Current Focus

2014 QUICK TAX TIPS

Obamacare Individual Mandate

  • Requires that most Americans obtain health insurance by 2014 or pay a tax penalty.  The individual mandate went into effect on January 1st 2014.  There is a 3 month grace period until March 31st 2014.  The penalty will be applied to your annual taxable income for each month you do not have health insurance.

Fee for not having insurance

2014 2015 2016
Fee/Adult $ 95.00 $325.00 $695.00
Fee/Child 47.50 162.50 347.50
Total or % fee for not having insurance. Up to $285.00 or 1% of income.

Whichever is greater

Up to $975.00 or 2% of income. Whichever is greater Up to $2,085.00 or 2.5% of income.

Whichever is greater

*February 15, 2015 is the last day to enroll for a health plan in the marketplace for the rest of 2015.

Long Term Capital Gains & Qualified Dividends

  • For tax year 2014 and later, the top rates for capital gains and dividends will increase from 15% to 20%.  This applies to taxpayers with incomes exceeding $400,000 (Single), $425,000 (HOH), $450,000 (MFJ) and $225,000 (MFS).  These rates apply for regular tax and AMT.  For 2015 the thresholds have been indexed for inflation.

Additional Medicare tax on Earnings

  • For tax year 2014. Additional Medicare tax is 0.9% of wages over $200,000 (Single) (HOH), and ($250,000 if MFJ; $125,000 if MFS).  Self-employment (SE) earnings are also subject to the additional Medicare tax when SE earnings exceed these thresholds, except that the thresholds are reduced by wages counted for FICA tax.  The additional Medicare tax is not deductible for income or SE tax.

Net Investment Income (NII) Tax

  • For tax year 2014.  Individuals with modified AGI over $200,000 ($250,000 if MFJ; $125,000 if MFS) are subject to a 3.8% additional tax on their NII.  NII generally includes interest, dividends, royalties, rents, gross income from a passive trade or business and net gain from property dispositions (other than most property held for use in a non-passive trade or business).  NII is reduced by deductions allocable to such income.  The tax also applies to estates and trusts.

Same-Sex Married Couples

  • Individuals in a legally recognized same-sex marriage are treated as married for federal income tax purposes.  Note: Individuals who were in a same-sex marriage before 2013 can choose to amend prior year returns.  However, Georgia (and many other states) does not currently allow same-sex couples to file joint state income tax returns.

Health Flexible Spending Account (FSA)

  • For tax year 2014.  The amount an individual can contribute to an employer provided health flexible spending arrangement (FSA) is limited to $2,500 per year. For 2015 the amount will increase by $50 to $2,550.

Personal Exemption Deduction Phase-Out

  • For tax year 2014.  The deduction for personal exemptions is reduced for taxpayers with AGI in excess of $254,200 (Single), $279,650 (HOH), $305,050 (MFJ) and $152,525 (MFS).  This is indexed for inflation each year.

Itemized Deduction Phase-Out

  • For tax year 2014.  A phase-out of certain itemized deductions applies to taxpayers with AGI in excess of $254,200 (Single), $279,650 (HOH), $305,050 (MFJ) and $152,525 (MFS). For 2015 the limitation is increased to $258,250 (Single), $309,900 (MFJ) and $154,950 (MFS).

Medical Expense Deduction Increased Threshold

  • For tax year 2014.  Medical expenses are deductible as an itemized deduction only to the extent that they exceed 10% of AGI.  Exception:  For 2013 through 2016, if the taxpayer (or spouse) turns 65 before the end of the year, the threshold remains at 7.5% of AGI.  The AMT deduction threshold is unchanged at 10% of AGI.    

Standard Mileage Rates 2014

Multiply the following rates by the number of miles driven:

2014 2015
Business 56 Cents/mile 57.5 Cents/mile
Charitable 14 Cents/Mile 14 Cents/Mile
Medical 23.5 Cents/Mile 23 Cents/Mile
Job Related Move 23.5 Cents/Mile 23 Cents/Mile

*The rates for 2015 are subject to change if fuel prices increase or decrease dramatically

Annual Gift Tax Exemption

  • For 2014 and unchanged for 2015 a taxpayer can give $14,000 to any number of recipients in a calendar year without paying federal estate and gift tax.  The federal estate and gift tax exclusion is $5.34 million for 2014 and $5.43 million for 2015.

Below are some of the Tax Provisions that Expired on December 31, 2013.

Retroactively Extended For 2014.

Section 179 Deduction Limit

  • $500,000 deduction for big ticket items in 2014. Extended for 2014 and will drop to $25,000 in 2015 without extension.

Qualified Principal Residence Mortgage Debt Relief

  • Homeowners who received forgiveness of the principal amount on their home loans either thru a short sale or foreclosure did not have to pay tax on the debt forgiven. (Extended for 2014).

Mortgage Insurance Premium Deduction

  • Treatment of qualified mortgage insurance premiums as home mortgage interest for taxpayers with AGI up to $109,000 ($54,500 if MFS) (Extended for 2014).

Tuition and Fees Deduction

  • Above-the-line deduction for tuition and fees for qualified higher education expenses (Extended for 2014).

Murphy and McInvale CPA’s 2205 Riverstone Blvd, Suite 105 • Canton, GA 30114 • Tel 770.479.1667 • Fax 770.479.2036 1667 • www.mm.cpa.pro

2013 QUICK TAX TIPS

Obamacare Individual Mandate
• Requires that most Americans obtain health insurance by 2014 or pay a tax penalty. The individual mandate went into effect on January 1st 2014. There is a 3 month grace period until March 31st 2014. The penalty will be applied to your annual taxable income for each month you do not have health insurance. The fee for not having insurance in 2014 is $95 per adult and $47.50 per child or 1% of your taxable income (up to $285 for a family), whichever is greater. In 2015 the fee is $325 per adult and $162.50 per child or 2% of your taxable income (up to $975 for a family), whichever is greater. In 2016 the fee is $695 per adult and $347.50 per child or 2.5% of your taxable income (up to $2,085 for a family), whichever is greater. In 2017 the tax penalty will increase by the rate of inflation going forward, or 2.5% of your income.

Capital Gains and Dividends
• For tax years 2013 and later, the top rates for capital gains and dividends will increase from 15% to 20%. This applies to taxpayers with incomes exceeding $400,000 (Single), $425,000 (HOH), $450,000 (MFJ) and $225,000 (MFS). These rates apply for regular tax and AMT. For 2014 the thresholds have been indexed for inflation.

Additional Medicare tax on Earnings
• For tax years 2013 and later. Additional Medicare tax is 0.9% of wages over $200,000 (Single) (HOH), and ($250,000 if MFJ; $125,000 if MFS). Self-employment (SE) earnings are also subject to the additional Medicare tax when SE earnings exceed these thresholds, except that the thresholds are reduced by wages counted for FICA tax. The additional Medicare tax is not deductible for income or SE tax.

Net Investment Income (NII) Tax
• For tax years 2013 and later. Individuals with modified AGI over $200,000 ($250,000 if MFJ; $125,000 if MFS) are subject to a 3.8% additional tax on their NII. NII generally includes interest, dividends, royalties, rents, gross income from a passive trade or business and net gain from property dispositions (other than most property held for use in a non-passive trade or business). NII is reduced by deductions allocable to such income. The tax also applies to estates and trusts.

Same-Sex Married Couples
• Effective 9/16/2013, individuals in a legally recognized same-sex marriage are treated as married for federal income tax purposes. Note: Individuals who were in a same-sex marriage before 2013 can choose to amend prior year returns. However, Georgia (and many other states) do not currently allow same-sex couples to file joint state income tax returns.

Health Flexible Spending Account (FSA)
• For tax years 2013 and later. The amount an individual can contribute to an employer provided health flexible spending arrangement (FSA) is limited to $2,500 per year. This amount will be indexed for inflation. For 2014 the amount remained unchanged at $2,500.

Personal Exemption Deduction Phase-Out
• For tax years 2013 and later. The deduction for personal exemptions is reduced for taxpayers with AGI in excess of $250,000 (Single), $275,000 (HOH), $300,000 (MFJ) and $150,000 (MFS). This is indexed for inflation each year.

Itemized Deduction Phase-Out
• For tax years 2013 and later. A phase-out of certain itemized deductions applies to taxpayers with AGI in excess of $250,000 (Single), $275,000 (HOH), $300,000 (MFJ) and $150,000 (MFS). This is indexed for inflation after 2013. For 2014 the limitation is increased to $254,200 (Single), $279,650 (HOH), $305,050 (MFJ) and $152,525 (MFS).

Medical Expense Deduction Increased Threshold
• For tax years 2013 and later. Medical expenses are deductible as an itemized deduction only to the extent that they exceed 10% of AGI. Exception: For 2013 through 2016, if the taxpayer (or spouse) turns 65 before the end of the year, the threshold remains at 7.5% of AGI. The AMT deduction threshold is unchanged at 10% of AGI.

Standard Mileage Rates
• Multiply the following rates by the number of miles driven:
Business- 56.5 cents per mile
Charitable- 14 cents per mile
Medical- 24 cents per mile
Job related move- 24 cents per mile

• For 2014 the mileage rates are:
Business- 56 cents per mile
Charitable- 14 cents per mile
Medical- 23.5 cents per mile
Job related move- 23.5 cents per mile
Note: the rates for 2014 are subject to change if fuel prices increase dramatically

Annual Gift Tax Exemption
• For 2013 and unchanged for 2014 a taxpayer can give $14,000 to any number of recipients in a calendar year without paying federal estate and gift tax. The federal estate and gift tax exclusion is $5.25 million for 2013 and $5.34 million for 2014.

Below are some of the Tax Provisions that Expired on December 31, 2013

Qualified Principal Residence Mortgage Debt Relief
• This tax provision expired on December 31, 2013. Homeowners who received forgiveness of the principal amount on their home loans either thru a short sale or foreclosure did not have to pay tax on the debt forgiven; this law may be extended again since there are still millions of Americans who still owe more on their loans than their homes are worth.

Mortgage Insurance Premium Deduction
• Treatment of qualified mortgage insurance premiums as home mortgage interest for taxpayers with AGI up to $109,000 ($54,500 if MFS).

Tuition and Fees Deduction
• Above-the-line deduction for tuition and fees for qualified higher education expenses.

Murphy and McInvale CPA’s 2205 Riverstone Blvd, Suite 105 • Canton, GA 30114

Tel 770.479.1667 • Fax 770.479.2036 • www.mm.cpa.pro

Tax Effect of the Fiscal Cliff Deal

My last post here from June outlined some of the more important tax provisions that were either expiring or set to take effect beginning in 2013.  As we all probably know by now, Congress and the President avoided the “fiscal cliff” nightmare scenario with a last minute action.  This topic has certainly been widely covered in the news, but details are scarce.  This post will examine what the American Taxpayer Relief Act of 2012.  I’ll use my bullet points from the June post for structure and limit the analysis to just those points.

In the same order as before……..

  • The 2% temporary cut in the FICA rate was allowed to expire.  The FICA rate for 2013 and beyond will be 6.2%, which is the rate that we’ve had for decades.
  • The parallel self employment tax increases similarly by 2%.
  • The tax rate changes at stake were a confusing mess.  The result of the act is that all the individual rates are made permanent except that the top bracket of 35% is being split.  A new top bracket is being created that applies to taxable income over $450,000 on a joint return ($400,000 on a single return).  It’s worth noting that the 35% bracket is very narrow.  For married taxpayers, it’s roughly $50k – from $398,350 to $450,000.  For a single person, it’s only $1,650 – from $398,350 to $400,000.  So, to really distill this down, the Bush era tax cuts are made permanent, with the addition of the new top bracket of 39.6%.
  • Marriage penalty relief is made permanent.  As I said before, it’s a fairly insignificant item that gets a lot of political attention.  The vast majority of taxpayers can ignore this.
  • Long term capital gain rates are made permanent at 0% and 15% as discussed in the last post for everyone except those in the top income tax bracket.  For those subject to the new 39.6% tax bracket, the long term capital gains rate is 20%.
  • Qualified dividends are permanently tied to the long term capital gains rates.  The same maximum rates from the prior bullet point apply.
  • The $1,000 child tax credit is made permanent.  The refundability provisions are extended for another five years.
  • The current dependent care credit is made permanent.
  • The floor to deduct medical expenses was allowed to increase to 10% of AGI from 7.5%.  There is, however, a four year reprieve from this for those 65 and older.
  • The AMT patch was made permanent and indexed annually for inflation.  This one actually surprised me.
  • The new 3.8% Medicare tax on investment income was kept intact.  I’d suggest you go back to the June post to read about this brand new tax.  This, coupled with the next point, have the potential to be the most significant increase for those with significant incomes, investments and rental property.
  • The new Medicare tax on high wage earners takes effect this year.  The prior post will be helpful here, too.
  • Finally, the parallel self-employment tax applies as well.

Taken as a whole, you can conclude that income taxes are slightly higher in 2013 compared to 2012.  The increase will be felt much more at the upper end of the income scale.  Looking at it another way, we now have an even more progressive (tax rates increase with income) rate system than before.

Again, this post is an extreme simplification.  Plenty of details, caveats, and other data have been left out in the interest of rendering the subject to plain English.  As always, we can analyze your specific situation.

What To Expect in 2013

As everyone knows by now, the Supreme Court ruled the majority of the Patient Protection and Affordable Care Act (PPACA) (PL111-148) — colloquially referred to as Obamacare — constitutional on June 28, 2012. Additionally, temporary tax cuts from both presidents Bush and Obama are set to expire on December 31, 2012. Certainly the political dust cloud from either of these events will not be settling down any time soon.

If you’re looking for a political dissertation on the topic you’ll need to keep looking.  This post is simply an analysis of the tax changes to come with some simple examples of how a typical business owner or individual would be affected.  If I succeed in writing this post as I intend, you’ll be left wondering about my personal opinions and beliefs.  The internet is full of opinion, so I’m interested only in presenting sterile facts.

As the national media and both ends of the political spectrum are focused on a relatively minor $700 tax or penalty for not having health insurance for 2014 and after, they have ignored much more important and costly new taxes and expiring cuts to existing taxes that are set to kick in as the peach drops this New Year’s Eve.  With that in mind, the proactive small business owner or individual would do well to be informed and prepared for what’s coming. As these issues are currently evolving, we’ll just focus on 2013. Who knows what will happen after November?

These are in no particular order.  The final three represent the most significant new tax mechanisms.  The first three will touch the most taxpayers.  With that said, let’s jump in….

  • The 2% cut to the employee’s half of FICA will expire and the rate will go back to 6.2%. That’s $2,000 for a person earning a salary of $100k annually. The employer’s half of FICA was never cut, so it remains unaffected at 6.2%.
  • The self-employment tax, while technically a separate tax from FICA, functions virtually identically, so its 2% cut will also expire at the end of the year. A self-employed individual pays both halves of FICA, so the rate will reset from 10.4% to 12.4%.
  • Ordinary income tax rates will increase for every tax bracket as follows:
    • The current 10% bracket will go to 15%.
    • The current 15% bracket will be unchanged.
    • The current 25% bracket will go to 28%.
    • The current 28% bracket will go to 31%.
    • The current 33% bracket will for to 36%.
    • The current 35% bracket will go to 39.6%.
    • Cutting through this confusing array of numbers, you can see that it’s basically a 3% to 4.6% increase for anyone who is gainfully employed. The vast majority of taxpayers are going to fall into the new — actually the old — 28% to 36% brackets, so to distill it down further, consider it an across the board 3% increase.
  • The “marriage penalty relief” provision will expire. This was a tweak to the 15% bracket for married taxpayers filing jointly. Currently, it’s pegged at 200% of the single bracket and will reset to 167% of the single bracket. In my opinion, this is a relatively minor loss. However, for married taxpayers with substantially equal incomes this might be significant.
  • Long term capital gains will be affected as follows:
    • Property held more than one year is currently taxed at a maximum of 15% — or 0% for those in the current 10% & 15% tax brackets. This will increase to 20% and 10% respectively.
    • Property held five years or more is currently taxed at the same 15% rate. That will go to 18% for most taxpayers and 8% for those in the new 15% bracket (which are the old 10% & 15% brackets).
    • Once again, looking to render this down to something manageable, it’s a 3% to 5% increase in the tax on long term capital gains. Most taxpayers never saw the 0% rate, so its boost to 8% can be largely ignored.
  • Currently qualified dividends are taxed at the long term capital gain rate. That preferential treatment will disappear entirely. All dividends will now be taxed at ordinary income tax rates. For those in the top tax bracket, that is a 24.6% increase in the tax on dividends from 15% to 39.6%. That’s more than double! Obviously, if you have dividends in a closely held company that you want to pay out in the foreseeable future, 2012 would be the time to do that.
  • The child tax credit of $1,000 per child will be reduced to $500.  Currently, a portion of that might be refundable under certain circumstances.  Beginning in 2013, it is no longer refundable.  This means that it can’t generate a refund on its own.
  • The child and dependent care credit is reduced from its current maximum of $3,000 per dependent and $6,000 maximum to $2,400 per dependent and $4,800 maximum.
  • The floor to deduct medical expenses will increase from the current 7.5% of AGI to 10% of AGI.  This means that deductibles an other out of pocket expenses are even less likely to generate any tax benefit.  You’ll have to either be really sick or have a very low income to be able to deduct medical expenses.
  • Once again, we’re waiting on Congress to pass another “AMT patch” to shield the middle class from the Alternative Minimum Tax for 2012.  While this is technically a January 1, 2012 increase, I’ve listed it here because Congress typically acts on this late in the year with a temporary fix rather than a permanent one.  I’d expect nothing different this time around, but it’s worth mentioning.  Failing to act on this would be politically disastrous for both parties.  However, given the current state of gridlock in Washington, it’s worth at least being informed of the potential for having to deal with a lower AMT threshold.  If you want to read more on it, just Google “Alternative Minimum Tax”.
  • There is a brand new Medicare tax on investment income. For married taxpayers with incomes over $250,000 there is an additional 3.8% tax on net investment income. Investment income will include interest, dividends, rental activities, royalties, capital gains and passive income. It’s a bit more expansive definition of investment income than currently exists in other portions of the tax code. You’ll be able to reduce your total investment income by deductions allowable against investments, but for most taxpayers, that’s not much at all.  Keep in mind that long term capital gains rates and the tax on qualified dividends are going up.  Each of those are included in the definition of investment income.  You will need to add this 3.8% tax to the increase in those tax rates if your income is high enough.  In the worst case scenario, qualified dividends for an individual in the top bracket would jump from 15% to 43.4% (The ordinary income tax rate of 39.6% plus the new 3.8% Medicare tax).  That’s just short of  triple!
  • There is another Medicare tax that applies to employees whose wages are over $250k for married taxpayers ($200k for singles and $125k for married filing separate). The mechanism for this tax is something new. Until now, a salaried individual paid all his or her FICA and Medicare taxes through payroll deductions. Thus, there was no FICA or Medicare to be paid on the individual’s tax return each year. This new tax of 0.9% will bring the total Medicare rate to 2.35%. The first 1.45% will be paid as it is now through payroll deductions. The remaining 0.9% will be due with the individual’s personal income tax return. It’s also worth noting that this tax is computed against total wages and not taxable income. Thus the individual’s itemized deductions and exemptions will not lower this new tax.
  • Again there is a mirrored provision in the self-employment tax. The new 0.9% Medicare tax is added to self-employment income in excess of $250k for married taxpayers filing jointly ($200k for singles and $125k for married filing separately). This increase is exactly the same as the previous point if you substitute the phrase “net self-employment income” for the term “wages”.

As always, this post is meant to be only a high level summary in simple terms.  Its best use is as a checklist to see if you will be materially affected by any of these items.  I’ve greatly simplified this topic by leaving out lots of details that may be significant to your situation.  This should not be considered a substitute for real, detailed tax planning and analysis.  Of course, we can do that for you.

I typically would write something up on tax planning for the coming year in the late fall.  This year is probably a special case as virtually everyone will be affected in some way — certainly some more so than others.  However, everyone needs to at least be aware of these big sweeping changes.  That alone justifies writing this a few months ahead of time.

Total Tax Insights

The Total Tax Insights™ calculator is the first-of-a-kind tool brought to you by the CPA profession that will give you a clearer view of your estimated annual tax obligation based on your place of residence across the country. There are more than 20 types of federal, state and local taxes included – some of which may surprise you. The more you know about the taxes you pay, the greater insight you will have to make better informed financial decisions. You may start thinking differently about a lot of things, such as whether to pay off a mortgage, start a new business or when and how to save for retirement. Give it a try and then let’s talk about whether you are ready to begin the process of planning, managing and building your financial future.

Total Tax Insights

Charitable Deduction Denied for Donating House to Fire Department

The 7th Circuit recently affirmed an earlier Tax Court decision supporting the Treasury’s disallowance of a charitable contribution deduction for donating a house to the taxpayer’s local fire department so that they could burn it for training firefighters.  This decision is one that at first glance seems completely wrong until you think about the transaction as a whole.  Let’s look at the facts of the case.

Theodore Rolf & his wife Julia Gallagher decided that they wanted a completely new house for their lakefront property.  In order to completely remove the existing house so that they could start over, they donated the house – while retaining the land — to the local fire department with the condition that they burn it down.

The Rolfs hired a real estate appraiser to value to property with the house intact and once again with just the land value included.  Using comparable sales, the value of the house and land was $675,000.  The value of the land alone was set at $599,000.  The Rolfs claimed a charitable donation for the difference of $76,000.

The Treasury’s position was that the valuation methodology was inappropriate as it valued the property as if the house were to remain.  Since the Rolfs’ intention was to raze the house and rebuild, the property’s value would be much less due to the additional expense of having the old house removed.  Two expert witnesses were presented.  One was a professional house mover and the other was a DOT employee who removed houses from property acquired for road construction.  These experts established that the cost to move the house to another location would have been at least $100,000 and it was highly doubtful that a willing buyer would have been found for the house if there were a condition that it had to be moved off the Rolfs’ property.  They also supported the IRS’ position that the Rolfs received a benefit in the form of demolition services for which they would have paid at least $10,000.

The court concluded that the condition of the donation that the house be completely destroyed was not part of the taxpayer’s valuation of the property.  This restriction on the gift decreased its value to almost nothing.  Further, the Rolfs received a valuable benefit.  Therefore, they were not entitled to a charitable donation for the house.

Looking at the donation of the house in a vacuum, it would seem clear that you would get some deduction, regardless of the exact figure or how you arrive at it.  After all, the Rolfs did pay actual money to buy the house.  But the benefit that they received has to be considered along with the restriction placed on it.  Many times clients make a donation and receive something in return.  The value of the NPR tote bag that you get for making a donation will reduce the deductible amount of that donation.  A box of Girl Scout cookies is worth what you pay for it, and therefore, you do not get a deduction.  If you were to donate your old clothes to Goodwill with the stipulation that they only be used to make scarecrows, then that would reduce the value of the donation since they couldn’t just sell them in the thrift store for cash.  The whole transaction must be considered.

What's the Fate of the Estate Tax?

I’ve been asked this question about a half dozen times in the last month.  My concise answer is that no one knows.  This recent article from The Wall Street Journal does a much better job of answering the question.

This is taken from the Ask Dow Jones column on March 3, 2012, written by Tom Herman…

Q:Is there any recent information on the federal estate-tax law scheduled to expire after 2012?  —P.R., Coronado, Calif.

A: Nobody knows what will happen to the federal estate tax after this year.

This is a hot political issue. The answer probably won’t emerge until after the November elections, says Tim Hanford, a consultant in Bethesda, Md., and a former tax staffer on the House Committee on Ways and Means.

Congress might try to take action on the estate tax in a special “lame duck” session late this year. Or, depending on what happens in the elections, lawmakers might punt the issue into next year.

For 2012, the top federal estate-tax rate is 35%, and the basic exemption from the tax is about $5.1 million. Transfers from one spouse to the other typically are tax-free.

As you point out, this law is scheduled to expire at the end of this year. If Congress does nothing, the top rate on the largest estates automatically will soar to 55% next year. Also, the basic exclusion automatically will plunge to $1 million. That would greatly increase the number of people affected by the tax.

Some members of Congress already have introduced legislation that would be effective starting next year. Among these are bills to extend the 2012 tax rules. Others would kill the estate tax completely. There is even disagreement on how to refer to this issue. Critics of the tax have dubbed it the “death tax.”

President Obama has criticized the current law, saying it gives a big tax break to the most affluent taxpayers that the nation can’t afford to continue. Thus, he recently proposed major changes that would be effective starting next year.

He proposed a top tax rate of 45% for the estates of people who die after this year, with an estate-tax exclusion amount of $3.5 million. He also proposed several other complex changes.

For details, search online for the U.S. Treasury’s “General Explanations of the Administration’s Fiscal Year 2013 Revenue Proposals,” often known as “the Green Book.”

2011 Quick Tax Tips

First-time Homebuyers Credit 2011

  • Limited Eligibility.  For most people, the first-time homebuyer credit is not available for homes purchased in 2011.  However, certain members of the uniformed services and Foreign Service and certain employees of the intelligence community can claim the credit for homes purchased in 2011.

Repayment of First-time Homebuyer Credit

  • You must continue repaying the credit on your 2011 tax return if you claimed the credit on your 2008 tax return.  If you are required to repay the credit because you disposed of a home you purchased in 2008, 2009, or 2010, or that home ceased to be your main home, you generally must repay the entire credit (or the balance of the unpaid credit in the case of a 2008 purchase) with your 2011 tax return.

Education Credit

  • The maximum credit is $2,500 per student (100% of the first $2,000 of eligible expenses and 25% of the next $2,000 of expenses).  The credit offsets both regular tax and AMT.  In addition, 40% of the credit is refundable, unless the taxpayer is a child; under age 18, [or age 18 (or a full-time student age 19-23) and whose earned income is less than or equal to half of his support]. Taxpayers with adjusted gross income of $80,000 or less and married couples that earn $160,000 or less are eligible for full credit.

Student Loan Interest

  • Taxpayers can deduct up to $2,500 of interest paid on qualified education loans for college or vocational school expenses as an adjustment to income.  The amount of deductible interest is phased out if your modified adjusted gross income is between $60,000 and $75,000 for single filers or $120,000 and $150,000 for married filing jointly.
  • Even if you do not itemize, student loan interest is still eligible as a deduction.

Standard Mileage Rates

  • Multiply the following rates per mile by the number of miles driven:

Business- 51 cents per mile 1/1 to 6/30; 55.5 cents per mile 7/1 to 12/31

Charitable- 14 cents per mile

Medical- 19 cents per mile 1/1 to 6/30; 23.5 cents per mile 7/1 to 12/31

Job-related move- 19 cents per mile 1/1 to 6/30; 23.5 cents per mile 7/1 to 12/31

  • For 2012 the mileage rates are:

55.5 cents per mile for business miles driven

23 cents per mile for medical or moving purposes

14 cents per mile for charitable organizations

Itemized Deductions Phase-Out

  • There is no reduction of total itemized deductions based on the taxpayer’s adjusted gross income.  The reduction is scheduled to be reinstated in 2013.

Personal Exemption Phase-Out

  • There is no reduction of the deduction for personal exemptions based on the taxpayer’s adjusted gross income.  The reduction is scheduled to be reinstated for 2013.

Residential Energy Efficient Property Credit

  • Taxpayers can claim a credit for certain home improvements placed in service in 2011.  The credit is equal to 10% of the cost of qualified energy-efficient property or improvements.  The total amount of credit that can be claimed in 2011 is $500 and the property must be installed on or in the taxpayer’s principal residence that is located in the U.S.  This amount is reduced (but not below zero) for any credits claimed in 2006-2010.  There are no AGI or income limits so all individuals can claim the credit.
  • The credit applies to improvements such as:

* insulation materials                        * exterior windows, doors

* skylights                                            * certain metal and asphalt roofs

* central air conditioners                 * natural gas, oil or propane furnaces

* hot water boilers                            * electric heat pump water heaters

* biomass stoves                                  * advanced main air circulating fans

Health Insurance Tax Credit for Small Employers

  • Qualified small employers can take a credit for up to 35% of the lesser of (1) the amount they contribute to a qualified health insurance arrangement for their employees or (2) the amount that would have been contributed if the applicable premium from the IRS Table (Average Health Insurance Premium for the Small Group Market) were substituted for the actual premium.
  • Exception: Self-employed individuals (general partners and sole proprietors), >2% S-Corporation shareholders and >5% owners of other businesses, as well as their family members, are not treated as employees.  So premiums paid for their health insurance coverage don’t qualify for the credit.

Section 179 Increased Expensing Limits

  • The Section 179 deduction limit is $500,000 and the qualifying property phase-out threshold is $2,000,000 for 2011.  In 2012 unless Congress approves new legislation the deduction limit will be $125,000 and the phase-out threshold is $500,000.

Annual Gift Tax Exemption

  • For 2011 and 2012, a taxpayer can give $13,000 per person to any number of recipients in a calendar year without paying federal estate and gift tax.  The federal gift tax exclusion is $5 million for 2011.

Sale of Stocks, Bonds or Other Securities

  • Brokers are required to report for securities acquired after 2010 the customer’s adjusted basis in the security and whether gain or loss with respect to the security is long or short term.  Prior law only required the gross proceeds from the sale to be reported.

Shift Income to Children

  • You may gift income-producing investments to your children or hire them in your business.  Make sure to be aware of the Kiddie Tax limitations.

Gift Appreciated Stock to Children

  • You may be able to avoid gain on the sale of stock or other securities by gifting them to grandchildren or children.  Your grandchildren or children, over age 17, may be able to sell them tax-free.

The information presented above is meant to be general in nature and does not cover all aspects of the items listed.  We would be glad to assist you in determining if you particular situation meets the criteria as defined by the IRS.

Failure to Report Cash Receipts

Every once in a while, a tax case can be quite entertaining. I’d like to discuss a recent federal appeals court case from the 10th circuit that provides an interesting read, although that’s not the reason for my presenting it here. I’m going to discuss a case with a scandalous subject matter that illustrates some very serious topics that come up all too often in our tax practice. We’ll need to look past the naughty facts of the case at circumstances that occur in many small businesses.

Enough already, the case involves an escort service. Just to add to the entertainment value, it was based in Salt Lake City, Utah. Now that that’s out of the way, let’s look into the facts and discuss its value to our small business clients. The citation is U.S v. Hoskins (Jodi), (10th Cir. 2011), Docket No. 10-4131 August 12, 2011.

Jodi & Roy Hoskins owned Companions, an escort service during 2002, the tax year at issue. Prior to the appeal discussed here, the couple had been convicted of tax evasion . Jodi Hoskins served as the company’s office manager and, as the court found, ran the day to day operations of the business. The escort service booked “dates” and the companions accepted either payment in cash or payment by credit card. Jodi Hoskins, among other duties, kept the company’s credit card records. The Hoskins reported gross receipts of approximately $903,000 on their joint 2002 federal income tax return. The fact that they were not married until 2003 is another matter, but apparently not one at issue in the appeal. Once the return was audited, the IRS concluded that Companions’ credit card receipts alone were approximately $1,054,000. They had also, as part of the examination, interviewed some of the company’s escorts about the prevalent methods of payment. The escorts stated that 50% – 70% of the company’s fees were collected in cash. Using this evidence, the government estimated that gross receipts for the company were at least double the credit card receipts — approximately $2,107,000 — resulting in more than $1.2 million of unreported income in 2002. This was supported by an apparently lavish lifestyle that the defendants enjoyed during the year in question. In short, the conviction was upheld and Jodi Hoskins faces up to five years in prison.

The three issues that I want to discuss about this case are the following:

  1. The need to accurately track and report all income, regardless of the source or method of payment.
  2. You cannot reap the benefit of unclaimed deductions against unreported income.
  3. The extent to which the IRS will go to investigate a tax evasion case

To the first point, the Hoskins were shown to have willfully underreported gross income for the business by essentially reporting only the amount of the credit card receipts. I suspect that the prevailing logic was that this income could be tracked and that the “under the table” cash was safely off the grid and untraceable. How they missed the mark on even the credit card receipts was not discussed. The government used this underreported income amount to support a criminal tax evasion charge, which was ultimately successful. Much of the appeal deals with arguments about the exact amount of the underpayment, but the court accepted the government’s underpayment amount of about $485,000.

Many times, clients will present a stack of 1099’s as their business’s gross income. While this might be the case, we will always inquire about income that is not reported on the 1099’s. Among the many tax myths in circulation out there in the world, is the incorrect assumption that if it’s not reported on a 1099 or W2, that it is not taxable. This issue becomes more critical the more cash payments a business receives — contrast a hot dog cart to an accounting firm. Further, we aren’t simply discussing cash payments. The threshold for issuing a 1099 is $600. So, if numerous customers paid you $600 or less by check, you would not expect to receive a 1099 for that income. To put a very fine point on it, your reported gross income should be at least the sum of the 1099’s you received, and most likely more.

On the second point, Mrs. Hoskins argued that the escort service did not actually receive the cash payments and that those payments went to the “companions”. The Hoskins testified that the payments were tips and commissions paid to the escorts. In other words, the cash payments all went to the escorts in the form of either tips or commissions. The court did not accept this argument for two reasons. First, the support for this position was constructed not from actual records kept at the time in 2002, but from two month’s analysis compiled in 2008. Second, it is judicially well established that a defendant cannot reduce his or her underpayment by claiming potentially legitimate, but unclaimed deductions once they are caught. Had Mrs. Hoskins been successful in persuading the court to accept the new deductions, she would probably still have failed to reduce the underpayment because the court would not have accepted even “‘convincing proof” of the tax return she would have filed had she known that she would later be caught and prosecuted for tax evasion”, quoting from the opinion. They go on to say succinctly, “The scope of a defendant’s tax evasion is determined at the point at which the return is filed, not after the defendant is charged and convicted.”

There are many cases where a business will pay expenses in cash from cash collected, but not yet deposited with the business’s bank. In fact, the opinion outlines one such situation. “Assume a restaurant owner is convicted of criminal tax evasion for failing to report or pay taxes on $100,000 income earned from his cash-only business. Let us also assume the restaurant paid $80,000 in tax-deductible business expenses, all in cash. And finally, let us assume the restaurant owner, despite evading his tax-filing responsibilities, maintained immaculate business records documenting every business expense. Assuming a 30% tax rate, if a court refused to consider the deductions under [citation omitted], the restaurant owner would have caused a $30,000 tax loss. If the court did consider the deductions, the government’s tax loss would have been only $6,000. We then ask, which of these two tax losses did the defendant intend?”

Which did the defendant intend? I’d really like to see the mountain of evidence it would take to win the argument that you intended the smaller underpayment of tax.

So, let’s say that your business does pay expenses in cash from cash collected, but not yet deposited. You should probably conduct your business with the expectation of it being audited. Your records should be very detailed and compiled as the transactions occur. The hypothetical restaurant owner outlined above should have invoices supporting his food purchases paid for in cash. I would suggest a cash receipts and disbursements journal for each day summarizing those transactions. Further, it should match that day’s cash deposits at the bank. You would reconcile it as follows, [cash sales] – [cash purchases] – [cash tips paid out] – [window washing or other expenses paid out] = [cash deposit]. Obviously, you would tailor this documentation to your business, but the need for solid documentation cannot be exaggerated. It will be looked at.

As to the last point, it’s worth noting that the Service was willing to get its hands dirty in the pursuit of unpaid tax. Your mental image of the white shirted IRS agent might not fit with someone who would go out and interview suspected prostitutes. That is exactly what they did in this case. They probably started with the lifestyle that the Hoskins were living and attempted to reconcile that to the income they had reported. When that turned up short, they took it all the way down to the escorts.

While this is a criminal case involving a large underpayment, the concepts are applicable to any business that deals with cash. You could expect a similar logic to be used during the audit process. It also shows the critical need for good record keeping, especially for a position that might not be accepted on its face — like the assertion that your cash collected equals your cash expenses. At the end of the day, the fact that the defendant was probably running a prostitution ring was only of minor consequence. You might also remember that Al Capone was sent to Alcatraz for tax evasion, not organized crime.

Getting Things Right - Part Three

THE END OF THE MASTER BUILDER
Checklists seem to provide a kind of cognitive net.  They catch mental flaws inherent in all of us – flaws of memory and attention and thoroughness.

There are three different kinds of problems in the world:
1.  Simple – ones like baking a cake from a mix.  There is a recipe.  Sometimes there are a few basic techniques to learn.  But once these are mastered, following the recipe brings a high likelihood of success.
2.  Complicated – ones like sending a rocket to the moon.  They can sometimes be broken down into a series of simple problems.  But there is no straightforward recipe.  Success frequently requires multiple people, often multiple teams, and specialized expertise.  Unanticipated difficulties are frequent.  Timing and coordination become serious concerns.
3. Complex – ones like raising a child.  Every child is unique.  Raising one child may provide experience but it does not guarantee success with the next child.  Indeed the next child may require an entirely different approach.

“Forcing Functions”- relatively straightforward solutions that force the necessary behavior – checklists.

When to follow one’s judgment and when to follow protocol is central to doing the job well (Doctor) – or to doing anything else that is hard.

Professionals (electricians, pile drivers, doctors, teachers) regard their jobs as specialized domains in which others should not interfere.

Project Executive.  The building industry does not call them field bosses anymore.

Construction schedule.  A line-by-line, day-by-day listing of every building task that needed to be accomplished, in what order, and when.  There was special color-coding, with red items highlighting critical steps that had to be done before other steps could proceed.

Since every building is a new creature with its own particularities, every building checklist is new too.  It is drawn up by a group of people representing each of the sixteen trades.

How are difficulties that could never have been predicted or addressed in a checklist designed in advance be dealt with?  The medical way of dealing with the inevitable nuances of an individual patient case is to leave them to the expert’s individual judgment.

Builders use a “submittal schedule”. – A checklist that specified communication tasks – who had to talk to whom by which date and about what aspect of construction.  Who had to share (or “submit”) particular kinds of information before the next steps could proceed.

Work is performed by experts.   But the assumption is not that everything would work perfectly – quite the opposite.  The assumption is that anything could go wrong, that anything could get missed.  Who knows what could go wrong?  That is the nature of complexity.  However, if you get the right people together and have them take a moment to talk things over as a team rather than as individuals, serious problems could be identified and averted.

Everyone meets and reviews the possibilities.  The owners and the contractors included.  Cleanup is arranged, the schedule is adjusted, and everyone signs off.

Man is fallible, but maybe men are less so.

Clash detective – software that ferrets out every instance in which the different specs conflict with one another or with building regulations.

ProjectCenter – software that allows anyone who has found a problem to email all the relevant parties, track progress, and make sure a check is added to the schedule.

The major advance in the science of construction over the last few decades has been the perfection of tracking and communication.

The builders of complex buildings know better than to rely on their individual abilities to get everything right.  They instead trust in one set of checklists to make sure that simple steps are not missed or skipped and in another set to make sure that everyone talks through and resolves all the hard and unexpected problems.

…. To be continued

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