment schemes are deductible as theft losses on your tax return for the year the loss was discovered. These losses are deductible as an itemized deduction, are not subject to the 10%-of-AGI limitation, and can create or increase a net operating loss.
The IRS has provided safe harbor rules that taxpayers can use for claiming and computing the loss. The rules allow a 95% deduction of the net investment less any actual recovery and potential insurance recovery, or a 75% deduction for taxpayers suing third parties.
The taxpayer may have additional income or an additional deduction in a year subsequent to the discovery year depending on the actual amount of the loss that is eventually recovered.
If you feel you may have a deductible loss resulting from a Ponzi scheme in which you invested, please feel free to give us a call, and we can discuss in more detail.
The “American Taxpayer Relief Act” was signed into law on January 2, 2013 to maintain several expired tax laws that were beneficial to the majority of taxpayers. The law also has some new tax provisions. Tax rates will stay the same, except for the addition of a new top rate of 39.6% for certain taxpayers. Two provisions making a comeback are the Personal Exemption Phaseout (PEP) and the Pease limitation on itemized deductions. Capital gains and qualified dividends will be taxed at 0%, 15% or 20%, depending on income.
The Alternative Minimum Tax (AMT, explained in more detail in our November 2010 and May 2011 Q&A’s) has been permanently fixed by adjusting the exemption amount for inflation every year. Other provisions extended beyond their original expiration date are the American Opportunity tax credit, various changes for the earned income and refundable child tax credits, $250 deduction for teachers’ out-of-pocket expenses, as well as qualified tuition deductions. In addition, donations can be made directly from a retirement plan to a qualified charity. Please give us a call if you’d like more details about this law and how it affects you.
The annual gift tax exclusion is the amount a donor can give to any other individual each year without gift tax consequences. Gifts exceeding the annual exclusion must be reported to the IRS on a gift tax return, and the amount exceeding the annual exclusion reduces the donor’s lifetime exemption amount. If the donor has used up all of his or her lifetime exemption amount, the donor will owe gift tax on the excess.
The 2013 annual gift tax exclusion is $14,000 (up from $13,000 in 2012). The American Taxpayer Relief Act of 2012 (“ATRA”) made the $5 million lifetime exemption set forth in the 2012 Tax Relief Act permanent. The lifetime exemption is adjusted annually for inflation, currently at $5.25 million in 2013 (up from $5.12 million in 2012). The gift tax is now permanently unified with the estate tax, with a maximum tax rate of 40%. Therefore, in 2013, an individual can gift up to $5.25 million before incurring gift tax.
In addition to the annual exclusion amounts available, a donor can also make gifts to charity, unlimited spousal gifts, and gifts to a political organization for its use, without incurring gift tax or using up any of their lifetime exemption. Direct payments to an educational institution for tuition and gifts of medical expenses paid directly to the medical facility can also be made free of gift tax and do not use up any of the lifetime exemption.
Additionally, if the donor is married, gifts made during the year can be treated as split between the husband and wife. By “gift-splitting,” up to $28,000 (in 2013) can be transferred to an individual by a married couple. However, if gift-splitting is elected, a gift tax return must be filed, even if the gift is under the annual exclusion amount.
– Traditional IRA – For 2013 an individual can make deductible contributions to an IRA up to the lesser of $5,500 (up from $5,000 in 2012) or the individual’s compensation if neither the individual nor the individual’s spouse is an active participant in an employer-sponsored retirement plan. Additional $1,000 catch-up IRA contributions are permitted for individuals age 50 or older. Keep in mind if an individual or individual’s spouse actively participates in an employer-sponsored retirement plan, the deductibility of the contributions could be phased out based on income.
– Roth IRA – Individuals with AGI limits below certain levels may make nondeductible contributions to a Roth IRA. The maximum annual contribution for 2013 is the lesser of $5,500 ($5,000 in 2012) or the individual’s compensation for the year. Additional $1,000 catch-up IRA contributions are permitted for individuals age 50 or older. Also, regardless of AGI, all otherwise eligible taxpayers are allowed to convert traditional IRA’s into Roth IRA’s. The amount converted is includible in income but early withdrawal penalties are not assessed.
– 401(k), 403(b), and Federal Government’s Thrift Savings Plan – Elective deferrals increase from $17,000 to $17,500 in 2013. Catch-up contributions for employees 50 or older who participate in these plans remain unchanged at $5,500.
– SIMPLE – Savings Incentive Match Plans for Employees (SIMPLE) deferral limits increase from $11,500 to $12,000 for 2013. The catch-up amount remains the same as 2012 at $2,500 for individuals age 50 or older.
The Act will prevent many of the tax hikes that were scheduled to go into effect in 2013 and retain many favorable tax breaks that were scheduled to expire. In addition to permanently extending the Bush-era tax cuts for most taxpayers, revising tax rates on ordinary and capital gain income for high-income individuals, modifying the estate tax, providing permanent relief from the AMT, and imposing limits on the deductions and exemptions of high-income individuals, the Act extends a host of important tax breaks for businesses.
Depreciation provisions modified and extended. The following depreciation provisions are retroactively extended by the Act:
- 15-year straight line cost recovery for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail improvements;
- increased expensing limitations and treatment of certain real property as Section 179 property. The Act extends the $500,000 limitation and $2,000,000 beginning-of-phaseout amount, so that each apply not only to tax years beginning in 2010 and 2011, but also to tax years beginning in 2012 and 2013.
- extension of the 50% bonus depreciation provisions with respect to property placed in service after Dec. 31, 2012.
Business tax breaks extended. Some of the key business credits and special rules extended are as follows:
- The research credit is modified and retroactively extended for two years through 2013.
- The work opportunity tax credit is retroactively extended for two years through 2013.
- The enhanced charitable deduction for contributions of food inventory is retroactively extended for two years through 2013.
- Exclusion of 100% of gain on certain small business stock acquired before Jan. 1, 2014.
- The 5-year reduced recognition period for the S corporation built-in gains tax is extended for tax years beginning in 2012 and 2013.
There are many other special credits and extenders so if you don’t see the one you’re looking for or if you would like more details, please do not hesitate to call.
Unless Congress acts, provisions of the Economic Growth and Tax Relief Reconciliation of 2001 (EGTRRA) and Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA) will expire in years beginning after 2012. Here are just a some of the many changes that will go into effect unless Congress acts:
•The 10% tax bracket disappears (leaving us with a lowest tax bracket of 15%).
•The top four brackets rise from 25%, 28%, 33% and 35%, to 28%, 31%, 36% and 39.6%.
•Long-term capital gain will be taxed at a maximum rate of 20% and 10% for lower income taxpayers. This is an increase from the current rates of 15% and 0%.
•Dividends will be taxed at ordinary income rates rather than being subject to the current capital gains rates of 0% for individuals in the 10% and 15% tax brackets, and 15% tax rate for higher earning individuals.
•Itemized deductions for higher-income taxpayers will be reduced.
We are monitoring the tax changes closely. Feel free to contact us to discuss how these changes may affect your situation.
Each U.S. person who has a financial interest in or signature authority over foreign bank accounts, security accounts, or other financial accounts must file Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts, more commonly known as the “FBAR” with the Department of the Treasury if the aggregate value of the accounts exceeds $10,000 at any time during the calendar year.
A “foreign financial account” is a financial account located outside of the U.S. Note that an account maintained with a U.S. financial institution that is physically located outside of the U.S. is also considered a foreign financial account. A “financial account” includes a securities, brokerage, savings, demand, checking, deposit, time deposit, or other accounts maintained by a financial institution, as well as certain other accounts. A financial interest also exists if a U.S. person has signature authority over a foreign financial account. This means that the U.S. person has the authority to control the investment by direct communication with the financial institution.
If it is determined that a U.S. person meets the FBAR reporting requirements, they must prepare Form TD F 90-22.1 and provide certain information, including the maximum value of the foreign financial account during the calendar year reported, the name of the financial institution where the investment is located, and the type of account involved. The FBAR must be received by the Department of the Treasury on or before June 30 of the year after the calendar year being reported. This date is fixed for all taxpayers, regardless of their year end and it cannot be extended.
The penalties for failure to file an FBAR are onerous and can create the potential for both civil and criminal sanctions. A taxpayer who willfully fails to file an FBAR faces a penalty equal to the greater of $100,000, or 50% of the foreign financial account balances as of the June 30th FBAR due date. The criminal penalty for willful violations can include a fine of up to $250,000, imprisonment for up to 5 years, or both.
In addition to the FBAR reporting requirements, taxpayers must file Form 8938, Statement of Foreign Financial Assets, if the individual has an interest in one or more specified foreign financial assets and those assets have an aggregate fair market value exceeding either $50,000 on the last day of the tax year or $75,000 at any time during the tax year ($100,000 and $150,000 respectively, for married individuals filing a joint return). This reporting threshold is increased for certain U.S. residents meeting specific requirements. Specified foreign financial assets include financial accounts maintained by foreign financial institutions as well as other assets such as stock or securities issued by non-U.S. persons and interests in certain foreign entities. The penalty for failing to report specified foreign financial assets for a tax year is $10,000, and can increase to a maximum of $50,000 for continuous failure to file.
If you need to file, or are uncertain of whether you may be required to file an FBAR or Form 8938 for the current tax year or for a previous tax year, please give us a call and we would be happy to discuss your specific situation and determine the best way to proceed.
If you are considering renting out your personal residence, there are potential tax benefits as well as tax drawbacks. Once you begin renting your home to others, you are generally treated like a regular real estate landlord for tax purposes. That means that all rental income that you receive must be reported on your tax return, but you are also entitled to deduct rental expenses such as utilities, depreciation, repairs and maintenance, property taxes, and mortgage interest. Your rental deductions may fully offset the rental income that you report; however, you are now also subject to the passive activity loss rules which means that you may not be able to deduct the rental-related deductions that exceed your rental income unless an exemption to the rules applies. The passive activity loss rules won’t affect your converted property for a tax year in which your adjusted gross income doesn’t exceed $100,000, you actively participate in running the home rental, and your losses from all rental real estate activities in which you actively participate don’t exceed $25,000.
Another potential pitfall of converting your home into a rental property is the tax effect of selling the residence. If you sell the rental home for a profit, you can miss out on the important tax break for home sellers. Generally, when you sell your home, you can escape taxation on up to $250,000 (for single) or $500,000 (married filing jointly) of gain, but to get this tax-free treatment on the gain, you must have used the home as your principal residence for at least two of the five years preceding the sale. The exclusion of the gain does not apply to the extent that any depreciation was taken on the rental. If you sell the rental residence at a loss, the loss is only available if the owner can establish that the home was converted to permanently income producing property. The basis (or cost for tax purposes) of the residence is equal to the lesser of actual cost or the property’s fair market value when it was converted to rental property.
These are complex issues, so please contact us so that you fully understand the implications.
The ACA is a sweeping reform of healthcare law. What follows is a brief primer on provisions in the law and is not all-inclusive.
The Small Business Health Care Tax Credit began in 2010 for small for-profit and non-profit businesses. In 2012, insurance coverage information and notices of changes to coverage are required to be given to employees. Employers that issue more than 250 forms W-2 annually are required to report the cost of employer-sponsored health insurance on form W-2, box 12 using code DD beginning with the 2012 forms filed in early 2013. These amounts are not reported on the Form W-3. The cost of insurance reported on the W-2 forms is for informational purposes only and is not taxable to the employer or employee.
2013: Flexible Spending Arrangement contributions will be limited to $2,500 annually. Insurance companies and self-insured plan sponsors will be charged an annual excise tax on the average number of people covered, including dependents. Medicare tax increases by 0.9% for married couples making over $250K, $200K for singles. A 2.3% tax on the revenues of medical device manufacturers begins. Employers will be required to notify employees about state-run health insurance exchanges as open enrollment is set for late 2013.
2014: Employers with more than 50 full-time equivalent employees must offer health insurance meeting minimum criteria to its employees who work 30 hours per week on average (FTE). If no coverage is offered and an employee gets coverage in an Exchange, there is a $2K per FTE penalty. If the coverage offered does not meet specific criteria, the penalty is the lesser of $3K per FTE in the Exchange or $2K per FTE. Employers with 1 to 50 employees will be eligible to participate in an Exchange.
Now is the time to prepare for further implementation of the ACA. Please call us to discuss this law and its applicability to your situation.
When you travel on business for your company, you may earn frequent-flyer miles or other promotional benefits, such as through rental cars or hotels. These promotional benefits can be exchanged for free or discounted travel, upgraded seating, travel services, etc. Even though the business trips are paid for by your employer, you may be allowed to use the frequent-flyer miles and other benefits for your own personal travel.
You’ll be happy to know that these benefits won’t result in any additional tax to you. IRS’s policy is not to collect tax from individuals who make personal use of frequent-flyer miles earned on business travel. Thus, you won’t be taxed on the frequent-flyer miles or other benefits, either when you receive them or when you use them. Likewise, your employer won’t withhold income tax and payroll taxes on the value of the benefits.
The IRS’s policy not to tax frequent-flyer miles doesn’t apply if the mileage (or other promotional benefit) is converted to cash. In that case, IRS will probably insist that you treat the cash as a taxable fringe benefit. Please give us a call if you’d like more details about this policy and how it affects you.
Expenditures for the operation and maintenance of an automobile are deductible as a business expense to the extent that they represent the cost of transportation actually required in carrying on the taxpayer’s business. Taxpayers can use the standard mileage rate in computing the deductible costs of operating automobiles owned or leased by them for business purposes.
You should be able to substantiate by adequate record or sufficient evidence the (1) amount of mileage, (2) time and place of use, (3) business purpose, and (4) business relationship. Failure to comply with this requirement can result in loss of the deduction. You may substantiate vehicle expenses by maintaining an account book, diary, or similar record; trip sheets; expense reports; or other corroborative evidence.
As a result of budget deficits, states are becoming increasingly aggressive in tax collection and continue to consider and enact laws to increase their reach beyond their own borders. New legislative initiatives are replacing normal income tax with new tax systems that are not based solely on income. Ohio, Washington and Michigan all have a business tax that focus on gross receipts in addition to or as a replacement for a traditional net income tax. In addition, most states also have sales and use tax which often catches businesses off guard who don’t think they are going outside their state borders to generate revenues.
Just because your business is located in one state doesn’t mean that you can’t still be subject to another state’s sales, business or income taxes. If you are thinking of doing business in another state besides your home state or you have concerns that you could be subject to another state’s taxes, there are several considerations. Please contact us to discuss the potential complexities of multi-state activity.
Please refer to Part One of employing children in your business to see other key considerations.
Social security tax savings. If your business isn’t incorporated, you can also save some self-employment (i.e., social security) tax dollars by shifting some of your earnings to a child. That’s because services performed by a child under the age of 18 while employed by a parent are not considered employment for FICA tax purposes.
Retirement benefits. Your business also may be able to provide your child with retirement benefits, depending on the type of plan it has and how it defines qualifying employees. For example, if it has a simplified employee pension (SEP), contribution can be made for the child up to 25% of his or her earnings but the contribution cannot exceed $50,000 for 2012.
If you have any questions about how these rules apply to your particular situation, please don’t hesitate to call. Also keep in mind that some of the rules about employing children (such as the maximum amount they can earn tax-free) change from year to year, and may require your income-shifting strategy to change, too.
As a business owner, you should be aware that you can save family income and payroll taxes by putting junior family members on the payroll. You may be able to turn high-taxed income into tax-free or low-taxed income, achieve social security tax savings (depending on how your business is organized), and even make retirement plan contributions for your child.
Here are the key considerations:
Turning high-taxed income into tax-free or low-taxed income. You can turn some of your high-taxed income into tax-free or low-taxed income by shifting some of your business earnings to a child as wages for services performed by him or her. In order for your business to deduct the wages as a business expense, the work done by the child must be legitimate and the child’s salary must be reasonable.
For example, suppose a business owner operating as a sole proprietor is in the 35% tax bracket. He hires his 17-year-old son to help with office work full-time during the summer and part-time into the fall. If he earns $5,950 during the year (and doesn’t have any other earnings) the business owner saves $2,083 (35% of $5,950) in income taxes at no tax cost to his son, who can use the $5,950 standard deduction (for 2012) to completely shelter the earnings. Family taxes are cut even if the child’s earnings exceed his or her standard deduction. That’s because the unsheltered earnings will be taxed to the child beginning at a rate of 10%, instead of being taxed at the parent’s higher rate (providing the child’s unearned income like interest and dividends does not exceed $1,900).
Stay tuned for next month’s Part Two of key considerations in employing children in your business.
Each year the Employment Department picks employers at random to sample employer compliance often by size or type of firm. An audit may also be conducted if a former employee filed a claim for unemployment insurance on wages that were not reported or reported incorrectly on the quarterly payroll reports.
Common errors that are found in an audit and could require additional taxes due:
1. Not reporting all taxable wages paid to your employees: wages, including salary, hourly, commissions and corporate officer pay; and personal use of corporate auto, overtime, vacation and sick leave.
2. Paying an individual as a subcontractor when they do not meet the exclusion in the Unemployment Insurance Tax Law and should be classified as an employee. Examples include hiring someone to cover for any leave of absence or for janitorial duties.
3. Reporting an incorrect social security number or name.
The auditor will notify you of any errors or omissions. If there is any additional tax due you will receive a request for payment in the mail.
Business owners often wonder what level of personal pleasure can occur while they are out of town on business and still have the travel expenses be deductible for tax purposes. If the trip is primarily for business, the cost of traveling to and from the business destination is fully deductible. If the trip is primarily for personal purposes, no part of the travel costs to and from the destination is deductible. Even if traveling expenses to and from the destination are not deductible, expenses while at the destination which are allocable to the taxpayer’s trade or business are deductible. Thus, if the taxpayer also engages in business activities on side trips or while at the destination, those expenses which are allocable to business activities are deductible.
Whether a trip is primarily for business or is primarily personal is a question of fact. The amount of time spent on business as compared with that spent on personal activities is an important consideration in determining this question. If a taxpayer spends one week at a particular destination on business and five weeks on personal activities, the trip will be considered primarily personal in nature in the absence of a clear showing to the contrary.
Expenses for conventions, seminars, trips, etc., are checked carefully to determine whether they are valid business deductions or whether the trips are vacations in disguise. Deductions for these trips will be questioned where the business activity is less than a principal part of the convention or seminar.
A large majority of IRS notices are simply a request for additional information. Most often the IRS has uncertainty about a position taken on the tax return or the records that have been submitted by a third party fail to coincide with what you have reported.
Other notices you might receive are concerning examinations, but again usually the IRS is just looking for clarification on what you have submitted on your tax return. If you do receive a notice, the best course of action is to contact us and we can assist you in submitting the appropriate documents to the IRS.
The important aspect here is to make sure you keep your records for the recommended period of time (usually six years) and that the information you submit to your tax return preparer is appropriate and accurate.
All business expenses must meet the general deductibility requirement of being “ordinary and necessary” in carrying on the business. If it is reasonable in your business to entertain clients or other business people, you should be able to pass this general test. Business meals or entertainment must also meet a second test: They must be either “directly related to” or “associated with” the business. To be “directly related,” the meal or entertainment should take place in a clear business setting directly furthering your business. If it’s not directly related to the business, a meal or event will be considered “associated with” the active conduct of the business if its purpose is to get new business or encourage the continuation of a business relationship.
In addition, you must be able to establish the amount spent, the time and place, the business purpose and the business relationship of the individuals involved. A receipt is not required for expenses less than $75. Once a business purpose has been established and documented, the meal or entertainment expense is now at least 50% deductible.
To be 100% deductible, the expense must meet narrow criteria. Examples of fully deductible expenses include the following: employer-provided dinner on nights when at least half of the employees are being required to work late; company picnics; holiday parties; grand openings or open houses; sales presentations. Meals and entertainment expenses will also be 100% deductible if they are incurred with the expectation of being reimbursed or if the expenses are income to an employee.
Keep returns indefinitely and the supporting records usually for six years. In general, except in cases of fraud or substantial understatements of income, the IRS can only assess tax for a year within three years after the return for that year was filed (or, if later, three years after the return was due). For example, if your 2010 individual income tax return is filed by its original due date of April 18, 2011, IRS will have until April 18, 2014 to assess a tax deficiency against you. If you file your return late, IRS generally will have three years from the date you filed the return to assess a deficiency.
However, the three-year rule isn’t absolute. The assessment period is extended to six years if more than 25% of gross income is omitted from a return. In addition, where no return was filed for a tax year, the IRS can assess tax at any time (even beyond three or six years). If the IRS claims that you never filed a return for a particular year, keeping a copy of the return will help you to prove that you did.
While it’s impossible to be completely sure that IRS won’t at some point seek to assess tax, retaining tax returns indefinitely and important records for six years after the return is filed should be adequate.
Records relating to property may have to be kept longer. Keep in mind that the tax consequences of a transaction that occurs in one year may depend on things that happened in earlier year and that the period for which you should retain records must be measured from the year in which the tax consequences actually occur. This may be significant, for example, where you sell property that you bought years earlier.
Similar considerations apply to other property which is likely to be bought and sold, for example, corporate stock, mutual funds, bonds, etc. In particular, remember that if you reinvest dividends to buy additional shares of stock, each reinvestment is a separate purchase of stock. The records of each reinvestment should be kept for at least six years after the return is filed for the year in which the stock is sold.
No tax deduction is allowed for the value of services you perform for a charitable organization, but some deductions are permitted for out-of-pocket costs you incur while performing the services (subject to the deduction limit that generally applies to charitable contributions). This includes items such as:
1)Away-from-home travel expenses while performing services for a charity (out-of-pocket round-trip travel cost, taxi fares and other costs of transportation between the airport or station and hotel, plus lodging and meals). However, these expenses aren’t deductible if there’s a significant element of personal pleasure associated with the travel, or if your services for a charity involve lobbying activities.
2)The cost of entertaining others on behalf of a charity, such as wining and dining a potential large contributor (but the cost of your own entertainment or meal is not deductible).
3)If you use your car while performing services for a charitable organization you may deduct your actual unreimbursed expenses directly attributable to the services, such as gas and oil costs. Alternatively, you may deduct a flat 14¢ per mile for charitable use of your car.
You should maintain detailed records of your out-of-pocket expenses—receipts plus a written record of the time, place, amount, and charitable purpose of the expense. Reminder: No charitable deduction is allowed for a contribution of $250 or more unless you substantiate the contribution by a written acknowledgment from the charitable organization.
Yes, effective with calendar year 2011 all employers are required to electronically file Form W-2s (withholding statement) to Oregon regardless of the number of employees. Oregon will not accept paper-filed W-2s. The due date for electronic filing of W-2s for Oregon purposes is the same as the federal due date for electronically filed W-2s, which is March 31 following the close of the calendar year.
You will need to contact your software provider to ensure it has the capability of transmitting your electronic returns to Oregon’s “iwire” site. If you do not currently use payroll software you may submit your data to a third-party vendor “AATRIX” which will transmit your W-2s to Oregon and the Social Security Administration. AATRIX charges a fee for the transmission.
For more information visit:
Or AAtrix website:
A common mistake that property and business owners make is to improperly classify repairs as capital improvements or vice versa. However, the tax difference between treating an expenditure as a repair and deducting in the current year or capitalizing and depreciating over a period of time can be substantial.
Generally, repairs are deductible in the year incurred as ordinary and necessary business expenses if they neither materially add to the value of the property nor substantially prolong its useful life. Deductible repairs just help to maintain the property in an ordinary efficient operating condition. However, a business must capitalize and depreciate costs if they increase an asset’s value, prolong its useful life, or permit its adaptation for a different use.
In general, taxpayers are required to capitalize expenditures that:
•Substantially lengthen the life of the property
•Materially add to the value of the property
•Adapt the property to a new or different use
Taxpayers may be able to deduct expenditures in the year incurred for:
•Equipment and materials that keep the property in an ordinary, efficient operating condition
•Assets that have a life expectancy of less than one year
It is important to keep in mind that problems may arise when the items which are claimed to be repairs are expensed as part of a general plan of improvement or betterment of the property. In this situation, these expenditures which might otherwise be deductible expense for repairs may become a disallowed deduction and must be capitalized. It is a good idea to keep all records that will help you prove that the repairs claimed are separate from the extensive improvements being made.
On March 9, 2011, the Oregon legislature passed Senate Bill 301 which connects Oregon to most provisions of federal law for tax year 2010. The bill generally updates Oregon’s definition of taxable income to the definition in the Internal Revenue Code, but remains disconnected from Section 179 and federal bonus depreciation for 2010. Oregon’s Section 179 limit remains at $134,000 with a dollar-for-dollar reduction beginning at $530,000. Bonus depreciation is disallowed for Oregon purposes.
Oregon also remains disconnected from (and an addition on the 2010 return is required) for federal subsidies for prescription drug plans (IRC 139A), domestic production activities (IRC 199), and the discharge of indebtedness from the reacquisition of an applicable debt instrument after December 31, 2008 (IRC 108(i)).
Under Senate Bill 301, Oregon will resume a full, rolling reconnect for 2011. For tax years beginning on or after January 1, 2011, the bill connects Oregon to the Section 179 deduction and federal bonus depreciation.
In our November 2010 Q&A, we explained the AMT: a parallel tax system which permits larger exemption amounts than the standard deduction but does not permit several of the deductions permissible under the regular tax system, such as exemptions for dependents, and property, sales or income taxes. Without Congressional action, or an “AMT Patch,” the exemption amounts for 2010 and beyond would have reverted to their 2000 amounts of $33,750 for Single and Head of Household (HOH) taxpayers, $45,000 for Married taxpayers Filing Jointly (MFJ), and $22,250 for Married taxpayers Filing Separately (MFS).
Congress did not fix the ongoing AMT problem, but it did provide for another two year “patch.” The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (The Act) was signed into law by President Obama on December 17, 2010. The Act changed the 2010 and 2011 AMT exemption amounts by filing status to the following: Single and HOH: 2010 – $47,450; 2011 – $48,450; MFJ: 2010 – $72,450; 2011 – $74,450; MFS: 2010 – $36,225; 2011 – $37,225.
The Act also provides AMT relief for taxpayers claiming personal tax credits. Certain nonrefundable personal credits, e.g. the dependent care credit, are allowed only to the extent that a taxpayer’s regular tax exceeds the minimum tax, effectively disallowing them against the AMT. Previous patches allowed these credits to reduce regular tax and AMT through 2009. The new law extends this provision through 2011.
Under the recently enacted Tax Relief Act of 2010, the federal estate tax, which disappeared for 2010, springs back to life in 2011 and provides for a $5 million exemption, a top tax rate of 35% and a step-up in basis.
The 2010 Tax Relief Act also allows estates of decedents who died in 2010 to choose between (1) estate tax (based on a $5 million exemption and 35% top tax rate) and a step-up in basis, or (2) no estate tax and a modified carryover basis.
In addition, the 2010 Tax Relief Act provides for a new portability feature. Under the Act, any exemption that remains unused as of the death of a spouse who dies after Dec. 31, 2010 and before Jan. 1, 2013 is generally available for use by the surviving spouse in addition to his or her own $5 million exemption for taxable transfers made during life or at death. Under prior law, the exemption of the first spouse to die would be lost if not used.
Finally, the 2010 Tax Relief Act reunifies the gift tax with the estate tax for gifts made after December 31, 2010. Under the new law, the estate tax and gift tax exemptions will be reunified starting in 2011, which means that the $5 million exemption for estates will also be available for gifts. The gift tax rate, starting in 2011, will be 35%. The exemption from the generation-skipping tax (GST) – the additional tax on gifts and bequests to grandchildren when their parents are still alive – will also rise to $5 million from the $1 million it would have been without the new law. The GST tax rate for transfers made in 2011 and 2012 will be 35%.
The estate tax relief in the new law is substantial, but it is temporary. Estate planning to reduce taxes remains an important consideration. Even if taxes are not a concern because an estate is below the exemption level, it is important to have a proper estate plan to ensure that the needs of intended beneficiaries are met.
When people talk about the “Bush tax cuts,” they are referring, for the most part, to the provisions in the 2001 (EGTRRA) and 2003 (JGTRRA) Acts that lowered individual income tax rates and cut the top rates on capital gains and dividends.
If left to expire the income tax rates would have reverted back to pre-2001 individual income tax rates ranging from 15%, 28%, 31%, 36%, and 39.6%. The new law extends the rates that have been in effect in recent years—10%, 15%, 25%, 28%, 33%, and 35%. However, the extension is only for two years (through 2012).
Since 2008, the tax rate on long-term capital gains has been 0% for individuals in the 10% and 15% income tax brackets, and 15% for everyone else. However, those rates were scheduled to expire at the end of 2010, with the result that in 2011 the long-term capital gains tax rate would have risen to 20% (10% for taxpayers in the 15% tax bracket) if Congress had not acted. The new legislation temporarily prevents these increases by extending the 0% and 15% long-term capital gains tax rates for two years (through 2012).
The low rates for qualified dividends, like the other Bush tax cuts, were scheduled to expire at the end of 2010. If Congress had not acted, beginning in 2011 taxes on dividends would have returned to the rates that were in effect before 2001, and all dividend income received in 2011 would have been taxed as ordinary income. The new legislation prevents that from happening by continuing the current treatment in effect for qualified dividends. Currently qualified dividends are taxed as long-term capital gains, subject to a 0% tax rate for individuals in the 10% and 15% tax brackets and a 15% tax rate for other taxpayers for two years—through 2012.
Under the new provision of the recently enacted Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, the Social Security payroll tax on individual wages will be lowered to 4.2% in 2011, from the usual 6.2% rate. Self-employed workers will also get the tax break. Their self-employment taxes will be cut from 12.4% to 10.4%.
The tax break only applies for one year, 2011 — for now anyway. There will almost certainly be efforts to extend it beyond 2011.
There is no phaseout (i.e., gradual reduction) of the payroll tax reduction for higher income workers. It goes to everyone who works, regardless of income. However, since Social Security taxes apply only to the first $106,800 in earnings in 2011, the benefit for high earners tops out at $2,136.
The payroll tax reduction in effect replaces the $400-per-worker tax break included in the 2009 stimulus bill. That break, called the Making Work Pay tax credit, provided a tax credit of 6.2% on the first $6,450 of a worker’s wages but was phased out for workers making more than $75,000 ($150,000 for couples). The new law’s payroll tax reduction, by contrast, provides a potentially much bigger tax break for taxpayers (up to $2,136 for individuals, $4,272 for couples).
The employer’s share of Social Security tax is not affected; it stays at 6.2%. Thus, the cost of hiring new workers isn’t directly affected by the payroll tax reduction. The payroll tax reduction will not affect the worker’s future Social Security benefit, because benefits are based on lifetime earnings, not the amount of tax paid by the worker into the Social Security system.
Taxpayers can transfer substantial amounts free of gift taxes to their children or other donees through the proper use of the gift tax exclusion. The amount of the exclusion for 2010 is $13,000.
The exclusion covers gifts an individual makes to each donee each year. Thus, a taxpayer with three children can transfer a total of $39,000 to them every year free of federal gift taxes. If the only gifts made during a year are excluded in this fashion, there is no need to file a federal gift tax return. If annual gifts exceed $13,000, the exclusion covers the first $13,000 and only the excess is taxable.
If the donor of the gift is married, gifts to donees made during a year can be treated as split between the husband and wife, even if the cash or gift property is actually given to a donee by only one of them. By gift-splitting, therefore, up to $26,000 a year can be transferred to each donee by a married couple because their two annual exclusions are available. Thus, for example, a married couple with three married children can transfer a total of $156,000 each year to their children and the children’s spouses ($26,000 for each of six donees).
Is your worker an independent contractor or employee?
If a worker is an employee the company must withhold federal income and payroll taxes, pay the employer’s share of FICA taxes on the wages plus FUTA tax, and often provide the worker with fringe benefits it makes available to other employees. There may be state tax obligations as well.
These obligations don’t apply for a worker who is an independent contractor. The business sends the independent contractor a Form 1099-MISC for the year showing what he or she was paid (if it amounts to $600 or more), and that’s it.
Under the common-law rules, an individual generally is an employee if the enterprise he works for has the right to control and direct him regarding the job he is to do and how he is to do it. Otherwise, he is an independent contractor.
Individuals who are “statutory employees,” (that is, specifically identified by the tax code as being employees) are treated as employees for social security tax purposes even if they aren’t subject to an employer’s direction and control (that is, even if the individuals wouldn’t be treated as employees under the common-law rules). These individuals are agent drivers and commission drivers, life insurance salespeople, home workers, and full-time traveling or city salespeople who meet a number of tests. Statutory employees may or may not be employees for non-FICA purposes. Corporate officers are statutory employees for all purposes.
Individuals who are statutory independent contractors (that is, specifically identified by the tax code as being non-employees) aren’t employees for purposes of wage withholding, FICA or FUTA, and the income tax rules in general. These individuals are qualified real estate agents and certain direct sellers.
Some categories of individuals are subject to special rules because of their occupations or identities. For example, corporate directors aren’t employees of a corporation in their capacity as directors, and partners of an enterprise organized as a partnership are treated as self-employed persons.
Can you deduct your club dues?
Like many other enterprises, your business may pay club dues to one or several types of organizations. These dues may or may not be deductible, depending on the type of organization and its purpose.
Your business generally cannot deduct dues paid to a club organized for business, pleasure, recreation or other social purposes. This disallowance rule takes in country clubs, golf clubs, business luncheon clubs, athletic clubs, and even airline and hotel clubs. However, you can deduct 50% of the cost of otherwise allowable business entertainment at a club, even if the dues you pay to the club are nondeductible.
The club-dues disallowance rule generally doesn’t affect dues paid to professional organizations including bar associations and medical associations, or civic or public-service-type organizations, such as the Lions, Kiwanis or Rotary clubs. The dues paid to local business leagues, chambers of commerce and boards of trade also aren’t affected.
However, an organization isn’t exempt from the disallowance rule if its principal purpose is to provide entertainment facilities to its members, or to conduct entertainment activities for them.
Finally, keep in mind that even if the general club-dues disallowance rule doesn’t apply, there’s no deduction for dues unless you can show that the amount you pay is an ordinary and necessary business expense.
What documentation do I need to substantiate charitable contributions?
For a contribution of cash, check, or other monetary gift, regardless of amount, you must maintain a bank record or a written communication from the donee organization showing its name, plus the date and amount of the contribution. It’s not sufficient to maintain other written records, such as a log of contributions.
For a contribution of property other than money, you generally must maintain a receipt from the donee organization showing its name, the date and location of the contribution, and a detailed description (but not the value) of the property. You need not obtain a receipt for a property donation, however, if circumstances make obtaining a receipt impracticable. In that case, you must maintain a reliable written record of the contribution.
Stricter substantiation requirements apply in the case of charitable contributions with a value of $250 or more. No charitable deduction is allowed for any contribution of $250 or more unless you substantiate the contribution by a contemporaneous written acknowledgement of the contribution by the donee organization. The acknowledgement must include the amount of cash and a description (but not value) of any property other than cash contributed, whether the donee provided any goods or services in consideration for the contribution, and a good faith estimate of the value of any such goods or services
In general, you are required to obtain a qualified appraisal for donated property with a value of more than $5,000, and to attach an appraisal summary to the tax return. If an item has been appraised at $50,000 or more, you can ask IRS to issue a “Statement of Value” which can be used to substantiate the value.
Can I deduct all home mortgage interest paid?
If you own a home, the interest you pay on your home mortgage provides one of the best tax breaks available. However, many taxpayers believe that any interest paid on their home mortgage loan is deductible. Sadly, they’re wrong.
Qualified residence interest is interest incurred from buying, building, or improving your qualified residence, or from home-equity loans on that residence and is deductible. You can deduct interest from up to two qualified residences: your primary home and one other vacation home or similar property. You cannot deduct mortgage interest with respect to a third residence.
However, you can’t deduct the interest for acquisition debt greater than $1 million ($500,000 for married individuals filing separately). Note also that the $1 million ceiling on deductible home mortgage debt includes both your primary residence and your second home combined.
The rules are different for home-equity loans. Home-equity debt is debt (other than acquisition debt) secured by your principal or second residence. Home-equity debt is limited to the lesser of $100,000 ($50,000 if your filing status is married filing separately) or your equity in the home.
Can I deduct commuting expenses to temporary job locations?
Daily transportation costs between your home and a regular work location are nondeductible commuting expenses. However, you may be able to deduct costs of going to and from your home and a temporary (not regular) job location. This deduction is allowed if your work fits one of the following descriptions:
You have one or more regular places of business outside your home, but sometimes travel to temporary work locations in the same trade or business.
You sometimes travel to a temporary work location outside the metropolitan area in which you live and normally work.
Generally speaking, employment at a work location is temporary if it is realistically expected to last (and does in fact last) for no more than a year. Sometimes a temporary location can turn into a regular one. This happens when your realistic expectation changes, so that work at a location that had been expected to last for a year or less is now expected to last for more than a year. You must be able to substantiate the auto expenses that you claim through adequate records, such as a log or diary. You can either use the standard mileage rate or deduct your actual expenses.
If your employer reimburses your commuting expenses you needn’t report the reimbursements as income if they are made under an accountable plan, but you also cannot deduct them.
What is the “Making Work Pay” tax credit in the American Recovery and Reinvestment Act of 2009?
The “Making Work Pay” is a tax credit of up to $400 per year for individuals or $800 per year for couples. Here are the details of this new credit:
Eligible individuals will receive an income tax credit for two years (tax years beginning in 2009 and 2010). The new credit, like other tax credits, will reduce a person’s tax liability on a dollar-for-dollar basis. Wage earners who don’t earn enough to pay income taxes will be able to claim the difference as a tax refund.
The new credit is the lesser of (1) 6.2% of an individual’s earned income or (2) $400 ($800 in the case of a joint return).
The credit is available in full only if adjusted gross income doesn’t exceed $75,000 for an individual ($150,000 if you file a joint return). The credit is phased out at a rate of 2% of the eligible individual’s AGI above $75,000 ($150,000 in the case of a joint return).
Unlike the $600 per worker lump-sum rebates issued last year, the credit can be received as a reduction in the amount of income tax that is withheld from a paycheck, or through a credit on a tax return.
Since the credit is based on taxable wages and thus unavailable to many retired people and others whose income does not come from wages, the new law includes a one-time payment of $250 to retirees, disabled individuals and SSI recipients receiving benefits from the Social Security Administration, and Railroad Retirement beneficiaries, and to veterans receiving disability compensation and pension benefits from the U.S. Department of Veterans’ Affairs.
Is there a required minimum distribution from my retirement account for 2009?
Late last year, Congress passed a law that helps individuals who are taking or about to take required payouts from employer-sponsored tax-qualified retirement plans or IRAs. In essence, the law waives these required payouts (called “required minimum distributions” or RMDs) for calendar year 2009.
The new law change has an impact on three distinct groups of people—here’s how you or a family member may be affected. 1) The new law allows older individuals (those who have attained age 70) to skip the RMD that would otherwise be required for calendar year 2009. 2) The new law allows designated beneficiaries of retirement plans or IRAs to skip the annual payout that would otherwise be required for calendar year 2009. 3) The new law doesn’t affect owners of Roth IRA accounts for the simple reason that they do not have to make lifetime RMDs from these accounts. However, it does affect beneficiaries of Roth IRAs, who must make minimum annual withdrawals after the account owner dies. Thanks to the new law change, designated beneficiaries of Roth IRAs don’t have to make a minimum withdrawal for 2009 from their inherited Roth IRAs.
Is it possible to file as a single taxpayer, preferably using head of household rates, even though you are legally married?
A married taxpayer can always use the filing status “married filing separately.” However, it is less favorable than the “single” or “head of household” filing statuses.
In many cases a couple is “separated” but with no decree of divorce or separate maintenance. In that case, they are still considered to be married in the eyes of state law. And the tax law follows state law on this matter. The couple can still file “jointly,” but this may be impractical in some cases depending on the nature of the separation.
If the following tests are met, you can file as “single” or “head-of-household” (if you meet the other requirements for that status) even though you’re married.
•You maintain as your home a household which for more than half the year is the principal living place of a child of yours whom you can claim as your dependent (or could have claimed as your dependent except that you signed away your right to the exemption to the child’s other parent).
•You furnish more than half of the cost of maintaining the home. This includes all house-related costs, plus the cost of food consumed in the home.
•Your spouse cannot have been a member of the household for the last six months of the year.
What is AMT?
The AMT is a parallel tax system which does not permit several of the deductions permissible under the regular tax system, such as property tax. Originally enacted to make sure that wealthy Americans did not escape paying taxes, the AMT has started to apply to more middle-income taxpayers, due in part to the fact that the AMT parameters are not indexed for inflation. Taxpayers who may be subject to the AMT must calculate their tax liability under the regular federal tax system and under the AMT system taking into account certain “preferences” and “adjustments.” If their liability is found to be greater under the AMT system, that’s what they owe the federal government
The AMT starts with your regular taxable income and, in general, makes you “give back” the tax preferences and adjustments until you arrive at “alternative minimum taxable income”. Then, after subtracting an exemption amount (For 2010, single taxpayers exemption amount is $33,750 and married taxpayers filing jointly is $45,000. These amounts have yet to be adjusted for inflation.), a tax rate of 26% applies to the first $175,000 of this income and 28% to amounts above $175,000. (For married taxpayers who file separately, the rate changes at $87,500.) However, the AMT rates for long-term capital gains, as well as dividends that qualify to be taxed at long-term capital gain rates, are the same favorable rates that apply for regular tax purposes.
You may also be subjected to the AMT even if you have no tax preferences. For example, if you have a large family, elimination of the personal and dependency exemptions to which you are entitled for regular tax purposes may cause you to be subject to the AMT.
What do I do if I receive a notice from the IRS?
The IRS sends millions of notices to taxpayers every year. The notices normally cover a specific issue about your account or tax return, such as requesting additional information or explaining one or more changes to the account or return. If you agree with a correction to their account, usually no reply is necessary unless a payment is due or the notice directs otherwise. If you disagree, you should send a written explanation of why you disagree, with supporting documentation if possible, along with the bottom tear-off portion of the notice. Mail the information to the IRS address shown in the upper left-hand corner of the notice by the requested deadline, which is usually within 30 days. If you are unsure of what to do, contact us and we can assist you in responding appropriately.
If I have a debt forgiven, is this taxable income?
The tax laws specifically include income from the discharge of indebtedness in gross income. However, there are several exceptions to this rule and numerous exclusions from gross income for certain types of forgiven debts.
Exceptions. If the cancellation of debt by a private lender, such as a relative or friend, is intended as a gift, there is no income. Likewise, a debt cancelled by a private lender’s Last Will and Testament triggers no income to the borrower.
There is also an exception for certain student loans. For example, doctors, nurses, and teachers who agree to serve in rural or low-income areas in exchange for cancellation of their student loans won’t have income from the cancellation if they meet certain conditions.
Also keep in mind that there is no income from cancellation of a debt that was deductible. For example, if a lender cancels home-mortgage interest that could have been claimed as an itemized deduction on Schedule A of Form 1040, there is no tax problem to contend with.
Exclusions. In addition to the above exceptions, there are exclusions from the general rule of reporting canceled debt as income for:
- discharge of debt through bankruptcy,
- discharge of debt of an insolvent taxpayer,
- discharge of “qualified farm debt,”
- discharge of “qualified real property business debt,” and
- discharge of “qualified principal residence debt.”
These exclusions are complicated, and a detailed discussion of them is beyond the scope of this explanation. However, it is worth pointing out that the qualified principal residence debt exclusion applies where individuals restructure their acquisition debt on a principal residence, lose their principal residence in a foreclosure, or sell a principal residence in a short sale (where the sales proceeds are insufficient to pay off the mortgage and the lender cancels the balance).
If you had a debt forgiven, we can determine how it may affect your taxes, make sure you gain maximum advantage from any exception or exclusion that may apply, and guide you through various choices that may be available in your situation.
What is the advantage of switching my business as a sole proprietor to an S Corporation?
Income that you generate in your business that you are conducting as a sole proprietor (or through a wholly-owned limited liability company (LLC)) is subject to both income tax and self-employment tax. The self-employment tax is imposed on 92.35% of self-employment income at a 12.4% rate for social security up to the social security maximum ($106,800 for 2010) and a 2.9% rate for Medicare, without any maximum. However, if you conduct your business as an S corporation you will be subject to income tax, but not self-employment tax, on your share of the S corporation’s income.
An S corporation is not subject to tax at the corporate level. Instead, the corporation’s items of income, gain, loss, and deduction are passed through to the shareholders. However, the income passed through to the shareholder is not treated as self-employment income. Thus, by using an S corporation, you can avoid self-employment income tax.
There is a catch, however, in that IRS requires that the S corporation pay you reasonable compensation for your services to the S corporation. The compensation is wages which is subject to employment tax (split evenly between the corporation and the employee) which is equivalent to the self-employment tax. If the S corporation does not pay you reasonable compensation for your services, IRS may treat a portion of the S corporation’s distributions to you as wages and will impose social security taxes on the deemed wages. There is no simple formula regarding what is reasonable compensation. Presumably, reasonable compensation would be the amount that unrelated employers would pay for comparable services under like circumstances. There are many factors that would be taken into account in making this determination.
What are the 2010 Roth IRA conversion opportunities?
In 2010, for the first time, you may roll over amounts in qualified employer-sponsored retirement plan accounts, such as 401(k)s and profit sharing plans, and regular IRAs, into Roth IRAs—regardless of your adjusted gross income (AGI).
Such a conversion may be desirable because distributions from Roth IRAs may be tax-free if several conditions are met, and a Roth IRA owner does not have to commence lifetime required minimum distributions (RMDs) from Roth IRAs after he or she reaches age 70 1/2 .
However, even if Roth distributions are tax-free, a 10% penalty may apply. Plus, the conversion itself will be fully taxed, assuming the rollover is being made with pre-tax dollars (money that was deductible when contributed to an IRA, or money that wasn’t taxed to an employee when contributed to the qualified employer sponsored retirement plan) and the earnings on those pre-tax dollars.
Roth rollovers made in 2010 represent a novel tax-deferral opportunity and a novel choice. If you make a rollover to a Roth IRA in 2010, the tax that you’ll owe as a result of the rollover will be payable half in 2011 and half in 2012, unless you elect to pay the entire tax bill in 2010.
What are the new benefits to employers as a result of the recently passed HIRE Act?
Two new tax benefits are now available to employers hiring workers who were previously unemployed or only working part time. These provisions are part of the Hiring Incentives to Restore Employment (HIRE) Act enacted into law.
Employers who hire unemployed workers this year (after Feb. 3, 2010 and before Jan. 1, 2011) may qualify for a 6.2-percent payroll tax incentive, in effect exempting them from their share of Social Security taxes on wages paid to these workers after March 18, 2010. This reduced tax withholding will have no effect on the employee’s future Social Security benefits, and employers would still need to withhold the employee’s 6.2-percent share of Social Security taxes, as well as income taxes. The employer and employee’s shares of Medicare taxes would also still apply to these wages.
In addition, for each worker retained for at least a year, businesses may claim an additional general business tax credit, up to $1,000 per worker, when they file their 2011 income tax returns.
The two tax benefits are especially helpful to employers who are adding positions to their payrolls. New hires filling existing positions also qualify but only if the workers they are replacing left voluntarily or for cause. Family members and other relatives do not qualify.
In addition, the new law requires that the employer get a statement from each eligible new hire certifying that he or she was unemployed during the 60 days before beginning work or, alternatively, worked fewer than a total of 40 hours for someone else during the 60-day period. The IRS is currently developing a form employees can use to make the required statement.
Employers claim the payroll tax benefit on the federal employment tax return they file, usually quarterly, with the IRS. Eligible employers will be able to claim the new tax incentive.