Nov 7
As 2013 draws to a close, there is still time to reduce your 2013 tax bill and plan ahead for 2014. This post highlights several potential tax-saving opportunities for you to consider. Click here to contact Paul to discuss specific strategies.
Basic Numbers You Need to Know
Because many tax benefits are tied to or limited by adjusted gross income (AGI)—IRA deductions, for example—a key aspect of tax planning is to estimate both your 2013 and 2014 AGI. Also, when considering whether to accelerate or defer income or deductions, you should be aware of the impact this action may have on your AGI and your ability to maximize itemized deductions that are tied to AGI. Your 2012 tax return and your 2013 pay stubs and other income- and deduction-related materials are a good starting point for estimating your AGI.
Another important number is your “tax bracket,” i.e., the rate at which your last dollar of income is taxed. Due to legislation in early 2013, the tax rates for 2013 changed from 2012 and are 10%, 15%, 25%, 28%, 33%, 35% and 39.6%. Although tax brackets are indexed for inflation, if your income increases faster than the inflation adjustment, you may be pushed into a higher bracket. If so, your potential benefit from any tax-saving opportunity is increased (as is the cost of overlooking that opportunity).
Gift Giving
Annual Gift Tax Exclusion: The most commonly used method for tax-free giving is the annual gift tax exclusion, which, for 2013, allows a person to give up to $14,000 to each donee without reducing the giver’s estate and lifetime gift tax exclusion amount. A person is not limited as to the number of donees to whom he or she may make such gifts. Further, because the annual exclusion is applied on a per-donee basis, a person can leverage the exclusion by making gifts to multiple donors (family and non-family). Thus, if an individual makes $14,000 gifts to 10 donees, he or she may exclude $140,000 from tax. In addition, because spouses may combine their exemptions in a single gift from either spouse, married givers may double the amount of the exclusion to $28,000 per donee. A person may not carry over his or her annual gift tax exclusion amount to the next calendar year. Qualifying tuition payments and medical payments do not count against this limit.
IRA, Retirement Savings Rules for 2013
Tax-saving opportunities continue for retirement planning due to the availability of Roth IRAs, changes that make regular IRAs more attractive, and other retirement savings incentives.
Traditional IRAs: Individuals who are not active participants in an employer pension plan may make deductible contributions to an IRA. The annual deductible contribution limit for an IRA for 2013 is $5,500. For 2013, a $1,000 “catch-up” contribution is allowed for taxpayers age 50 or older by the close of the taxable year, making the total limit $6,500 for these individuals. Individuals who are active participants in an employer pension plan also may make deductible contributions to an IRA, but their contributions are limited in amount depending on their AGI. For 2013, the AGI phase-out range for deductibility of IRA contributions is between $59,000 and $69,000 of modified AGI for single persons (including heads of households), and between $95,000 and $115,000 of modified AGI for married filing jointly. Above these ranges, no deduction is allowed.
In addition, an individual will not be considered an “active participant” in an employer plan simply because the individual’s spouse is an active participant for part of a plan year. Thus, you may be able to take the full deduction for an IRA contribution regardless of whether your spouse is covered by a plan at work, subject to a phase-out if your joint modified AGI is $178,000 to $188,000 ($0 – $10,000 if married filing separately) for 2013. Above this range, no deduction is allowed.
Spousal IRA: If an individual files a joint return and has less compensation than his or her spouse, the IRA contribution is limited to the lesser of $5,500 for 2014 plus age 50 catch-up contributions, or the total compensation of both spouses reduced by the other spouse’s IRA contributions (traditional and Roth).
Roth IRA: This type of IRA permits nondeductible contributions of up to $5,500 for 2013. Earnings grow tax-free, and distributions are tax-free provided no distributions are made until more than five years after the first contribution and the individual has reached age 591/2. Distributions may be made earlier on account of the individual’s disability or death. The maximum contribution is phased out in 2013 for persons with an AGI above certain amounts: $178,000 to $188,000 for married filing jointly, and $112,000 to $127,000 for single taxpayers (including heads of households); and between $0 and $10,000 for married filing separately who lived with the spouse during the year.
Roth IRA Conversion Rule: Funds in a traditional IRA (including SEPs and SIMPLE IRAs), §401(a) qualified retirement plan, §403(b) tax-sheltered annuity or §457 government plan may be rolled over into a Roth IRA. Such a rollover, however, is treated as a taxable event, and you will pay tax on the amount converted. No penalties will apply if all the requirements for such a transfer are satisfied.
In past years, a taxpayer’s AGI (whether married filing jointly or single) was limited to $100,000 to make such a conversion and the taxpayer must not be a married individual filing a separate return. The AGI limitation does not apply to conversions from a Roth designated account in a §401 or §403(b) plan. For 2013, the $100,000 income limit on Roth IRA conversions also does not apply, and taxpayers will be able to make Roth IRA conversions without regard to their AGI. If you convert to a Roth IRA in 2013, the tax on the converted amount will have to be paid in the year of conversion. Also, if you already made a conversion earlier this year, you have the option of undoing the conversion. This is a useful strategy if the investments have gone down in value so that if you were to do the conversion now, your taxes would be lower. This is a complicated calculation and we should meet to determine what your best options are.
In addition, for 2013, if your §401(k) plan, §403(b) plan, or governmental §457(b) plan has a qualified designated Roth contribution program, a distribution to an employee (or a surviving spouse) from such account under the plan that is not a designated Roth account is permitted to be rolled over into a designated Roth account under the plan for the individual.
401(k) Contribution: The §401(k) elective deferral limit is $17,500 for 2013. If your §401(k) plan has been amended to allow for catch-up contributions for 2013 and you will be 50 years old by December 31, 2013, you may contribute an additional $5,500 to your §401(k) account, for a total maximum contribution of $23,000 ($17,500 in regular contributions plus $5,500 in catch-up contributions).
SIMPLE Plan Contribution: The SIMPLE plan deferral limit is $12,000 for 2013. If your SIMPLE plan has been amended to allow for catch-up contributions for 2013 and you will be 50 years old by December 31, 2013, you may contribute an additional $2,500.
Catch-Up Contributions for Other Plans: If you will be 50 years old by December 31, 2013, you may contribute an additional $5,500 to your §403(b) plan, SEP or eligible §457 government plan.
Saver’s Credit: A nonrefundable tax credit is available based on the qualified retirement savings contributions to an employer plan made by an eligible individual. For 2013, only taxpayers filing joint returns with AGI of $59,000 or less, head of household returns with AGI of $44,250 or less, or single returns (or separate returns filed by married taxpayers) with AGI of $29,500 or less, are eligible for the credit. The amount of the credit is equal to the applicable percentage (10% to 50%, based on filing status and AGI) of qualified retirement savings contributions up to $2,000.
Required Minimum Distributions: For 2013, taxpayers must take their required minimum distribution from IRAs or defined contribution plans (§401(k) plans, §403(a) and (b) annuity plans, and §457(b) plans that are maintained by a governmental employer).
Maximize Retirement Savings: In many cases, employers will require you to set your 2014 retirement contribution levels before January 2014. If you did not elect the maximum 401(k) contribution for 2013, you can increase your amount for the remainder of 2013 to lower your AGI in order to take advantage of some of the tax breaks described above. In addition, maximizing your contribution is generally a good tax-saving move.
Deferring Income to 2014
If you expect your AGI to be higher in 2013 than in 2014, or if you anticipate being in the same or a higher tax bracket in 2013, you may benefit by deferring income into 2014. Deferring income will be advantageous so long as the deferral does not bump your income to the next bracket. Deferring income could be disadvantageous, however, if your deferred income is subject to §409A, thus making the income includible in gross income and subject to additional tax. Some ways to defer income include:
Delay Billing: If you are self-employed and on the cash-basis, delay year-end billing to clients so that payments will not be received until 2014.
Interest and Dividends: Interest income earned on Treasury securities and bank certificates of deposit with maturities of one year or less is not includible in income until received. To defer interest income, consider buying short-term bonds or certificates that will not mature until next year. If you have control as to when dividends are paid, arrange to have them paid to you after the end of the year.
Accelerating Income into 2013
In limited circumstances, you may benefit by accelerating income into 2013. For example, you may anticipate being in a higher tax bracket in 2014, or perhaps you will need additional income in order to take advantage of an offsetting deduction or credit that will not be available to you in future tax years. Note, however, that accelerating income into 2013 will be disadvantageous if you expect to be in the same or lower tax bracket for 2014. In any event, before you decide to implement this strategy, we should “crunch the numbers.”
If accelerating income will be beneficial, here are some ways to accomplish this:
Accelerate Collection of Accounts Receivable: If you are self-employed and report income and expenses on a cash basis, issue bills and attempt collection before the end of 2013. Also see if some of your clients or customers might be willing to pay for January 2014 goods or services in advance. Any income received using these steps will shift income from 2014 to 2013.
Year-End Bonuses: If your employer generally pays year-end bonuses after the end of the current year, ask to have your bonus paid to you before the beginning of 2014.
Retirement Plan Distributions: If you are over age 591/2 and you participate in an employer retirement plan or have an IRA, consider making any taxable withdrawals before 2014. You may also want to consider making a Roth IRA rollover distribution, as discussed above.
Deduction Planning
Individual Deductions
Deduction timing is also an important element of year-end tax planning. Deduction planning is complex, however, due to factors such as AGI levels, AMT, and filing status. If you are a cash-method taxpayer, remember to keep the following in mind:
Deduction in Year Paid: An expense is only deductible in the year in which it is actually paid. Under this rule, if your tax rate is going to increase in 2014, it is a smart strategy to postpone deductions until 2014.
Payment by Check: Date checks before the end of the year and mail them before January 1, 2014.
Promise to Pay: A promise to pay or providing a note does not permit you to deduct the expense. But you can take a deduction if you pay with money borrowed from a third party. Hence, if you pay by credit card in 2013, you can take the deduction even though you won’t pay your credit card bill until 2014.
AGI Limits: For 2013, the overall limitation on itemized deductions (“Pease” limitation) applies for taxpayers whose AGI exceeds an “applicable amount.” For 2013, the applicable amount is $300,000 for a married couple filing a joint return or a surviving spouse, $275,000 for a head of household, $250,000 for an unmarried individual, and $150,000 for a married individual filing a separate return. In addition, certain deductions may be claimed only if they exceed a percentage of AGI: 10% for medical expenses (7.5% for certain older taxpayers), 2% for miscellaneous itemized deductions, and 10% for casualty losses.
Standard Deduction Planning: Deduction planning is also affected by the standard deduction. For 2013 returns, the standard deduction is $12,200 for married taxpayers filing jointly, $6,100 for single taxpayers, $8,950 for heads of households, and $6,100 for married taxpayers filing separately. As you can see from the numbers, for 2013, the standard deduction for married taxpayers is twice the amount as that for single taxpayers. If your itemized deductions are relatively constant and are close to the standard deduction amount, you will obtain little or no benefit from itemizing your deductions each year. But simply taking the standard deduction each year means you lose the benefit of your itemized deductions. To maximize the benefits of both the standard deduction and itemized deductions, consider adjusting the timing of your deductible expenses so that they are higher in one year and lower in the following year. You can do this by paying in 2013 deductible expenses, such as mortgage interest due in January 2014.
Medical Expenses: For 2013, medical expenses, including amounts paid as health insurance premiums, are deductible only to the extent that they exceed 10% of AGI (7.5% for taxpayers age 65 or older). This is an increase from 2012 when it was 7.5% for all taxpayers.
State Taxes: If you anticipate a state income tax liability for 2013 and plan to make an estimated payment most likely due in January, consider making the payment before the end of 2013. However, too high a payment could lead towards being subject to the AMT. Note that the election to deduct as an itemized deduction state and local sales taxes instead of state and local income taxes is scheduled to expire at the end of 2013.
Charitable Contributions: Consider making your charitable contributions at the end of the year. This will give you use of the money during the year and simultaneously permit you to claim a deduction for that year. You can use a credit card to charge donations in 2013 even though you will not pay the bill until 2014. A mere pledge to make a donation is not deductible, however, unless it is paid by the end of the year. Note, however, for claimed donations of cars, boats and airplanes of more than $500, the amount available as a deduction will significantly depend on what the charity does with the donated property, not just the fair market value of the donated property. If the organization sells the property without any significant intervening use or material improvement to the property, the amount of the charitable contribution deduction cannot exceed the gross proceeds received from the sale.
To avoid capital gains, you may want to consider giving appreciated property to charity.
Regarding charitable contributions please remember the following rules: (1) no deduction is allowed for charitable contributions of clothing and household items if such items are not in good used condition or better; (2) the IRS may deny a deduction for any item with minimal monetary value; and (3) the restrictions in (1) and (2) do not apply to the contribution of any single clothing or household item for which a deduction of $500 or more is claimed if the taxpayer includes a qualified appraisal with his or her return. Charitable contributions of money, regardless of the amount, will be denied a deduction, unless the donor maintains a cancelled check, bank record, or receipt from the donee organization showing the name of the donee organization, and the date and amount of the contribution.
A special provision gives taxpayers the ability to distribute tax-free to charity up to $100,000 from a traditional or Roth IRA maintained for an individual whose has reached age 701/2. Note that this provision is scheduled to expire at the end of 2013.
Business Deductions
Equipment Purchases: If you are in business and purchase equipment, you may make a “Section 179 Election,” which allows you to expense (i.e., currently deduct) otherwise depreciable business property. For 2013, you may elect to expense up to $500,000 of equipment costs (with a phase-out for purchases in excess of $2,000,000) if the asset was placed in service during 2013. Note that for assets placed in service in 2013 (2015 for certain longer-lived and transportation property), taxpayers can expense 50% of their business equipment purchases under §168(k), a provision giving taxpayers bonus depreciation, mitigating the need for the §179 election.
In 2014, the dollar amounts for §179 expensing are scheduled to be $25,000, with a phase-out amount of $200,000. Although there is a chance the 2014 figures will go up if Congress acts, it would be wise to place more assets in service in 2013 if you have yet to hit the $500,000 figure.
In addition, careful timing of equipment purchases can result in favorable depreciation deductions in 2013. In general, under the “half-year convention,” you may deduct six months worth of depreciation for equipment that is placed in service on or before the last day of the tax year. (If more than 40% of the cost of all personal property placed in service occurs during the last quarter of the year, however, a “mid-quarter convention” applies, which lowers your depreciation deduction.) A popular strategy in recent years is to purchase a vehicle for business purposes that exceeds the depreciation limits set by statute (i.e., a vehicle rated over 6,000 pounds). Doing so would not subject the purchase to the statutory dollar limit, $11,160 for 2013 (due to bonus depreciation rules); $11,360 in the case of vans and trucks (due to bonus depreciation rules). Therefore, the vehicle would qualify for the full equipment expensing dollar amount. However, for SUVs (rated between 6,000 and 14,000 pounds gross vehicle weight) the expensing amount is limited to $25,000.
NOL Carryback Period: If your business suffers net operating losses for 2013, you generally apply those losses against taxable income going back two tax years. Thus, for example, the loss could be used to reduce taxable income—and thus generate tax refunds—for tax years as far back as 2011. Certain “eligible losses” can be carried back three years; farming losses can be carried back five years.
Bonus Depreciation: Taxpayers can claim 50% bonus depreciation for assets placed in service in 2013. Bonus depreciation is also allowed for machinery and equipment used exclusively to collect, distribute, or recycle qualified reuse and recyclable materials and qualified disaster assistance property. In 2014, with limited exceptions, bonus depreciation does not apply.
Capitalization v. Expensing for Materials and Supplies and Repairs: Effective for taxable years beginning on or after January 1, 2014, the IRS finalized regulations that determine when taxpayers should capitalize or deduct as a current expense repairs on tangible property, plus the deductibility of materials and supplies. A deduction for materials and supplies is allowed under a de minimis rule that includes property that has an acquisition or production cost of $200 or less. Also, another de minimis safe harbor states that for repairs to be deductible, among other requirements, the unit of property must cost less than $5,000 per invoice or item substantiated by the invoice for taxpayers with applicable financial statements and $500 per invoice for taxpayers without applicable financial statements.
Education and Child Tax Benefits
Child Tax Credit: A tax credit of $1,000 per qualifying child under the age of 17 is available on this year’s return. In order to qualify for 2013, the taxpayer must be allowed a dependency deduction for the qualifying child. Another qualifying determination is that the qualifying child must be younger than you. The credit is phased out at a rate of $50 for each $1,000 (or fraction of $1,000) of modified AGI exceeding the following amounts: $110,000 for married filing jointly; $55,000 for married filing separately; and $75,000 for all other taxpayers. A portion of the credit may be refundable. For 2013, the threshold earned income level to determine refundability is set by statute at $3,000. Legislation in early 2013 made the per child credit amount of $1,000 permanent.
Credit for Adoption Expenses: For 2013, the adoption credit limitation is $12,970 of aggregate expenditures for each child, except that the credit for an adoption of a child with special needs is deemed to be $12,970 regardless of the amount of expenses. The credit ratably phases out for taxpayers whose income is between $194,580 and $234,580. Legislation in early 2013 made the adoption credit permanent for all types of adoptions.
Education Credits: Back in 2009, significant changes were put in place for the Hope credit, including a name change to the American Opportunity Tax Credit. Due to legislation in early 2013, these changes continue through 2017. The maximum credit for 2013 is $2,500 (100% on the first $2,000, plus 25% of the next $2,000) for qualified tuition and fees paid on behalf of a student (i.e., the taxpayer, the taxpayer’s spouse, or a dependent) who is enrolled on at least a half-time basis. The credit is available for the first four years of the student’s post-secondary education. For 2013, the credit is phased out at modified AGI levels between $160,000 and $180,000 for joint filers, and between $80,000 and $90,000 for other taxpayers. Forty percent of the credit is refundable, which means that you can receive up to $1,000 even if you owe no taxes. The term “qualified tuition and related expenses” includes expenditures for “course materials” (books, supplies, and equipment needed for a course of study whether or not the materials are purchased from the educational institution as a condition of enrollment or attendance). One way to take advantage of the credit for 2012 is to prepay the spring 2013’s tuition. In addition, if your child’s books for the spring semester are known, those can be bought and the costs qualify for the credit.
The Lifetime Learning credit maximum in 2013 is $2,000 (20% of qualified tuition and fees up to $10,000). A student need not be enrolled on at least a half-time basis so long as he or she is taking post-secondary classes to acquire or improve job skills. As with the Hope (American Opportunity Tax Credit in 2013) credit, eligible students include the taxpayer, the taxpayer’s spouse, or a dependent. For 2013, the Lifetime Learning credit are phased out at modified AGI levels between $107,000 and $127,000 for joint filers, and between $53,000 and $63,000 for single taxpayers.
Coverdell Education Savings Account: For 2013, the aggregate annual contribution limit to a Coverdell education savings account is $2,000 per designated beneficiary of the account. The limit is phased out for individual contributors with modified AGI between $95,000 and $110,000 and joint filers with modified AGI between $190,000 and $220,000. The contributions to the account are nondeductible but the earnings grow tax-free. Legislation in early 2013 made the contribution amount and AGI phase-out amounts permanent.
Student Loan Interest: You may be eligible for an above-the-line deduction for student loan interest paid on any “qualified education loan.” The maximum deduction is $2,500. The deduction for 2013 is phased out at a modified AGI level between $125,000 and $155,000 for joint filers, and between $60,000 and $75,000 for individual taxpayers. Legislation in early 2013 made certain rules permanent the keep the student loan interest deduction at it’s current levels.
Kiddie Tax: For 2013, the kiddie tax applies to: (1) children under 18; (2) 18-year old children who have unearned income in excess of the threshold amount, do not file a joint return and who have earned income, if any, that does not exceed one-half of the amount of the child’s support; and (3) children between the ages of 19 and 23 and if, in addition to the above rules, they are full-time students. For 2013, the kiddie tax threshold amount is $2,000.
Energy Incentives
Residential Energy Efficient Property Credit: Until 2016, tax incentives are available to taxpayers who install certain energy efficient property, such as photovoltaic panels, solar water heating property, fuel cell property, small wind energy property and geothermal heat pumps. A credit is available for the expenditures incurred for such property up to a specific percentage, except that a cap applies for fuel cell property. The property purchased cannot be used to heat swimming pools or hot tubs. If you have made improvements to your home or plan to by the end of 2013, please contact me to discuss the amount of the credit you may qualify for.
Business Credits
Small Employer Pension Plan Startup Cost Credit: For 2013, certain small business employers that did not have a pension plan for the preceding three years may claim a nonrefundable income tax credit for expenses of establishing and administering a new retirement plan for employees. The credit applies to 50% in qualified administrative and retirement-education expenses for each of the first three plan years. However, the maximum credit is $500 per year.
Employer-Provided Child Care Credit: For 2013, employers may claim a credit of up to $150,000 for supporting employee child care or child care resource and referral services. The credit is allowed for a percentage of “qualified child care expenditures” including for property to be used as part of a qualified child care facility, for operating costs of a qualified child care facility and for resource and referral expenditures. Legislation in early 2013 made this credit permanent.
Work Opportunity Credit: The work opportunity credit is an incentive provided to employers who hire individuals in groups whose members historically have had difficulty obtaining employment. This gives your business an expanded opportunity to employ new workers and be eligible for a tax credit against the wages paid. Credit determined based on first-year wages paid for employees hired on or before December 31, 2013.
Investment Planning
The following rules apply for most capital assets in 2013:
• Capital gains on property held one year or less are taxed at an individual’s ordinary income tax rate.
• Capital gains on property held for more than one year are taxed at a maximum rate of 20% (0% if an individual is in the 10% or 15% marginal tax bracket; 15% for individuals in the 25%, 28%, 33% and 35% brackets). These changes in rates from earlier years is due to legislation enacted in early 2013.
Beginning in 2013, a 3.8% tax is levied on certain unearned income.
The tax is levied on the lesser of net investment income or the amount by which modified AGI exceeds certain dollar amounts ($250,000 for joint returns and $200,000 for individuals). Investment income is: (1) gross income from interest, dividends, annuities, royalties, and rents (other than from a trade or business); (2) other gross income from any business to which the tax applies; and (3) net gain attributable to property other than property attributable to an active trade or business. Investment income does not include distributions from a qualified retirement plan or amounts subject to self-employment tax. This rule applies mostly to passive businesses and the trading in financial instruments or commodities. With this additional tax, the maximum net capital gains rate is 23.8% in 2013. Because distributions from qualified retirement plans are not subject to the tax, taxpayers may want to invest in retirement accounts, if possible, rather than taxable accounts.
Timing of Sales: You may want to time the sale of assets so as to have offsetting capital losses and gains. Capital losses may be fully deducted against capital gains and also may offset up to $3,000 of ordinary income ($1,500 for married filing separately). In general, when you take losses, you must first match your long-term losses against your long-term gains, and short-term losses against short-term gains. If there are any remaining losses, you may use them to offset any remaining long-term or short-term gains, or up to $3,000 (or $1,500) of ordinary income. When and whether to recognize such losses should be analyzed in light of the possible future changes in the capital gains rates applicable to your specific investments.
Dividends: Qualifying dividends received in 2013 are subject to rates similar to the capital gains rates. Therefore, qualifying dividends are taxed at a maximum rate of 20% (23.8% is subject to the net investment tax). Qualifying dividends include dividends received from domestic and certain foreign corporations.
Selling Your (Underwater) Home: If you are currently underwater on your home and you are considering selling or getting a loan modification, you absolutely should get this done in 2013. Legislation in early 2013 allows qualified mortgage debt relief from you lender discharged in 2013 to not be considered income. However, if Congress fails to extend this tax benefit, any debt discharged on or after January 1, 2014, will be considered income and taxes will be owed on the amount forgiven.
Social Security: Depending on the recipient’s modified AGI and the amount of Social Security benefits, a percentage — up to 85% — of Social Security benefits may be taxed. To reduce that percentage, it may be beneficial to defer receipt of other retirement income. One way to do so is to elect to receive a lump-sum distribution from a retirement plan and to rollover that distribution into an IRA. Alternatively, it may be beneficial to accelerate income so as to reduce the percentage of your Social Security taxed in 2014 and later years.
Other Tax Planning Opportunities: We also can discuss the potential benefits to you or your family members of other planning options available for 2013, including §529 qualified tuition programs.
Health Care Planning
Individual Mandate: Under the 2010 health care reform law sometimes called Obamacare, beginning in 2014, there is an individual mandate requiring individuals and their dependents to have health insurance that is minimum essential coverage or pay a penalty unless they are exempt from the requirement. Many people already have qualifying coverage, which can be obtained through the individual market, an employer-provided plan or coverage, a government program such as Medicare or Medicaid, or an Exchange. For lower-income individuals who obtain health insurance in the individual market through an Exchange, a premium tax credit and cost-sharing reductions may be available to offset the costs.
Health Care Savings Accounts: A new law that began in 2013 requires cafeteria plans to provide that employees may elect no more than $2,500 (adjusted for inflation after 2013) in salary reduction contributions to a health FSA.
SHOP Exchanges: Beginning in 2014, the Small Business Health Options Program begins to allow certain small businesses to obtain health insurance for their employees through an exchange. The program is designed for employers with 50 or fewer full-time equivalent employees. Coverage must be offered to all full-time employees working more than 30 or more hours per week. Each state will offer its own SHOP marketplace. Self-employed persons with no employees cannot use the SHOP Exchange. A tax credit, discussed below, is available to some businesses that purchase insurance through a SHOP Exchange.
Self-Employed Health Insurance Premiums: Self-employed individuals are allowed to claim 100% of the amount paid during the taxable year for insurance that constitutes medical care for themselves, their spouses and dependents as an above-the-line deduction, without regard to the general 10% of AGI floor.
Credit for Employee Health Insurance Expenses of Small Employers: For tax years beginning after 2009, eligible small employers are allowed a credit for certain expenditures to provide health insurance coverage for their employees. Generally, employers with 10 or fewer full-time equivalent employees (FTEs) and an average annual per-employee wage of $25,000 or less are eligible for the full credit. The credit amount begins to phase out for employers with either 11 FTEs or an average annual per-employee wage of more than $25,000. The credit is phased out completely for employers with 25 or more FTEs or an average annual per-employee wage of $50,000 or more. The credit amount is 35% of certain contributions made to purchase health insurance (25% for a tax-exempt eligible small employer). Beginning in 2014, the credit is only allowable if the health insurance is purchased through a SHOP Exchange and is only available for two consecutive taxable years.
Alternative Minimum Tax
For 2013, due to legislation in early 2013, the alternative minimum tax exemption amounts retain their increased amount to help individuals avoid being subject to the AMT. The exemption amounts in place for 2013 are: (1) $80,800 for married individuals filing jointly and for surviving spouses; (2) $51,900 for unmarried individuals other than surviving spouses; and (3) $40,400 for married individuals filing a separate return. Also, for 2013, because Congress acted to extend the previous years’ rules, nonrefundable personal credits can offset an individual’s regular and alternative minimum tax, and capital gains will be taxed at lower favorable rates for AMT.
If you have a stock holding due to the exercise of an incentive stock option during this year that is now below the value at the exercise date (underwater), consider selling the shares before the end of the year to avoid the AMT tax due on the original exercise of the option.
Some of the standard year-end planning ideas will not reduce tax liability if you are subject to the alternative minimum tax (AMT) because different rules apply. Because of the complexity of the AMT, it would be wise for us to analyze your AMT exposure.
If you have any questions, please do not hesitate to call. You can contact Paul by clicking here. I would be happy to meet with you at your convenience to discuss the strategies outlined above. While we are getting very close to the end of the year, there is still time to implement these strategies to minimize your 2013 tax liability.
Nov 7
As 2013 draws to a close, there is still time to reduce your 2013 tax bill and plan ahead for 2014. This post highlights several potential tax-saving opportunities for you to consider. Please click here to meet with Paul to discuss specific strategies and issues.
Deferring Income into 2014
Deferring income to the next taxable year is a time-honored year-end planning tool. If you expect your AGI to be higher in 2013 than in 2014, or if you anticipate being in the same or a higher tax bracket in 2013 than in 2014, you may benefit by deferring income into 2014. Some ways to defer income include:
Use of Cash Method of Accounting: By using the cash method of accounting instead of the accrual method of accounting, you can generally put yourself in the best position for accelerating deductions and deferring income. There is still time to accomplish this strategy, because an automatic change to the cash method can be made by the due date of the return including extensions. The following three types of businesses can make an automatic change to the cash method: (1) small businesses with average annual gross receipts of $1 million or less (even those with inventories that are a material income producing factor); (2) certain C corporations with average annual gross receipts of $5 million or less in which inventories are not a material income producing factor; and (3) certain taxpayers with average annual gross receipts of $10 million or less. Provided inventories are not a material income producing factor, sole proprietors, limited liability companies (LLCs), partnerships, and S corporations can change to the cash method of accounting without regard to their average annual gross receipts.
Delay Billing: Delay year-end billing to clients so that payments are not received until 2014.
Interest and Dividends: Interest income earned on Treasury securities and bank certificates of deposit with maturities of one year or less is not includible in income until received. To defer interest income, consider buying short-term bonds or certificates that will not mature until next year. If you have control as to when dividends are paid, arrange to have them paid to you after the end of the year.
Accelerating Income into 2013
You may benefit from accelerating income into 2013. For example, you may anticipate being in a higher tax bracket in 2014, or perhaps you need additional income in 2013 to take advantage of an offsetting deduction or credit that will not be available to you in future tax years. Note, however, that accelerating income into 2013 will be disadvantageous if you expect to be in the same or lower tax bracket for 2014.
If you report income and expenses on a cash basis, issue bills and attempt collection before the end of 2013. Also, see if some of your clients or customers are willing to pay for January 2014 goods or services in advance. Any income received using these steps will shift income from 2014 to 2013
Business Deductions
Self-Employed Health Insurance Premiums: Self-employed individuals are allowed to claim 100% of the amount paid during the taxable year for insurance that constitutes medical care for themselves, their spouses, and their dependents as an above-the-line deduction, without regard to the general 10%-of-AGI floor.
Equipment Purchases: If you purchase equipment, you may make a “Section 179 election,” which allows you to expense (i.e., currently deduct) otherwise depreciable business property. For 2013, you may elect to expense up to $500,000 of equipment costs (with a phase-out for purchases in excess of $2,000,000) if the asset was placed in service during 2013. Note that for assets placed in service in 2013, taxpayers can expense 50% of their business equipment purchases under a provision giving taxpayers bonus depreciation, mitigating the need for the §179 election.
In 2014, the dollar amounts for §179 expensing are scheduled to be $25,000, with a phase-out amount of $200,000. Although there is a chance the 2014 figures will go up if Congress acts, it would be wise to place more assets in service in 2013 if you have yet to hit the $500,000 figure.
In addition, careful timing of equipment purchases can result in favorable depreciation deductions in 2013. In general, under the “half-year convention,” you may deduct six months’ worth of depreciation for equipment that is placed in service on or before the last day of the tax year. (If more than 40% of the cost of all personal property placed in service occurs during the last quarter of the year, however, a “mid-quarter convention” applies, which lowers your depreciation deduction.) A popular strategy in recent years is to purchase a vehicle for business purposes that exceeds the depreciation limits set by statute (i.e., a vehicle rated over 6,000 pounds). Doing so would not subject the purchase to the statutory dollar limit, $11,160 for 2013 (due to bonus depreciation rules), $11,360 in the case of vans and trucks (due to bonus depreciation rules). Therefore, the vehicle would qualify for the full equipment expensing dollar amount. However, for SUVs (rated between 6,000 and 14,000 pounds gross vehicle weight) the expensing amount is limited to $25,000.
NOL Carryback Period: If your business suffers net operating losses for 2013, you generally apply those losses against taxable income going back two tax years. Thus, for example, the loss could be used to reduce taxable income—and thus generate tax refunds—for tax years as far back as 2011. Certain “eligible losses” can be carried back three years; farming losses can be carried back five years.
Bad Debts: You can accelerate deductions to 2013 by analyzing your business accounts receivable and writing off those receivables that are totally or partially worthless. By identifying specific bad debts, you should be entitled to a deduction. You may be able to complete this process after year-end if the write-off is reflected in the 2013 year-end financial statements.
Home Office Deduction: Expenses attributable to using the home office as a business office are deductible under §280A if the home office is used regularly and exclusively: (1) as a taxpayer’s principal place of business for any trade or business; (2) as a place where patients, clients, or customers regularly meet or deal with the taxpayer in the normal course of business; or (3) in the case of a separate structure not attached to the residence, in connection with a trade or business.
Capitalization of Tangibles: Final regulations providing guidance on the application of §§162(a) and 263(a) to amounts paid to acquire, produce, or improve tangible property, expand the definition of materials and supplies to include property with an acquisition or production cost of $200 or less, clarify the application of the optional method of accounting for rotable and temporary spare parts, and simplify the application of the de minimis safe harbor to materials and supplies. The regulations generally apply to taxable years beginning on or after January 1, 2014. However, taxpayers generally may choose to apply the final regulations to tax years beginning on or after January 1, 2012, or generally may choose to apply the 2011 temporary regulations to tax years beginning on or after January 1, 2012, and before January 1, 2014. The taxpayer makes the de minimis safe harbor election annually by including a statement the tax return for the year elected.
Business Credits
Small Employer Pension Plan Startup Cost Credit: For 2013, certain small business employers that did not have a pension plan for the preceding three years may claim a nonrefundable income tax credit for expenses of establishing and administering a new retirement plan for employees. The credit applies to 50% of qualified administrative and retirement-education expenses for each of the first three plan years. However, the maximum credit is $500 per year.
Credit for Employee Health Insurance Expenses of Small Employers: For tax years beginning after 2009, eligible small employers are allowed a credit for certain expenditures to provide health insurance coverage for their employees. Generally, employers with 10 or fewer full-time equivalent employees (FTEs) and an average annual per-employee wage of $25,000 or less are eligible for the full credit. The credit amount begins to phase out for employers with either 11 FTEs or an average annual per-employee wage of more than $25,000. The credit is phased out completely for employers with 25 or more FTEs or an average annual per-employee wage of $50,000 or more. The credit amount is 35% of certain contributions made to purchase health insurance. Beginning in 2014, the credit is only allowable if the health insurance is purchased through a SHOP Exchange and is only available for two consecutive taxable years.
Inventories
Subnormal Goods: You should check for subnormal goods in your inventory. Subnormal goods are goods that are unsalable at normal prices or unusable in the normal way due to damage, imperfections, shop wear, changes of style, odd or broken lots, or other similar causes, including second-hand goods taken in exchange. If your business has subnormal inventory as of the end of 2013, you can take a deduction for any write-downs associated with that inventory provided you offer it for sale within 30 days of your inventory date. The inventory does not have to be sold within the 30-day timeframe.
Planning for 2014 Tax Increases and Potential Expiration of Tax Relief Provisions
S Corporation Built-In Gains Tax: An S corporation generally is not subject to tax; instead, it passes through its income or loss items to its shareholders, who are taxed on their pro-rata shares of the S corporation’s income. However, if a business that was formed as a C corporation elects to become an S corporation, the S corporation is taxed at the highest corporate rate on all gains that were built in at the time of the election if the gains are recognized during a special holding period. For tax years beginning in 2009 and 2010, the special holding period was shortened from 10 years to seven years. It is shortened even more for tax years beginning in 2011, 2012 and 2013 to five years. Absent Congressional action, it appears that the special holding period will revert to 10 years in 2014. Therefore, it may be advisable for S corporations to dispose of their built-in gain property before the end of 2013.
100% Exclusion of Gain Attributable to Certain Small Business Stock: The incentive for individuals to acquire qualified small business stock is higher before the end of 2013. An individual ordinarily may exclude 50% of the gain from qualified small business stock that is held for at least five years (subject to a cap). “Qualified small business stock” is stock of a corporation the assets of which do not exceed $50 million when the stock is issued. The 50% exclusion of gain was increased to 75% for qualified small business stock acquired after February 17, 2009, and before September 28, 2010. The 2010 Small Business Jobs Act (SBJA) excluded 100% of the gain for qualified small business stock acquired or issued after September 27, 2010, and the American Taxpayer Relief Act of 2012 (2012 ATRA) extended the 100% exclusion to qualified small business stock acquired before January 1, 2014. In addition, the alternative minimum tax preference item attributable to the sale is eliminated. For stock acquired after December 31, 2014, only 50% of the gain from the sale/exchange of qualified small business stock held for more than 5 years is excluded from gross income (assuming no further Congressional action).
Qualifying Dividends: Qualified dividends received in 2011 and 2012 are subject to rates similar to the capital gains rates. For taxable years beginning on or after January 1, 2013, the 2012 ATRA made permanent the capital gain treatment of qualified dividend income for taxpayers below the newly reinstated 39.6% tax bracket, but raised the top capital gain rate for taxpayers in the 39.6% bracket to 20%. Qualified dividends are typically dividends from domestic and certain foreign corporations.
Basis Adjustment to Stock of S Corporations Making Charitable Contributions of Property: The rule that the basis of an S corporation shareholder’s stock is decreased by charitable contributions of property by the S corporation in an amount equal to the shareholder’s pro rata share of the adjusted basis of the contributed property expired for contributions made in taxable years beginning after December 31, 2011. The 2012 ATRA extended the special basis-adjustment rule (in part retroactively) through 2012 and 2013, to contributions made on or before December 31, 2013.
Employer-Provided Child Care Credit: For 2013, employers may claim a credit of up to $150,000 for supporting employee child care or child care resource and referral services. The credit is allowed for a percentage of “qualified child care expenditures,” including for property to be used as part of a qualified child care facility, for operating costs of a qualified child care facility, and for resource and referral expenditures. Legislation in early 2013 made this credit permanent.
Employer Wage Credit for Employees in the Military: Some employers continue to pay all or a portion of the wages of employees who are called to active military service. If the employer has fewer than 50 employees and has a written plan for providing such differential wage payments, the employer is eligible for a credit. The amount of the credit is equal to 20% of the first $20,000 of differential wage payments to each employee for the taxable year. The credit expires after 2013.
Work Opportunity Credit: The work opportunity credit is an incentive provided to employers who hire individuals in groups whose members historically have had difficulty obtaining employment. The credit gives a business an expanded opportunity to employ new workers and to be eligible for a tax credit against the wages paid. The credit is determined based on first-year wages paid for employees hired on or before December 31, 2013.
Bonus Depreciation: Taxpayers can claim 50% bonus depreciation for assets placed in service in 2013. Bonus depreciation is also allowed for machinery and equipment used exclusively to collect, distribute, or recycle qualified reuse and recyclable materials and qualified disaster assistance property. In 2014, bonus depreciation generally does not apply.
Health Care Planning
SHOP Exchanges: Beginning in 2014, the Small Business Health Options Program begins to allow certain small businesses to obtain health insurance for their employees through an exchange. The program is designed for employers with 50 or fewer full-time equivalent employees. Coverage must be offered to all full-time employees working 30 or more hours per week. Each state will offer its own SHOP marketplace. Self-employed persons with no employees cannot use the SHOP Exchange.
Reporting
Uncertain Tax Positions: The final Instructions for Schedule UTP state that a corporation must file Schedule UTP with its income tax return if it: (1) files Form 1120, Form 1120-F, From 1120-L, or Form 1120-PC; (2) has assets of $50,000,000 or more beginning with the 2012 tax year, and $10,000,000 or more beginning with the 2014 tax year (the threshold was $100,000,000 or more for tax years before 2012); (3) issued (or a related party issued) audited financial statements reporting all or a portion of the corporation’s operations for all or a portion of the corporation’s tax year; and (4) has one or more tax positions that must be reported on Schedule UTP. A taxpayer that files a protective Form 1120, 1120-F, 1120-L, or 1120-PC and satisfies the conditions set forth above also must file Schedule UTP.
Unique Reference Identification Number: Forms 5471, 8858, and 8865 now contain a Unique Reference Identification number (URI) for each foreign entity with respect to which reporting is required. The URI will be used to track the foreign entity from year to year.
Electronic Deposits
Electronic Funds Transfer: As of January 1, 2011, a corporation must make its deposits of income tax withholding, FICA, FUTA, and corporate income tax by electronic funds transfer (EFT), including through the IRS’s Electronic Federal Tax Deposit System (EFTPS).
If you have any questions, please do not hesitate to contact me by clicking here. I would be happy to meet with you at your convenience to discuss the strategies and requirements outlined above. There is still time to implement these strategies to minimize your 2013 tax liability and plan for 2014.
Aug 28

A common question that comes up in my practice is ‘What is an S Corporation?’ So I decided to write a blog entry answering this question. Here is my S Corporation overview. The post covers the taxation of S corporations and their shareholders.

The term S Corporation is a tax term only. For state law purposes S corporations are just corporations. However, if your corporation elects to be taxed as a “S corporation” they are taxed much like partnerships for federal (and, in many cases, state) income tax purposes. There are several major federal income tax advantages of operating as an S corporation instead of as a regular C corporation. These advantages include:
  • A single level of tax. The income of an S corporation is generally subject to just one level of tax, at the shareholder level. In other words, the income generally is taxed only to the corporation’s shareholders. In contrast, a C corporation pays tax on its earnings, and its shareholders pay a second tax when corporate earnings are distributed to them in the form of dividends.
  • The availability of losses. Shareholders of an S corporation generally may deduct their share of the corporation’s net operating loss on their individual tax returns in the year the loss occurs. Losses of a C corporation, however, may offset only the corporation’s earnings. This pass-through of an S corporation’s losses to its shareholders makes the S corporation form particularly suitable for start-up businesses that are expected to generate losses during their initial stages.
  • Income splitting. S corporations can serve as excellent vehicles for splitting income among family members through gifts or sales of stock.
Although operating as an S corporation offers many significant tax benefits, there are also some significant disadvantages associated with electing S status. The primary disadvantages are:
  •  The exclusion for up to 100% of the gain on the sale of “qualified small business stock” does not apply to the sale of stock in an S corporation.
  • Fewer tax-free fringe benefits may be provided to shareholder-employees of S corporations than to shareholder-employees of C corporations.
  • Stock in an S corporation can only be transferred to eligible shareholders — individuals, estates, certain trusts, and certain pension plans and charitable organizations. An S corporation cannot have more than 100 shareholders, but married couples and other family members count as one shareholder. A nonresident alien may not be a shareholder. These limitations restrict the sources and amount of equity capital.
  • An S corporation may not issued preferred stock, since such stock will constitute a prohibited second class of stock. This limitation also may restrict the sources and amount of equity capital.
  • Estate planning for shareholders is generally more complicated when an S corporation is involved.
  • Tax rates applicable to individuals may be higher than the rates that would apply to a C corporation at the same income level.
  • Since 1997, employee stock ownership plans can be used, but some of their tax advantages are not available to S corporations.
Not all corporations may elect S status. The election is available only to qualifying “small business corporations.” A corporation must formally elect to be taxed as an S corporation by filing Form 2553, Election by a Small Business Corporation, with the IRS.
An S corporation’s taxable income must be computed in order to determine the items of income or loss to pass through to the shareholders. An S corporation’s taxable income generally is computed in the same manner as that of a partnership. Thus, items of income, gain, loss, deduction and credit, the separate treatment of which could affect the tax liability of a shareholder, must be passed through separately to each shareholder. The tax character of these items is determined at the corporate level, and they retain their character when passed through to the shareholders.
An S corporation that was once a C corporation may be subject to one or more of three separate taxes at the corporate level (e.g., the “built-in gains” tax). This rule is an exception to the general rule that S corporations are not subject to tax.
Items of income, gain, loss or deduction that pass through to a shareholder are reflected in the basis in his or her stock (and, in some cases, in debt, if any, that the corporation owes to the shareholder).
Once an S election is made, it applies for all succeeding years unless the election is terminated. If the election is terminated, S status generally cannot be re-elected for five years. An election can be terminated either intentionally or unintentionally. The election may terminate by revocation, by the corporation’s ceasing to satisfy the eligibility requirements for S status, or by the corporation’s failing a passive investment income test. For example, the election terminates if the S corporation’s stock is acquired by a nonqualified shareholder (e.g., a corporation) or if the number of shareholders exceeds the maximum permitted. The election terminates on the day the eligibility requirement is violated. If the termination is inadvertent, the IRS may allow the corporation to continue as an S corporation if the terminating event is corrected within a reasonable period of time.
If you would like more information on S corporations or having your entity taxed as an S corporation, contact Paul by clicking here.
Jun 3
Beginning in 2013, a new tax, the “net investment income tax,” or NIIT, applies at a rate of 3.8% of the “net investment income” of individuals, estates, and trusts with income above certain statutory amounts. For individuals, the threshold amounts are:

• $200,000 for single taxpayers and heads of household;
• $250,000 for married individuals filing joint returns and certain widows and widowers; and
• $125,000 for married individuals filing separate returns.
The threshold amounts include all income, even income not subject to the tax; however, investment income is only subject to the tax if the taxpayer’s total income exceeds the threshold. The NIIT applies to estates and most trusts with income above the point at which the highest tax rate begins (the 2013 threshold is $11,950).
The NIIT applies only to “net investment income.” In general, investment income includes interest, dividends, capital gains, rental and royalty income, nonqualified annuities, income from businesses involved in trading of financial instruments or commodities, and income from businesses that are passive activities for the taxpayer. Net investment income is calculated by reducing investment income by certain expenses properly allocable to the income. The NIIT does not apply to wages, unemployment compensation, operating income from a nonpassive business, social security benefits, tax exempt interest, self-employment income, and distributions from qualified retirement plans, 401(k) plans, and IRAs.
Gains included in net investment income include gain from the sale of stocks, bonds, and mutual funds; capital gain distributions from mutual funds; gains from investment real estate (including gain from the sale of a second home); and gains from the sales of certain partnership and S corporation interests. The tax also applies to the gain on the sale of a personal residence, but only after the $250,000 exemption from such gain ($500,000 for married couples).
The NIIT is based on the lesser of the amount by which the taxpayer’s modified adjusted gross income exceeds the threshold, or the taxpayer’s net investment income. For example, if a single taxpayer has $180,000 in wages and $90,000 in net investment income, the tax is computed on $70,000, the amount by which the taxpayer’s income exceeds the $200,000 threshold amount. The taxpayer would owe net investment income tax of $2,660 ($70,000 ? 3.8%).
This tax is intertwined with the concept of “passive activity,” as income from passive business activities (including any capital gain from the sale of those activities) is generally subject to the NIIT, whereas income from nonpassive business activities generally is not. The concept of passive activity is derived from the IRS’s passive activity loss rules, which prohibit taxpayers from deducting losses from so-called passive activities, or activities in which the taxpayer does not materially participate. These rules generally apply to the actions of the owner of the business interest, not the business itself, although special rules apply to real estate activities. In order for your interest in a business not to be a passive activity, you must materially participate in the operations of the business. Material participation generally means that your involvement in the business operations is regular, continuous and substantial. The IRS regulations provide quantitative tests for meeting this requirement. For example, you will be materially participating if you work more than 500 hours during the year in the business.
Because the IRS passive activity rules apply to restrictions on deducting losses, taxpayers with positive income from passive activities may have had little reason to differentiate those activities from nonpassive activities. Beginning in 2013, however, the distinction may become significant. For example, the IRS has rules that have allowed taxpayers to “group” related activities in order to determine whether the overall group represents a passive or nonpassive activity. With the advent of the NIIT, the IRS is allowing taxpayers to “re-group” their activities in light of potential liability for the tax. Taxpayers with multiple business or real estate investments might be able to eliminate or reduce their exposure to the NIIT with appropriate decisions in this area. The IRS has issued proposed rules on this and other aspects of the NIIT that you might want to apply to your investments. For more information about how this could affect you, please contact me to discuss your particular situation.
Another aspect of the NIIT that appropriate planning might ameliorate involves trusts that have the option of either passing their income to beneficiaries (who would then pay tax on the income) or retaining the income and paying any resulting tax themselves. Because the NIIT applies to trusts at a much lower income threshold than it does for individuals, appropriate planning might help reduce the impact of the new tax. If you have an interest in a trust, or act as a trustee, please contact me to discuss your individual situation.
Mar 12
This post reviews the impact of recent legislation on estate, gift and generation-skipping transfer planning. The American Taxpayer Relief Act of 2012 (ATRA), signed into law January 2, 2013, has brought some welcome permanency to such planning.
ATRA made permanent the unification of the estate, gift, and generation-skipping tax rate structure including making permanent the basic exclusion amount — the amount a taxpayer may transfer without incurring estate or gift taxes — at $5,000,000, adjusted for inflation. The value of a person’s estate and/or lifetime gifts exceeding the basic exclusion amount is subject to a maximum estate and gift tax rate of 40%. Also, the generation-skipping transfer (GST) exemption is $5,000,000, adjusted for inflation. The maximum GST tax rate also is 40%. As adjusted for inflation, the basic exclusion and exemption amounts were $5,120,000 for 2012, and is $5,250,000 for 2013.
ATRA also set the income tax rates that apply to estates and trusts at 15%, 25%, 28%, 33% and 39.6% for taxable years beginning after 2012.
Further, ATRA also made permanent the so-called “portability” provision. If a spouse dies after 2011 without exhausting his or her basic exclusion amount, the surviving spouse may be able to gift against that amount. This latter provision does not apply to gifts given to grandchildren, i.e., generation-skipping transfers.
Finally, ATRA made permanent the deduction for state estate taxes, the repeal of the qualified family-owned business interest deduction and certain conservation easement rules.
If you have any questions regarding this legislation or what it means to you, please click here to contact Paul.
Feb 13
While you may be concerned about your 2012 tax return, right now is a good time to start thinking about 2013. Beginning in 2013, new tax provisions have been enacted, some have been extended that were set to expire, and others have disappeared. This post serves as an outline of the major tax law changes you should be aware of to minimize taxes. Please note that some of the changes below could be altered again by Congress this year.
New for 2013
  • 3.8% net investment income tax: A new tax on individuals beginning in 2013 equal to the lesser of 3.8% of the taxpayer’s net investment income or the excess (if any) of the taxpayer’s modified adjusted gross income over a threshold amount. The tax on estates and trusts equals 3.8% of the lesser of the undistributed net investment income for the tax year or the excess (if any) of the taxpayer’s adjusted gross income over the dollar amount at which the highest tax bracket begins. The threshold amount is $250,000 for taxpayers filing joint returns, $125,000 for married taxpayers filing separately, and $200,000 for all other taxpayers. Net investment income includes gross income from interest, dividends, annuities, royalties and rents (other than from a trade or business), income from passive activities or from trading in financial instruments or commodities. However, net investment income does not include distributions from retirement plans. The tax does not apply to nonresident aliens.
  • Increased threshold for medical expense deduction: Beginning in 2013, the itemized deduction for medical expenses is available only to the extent that the medical expenses exceed 10% (stays 7.5% for a taxpayer or the taxpayer’s spouse has attained age 65 before the close of the tax year) of the taxpayer’s adjusted gross income.
  • Increased income tax rates: For 2013, there is a permanent extension of the 10%, 15%, 25%, 28%, 33% and 35% tax brackets on taxable income at or below $400,000 (individual filers), $425,000 (heads of households), $450,000 (married filing jointly and surviving spouses), and $225,000 (married filing separately). For taxpayers above the threshold amounts, which will be adjusted for inflation, the rate is 39.6%.
  • Increased capital gains rates: The capital gains rate increases to 20% in 2013 for taxpayers in the 39.6% tax bracket. Qualifying dividends continue to be taxed like capital gains.
  • 0.9% Medicare payroll tax for higher income taxpayers:Beginning in 2013, the hospital insurance tax on wages and self-employment income in excess of $200,000 ($250,000 for a joint return) is increased by 0.9%. These amounts are not indexed for inflation. The deduction for one-half of self-employment taxes does not apply to the additional tax.
  • Phaseouts of itemized deductions and personal exemptions: The overall limitation on itemized deductions for taxpayers with AGIs above a threshold amount apply. The phaseout for personal exemptions for higher income taxpayers also applies in 2013 for taxpayers above a certain threshold.
Expiring in 2013
  • Research credit: The tax credit for research and experimentation expenses.
  • Charitable contributions from IRA accounts: The ability to distribute up to $100,000 tax free to charity from an IRA maintained for an individual whose has reached age 701/2.
  • Discharge of indebtedness on principal residence excluded from gross income of individuals: The exclusion from taxable income of debt forgiven in a foreclosure proceeding or write-down of principal on a mortgage.
  • Premiums for mortgage insurance deductible as interest that is qualified residence interest: Itemized deduction for the cost of mortgage insurance on a qualified personal residence.
  • Deduction for state sales taxes: The election to deduct as an itemized deduction state and local sales taxes instead of state and local income taxes.
  • Educator expense deduction: The $250 above the line deduction for qualifying educators for expenses paid for books and supplies used in the classroom.
  • Increased first-year asset expensing: For 2013, the amount eligible for asset expensing is $500,000. Beginning in 2014, the amount is reduced to $25,000.
  • Tuition expenses: The above-the-line deduction for qualified tuition and related expenses.
  • 50% bonus depreciation: The additional first-year depreciation for 50% of basis of qualified property.
  • Nonbusiness energy property credit: A 10% credit (up to $500, less if any credit was taken in a previous year) is available if you make certain energy efficient improvements to your home. Such improvements include high-efficiency heating and air conditioning systems, water heaters, windows (limited to $200), skylights, doors, insulation and roofs. The improvements must be made to an existing principal residence. A manufacturer’s certificate must accompany the qualifying property.
Expired in 2012
  • D.C. First-Time Homebuyer Credit: Purchases made before January 1, 2012, qualify for the $5,000 D.C. first-time homebuyer credit.
  • 100% bonus depreciation: The additional first-year depreciation for 100% of basis of qualified property.
Five-Year Extension Through 2017
  • Refundable portion of child tax credit: The earned income formula for the determination of the refundable child credit applies to 15% of the taxpayer’s earned income in excess of $3,000. This allows more earned income to qualify in order to determine how much of the credit is refundable. Beginning in 2018, the amount will be considerably higher.
  • Education credit: The American Opportunity Credit replaced the Hope Education Credit for 2009 through 2017 only. The benefits of the credit are: (1) required course materials, such as books qualify; (2) the credit is increased to up to $2,500; (3) income level phasesouts are higher; (4) forty percent of the credit is refundable.
  • Higher earned income tax credit: The temporary increase in the EITC percentage from 40% to 45% for families with three or more qualifying children ends in 2017. Additionally, the marriage penalty relief, through an increased threshold phaseout amount for married couples filing joint returns, also expires.
Permanently Extended
  • Child tax credit dollar amount: The $1,000 per qualifying child credit amount.
  • Permanent AMT relief: For 2012, the AMT exemption amounts were $78,750 for married filing jointly, $39,375 for married filing separately, and $50,600 for singles and heads of household. For 2013, the exemption amounts are adjusted for inflation: $80,800 for married filing jointly, $40,400 for married filing separately, and $51,900 for singles and heads of households.
  • Nonrefundable personal credits offsetting AMT: Rule that nonrefundable personal credits offset a taxpayer’s alternative minimum tax.
  • Lower income tax rates: The rates of 10%, 15%, 25%, 28%, 33%, and 35%. New 39.6% rate imposed, see above.
  • Reduced long-term capital gains rates: The 15% capital gains rate (0% for taxpayers below the 15% tax bracket) applies for taxpayers below the top tax rate.
  • Estate tax: Increase in estate and gift tax exemption to $5,000,000 (as indexed for inflation). For 2012, $5,120,000; for 2013, $5,250,000.
While there are other minor changes that have taken place from 2012 to 2013, the above list represents tax changes that most likely will impact your 2013 taxes.
Nov 28
As 2012 draws to a close, there is still time to reduce your 2012 tax bill and plan ahead for 2013. This post highlights several potential tax-saving opportunities for you to consider. I would be happy to meet with you to discuss specific strategies and issues. Click here to contact me to set up an appointment.
Deferring Income to 2013
Deferring income to the next taxable year is a time-honored year-end plan. If you expect your AGI to be higher in 2012 than in 2013, or if you anticipate being in the same or a higher tax bracket in 2012 than in 2013, you may benefit by deferring income into 2013. Some ways to defer income include:
Use of Cash Method of Accounting: By using the cash method of accounting instead of the accrual method of accounting, you can generally put yourself in the best position for accelerating deductions and deferring income. There is still time to accomplish this strategy, because an automatic change to the cash method can be made by the due date of the return including extensions. The following three types of businesses can make an automatic change to the cash method: (1) small businesses with average annual gross receipts of $1 million or less (even those with inventories that are a material income producing factor); (2) certain C corporations with average annual gross receipts of $5 million or less in which inventories are not a material income producing factor; and (3) certain taxpayers with average annual gross receipts of $10 million or less. Provided inventories are not a material income producing factor, sole proprietors, limited liability companies (LLCs), partnerships, and S corporations can change to the cash method of accounting without regard to their average annual gross receipts.
Delay Billing: Delay year-end billing to clients so that payments are not received until 2013.
Interest and Dividends: Interest income earned on Treasury securities and bank certificates of deposit with maturities of one year or less is not includible in income until received. To defer interest income, consider buying short-term bonds or certificates that will not mature until next year. If you have control as to when dividends are paid, arrange to have them paid to you after the end of the year.
Accelerating Income into 2012
You may benefit from accelerating income into 2012. For example, you may anticipate being in a higher tax bracket in 2013, or perhaps you need additional income in 2012 to take advantage of an offsetting deduction or credit that will not be available to you in future tax years. Note, however, that accelerating income into 2012 will be disadvantageous if you expect to be in the same or lower tax bracket for 2013.
If you report income and expenses on a cash basis, issue bills and attempt collection before the end of 2012. Also see if some of your clients or customers are willing to pay for January 2013 goods or services in advance. Any income received using these steps will shift income from 2013 to 2012.
Business Deductions
Self-Employed Health Insurance Premiums: Self-employed individuals are allowed to claim 100% of the amount paid during the taxable year for insurance that constitutes medical care for themselves, their spouses, and their dependents as an above-the-line deduction, without regard to the 7.5%-of-AGI floor.
Equipment Purchases: If you purchase equipment, you may make a “Section 179 election,” which allows you to expense (i.e., currently deduct) otherwise depreciable business property. For 2012, you may elect to expense up to $139,000 of equipment costs (with a phase-out for purchases in excess of $560,000) if the asset was placed in service during 2012. Note that for assets placed in service in 2012, taxpayers can expense 50% of their business equipment purchases under a provision giving taxpayers bonus depreciation, mitigating the need for the §179 election.
In 2013, the dollar amounts for §179 expensing are scheduled to be $25,000, with a phase-out amount of $200,000.
In addition, careful timing of equipment purchases can result in favorable depreciation deductions in 2012. In general, under the “half-year convention,” you may deduct six months’ worth of depreciation for equipment that is placed in service on or before the last day of the tax year. (If more than 40% of the cost of all personal property placed in service occurs during the last quarter of the year, however, a “mid-quarter convention” applies, which lowers your depreciation deduction.) A popular strategy in recent years is to purchase a vehicle for business purposes that exceeds the depreciation limits set by statute (i.e., a vehicle rated over 6,000 pounds). Doing so would not subject the purchase to the statutory dollar limit, $11,160 for 2012 (due to bonus depreciation rules), $11,360 in the case of vans and trucks (due to bonus depreciation rules). Therefore, the vehicle would qualify for the full equipment expensing dollar amount. However, for SUVs (rated between 6,000 and 14,000 pounds gross vehicle weight) the expensing amount is limited to $25,000.
NOL Carryback Period: If your business suffers net operating losses for 2012, you generally apply those losses against taxable income going back two tax years. Thus, for example, the loss could be used to reduce taxable income—and thus generate tax refunds—for tax years as far back as 2010. Certain “eligible losses” can be carried back three years; farming losses can be carried back five years.
Bad Debts: You can accelerate deductions to 2012 by analyzing your business accounts receivable and writing off those receivables that are totally or partially worthless. By identifying specific bad debts, you should be entitled to a deduction. You may be able to complete this process after year-end if the write-off is reflected in the 2012 year-end financial statements.
Home Office Deduction: Expenses attributable to using the home office as a business office are deductible under §280A if the home office is used regularly and exclusively: (1) as a taxpayer’s principal place of business for any trade or business; (2) as a place where patients, clients, or customers regularly meet or deal with the taxpayer in the normal course of business; or (3) in the case of a separate structure not attached to the residence, in connection with a trade or business.
Business Credits
Small Employer Pension Plan Startup Cost Credit: For 2012, certain small business employers that did not have a pension plan for the preceding three years may claim a nonrefundable income tax credit for expenses of establishing and administering a new retirement plan for employees. The credit applies to 50% of qualified administrative and retirement-education expenses for each of the first three plan years. However, the maximum credit is $500 per year.
Credit for Employee Health Insurance Expenses of Small Employers: For taxable years beginning after 2009, eligible small employers are allowed a credit for certain expenditures to provide health insurance coverage for their employees. Generally, employers with 10 or fewer full-time equivalent employees (FTEs) and an average annual per-employee wage of $25,000 or less are eligible for the full credit. The credit amount begins to phase out for employers with either 11 FTEs or an average annual per-employee wage of more than $25,000. The credit is phased out completely for employers with 25 or more FTEs or an average annual per-employee wage of $50,000 or more. The credit amount is 35% of certain contributions made to purchase health insurance.
Inventories
Subnormal Goods: You should check for subnormal goods in your inventory. Subnormal goods are goods that are unsalable at normal prices or unusable in the normal way due to damage, imperfections, shop wear, changes of style, odd or broken lots, or other similar causes, including second-hand goods taken in exchange. If your business has subnormal inventory as of the end of 2012, you can take a deduction for any write-downs associated with that inventory provided you offer it for sale within 30 days of your inventory date. The inventory does not have to be sold within the 30-day timeframe.
Planning for 2013 Tax Increases and Potential Expiration of Tax Relief Provisions
S Corporation Built-In Gains Tax: An S corporation generally is not subject to tax; instead, it passes through its income or loss items to its shareholders, who are taxed on their pro-rata shares of the S corporation’s income. However, if a business that was formed as a C corporation elects to become an S corporation, the S corporation is taxed at the highest corporate rate on all gains that were built in at the time of the election if the gains are recognized during a special holding period. While for tax years beginning in 2009 and 2010, the special holding period was shortened from 10 years to seven years, it is shortened even more for tax years beginning in 2011, to five years. For taxable years beginning in 2012, the holding period reverts back to 10 years.
100% Exclusion of Gain Attributable to Certain Small Business Stock: The incentive for individuals to acquire qualified small business stock was higher before the end of 2011. An individual ordinarily may exclude 50% of the gain from qualified small business stock that is held for at least five years (subject to a cap). “Qualified small business stock” is stock of a corporation the assets of which do not exceed $50 million when the stock is issued. The 50% exclusion of gain was increased to 75% for qualified small business stock acquired after February 17, 2009, and before September 28, 2010. The 2010 Small Business Jobs Act (SBJA) excluded 100% of the gain for qualified small business stock acquired or issued after September 27, 2010, and before January 1, 2011, and the 2010 TRA extended the 100% exclusion to qualified small business stock acquired before January 1, 2012. In addition, the alternative minimum tax preference item attributable to the sale is eliminated. For stock acquired after December 31, 2011, only 50% of the gain from the sale/exchange of qualified small business stock held for more than 5 years is excluded from gross income. For tax years beginning in 2012, the holding period is once again 10 years.
Qualified Dividends: Qualified dividends received in 2012 are subject to rates similar to the capital gains rates. Therefore, qualified dividends are taxed at a maximum rate of 15%. Qualified dividends are typically dividends from domestic and certain foreign corporations. Unless Congress acts, all dividends will be treated as ordinary income beginning January 1, 2013.
Basis Adjustment to Stock of S Corporations Making Charitable Contributions of Property: The rule that the basis of an S corporation shareholder’s stock is decreased by charitable contributions of property by the S corporation in an amount equal to the shareholder’s pro rata share of the adjusted basis of the contributed property expired for contributions made in taxable years beginning after December 31, 2011.
Employer-Provided Child Care Credit: For 2012, employers may claim a credit of up to $150,000 for supporting employee child care or child care resource and referral services. The credit is allowed for a percentage of “qualified child care expenditures,” including for property to be used as part of a qualified child care facility, for operating costs of a qualified child care facility, and for resource and referral expenditures. Note that this credit is scheduled to expire at the end of 2012, therefore, it would be wise to make any planned qualified child care expenditures in 2012 to take advantage of the credit.
Work Opportunity Credit: The work opportunity credit is an incentive provided to employers who hire individuals in groups whose members historically have had difficulty obtaining employment. The credit gives a business an expanded opportunity to employ new workers and to be eligible for a tax credit against the wages paid. The credit is determined based on first-year wages paid for employees hired on or before December 31, 2011 (December 31, 2012, for qualified veterans).
Bonus Depreciation: Taxpayers can claim 50% bonus depreciation for assets placed in service in 2012. Bonus depreciation is also allowed for machinery and equipment used exclusively to collect, distribute, or recycle qualified reuse and recyclable materials and qualified disaster assistance property. In 2013, the bonus depreciation generally does not apply.
Reporting
Uncertain Tax Positions: The final Instructions for Schedule UTP state that a corporation must file Schedule UTP with its income tax return if it: (1) files Form 1120, Form 1120-F, From 1120-L, or Form 1120-PC; (2) has assets of $50,000,000 or more beginning with the 2012 tax year, and $10,000,000 or more beginning with the 2014 tax year (the threshold was $100,000,000 or more for tax years before 2012); (3) issued (or a related party issued) audited financial statements reporting all or a portion of the corporation’s operations for all or a portion of the corporation’s tax year; and (4) has one or more tax positions that must be reported on Schedule UTP. A taxpayer that files a protective Form 1120, 1120-F, 1120-L, or 1120-PC and satisfies the conditions set forth above also must file Schedule UTP.
Unique Reference Identification Number: For taxable years beginning in 2012, Forms 5471, 8858, and 8865 will be revised to contain a Unique Reference Identification number (URI) for each foreign entity with respect to which reporting is required. The URI will be used to track the foreign entity from year to year.
Electronic Deposits
Electronic Funds Transfer: A corporation must make its deposits of income tax withholding, FICA, FUTA, and corporate income tax by electronic funds transfer (EFT), including through the IRS’s Electronic Federal Tax Deposit System (EFTPS).
If you have any questions, please do not hesitate to contact me. I would be happy to meet with you at your convenience to discuss the strategies and requirements outlined above. There is still time to implement these strategies to minimize your 2012 tax liability and plan for 2013. Feel free to contact me by clicking here.
Nov 5

As 2012 draws to a close, there is still time to reduce your 2012 tax bill and plan ahead for 2013. This post highlights several potential tax-saving opportunities for you to consider. Please click here to contact me to discuss strategies specific to your circumstances.
As a general reminder, there are several ways in which you can file an income tax return: married filing jointly, head of household, single, and married filing separately. A husband and wife may elect to file one return reporting their combined income, computing the tax liability using the tax tables or rate schedules for “Married Persons Filing Jointly.” If a married couple files separate returns, under certain situations they can amend and file jointly, but they cannot amend a jointly filed return and file separately. A joint return may be filed even though one spouse has neither gross income nor deductions. If one spouse dies during the year, the surviving spouse may file a joint return for the year in which his or her spouse died. Certain married persons who do not elect to file a joint return may be entitled to use the lower head of household tax rates. Generally, in order to qualify as a head of household, you must not be a resident alien, you must satisfy certain marital status requirements, and you must maintain a household for a qualifying child or any other person who is your dependent, if you are entitled to a dependency deduction for the taxable year for such person.

Basic Numbers You Need To Know
Because many tax benefits are tied to or limited by adjusted gross income (AGI)—IRA deductions, for example—a key aspect of tax planning is to estimate both your 2012 and 2013 AGI. Also, when considering whether to accelerate or defer income or deductions, you should be aware of the impact this action may have on your AGI and your ability to maximize itemized deductions that are tied to AGI. Your 2011 tax return and your 2012 pay stubs and other income- and deduction-related materials are a good starting point for estimating your AGI.
Another important number is your “tax bracket,” i.e., the rate at which your last dollar of income is taxed. The tax rates for 2012 are 10%, 15%, 25%, 28%, 31%, and 35%. However, for 2013, the tax brackets are scheduled to be 15%, 28%, 31%, 36% and 39.6%. Although tax brackets are indexed for inflation, if your income increases faster than the inflation adjustment, you may be pushed into a higher bracket. If so, your potential benefit from any tax-saving opportunity is increased (as is the cost of overlooking that opportunity). [Editor’s Note: Here is a chart that projects the tax brackets and other inflation-adjusted amounts for 2013.]

IRA, Retirement Savings Rules for 2012
Tax-saving opportunities continue for retirement planning due to the availability of Roth IRAs, changes that make regular IRAs more attractive, and other retirement savings incentives.

Traditional IRAs: Individuals who are not active participants in an employer pension plan may make deductible contributions to an IRA. The annual deductible contribution limit for an IRA for 2012 is $5,000. For 2012, a $1,000 “catch-up” contribution is allowed for taxpayers age 50 or older by the close of the taxable year, making the total limit $6,000 for these individuals. Individuals who are active participants in an employer pension plan also may make deductible contributions to an IRA, but their contributions are limited in amount depending on their AGI. For 2012, the AGI phase-out range for deductibility of IRA contributions is between $58,000 and $68,000 of modified AGI for single persons (including heads of households), and between $92,000 and $112,000 of modified AGI for married filing jointly. Above these ranges, no deduction is allowed.
In addition, an individual will not be considered an “active participant” in an employer plan simply because the individual’s spouse is an active participant for part of a plan year. Thus, you may be able to take the full deduction for an IRA contribution regardless of whether your spouse is covered by a plan at work, subject to a phase-out if your joint modified AGI is $173,000 to $183,000 for 2012. Above this range, no deduction is allowed.
Spousal IRA: If an individual files a joint return and has less compensation than his or her spouse, the IRA contribution is limited to the lesser of $5,000 for 2012 plus age 50 catch-up contributions, or the total compensation of both spouses reduced by the other spouse’s IRA contributions (traditional and Roth).

Roth IRA: This type of IRA permits nondeductible contributions of up to $5,000 a year. Earnings grow tax-free, and distributions are tax-free provided no distributions are made until more than five years after the first contribution and the individual has reached age 591/2. Distributions may be made earlier on account of the individual’s disability or death. The maximum contribution is phased out in 2012 for persons with an AGI above certain amounts: $173,000 to $183,000 for married filing jointly, and $110,000 to $125,000 for single taxpayers (including heads of households); and between $0 and $10,000 for married filing separately who lived with the spouse during the year.

Roth IRA Conversion Rule: Funds in a traditional IRA (including SEPs and SIMPLE IRAs), §401(a) qualified retirement plan, §403(b) tax-sheltered annuity or §457 government plan may be rolled over into a Roth IRA. Such a rollover, however, is treated as a taxable event, and you will pay tax on the amount converted. No penalties will apply if all the requirements for such a transfer are satisfied.

In past years, a taxpayer’s AGI (whether married filing jointly or single) was limited to $100,000 to make such a conversion and the taxpayer must not be a married individual filing a separate return. The AGI limitation does not apply to conversions from a Roth designated account in a §401 or §403(b) plan. For 2012, the $100,000 income limit on Roth IRA conversions does not apply, and taxpayers will be able to make Roth IRA conversions without regard to their AGI. If you convert to a Roth IRA in 2012, the tax on the converted amount will have to be paid in the year of conversion. Also, if you already made a conversion earlier this year, you have the option of undoing the conversion. This is a useful strategy if the investments have gone down in value so that if you were to do the conversion now, your taxes would be lower. This is a complicated calculation and we should meet to determine what your best options are.

In addition, for 2012, if your §401(k) plan, §403(b) plan, or governmental §457(b) plan has a qualified designated Roth contribution program, a distribution to an employee (or a surviving spouse) from such account under the plan that is not a designated Roth account is permitted to be rolled over into a designated Roth account under the plan for the individual.
401(k) Contribution: The §401(k) elective deferral limit is $17,000 for 2012. If your §401(k) plan has been amended to allow for catch-up contributions for 2011 and you will be 50 years old by December 31, 2011, you may contribute an additional $5,500 to your §401(k) account, for a total maximum contribution of $22,500 ($17,000 in regular contributions plus $5,500 in catch-up contributions).
SIMPLE Plan Contribution: SIMPLE plan deferral limit is $11,500 for 2012. If your SIMPLE plan has been amended to allow for catch-up contributions for 2012 and you will be 50 years old by December 31, 2012, you may contribute an additional $2,500.

Catch-Up Contributions for Other Plans: If you will be 50 years old by December 31, 2012, you may contribute an additional $5,500 to your §403(b) plan, SEP or eligible §457 government plan.

Saver’s Credit: A nonrefundable tax credit is available based on the qualified retirement savings contributions to an employer plan made by an eligible individual. For 2012, only taxpayers filing joint returns with AGI of $57,500 or less, head of household returns with AGI of $43,125 or less, or single returns (or separate returns filed by married taxpayers) with AGI of $28,750 or less, are eligible for the credit. The amount of the credit is equal to the applicable percentage (10% to 50%, based on filing status and AGI) of qualified retirement savings contributions up to $2,000.
Required Minimum Distributions: For 2012, taxpayers must take their required minimum distribution from IRAs or defined contribution plans (§401(k) plans, §403(a) and (b) annuity plans, and §457(b) plans that are maintained by a governmental employer).

Maximize Retirement Savings: In many cases, employers will require you to set your 2013 retirement contribution levels before January 2013. If you did not elect the maximum 401(k) contribution for 2012, you can increase your amount for the remainder of 2012 to lower your AGI in order to take advantage of some of the tax breaks described above. In addition, maximizing your contribution is generally a good tax-saving move.

Deferring Income to 2013
If you expect your AGI to be higher in 2012 than in 2013, or if you anticipate being in the same or a higher tax bracket in 2012, you may benefit by deferring income into 2013. Deferring income will be advantageous so long as the deferral does not bump your income to the next bracket. Deferring income could be disadvantageous, however, if your deferred income is subject to §409A, thus making the income includible in gross income and subject to additional tax. Some ways to defer income include:

Delay Billing: If you are self-employed and on the cash-basis, delay year-end billing to clients so that payments will not be received until 2013.
Interest and Dividends: Interest income earned on Treasury securities and bank certificates of deposit with maturities of one year or less is not includible in income until received. To defer interest income, consider buying short-term bonds or certificates that will not mature until next year. If you have control as to when dividends are paid, arrange to have them paid to you after the end of the year.

Accelerating Income into 2012
In limited circumstances, you may benefit by accelerating income into 2012. For example, you may anticipate being in a higher tax bracket in 2013, or perhaps you will need additional income in order to take advantage of an offsetting deduction or credit that will not be available to you in future tax years. Note, however, that accelerating income into 2012 will be disadvantageous if you expect to be in the same or lower tax bracket for 2013. In any event, before you decide to implement this strategy, we should “crunch the numbers.”

If accelerating income will be beneficial, here are some ways to accomplish this:

Accelerate Collection of Accounts Receivable: If you are self-employed and report income and expenses on a cash basis, issue bills and attempt collection before the end of 2012. Also see if some of your clients or customers might be willing to pay for January 2013 goods or services in advance. Any income received using these steps will shift income from 2013 to 2012.
Year-End Bonuses: If your employer generally pays year-end bonuses after the end of the current year, ask to have your bonus paid to you before the beginning of 2013.
Retirement Plan Distributions: If you are over age 591/2 and you participate in an employer retirement plan or have an IRA, consider making any taxable withdrawals before 2013.
You may also want to consider making a Roth IRA rollover distribution, as discussed above.

Deduction Planning

Individual Deductions
Deduction timing is also an important element of year-end tax planning. Deduction planning is complex, however, due to factors such as AGI levels, AMT, and filing status. If you are a cash-method taxpayer, remember to keep the following in mind:

Deduction in Year Paid: An expense is only deductible in the year in which it is actually paid. Under this rule, if your tax rate is going to increase in 2013, it is a smart strategy to postpone deductions until 2013.

Payment by Check: Date checks before the end of the year and mail them before January 1, 2013.

Promise to Pay: A promise to pay or providing a note does not permit you to deduct the expense. But you can take a deduction if you pay with money borrowed from a third party. Hence, if you pay by credit card in 2012, you can take the deduction even though you won’t pay your credit card bill until 2013.

AGI Limits: For 2012, the overall limitation on itemized deductions is terminated. In addition, certain deductions may be claimed only if they exceed a percentage of AGI: 7.5% for medical expenses, 2% for miscellaneous itemized deductions, and 10% for casualty losses. However, for 2013, the overall limitation on itemized deductions is scheduled to be reinstated making deductions more valuable in 2012. However, too many itemized deductions in 2012 could trigger AMT. Also, for 2013, medical expenses may be deducted only if they exceed 10% of AGI (7.5% for taxpayers age 65).
Standard Deduction Planning: Deduction planning is also affected by the standard deduction. For 2012 returns, the standard deduction is $11,900 for married taxpayers filing jointly, $5,950 for single taxpayers, $8,700 for heads of households, and $5,950 for married taxpayers filing separately. As you can see from the numbers, for 2012, the standard deduction for married taxpayers is twice the amount as that for single taxpayers. For 2013, the standard deduction for married taxpayers is scheduled to be less than 200% of the standard deduction for single taxpayers. If your itemized deductions are relatively constant and are close to the standard deduction amount, you will obtain little or no benefit from itemizing your deductions each year. But simply taking the standard deduction each year means you lose the benefit of your itemized deductions. To maximize the benefits of both the standard deduction and itemized deductions, consider adjusting the timing of your deductible expenses so that they are higher in one year and lower in the following year. You can do this by paying in 2012 deductible expenses, such as mortgage interest due in January 2013.

Medical Expenses: Medical expenses, including amounts paid as health insurance premiums, are deductible only to the extent that they exceed 7.5% of AGI. With the percentage scheduled to increase to 10% in 2013 (but staying at 7.5% for taxpayers age 65), it would be wise to consider accelerating medical expenses into 2012, especially if your AGI is lower.

State Taxes: If you anticipate a state income tax liability for 2012 and plan to make an estimated payment most likely due in January, consider making the payment before the end of 2012. However, too high a payment could lead towards being subject to the AMT. Note that for 2012, the election to deduct as an itemized deduction state and local sales taxes instead of state and local income taxes expired at the end of 2011.
Charitable Contributions: Consider making your charitable contributions at the end of the year. This will give you use of the money during the year and simultaneously permit you to claim a deduction for that year. You can use a credit card to charge donations in 2012 even though you will not pay the bill until 2013. A mere pledge to make a donation is not deductible, however, unless it is paid by the end of the year. Note, however, for claimed donations of cars, boats and airplanes of more than $500, the amount available as a deduction will significantly depend on what the charity does with the donated property, not just the fair market value of the donated property. If the organization sells the property without any significant intervening use or material improvement to the property, the amount of the charitable contribution deduction cannot exceed the gross proceeds received from the sale.

To avoid capital gains, you may want to consider giving appreciated property to charity.

Regarding charitable contributions please remember the following rules: (1) no deduction is allowed for charitable contributions of clothing and household items if such items are not in good used condition or better; (2) the IRS may deny a deduction for any item with minimal monetary value; and (3) the restrictions in (1) and (2) do not apply to the contribution of any single clothing or household item for which a deduction of $500 or more is claimed if the taxpayer includes a qualified appraisal with his or her return. Charitable contributions of money, regardless of the amount, will be denied a deduction, unless the donor maintains a cancelled check, bank record, or receipt from the donee organization showing the name of the donee organization, and the date and amount of the contribution.

A special provision that gave taxpayers the ability to distribute tax-free to charity up to $100,000 from a traditional or Roth IRA maintained for an individual whose has reached age 701/2 expired at the end of 2011. However, Congress may decide to extend this provision retroactively for 2012 before the end of the year.

Business Deductions

Self-Employed Health Insurance Premiums: Self-employed individuals are allowed to claim 100% of the amount paid during the taxable year for insurance that constitutes medical care for themselves, their spouses and dependents as an above-the-line deduction, without regard to the 7.5% of AGI floor.

Equipment Purchases: If you are in business and purchase equipment, you may make a “Section 179 Election,” which allows you to expense (i.e., currently deduct) otherwise depreciable business property. For 2012, you may elect to expense up to $139,000 of equipment costs (with a phase-out for purchases in excess of $560,000) if the asset was placed in service during 2012. Note that for assets placed in service in 2012, taxpayers can expense 50% of their business equipment purchases under a provision giving taxpayers bonus depreciation, mitigating the need for the §179 election.
In 2013, the dollar amounts for §179 expensing are scheduled to be $25,000, with a phase-out amount of $200,000. Although there is a chance the 2013 figures will go up if Congress acts, it would be wise to place more assets in service in 2012 if you have yet to hit the $139,000 figure.

In addition, careful timing of equipment purchases can result in favorable depreciation deductions in 2012. In general, under the “half-year convention,” you may deduct six months worth of depreciation for equipment that is placed in service on or before the last day of the tax year. (If more than 40% of the cost of all personal property placed in service occurs during the last quarter of the year, however, a “mid-quarter convention” applies, which lowers your depreciation deduction.) A popular strategy in recent years is to purchase a vehicle for business purposes that exceeds the depreciation limits set by statute (i.e., a vehicle rated over 6,000 pounds). Doing so would not subject the purchase to the statutory dollar limit, $11,160 for 2012 (due to bonus depreciation rules); $11,360 in the case of vans and trucks (due to bonus depreciation rules). Therefore, the vehicle would qualify for the full equipment expensing dollar amount. However, for SUVs (rated between 6,000 and 14,000 pounds gross vehicle weight) the expensing amount is limited to $25,000.

NOL Carryback Period: If your business suffers net operating losses for 2012, you generally apply those losses against taxable income going back two tax years. Thus, for example, the loss could be used to reduce taxable income—and thus generate tax refunds—for tax years as far back as 2010. Certain “eligible losses” can be carried back three years; farming losses can be carried back five years.

Bonus Depreciation: Taxpayers can claim 50% bonus depreciation for assets placed in service in 2012. Bonus depreciation is also allowed for machinery and equipment used exclusively to collect, distribute, or recycle qualified reuse and recyclable materials and qualified disaster assistance property. In 2013, bonus depreciation generally does not apply.

Education and Child Tax Benefits

Child Tax Credit: A tax credit of $1,000 per qualifying child under the age of 17 is available on this year’s return. In order to qualify for 2012, the taxpayer must be allowed a dependency deduction for the qualifying child. Another qualifying determination is that the qualifying child must be younger than you. The credit is phased out at a rate of $50 for each $1,000 (or fraction of $1,000) of modified AGI exceeding the following amounts: $110,000 for married filing jointly; $55,000 for married filing separately; and $75,000 for all other taxpayers. A portion of the credit may be refundable. For 2012, the threshold earned income level to determine refundability is set by statute at $3,000. In 2013, the per child credit amount is scheduled to be reduced to $500.

Credit for Adoption Expenses: For 2012, the adoption credit limitation is $12,650 of aggregate expenditures for each child, except that the credit for an adoption of a child with special needs is deemed to be $12,650 regardless of the amount of expenses. The credit ratably phases out for taxpayers whose income is between $189,710 and $229,710. While for 2011, the credit was refundable, for 2012, unless Congress acts before the end of the year to change it, the credit is nonrefundable. In addition, beginning in 2013, the adoption credit will only be available for adoption of special needs children with a reduced dollar amount. If you plan on adopting a non-special needs child, you should consider adopting the child in 2012 because there is no guarantee that this law will change in 2013.

Education Credits: Back in 2009, significant changes were put in place for the Hope credit, including a name change to the American Opportunity Tax Credit. These changes continue for 2012. The maximum credit for 2012 is $2,500 (100% on the first $2,000, plus 25% of the next $2,000) for qualified tuition and fees paid on behalf of a student (i.e., the taxpayer, the taxpayer’s spouse, or a dependent) who is enrolled on at least a half-time basis. The credit is available for the first four years of the student’s post-secondary education. For 2012, the credit is phased out at modified AGI levels between $160,000 and $180,000 for joint filers, and between $80,000 and $90,000 for other taxpayers. Forty percent of the credit is refundable, which means that you can receive up to $1,000 even if you owe no taxes. The term “qualified tuition and related expenses” includes expenditures for “course materials” (books, supplies, and equipment needed for a course of study whether or not the materials are purchased from the educational institution as a condition of enrollment or attendance). One way to take advantage of the credit for 2012 is to prepay the spring 2013’s tuition. In addition, if your child’s books for the spring semester are known, those can be bought and the costs qualify for the credit. After 2012, unless extended by Congress, the American Opportunity credit reverts back to the Hope Scholarship credit, with lower dollar amounts and more restricted definitions of qualified expenses.

The Lifetime Learning credit maximum in 2012 is $2,000 (20% of qualified tuition and fees up to $10,000). A student need not be enrolled on at least a half-time basis so long as he or she is taking post-secondary classes to acquire or improve job skills. As with the Hope (American Opportunity Tax Credit in 2012) credit, eligible students include the taxpayer, the taxpayer’s spouse, or a dependent. For 2012, the Lifetime Learning credit are phased out at modified AGI levels between $104,000 and $124,000 for joint filers, and between $56,000 and $66,000 for single taxpayers.

Coverdell Education Savings Account: This is an important year to maximize post-secondary savings in a Coverdell ESA. For 2012, the aggregate annual contribution limit to a Coverdell education savings account is $2,000 per designated beneficiary of the account. However, in 2013, the amount is scheduled to decrease to $500. The limit is phased out for individual contributors with modified AGI between $95,000 and $110,000 and joint filers with modified AGI between $190,000 and $220,000. For 2013, the AGI limits are scheduled to be reduced to $150,000 and $160,000 for joint filers, while the AGI amounts for others remains the same. The contributions to the account are nondeductible but the earnings grow tax-free. If you file a joint return and your income is approaching the phaseouts, 2012 is a better year to contribute than 2013.

Student Loan Interest: You may be eligible for an above-the-line deduction for student loan interest paid on any “qualified education loan.” The maximum deduction is $2,500. The deduction for 2012 is phased out at a modified AGI level between $125,000 and $155,000 for joint filers, and between $60,000 and $75,000 for individual taxpayers. However, in 2013, the AGI amounts are scheduled to go down to $40,000 and $55,000 for individual taxpayers, and $60,000 and $75,000 for joint filers with a slight increase for inflation. Another significant change scheduled for 2013 is the reinstatement of the 60-month rule for student loans. That rule provides that interest is only deductible on the first 60-months that interest payments are required. Any loans outstanding for more than 60-months will lose this deduction.

Kiddie Tax: For 2012, the kiddie tax applies to: (1) children under 18; (2) 18-year old children who have unearned income in excess of the threshold amount, do not file a joint return and who have earned income, if any, that does not exceed one-half of the amount of the child’s support; and (3) children between the ages of 19 and 23 and if, in addition to the above rules, they are full-time students. For 2012, the kiddie tax threshold amount is $1,900.

Energy Incentives

Residential Energy Efficient Property Credit: Until 2016, tax incentives are available to taxpayers who install certain energy efficient property, such as photovoltaic panels, solar water heating property, fuel cell property, small wind energy property and geothermal heat pumps. A credit is available for the expenditures incurred for such property up to a specific percentage, except that a cap applies for fuel cell property. The property purchased cannot be used to heat swimming pools or hot tubs. If you have made improvements to your home or plan to by the end of 2012, please contact me to discuss the amount of the credit you may qualify for.

Business Credits

Small Employer Pension Plan Startup Cost Credit: For 2012, certain small business employers that did not have a pension plan for the preceding three years may claim a nonrefundable income tax credit for expenses of establishing and administering a new retirement plan for employees. The credit applies to 50% in qualified administrative and retirement-education expenses for each of the first three plan years. However, the maximum credit is $500 per year.

Employer-Provided Child Care Credit: For 2012, employers may claim a credit of up to $150,000 for supporting employee child care or child care resource and referral services. The credit is allowed for a percentage of “qualified child care expenditures” including for property to be used as part of a qualified child care facility, for operating costs of a qualified child care facility and for resource and referral expenditures. Note that this credit is scheduled to expire at the end of 2012, therefore, it would be wise to make any planned qualified child care expenditures in 2012 to take advantage of the credit.

Work Opportunity Credit: The work opportunity credit is an incentive provided to employers who hire individuals in groups whose members historically have had difficulty obtaining employment. This gives your business an expanded opportunity to employ new workers and be eligible for a tax credit against the wages paid. Credit determined based on first-year wages paid for employees hired on or before December 31, 2011 (December 31, 2012, for qualified veterans).

Credit for Employee Health Insurance Expenses of Small Employers: For tax years beginning after 2009, eligible small employers are allowed a credit for certain expenditures to provide health insurance coverage for its employees. Generally, employers with 10 or fewer full-time equivalent employees (FTEs) and an average annual per-employee wage of $25,000 or less are eligible for the full credit. The credit amount begins to phase out for employers with either 11 FTEs or an average annual per-employee wage of more than $25,000. The credit is phased out completely for employers with 25 or more FTEs or an average annual per-employee wage of $50,000 or more. The credit amount is 35% of certain contributions made to purchase health insurance (25% for a tax-exempt eligible small employer).

Investment Planning
The following rules apply for most capital assets in 2012:
• Capital gains on property held one year or less are taxed at an individual’s ordinary income tax rate.
• Capital gains on property held for more than one year are taxed at a maximum rate of 15% (0% if an individual is in the 10% or 15% marginal tax bracket).

Note that Congress has yet to extend the reduced capital gains rates beyond 2012. If not changed, the maximum capital gains rate in 2013 will be 20% (10% for taxpayers in the 15% bracket). In addition, beginning in 2013, a 3.8% tax is levied on certain unearned income. The tax is levied on the lesser of net investment income or the amount by which modified AGI exceeds certain dollar amounts ($250,000 for joint returns and $200,000 for individuals). Investment income is: (1) gross income from interest, dividends, annuities, royalties, and rents (other than from a trade or business); (2) other gross income from any business to which the tax applies; and (3) net gain attributable to property other than property attributable to an active trade or business. Investment income does not include distributions from a qualified retirement plan or amounts subject to self-employment tax. This rule applies mostly to passive businesses and the trading in financial instruments or commodities. With this additional tax, the maximum net capital gains rate could be as high as 23.8% in 2013. Because distributions from qualified retirement plans are not subject to the tax, taxpayers may want to invest in retirement accounts, if possible, rather than taxable accounts.

Timing of Sales: You may want to time the sale of assets so as to have offsetting capital losses and gains. Capital losses may be fully deducted against capital gains and also may offset up to $3,000 of ordinary income ($1,500 for married filing separately). In general, when you take losses, you must first match your long-term losses against your long-term gains, and short-term losses against short-term gains. If there are any remaining losses, you may use them to offset any remaining long-term or short-term gains, or up to $3,000 (or $1,500) of ordinary income. When and whether to recognize such losses should be analyzed in light of the possible future changes in the capital gains rates applicable to your specific investments.

Dividends: Qualifying dividends received in 2012 are subject to rates similar to the capital gains rates. Therefore, qualifying dividends are taxed at a maximum rate of 15%. Qualifying dividends include dividends received from domestic and certain foreign corporations. Note that if Congress does not extend the reduced dividend rates, in 2013, dividends will be taxed at ordinary income rates, which could reach 39.6% (43.4% with the additional 3.8% tax on certain unearned income).

Selling Your (Underwater) Home: If you are currently underwater on your home and you are considering selling or getting a loan modification, you absolutely should get this done in 2012. In 2012, qualified mortgage debt relief from you lender is not considered income. However, if Congress fails to extend this tax benefit, any debt discharged on or after January 1, 2013, will be considered income and taxes will be owed on the amount forgiven.

Selling Your (Inherited) Home: If you received the residence you are using as your principal residence from a decedent who died in 2010 and whose executor elected not to have the estate tax apply, you can include the decedent’s use and ownership of the home to qualify for the §121 exclusion amounts. If by the end of 2012, you would meet the 2 of 5 year tests with this tacking, it could be a perfect time to sell and exclude up to $250,000 of gain ($500,000 if married and both spouses received the property).

Social Security: Depending on the recipient’s modified AGI and the amount of Social Security benefits, a percentage — up to 85% — of Social Security benefits may be taxed. To reduce that percentage, it may be beneficial to defer receipt of other retirement income. One way to do so is to elect to receive a lump sum distribution from a retirement plan and to rollover that distribution into an IRA. Alternatively, it may be beneficial to accelerate income so as to reduce the percentage of your Social Security taxed in 2013 and later years.

Other Tax Planning Opportunities: We also can discuss the potential benefits to you or your family members of other planning options available for 2012, including §529 qualified tuition programs.

Alternative Minimum Tax
For 2012, the alternative minimum tax exemption amounts are currently scheduled to be much lower that will most likely subject more taxpayers to the AMT effect. The exemption amounts in place for 2012 are: (1) $45,000 for married individuals filing jointly and for surviving spouses; (2) $33,750 for unmarried individuals other than surviving spouses; and (3) $22,500 for married individuals filing a separate return. Also, for 2012, unless Congress acts to extend the previous years’ rules, nonrefundable personal credits cannot offset an individual’s regular and alternative minimum tax, and capital gains will not be taxed at lower favorable rates for AMT.
Some of the standard year-end planning ideas will not reduce tax liability if you are subject to the alternative minimum tax (AMT) because different rules apply. Because of the complexity of the AMT, it would be wise for us to analyze your AMT exposure.

Please feel free to contact Paul to discuss any of the strategies outlined above by clicking here. While we are getting very close to the end of the year, there is still time to implement these strategies to minimize your 2012 tax liability.

Sep 5

Property taxes in Utah are assessed either by the county where the property is located or by the Utah State Tax Commission. Property that is subject to taxation may be assessed by a County Assessor or by the Property Tax Division of the Utah State Tax Commission, depending on the nature of the property. Property is referred to as “locally assessed properties” which are assessed by the County Assessor of the county in which the property is located, and “centrally assessed properties”, which are assessed by the Property Tax Division of the Utah State Tax Commission. The valuation processes and appeals processes differ somewhat, depending on the type of property.

Locally assessed property is valued each year. For real property, each county has established a 5-year cyclical reappraisal schedule as required by statute. The counties also use computer-assisted mass appraisal systems to apply current market data to annual assessments.

Personal property is reported to the County Assessor by the property owner, lessee or lessor by annual self-assessment affidavit. Personal property assessments are derived from cost information or depreciation schedules. The county assessor mails the personal property statement forms in late January or early February. Property owners have 30 days to complete and return the forms. Thereafter, assessments are issued. The assessments are subject to appeal within 30 days.

Regarding centrally assessed property, the Property Tax Division of the Utah State Tax Commission is responsible for assessing mining properties and other properties that operate across county lines, such as utilities, mines, telecommunications or transportation companies. These assessments are based on self-reporting affidavits submitted by the property owners by March 1 of each year. Assessment notices are mailed by May 1 each year.

The owner of a centrally-assessed property has a right to file an appeal of the assessment by June 1. However, the affected counties also have an interest in the assessment and they may file an appeal. In fact, it is not unusual for both the taxpayer and the affected counties to file appeals on the same assessment. The cases are typically scheduled together.

By mid- to late-July, the parties (or their representatives) will meet with the assigned judge in a scheduling conference. At that time, the schedule for discovery or exchange of information will be set and the matter will be scheduled for further proceedings. In the meantime, the parties are encouraged to work toward settlement and, in fact, most of these cases are resolved through settlement negotiations without a hearing.

If you believe that your property is being over-valued by your county or by the Utah State Tax Commission contact Paul to discuss your options and for assistance in appealing the value. If you just have questions about the appeals process in general feel free to contact PaulTo contact Paul click here.

Aug 1

This post highlights some of the more important tax developments that have come out during the second three months of 2012. Most are documents from the Internal Revenue Service, but some are important cases and legislative changes you might want to be aware of for you or your business.

Individual Mandate to Buy Health Insurance: In National Federation of Independent Business v. Sebelius, No. 11-393 (U.S. 6/28/12), the U.S. Supreme Court, in a 5-4 opinion, upholds the individual mandate under Affordable Care Act (ACA) as within Congress’s taxing power, stating that the ACA’s “requirement that certain individuals pay a financial penalty for not obtaining health insurance may reasonably be characterized as a tax.”

Pension Smoothing: As part of the highway funding bill (MAP-21), effective for plan years beginning after December 31, 2011, the Act amends §430(h) to revise rules for determining the segment rates under single-employer plan funding rules by adjusting a segment rate if the rate determined under the regular rules is outside a specified range of the average of the segment rates for the preceding 25-year period (“average” segment rates). The Act also requires additional information to be included in the annual funding notice that defined benefit plans must provide to participants and beneficiaries, labor organizations representing such participants or beneficiaries, and the Pension Benefit Guaranty Corporation.

S Corporation Shareholder Basis: In Maguire v. Comr., T.C. Memo 2012-160 (6/6/12), the U.S. Tax Court held that shareholders in two related S corporations are not prohibited from receiving a distribution of assets from one of their S corporations and then contributing those assets to another of their S corporations in order to increase their bases in the latter to absorb losses otherwise unavailable due to the basis limitation of §1366(d)(1). The fact that the two S corporations had a synergistic business relationship and were owned by the same shareholders did not preclude this result because the distributions and contributions actually occurred. Shortly thereafter, the IRS issued Prop. Reg. §1.1366-2, REG-134042-07, 77 Fed. Reg. 34884 (6/11/12), which would clarify the requirements for increasing basis of indebtedness and to assist S corporation shareholders in determining with greater certainty whether their particular arrangement creates basis of indebtedness. The IRS explained that the proposed regulations would require that loan transactions represent bona fide indebtedness of the S corporation to the shareholder in order to increase basis of indebtedness; therefore, an S corporation shareholder would need not otherwise satisfy the “actual economic outlay” doctrine for purposes of §1366(d)(1)(B). According to the IRS, the proposed regulations’ key requirement would be that purported indebtedness of the S corporation to a shareholder must be bona fide indebtedness to the shareholder.

COD Income Under §108: In Rev. Rul. 2012-14, 2012-24 I.R.B. 1012, the IRS ruled that to measure a partner’s insolvency under §108(d)(3), each partner treats as a liability the amount of the partnership’s discharged excess nonrecourse debt based on allocation of cancellation of indebtedness income to the partner under §704(b).

Earnings and Profits: In REG-141268-11, 77 Fed. Reg. 22515 (4/16/12), the IRS issued proposed regulations under §312 regarding allocation of earnings and profits in tax-free transfers from one corporation to another. The proposed regulations would clarify that, except as provided in Regs. §1.312-10, if property is transferred from one corporation to another and no gain or loss is recognized, no allocation of the earnings and profits of the transferor is made to the transferee unless the transfer is described in §381(a).

Deferral of Losses on Sale or Exchange of Property Between Controlled Group: In T.D. 9583, 77 Fed. Reg. 22480 (4/16/12), the IRS issued final regulations that provide that to the extent a selling member’s loss would be redetermined to be a noncapital, nondeductible amount under Regs. §1.1502-13, but is not redetermined under Regs. §1.267(f)-1(c)(2) (which generally renders the attribute redetermination rule inapplicable to sales between members of a controlled group), the selling member’s loss continues to be deferred.

UNICAP Avoided Cost Rule: The Federal Circuit Court of Appeals, in Dominion Resources Inc. v. U.S., No. 2011-5087 (Fed. Cir. 5/31/12), held that the associated property rule laid out in Regs. §1.263A-11(e)(1)(ii)(B), as applied to property temporarily withdrawn from service, is not reasonable interpretation of the avoided cost rule in §263A. At issue in the case was the amount of interest Dominion Resources must capitalize, rather than deduct, from its taxable income as a result of burner improvements in its power plants.

Defense of Marriage Act Held Unconstitutional: The First Circuit Court of Appeals, in (Massachusetts v. HHS, No. 10-2204 (1st Cir. 5/31/12), held that the Defense of Marriage Act, 1 USC §7, is unconstitutional, that provisions in the Act, which deny numerous benefits, including tax benefits, to same-sex couples lawfully married in Massachusetts, impermissibly undercut choices made by same-sex couples and states in deciding who can be married to whom. However, the court stayed enforcement of the decision until the Supreme Court has the opportunity to issue its own ruling on the case, citing the likely appeal of the First Circuit’s holding.

Deduction for Local Lodging Expenses: The IRS issued proposed regulations, REG-137589-07, 77 Fed. Reg. 24657 (4/25/12), that would allow taxpayers to deduct local lodging expenses as ordinary and necessary business expenses in appropriate circumstances. The proposed regulations would not apply Regs. §1.262-1(b)(5) to expenses for local lodging of an employee that an employer provides to the employee or requires the employee to obtain, if: (1) the lodging is provided on a temporary basis; (2) the lodging is necessary for the employee to participate in or be available for a bona fide business meeting or function of the employer; and (3) the expenses are otherwise deductible by the employee, or would be deductible if paid by the employee, under §162(a).

Overstatement of Basis for Extended Statute of Limitations: The U.S. Supreme Court ruled, in (U.S. v. Home Concrete & Supply LLC, No. 11-139 (U.S. 4/25/12), that the extended six-year statute of limitations period in §6501(e) does not apply to overstatement of basis as an overstatement of basis is not an omission from gross income. The Court’s ruling decides a circuit split in favor of the Fourth and Fifth Circuits versus the Seventh, Federal, D.C., and Tenth Circuits, which all held that an overstatement of basis is an omission of gross income triggering the extended six-year statute of limitations.

Reporting of Interest Paid to Foreigners: While reporting of interest to foreigners is controversial enough in its own right, final regulations (T.D. 9584, 77 Fed. Reg. 23391 (4/19/12)) are particularly notable in that the regulations will provide the IRS with information that can be exchanged with foreign authorities under information exchange arrangements to help the IRS under FATCA. The final rules ostensibly have been “simplified,” by requiring reporting only when interest is paid to a resident of a country with which the United States has an information sharing agreement; this in effect requires financial institutions to parse their customer base to identify customers to get reports and customers who don’t need reports.

Draft Forms W-8: The IRS released draft Forms W-8 to comply with new FATCA requirements. Separate versions of Form W-8BEN are proposed for individuals (draft W-8BEN) and entities (draft W-8BEN-E), the latter of which is now six pages long instead of one. The forms can be found in the lower right corner of this URL: http://www.irs.gov/businesses/corporations/article/0,,id=236667,00.html

Inversions: The IRS, in T.D. 9592, 77 Fed. Reg. 34785 (6/12/12), and REG-107889-12, 77 Fed. Reg. 34887 (6/12/12), finalized and proposed regulations governing inversions. The most controversial provision is one that defines a “substantial business” in a foreign country by objective tests looking at whether 25% of assets, payroll and income are earned in a country. Since passing this test excuses a foreign company from the inversion rules, this is an important test.

Program-Related Investments of Private Foundations: The IRS issues proposed rules (REG-144267-11, 77 Fed. Reg. 23429 (4/19/12)) providing guidance to private foundations on program-related investments. The proposed regulations provide a series of new examples illustrating investments that qualify as program-related investments and do not modify existing regulations. Instead, they provide additional examples that illustrate the application of the existing regulations, IRS said. The charitable activities illustrated in the new examples are based on published guidance and on financial structures described in private letter rulings, IRS said. Aside from private foundations, the proposed regulations affect foundation managers participating in the making of program-related investments.

Delay in Basis Reporting of Debt Instruments: The IRS, in Notice 2012-34, 2012-21 I.R.B. 937, in response to concerns about approaching deadlines, states that brokers will have until 2014 to begin basis reporting on debt instruments and options. The change is in response to worries voiced by brokers and other interested parties who complained to the IRS that the proposed effective date of Jan. 1, 2013, did not give them enough time to build and test the systems required to implement the reporting for debt instruments and options. The Energy Improvement and Extension Act of 2008 amended the broker reporting rules in §6045 for certain securities, including debt instruments and options.

Proving IRS Deficiency Notices: The Federal Circuit Court of Appeals, in Welch v. U.S., No. 2011-5090 (Fed. Cir. 5/18/12), lays out a test for determining whether evidence submitted by the IRS is sufficient to demonstrate the mailing of a deficiency notice. “Use of the form prescribed in the Internal Revenue Manual for establishing compliance with the notice of deficiency mailing requirement — PS Form 3877 — is not a prerequisite to the government demonstrating mailing of a notice of deficiency, but some corroborating evidence of both the existence and timely mailing of the notice of deficiency is required,” explained the Federal Circuit

First-Time Homebuyer Credit: The U.S. Tax Court, in a case of first impression (Trugman v. Comr., 138 T.C. No. 22 (5/21/12)), holds that an individual may not claim the First-Time Homebuyer Credit for a principal residence purchased through a Subchapter S corporation. The court examined the term “individual” within the context of §36, and “read the term ‘individual’ in section 36 to exclude S corporations.” The court stated “S corporations are not individuals for purposes of section 36” and the corporations remain freestanding entities “independently recognizable” from their shareholders.

Substantial Risk of Forfeiture: The IRS, in REG-141075-09, 77 Fed. Reg. 31783 (5/30/12), addresses points of confusion surrounding the “substantial risk of forfeiture” provision under §83. The proposed rules would, among other clarifications, provide that a such a risk can be established only through a service condition, or a condition related to the purpose of the transfer. The general concept of the provision is that property (such as stock options) is not to be included in the gross income of a service provider (such as an employee) if there is a risk that the conditions on which the property transfer are based could fail to materialize and the property thus forfeited.

Health FSA Salary Reduction Limits: The IRS, in Notice 2012-40, 2012-26 I.R.B. 1046, stated that the $2,500 limit on salary reduction contributions to health flexible spending arrangements set by a provision of the 2010 federal health care law does not apply for plan years starting before 2013. Notice 2012-40 fleshes out the details of the $2,500 cap on salary reduction contributions to cafeteria plan health FSAs under §125(i). The notice defines the term “taxable year” under §125(i) as the plan year of a cafeteria plan, a clarification that employers sponsoring plans with fiscal years not lining up with the calendar year have been anxiously awaiting.

Fee for Renewing PTIN: The Eleventh Circuit Court of Appeals held, in Brannen v. U.S., No. 11-14138 (11th Cir. 6/7/12), that the Treasury Department has the statutory authority to charge fees for issuing and renewing preparer tax identification numbers.

Portability of Deceased Spousal Unused Exclusion Amount: The IRS issued temporary and proposed regulations (T.D. 9593, 77 Fed. Reg. 36150 (6/18/12); REG-141832-11, 77 Fed. Reg. 36229 (6/18/12)) providing guidance on the estate and gift tax applicable exclusion amount and the applicable requirements for electing portability of a deceased spousal unused exclusion (DSUE) amount to the surviving spouse. The temporary rules also provide guidance on the applicable rules for the surviving spouse’s use of the DSUE amount. The portability rules affect married spouses where the death of the first spouse occurs on or after Jan. 1, 2011.

Please do not hesitate to contact Paul if you have any questions about any of these issues that you may be interested in. Contact Paul by clicking here.

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