Tax Updates

SUMMER NEWSLETTER

2010-06-08T13:25:00.003-04:00

OPPORTUNITY FOR 2010 TAX PLANNING WITH ROTH IRA

You as a taxpayer have a unique opportunity this year to do long-term retirement planning under very favorable conditions. For 2010 only, it is possible to roll over funds from a traditional IRA into a Roth IRA without penalty and to postpone taxation of the rollover until 2011 and 2012. Also, for the first time, there is no income limitation for IRA to Roth rollovers. Prior to 2010, only those persons with adjusted gross income of $100,000 or less could convert to a Roth.

Roth IRAs are different from traditional IRAs because they are more liquid—you can pull money more easily out of a Roth before retirement age without penalty, after you have had the Roth for more than 5 years. Also, earnings on a Roth may never be taxed at all if you do not withdraw the earnings portion until after age 59 ½. With Roths, you have no minimum distribution rules, so you do not have to withdraw funds at age 70 ½ if you do not want to.

Another major difference is that Roth IRAs are funded with after-tax money. You get no deduction for contributions to a Roth. So when you convert a traditional IRA, which has never been taxed, into a Roth IRA, you must pay the income tax on the portion of the account that was funded with pre-tax dollars.

Special 2010 Income Splitting Rule

The traditional IRA rules impose a 10 percent penalty on any unqualified withdrawal before age 59 ½. The special 2010 rule allows you to move funds from your traditional IRA into a Roth IRA without paying the 10% penalty. Even better, you do not have to pay the regular income tax on the rollover in 2010. You can elect to pay ½ in 2011 and ½ in 2012, spreading the income tax hit over two years. You also can make the rollover and then change your mind and undo the rollover anytime up to the 2010 filing date, including extensions of time to file. Therefore, you could wait until as late as October 15, 2011 to make the final decision.

Strategies

You must consider where you will get the money to pay the extra tax if you decide to rollover your IRA into a Roth. Also, you should elect the two-year income split if a one-year rollover would push you into a higher tax bracket. If you already are in a high bracket, you may want to take the entire rollover amount into income in 2010 since it is possible that tax rates may increase for higher income individuals in 2011 when the Bush tax cuts expire. If you expect to be in a lower tax bracket in 2010 because of a job loss or other reduction in income, you may want to take all of the rollover into income in 2010. Again, you must have a source of funds to pay the income taxes. Finally, if you have other losses, such as net operating losses from a business, it may be time to make the switch to a Roth. These losses can help offset the increased income from a Roth conversion.

Act Fast

Time is running out to make these decisions. Please contact me and I will evaluate your situation to help you decide if making the special 2010 Roth IRA conversion is beneficial for you. Below is a list of what can and cannot be rolled over into a Roth IRA.

What Can and Cannot Be Rolled Over Into a Roth IRA

It is important to know what assets can and cannot be rolled over into a Roth IRA. Here’s a run down:

The following items CAN be rolled over into a Roth IRA:

● Funds held in another Roth IRA.

● Funds held in a traditional IRA.

● A Simplified Employee Plan (SEP) or Simple IRA (two years after establishment).

● A rollover distribution from an employer retirement plan.

● An eligible rollover distribution from a plan where the taxpayer is a beneficiary.

The following items CANNOT be rolled over into a Roth IRA:

● Required minimum distributions (RMDs) from any plan, including inherited IRAs.

● Hardship distributions.

● Yearly annuity distributions paid over a taxpayer’s life expectancy or over 10 years or more.

● Deemed distributions resulting from a default on an employer plan loan.

● Dividends on employer securities.

● Corrective distributions of excess contributions made to a plan.

Special Rule for Inherited IRAs

If a taxpayer inherits an IRA from his or her spouse, the taxpayer can elect to treat it as the taxpayer’s own plan and can roll it over into a Roth IRA. If a taxpayer inherits an IRA from anyone besides a spouse, it may not be rolled over into an inherited Roth IRA.

EXTENSION OF POPULAR TAX BREAKS CLOSE TO PASSAGE

The House and Senate are close to resolving their differences on the so-called “Extenders” bills passed by each side over the last few months. The extenders bill contains a one-year extension of popular tax breaks such as the tuition deduction, the research credit, and the new markets credit. Reacting to the Gulf oil leak, Congress has just added to the bill an increase in the excise tax on oil to fund clean-up efforts. The House passed H.R. 4213 in December 2009, while the Senate passed its amended version of the measure in March 2010. Both Houses are working on a combined version, trying to resolve the conflicts in how to pay for the tax breaks contained in the bills. The new bill with the same number, H.R. 4213, has now taken on the title of the “American Jobs and Closing Tax Loopholes Act of 2010.”

Under Congressional rules, the tax breaks in the bill have to be paid for with revenue increases (the “pay-go” rule.) The House wants to raise tax revenues by targeting the foreign operations of U.S. corporations. The House bill also contains a provision to increase taxes on hedge fund and other investment fund managers on appreciation of investments (so-called “carried interests”). Under the bill, these interests would be taxed at higher ordinary income rates rather than the lower capital gains rate of 15%. The Senate previously opposed this provision but negotiations are headed toward a compromise. A group of Senators wants to exempt venture capitalists from the carried interest provision.

S Corporation Shareholders Payroll Tax Increase

Senate negotiators added a provision imposing additional payroll taxes on S Corporation income. The provision would apply payroll taxes to all the service-related income of shareholders of S corporations primarily engaged in service businesses. The provision is targeted at service professionals, such as lawyers and doctors, who route their self-employment income through S Corporations. It would apply to S Corporations whose service business is based on the reputation and skill of 3 or fewer individuals or an S Corporation that is a partner in a professional business.

The S Corporation Association of America has opposed the idea as harmful to small businesses, the backbone of the U.S. economy. In fact, the S Corporation is the most common business form for small businesses. If the bill passes, it will take away what is known as the S Corporation payroll advantage, which allows S Corporation owner-employees to draw a set salary subject to social security and Medicare tax, while taking the remaining profits out of the business subject only to income taxes. The bill also states that service professionals cannot use an LLC or LLP to avoid payroll taxes.

Yearly Extensions Now the Norm

Congress, on a regular basis, extends these tax breaks one year at a time so each year there is a scramble to pass an extension bill. This year, the provisions already expired as of the end of 2009, so now Congress is faced with extending them retroactively to the beginning of 2010. Even if the extension bill is passed within the next month, as is expected, Congress will be faced with the same problem next year. This bill only extends most of the provisions until the end of 2010, when they will expire again. The entire exercise will then have to be repeated next year.

Expiring Tax Provisions to Be Extended

● Tax deduction of $250 per year for teachers who buy their own classroom supplies.

● The deduction for college education expenses. This provision also would disallow the deduction for higher income families who would receive a higher tax benefit from taking one of the education credits.

● The additional standard deduction for State and local property taxes.

● The deduction for state sales tax for taxpayers in states that do not have an income tax;

● The research and development tax credit for businesses;

● The new markets tax credit for businesses;

● 5-year writeoff for most farm equipment;

● Faster depreciation deductions for new construction, and improvements to restaurants and retail stores;

● A tax cut for small businesses that continue to pay employees who have been called to active duty;

● Tax incentives for use of biodiesel fuel, hybrids, and other renewable energy;

● Tax credit for energy-efficient new homes and energy-efficient windows.

● Increased charitable deductions for contributions of food inventory, book inventories, computer equipment, and conservation property;

● Tax-free distributions from IRAs used for charitable purposes;

● Tax incentives for business investment in low-income areas.

● Bonus depreciation and small business expensing for new property purchased by businesses in Federally-declared disaster areas;

● Allowing businesses to carryback to previous tax years losses that are attributable to a Federally-declared disaster;

Revenue Raisers

● Increased payroll taxes on service professionals who route their self-employment income through an S corporation.

● Excise tax increase on oil companies from 8 cents to 34 cents per barrel to increase the funding for the Oil Spill Liability Trust Fund.

● Close foreign “loopholes” including limits on the foreign tax credit given for taxes paid by U.S. companies to other countries.

● Taxing “carried interests” of investment fund managers as ordinary income instead of capital gains.

● Increased taxes on corporate reorganizations, including capital gains taxation of some types of spin-offs of corporate subsidiaries and taxation of dividends received in certain types of business reorganizations.

CELL PHONE TAX RELIEF MOVES THROUGH CONGRESS

Just before the April 15th filing deadline, the House of Representatives passed a bill that would remove the tax on the personal use of employer-provided cell phones. The measure, H.R. 4994, the Taxpayer Assistance Act of 2010, had overwhelming bipartisan support, passing by a vote of 399-9. The bill would relax the burdensome recordkeeping requirements for businesses that provide cell phones to their employees. Under current law, personal use of business phones is taxed to employees. Also, employers can only deduct the phones if they can prove the exact amount of business use with extensive records. The bill would remove the recordkeeping requirements, making it easier to get the deduction for business cell phone use.
Offers in Compromise, Partial Payment Suspension
The bill also contains a number of other taxpayer relief proposals, including an elimination of the partial payments that are required when you submit an offer to compromise your tax liability. Under current law, taxpayers must send in a partial payment with an their request for an offer in compromise (OIC). The partial payment can be as much as 20% of the total tax liability. Since the partial payment has been required, the number of compromise agreements with the IRS has fallen. Eliminating the up-front payment will make it easier for struggling taxpayers to enter into payment plans with the IRS.
Interest on Tax Refunds
The bill also would require the IRS to pay interest on refunds on income tax returns which are filed electronically if the refund is not paid promptly. The IRS has to send the refund within the later of 30 days of the return due date or the date the return is filed. Another new rule would require the IRS to notify taxpayers when it suspects that their identities, or their dependents' identities, have been stolen.
Outlook
The cell phone change has been proposed before, but has not made it through the Senate. In the past, the cell phone fix has been combined with other tax provisions which the Senate objected to. Since this current bill is considered noncontroversial, and is backed by the Obama Administration, this time it may pass. With the widespread use of cell phones by businesses, the passage of this tax relief would be a significant help to small businesses in difficult times.

EMPLOYERS GET 2010 PAYROLL TAX HOLIDAY FOR NEW EMPLOYEES

Despite Congress’s stalemate on many legislative agenda items, both sides of the aisle put aside their differences and quickly passed a jobs bill in mid-March. H.R. 2847, the Hiring Incentives to Restore Employment Act (the “HIRE Act”) was signed into law by the President on March 18, 2010. The bill gives employers a payroll tax holiday during 2010 for hiring unemployed workers.

Specifically, the HIRE Act relieves employers from having to pay the employer’s share of social security taxes on wages paid to new employees between March 19, 2010 and December 31, 2010. The social security tax rate for employers is 6.2% on wages up to $106,800 for 2010. (The new law does not cover the 1.45% Medicare tax.) A special rule allows a portion of payroll taxes already paid by employers in the first quarter of 2010 to be applied as a credit against the employers’ second quarter tax.

Qualified Hires

Employers can only claim the credit for qualified workers. The Act defines “qualified workers” as individuals who meet the following criteria:

● They begin work after February 3, 2010 and before January 1, 2011.

● The new law requires employers to get a statement from each eligible new worker certifying this information: they were unemployed during the 60 days before beginning work or had worked fewer than 40 hours for anyone during the 60 days before being hired. (Note: The IRS has a new form to use for the employee affidavit, which I will provide to you if you want to claim this exemption. You do not have to file this form with your taxes, but you need to keep it on file with other payroll and income tax records.)

● They are not employed to replace another employee unless the previous employee left the job or got fired for cause.

● They are not related to the employer.

Strict Eligibility Requirements: The Congressional Committee that wrote the bill emphasized in its report that the payroll credit will not be allowed if an employer fires an employee to take the credit on someone else they hire. What this means for you as an employer is that the IRS will be keeping close tabs on your hiring and firing practices if you decide to take advantage of the credit.

Employer Must Elect Payroll Credit or Work Opportunity Credit

Under the Act, an employer may not receive the Work Opportunity credit and the payroll credit at the same time. (The Work Opportunity credit allows a credit for employers who hire members of certain targeted groups.) As an employer, you will have to elect which one to take, but you can make this election for each new employee.

Self-Employed, Household Employers Do Not Qualify

The payroll tax holiday is not available for self-employed workers who must pay self-employment taxes, which represent both the employer and employee portion of social security and Medicare taxes. It also is not available for hiring household employees, such as maids or babysitters.

Railroad Retirement Tax

The 2010 HIRE Act includes a railroad retirement tax holiday for employers which is similar to the Social Security tax holiday.

Credit for Retained Workers

The new Act also gives employers an additional credit for employees who stay on the job for a year. The “retention credit” increases an employer’s general business credit by $1000 for each worker the employer keeps on the payroll for at least 52 weeks. A “retained worker” also must receive wages during the last 26 weeks that are least 80 percent of the wages the employer paid the worker during the first 26 weeks. While the general business credit usually can be carried back and carried forward, the employee retention credit may not be carried back to earlier tax years.

Higher Deduction for Business Property

The 2010 HIRE Act increases for one year the amount a taxpayer may deduct for investments in business property. Under the bill, taxpayers may take an immediate deduction instead of depreciation for up to $250,000 of the cost of business property. For taxable years beginning in 2010, these limits were going to be reduced to $125,000, however, the HIRE Act continues the higher limits.

HEALTH CARE TAX PROVISIONS

The 2010 Health Care Act passed by Congress in March is an amazingly complicated piece of legislation. It contains many tax provisions, both in the form of incentives and disincentives for individuals, businesses and insurance companies designed to increase health insurance coverage for U.S. workers. Most parts of the bill are phased in over time or do not take effect at all for several years.

Health Coverage Mandate

It is important to understand the overreaching feature of the law: individuals are required to obtain health insurance coverage for themselves and their dependents after 2013. The law exempts the following persons from this requirement:

● individuals who cannot afford coverage (according to a poverty calculation),
● taxpayers with income below the income tax return filing threshold,
● members of Indian tribes,
● individuals who have short coverage gaps, and
● hardship cases.

It also mandates that businesses with more than 50 workers will have to offer health coverage or pay a $2,000-per-worker penalty if any of their employees have to seek government-subsidized coverage on their own.

To offset the effects of these requirements, the bill offers tax credits for individuals and for businesses to acquire private health insurance. As your tax professional, I have been studying the legislation to determine which provisions will have the most immediate and far-reaching effect on you and my other clients. As part of my initial assessment, here is a description of some of the key elements of the new Act and how such elements may affect you or your business.

I. Tax Credit for Small Businesses Who Offer Health Insurance Coverage

A new tax credit is available to small businesses that offer health insurance coverage to their employees. The credit is available to employers that pay at least half the cost of single coverage. The maximum credit is 35 percent of premiums paid in 2010 or 25 percent of premiums paid by employers that are tax-exempt organizations. In 2014, the credit increases to 50 percent of premiums paid by small businesses and 35 percent of premiums paid by tax-exempt organizations. If your business qualifies for the credit, you can claim it starting with your 2010 income tax return which will be filed in 2011.

The credit is targeted to small businesses and tax-exempt organizations that primarily employ low and moderate income workers. To qualify, a business must have 25 or fewer full-time employees whose wages average $50,000 or less per employee per year. The employer also must provide at least one-half of the employee’s health insurance coverage amount.

Note: Because the eligibility rules are based in part on the number of full time equivalent employees rather than the actual number of employees, businesses that use part-time help may qualify even if they employ more than 25 workers. The maximum credit goes to smaller employers -- those with 10 or fewer full time equivalents -- paying annual average wages of $25,000 or less. The amount of the credit is reduced for employers with more than 10 full-time equivalents and average wages of more than $25,000 and is completely phased out for employers that have more than 25 full-time equivalents or pay average wages of more than $50,000 per year.

Example: For the 2010 tax year, an employer has the equivalent of 9 full-time employees with average annual wages of $23,000 per worker. The employer pays $72,000 in health care premiums for those employees (which must not exceed the average premium for the small group market in the employer's state). This employer’s credit for 2010 would equal $25,200 or 35% x $72,000 in premiums.

Ineligible Employees

Self-employed persons, including partners and sole proprietors, 2% shareholders of an S corporation, and 5% owners of the employer’s company are not treated as employees for purposes of the credit. Unfortunately, sole proprietorships—unincorporated businesses owned by one person or a married couple, cannot take the credit for the owner and the owner’s family members who work in the business, although some commentators have taken the position that a spouse-employee who otherwise qualifies would be eligible for the credit. I believe the IRS will have to put out more guidance on this issue, as it is unclear from the legislative language and the IRS news releases.

Coordination with Health Insurance Deduction

Employers now are eligible for a deduction for health insurance premiums paid for their employees. Under the new law, the employer will be able to continue to deduct health insurance expenses which exceed the expenses for which the credit was claimed.

Criticism of its Complexity

A number of Republicans in Congress and several small business groups, such as the National Federation of Independent Business, have criticized the credit as being too complicated. The full time equivalency rules and the average wage calculations are making it difficult for businesses to determine whether they qualify. The credit also drops off sharply once a company gets above 10 workers and $25,000 in average annual wages, so slightly larger business actually may receive a very limited credit. Finally, the credit is not refundable. It is limited to an employer’s federal income tax liability. Therefore, if a small business is losing money due to the economy, it might not be able to use the credit even if the business otherwise qualifies. Congress may have to make some adjustments in the credit to answer these concerns. In the meantime, the IRS has undertaken a media campaign to acquaint small businesses with the existence of this credit, as explained below.

Your Eligibility for the Credit

The IRS has mailed postcards to more than four million small businesses and tax-exempt organizations to make them aware of the new health care tax credit, so you may hear from the tax collector on this issue. In addition, I am studying the IRS and Congressional information on the credit, and I will be prepared to evaluate your situation if you incur health insurance costs for your employees, and you believe you are within the employee and wage limits.

II. Tax Credit for Individuals to Buy Health Insurance

The 2010 Health Care Act provides a new refundable tax credit to qualifying taxpayers who buy their own health insurance through one of the new Health Care Exchanges to be put in place after 2013. This new credit is called the “premium assistance credit.” The credit will be refundable—you can get it even if you have no tax liability—and will be payable in advance directly to the health insurance provider

The problem with this credit is that most taxpayers cannot qualify for it unless they have relatively low income. To qualify, a taxpayer must have household income of at least 100% but not more than 400% of the federal poverty line and must not be eligible for Medicaid, employer-sponsored insurance, or other acceptable coverage. The current federal poverty line for a family of four is $22,050 (slightly higher for Alaska and Hawaii).

Amount of the Credit

The credit will be based on a sliding scale for individuals and families with household incomes between 100% and 400% of the Federal Poverty Line. The Secretary of Health and Human Services will determine the credit amount based on the percentage of a taxpayer’s income needed to pay health insurance premiums. As the availability of the credit gets closer, the government will be releasing more information to assist taxpayers and their representatives in calculating the available credit.

III. Health Benefits Coverage for Adult Children

If you have adult children who need to participate in a group health insurance plan, you now may be able to cover them under your employer’s plan. Health insurance coverage for an employee's children under 27 years of age is tax-free to the employee, effective March 30, 2010. The Health Care Act requires group health plans and health insurance issuers that now provide dependent coverage of children to continue to make coverage available for an adult child up until age 26.

If you participate in an employer cafeteria plan, your employer can allow you to immediately make pre-tax salary contributions to provide coverage for children under age 27. (Cafeteria plans allow employees to choose from a menu of tax-free fringe benefit options.) Note: There is no requirement for a health insurer to provide coverage for anyone, including dependents, but if the employer offers a plan for dependent children, the coverage must continue until the child turns 26.

Employees who have children who will not have reached age 27 by the end of the year are eligible for a tax exclusion of the amount the employer pays for the adult child’s coverage. This exclusion is available from March 30, 2010 forward, if the child is already covered under the plan or is added to the plan at any time during 2010. Eligible children include a son, daughter, stepchild, adopted child or foster child. Also, self-employed persons may take a deduction for the health insurance costs of their adult children up to age 27.

IV. Excise Tax on High-Value Health Plans
This provision is not a tax on individuals, but is a tax on health insurers who provide high-cost health plans (called “Cadillac plans” in the media). There is so much press on this issue, that I have included a basic description. The tax will be 40% of the cost of a health plan which exceeds $27,500 for a family and $10,200 for an individual. It takes effect in 2018.

V. Increased Businesses Reporting Provisions

To help pay for the Health Care Act, a non-health-related tax reporting provision was included in the final legislation requiring businesses to report payments of $600 or more to other businesses for property or services. With the ink barely dry on the new Act, a House Republican joined by the National Federation of Independent Business (NFIB) is calling for repeal of business-to-business reporting provision. The provision, which is scheduled to take effect in 2012, is estimated to raise $17.1 billion.

Given the large revenue number associated with this provision, it is unlikely that the opponents of the reporting requirement will have much success in the short term in getting it repealed. However, this change could have a very broad-reaching effect on small businesses across the country. Under the provision, any business that pays another business more than $600 a year in gross proceeds for goods or services must file a 1099 Form with the IRS for the payment. Reacting to recent criticism, the IRS Commissioner, Douglas Schulman, has assured businesses that they will not have to report credit or debit card payments because these transactions already will be reported to the IRS under new rules for credit card processors. Still, businesses will have to report all other payments over $600 made to another business.

Outlook

As more companies become aware of the business-to-business reporting provision, the opposition may grow and force Congress to retreat by raising the threshold or otherwise exempting smaller companies. The paperwork burden for small businesses IRS will relax this rule for smaller companies before it takes effect in 2012.

VI. Increased Medicare Tax on Individuals and Investment Income

Another revenue raiser in the Health Care Act is an increased Medicare tax on higher income individuals of .09% and a Medicare tax of 3.8% on the net investment income of higher-income taxpayers. The Act increases the employee portion of the Medicare Hospital Insurance Tax by an additional .09% on wages received over the threshold amount of $250,000 for a joint return or surviving spouse, $125,000 for a married individual filing a separate return, and $200,000 for all other taxpayers. This additional tax also applies to the Medicare portion of self-employment taxes.

The Medicare tax on investment income is a significant change from current law. Under current law, the Medicare tax is only imposed on wage or compensation income. For the first time under this bill, the Medicare tax will be imposed on investment income—which is income from interest, dividends, annuities, royalties, rents, and capital gains. The tax begins in 2013 and is imposed on net investment income if a taxpayer’s income exceeds the threshold amount of $250,000 in adjusted gross income for a joint return or surviving spouse, $125,000 for a married individual filing a separate return, and $200,000 for all other taxpayers.

NEW PROCEDURES FOR TAXPAYERS’ CHANGE OF ADDRESS

The IRS recently has updated its rules on how taxpayers must change their address in IRS records. The new procedures are effective June 1, 2010. The IRS uses the taxpayer’s address on the most recently filed tax return for all notices, correspondence and refunds, which are required to go to the taxpayer’s “last known address.” Note: The designation of a taxpayer’s “last known address” is important because IRS correspondence to a taxpayer's "last known address" is legally effective even if the taxpayer never receives it.

For this reason, it is important that the IRS have your most up-to-date address on file. The IRS will automatically update your address if you provide an official change of address to the U.S. Postal Service. Otherwise, any change of address with the IRS must be in a very specific form. If your address changes, please notify me promptly, especially if you expect any communications from the IRS. I will promptly make the necessary changes in your address of record with the IRS.

STORM VICTIMS IN MANY STATES QUALIFY FOR IRS DISASTER RELIEF

The IRS can barely keep up with all of the areas being designated federal disaster areas due to recent storms, floods, and other natural disasters. Taxpayers in the following states have recently been given tax relief by the IRS: Alabama, Connecticut, Kentucky, Massachusetts, Mississippi, North Dakota, New Jersey, Oklahoma, Rhode Island, Tennessee, and West Virginia. The relief comes in the form of relaxed filing and payment deadlines for taxpayers who live in disaster areas or who operate a business in a disaster zone. The IRS’s computer systems automatically identify taxpayers located in the covered disaster area and apply automatic filing and payment relief. If you live in or have a business in an area located outside of the immediate disaster area, you may still be eligible for tax relief. I will be glad to contact the IRS on your behalf to see if you qualify.

PAYROLL AUDIT PROGRAM LAUNCHED BY IRS

The IRS has begun an extensive payroll audit program targeting fringe benefits, worker classification and other payroll tax issues. The audits are to begin in June 2010 and will cover 2008 payroll returns. The IRS suspects that $15 billion in unpaid taxes is due to employment and payroll related issues. Beginning in March, the IRS sent out notices to 2,000 companies notifying them of the audits. Next year, 2,000 more payroll companies will be chosen for audits and another 2,000 in year three. The bulk of these audits will be of small businesses and self-employed taxpayers. Those taxpayers selected for audit will be audited for all four quarters of 2008.

The IRS expects to complete the audits within 6-8 months although some may take longer. The IRS says the audits were selected at random, and it did not target any particular industry. The primary focus of the audits will be on determining if some 30 types of fringe benefits are being handled properly. The second main focus will be on determining whether employers are properly classifying their workers as employees vs. independent contractors. The IRS also will be looking at the tip reporting of service employees such as restaurant workers. Finally, the IRS will be scrutinizing the compensation of company officers and managers.

Observation: The results of the payroll audits will affect every business because the IRS will use the information it uncovers in these audits to develop payroll audit strategies for all businesses.

TWO COURT CASES EXPOSE INCOME REPORTING MYTHS

Two recent court cases show how taxpayers can get caught up in filing and income myths if they ignore tax rules or they do not seek advice on their income tax liability.

Keep Adequate Records and Save Receipts for Ebay Auctions

In the first case, Orellana v. Commissioner, an IRS Revenue Agent was trading on Ebay, with approximately 1200 transactions over a two-year period. She did not include any income or expenses from this activity on her Federal tax filing. The IRS determined that she had unreported income in excess of $32,000. The taxpayer argued that many of the items sold were her own personal property that she paid considerably more for than the amount she received when the items were sold. She explained that she liked designer clothes for which she would pay over $350 but might get only $50 when sold. However, she never kept her original purchase receipts. The Court ruled in the IRS’s favor, noting that the burden was on the taxpayer to produce the receipts and prove that the original cost of the items exceeded the amount of income from the sales. The Court had little sympathy for the taxpayer’s arguments, given that she was an IRS Officer. The lesson in this case is that the taxpayer did not keep adequate records; consequently, she lost the case.

Held Check Included in Income

In the second case, Morgan v. Commissioner, the taxpayer held a check he received for work performed as a subcontractor for a consulting company. He received it in December 2006 but did not cash it until 2007 and did not report the $16,989 on his 2006 income tax return. The IRS issued a notice of deficiency. The taxpayer argued that he had an agreement with the owner of the company that paid him that he would not cash the check until 2007. However, the company reported the full amount to the IRS on a Form 1099-MISC in 2006.

It has long been settled that when a taxpayer is using a cash basis for accounting, a check received is considered income upon receipt because it is considered the equivalent of cash. The taxpayer did not present any evidence that there had been an agreement not to cash the check other than his own testimony. Therefore, the holding of the check did not shift the income into 2007. It should have been reported in 2006, which the check was received. The Court found for the IRS.

SPECIAL RULES FOR FARM INCOME AND DEDUCTIONS
If you are in the farming business, there are a number of special tax provisions which apply to you. Here is a list of farm tax issues which I can help you with.

1. Crop Insurance Proceeds. Crop insurance proceeds are income and must be reported on a farmer’s return. Farmers receive these payments as a result of crop damage.

2. Sales Caused by Weather-Related Conditions. If a farmer sells more livestock and poultry than he normally would in a year because of weather-related conditions, the farmer may be able to elect to postpone reporting the gain until the next year.

3. Farm Income Averaging. Farmers can average their current year's farm income by allocating it over the three prior years.

4. Deductible Farm Expenses. The ordinary and necessary costs of operating a farm for profit are deductible business expenses. The expenses must be of the types that are common and accepted in the farming business.

5. Employees and Hired Help. Farmers who employ farm workers can deduct their wages. This includes full-time employees as well as part-time workers.

6. Items Purchased for Resale. Farmers may be able to deduct the cost of livestock and other items purchased for resale in the year of sale. This cost includes freight charges for transporting the livestock to the farm.

7. Net Operating Losses. Farmers may generate a net operating loss that is usable in other tax years if their deductible expenses from operating a farm are more than their income for the year. These net operating losses may be carried over to other years and deducted. If the loss is carried back, the farmer may be entitled to a refund of tax paid in past years.

8. Repayment of loans. Farmers can deduct the interest on loans used for their farming business.

9. Fuel and Road Use. Farmers are eligible for a special credit or refund of federal excise taxes on fuel used on a farm for farming purposes. The IRS carefully scrutinizes the use of the fuel credit because of problems with ineligible taxpayers trying to claim it. Therefore, it is important that you keep records of your fuel use so you can prove the fuel was used for the farming business.

FILING PENALTIES REMINDER

If you do not file on time, do not pay on time, or pay too little, you could face a confusing array of penalties. Here’s a list of the most common penalties taxpayers may face for not complying with tax filing requirements. You can avoid these penalties by working with me to file your taxes in a timely and complete manner.

PENALTIES
1. If you do not pay your tax by the due date of your tax return, you could face a failure-to-pay penalty.

2. The failure-to-file penalty is generally more than the failure-to-pay penalty. So if you cannot pay all the taxes you owe, it is better to simply file your tax return and then explore other payment options.

3. The penalty for filing late is usually 5 percent of the unpaid taxes for each month or part of a month that a return is late. This penalty will not exceed 25 percent of your unpaid taxes.

4. If your return is filed more than 60 days after the due date or the extended due date, the minimum penalty is the smaller of $135 or 100 percent of the unpaid tax.

5. You will have to pay a failure-to-pay penalty of ½ of 1 percent of your unpaid taxes for each month or part of a month after the due date that the taxes are not paid. This penalty can be as much as 25 percent of your unpaid taxes.

6. If you filed an extension and you paid at least 90 percent of your actual tax liability by the due date, you will not be faced with a failure-to-pay penalty if the remaining balance is paid by the extended due date.

7. If both the failure-to-file penalty and the failure-to-pay penalty apply in any month, the 5 percent failure-to-file penalty is reduced by the failure-to-pay penalty. However, if you file your return more than 60 days after the due date or the extended due date, the minimum penalty is the smaller of $135 or 100% of the unpaid tax.

8. You will not have to pay a failure-to-file or failure-to-pay penalty if you can show that you failed to file or pay on time because of reasonable cause and not because of willful neglect. Reasonable cause includes such things as getting incorrect information from the IRS or having a death or serious illness in your family. You also may qualify for payment extensions due to financial hardship.

NEW MORTAGE DEBT FORGIVENESS RULES
Under a special rule enacted by Congress in 2007, you may be able to exclude income resulting from the forgiveness of a mortgage debt during tax years 2007 through 2012. Normally, if your mortgage company forgives any amount of your debt, the amount forgiven would result in taxable income to you. However, up until 2012, taxpayers can exclude up to $2 million of debt forgiven on their principal residence. The limit is $1 million for a married person filing a separate return.
The rule applies both to debt reduced through mortgage restructuring, as well as debt forgiven in a foreclosure. To qualify, the debt must have been used to buy, build or substantially improve the taxpayer’s principal residence and the loan has to be secured by the residence. Refinanced debt used for the purpose of substantially improving the taxpayer’s principal residence also qualifies for the exclusion. Refinanced debt used for other purposes, such as to pay off credit cards, does not qualify for the exclusion.
When a debt is forgiven, lenders send taxpayers a year-end statement, Form 1099-C, Cancellation of Debt, showing the amount of debt forgiven and the fair market value of any property foreclosed. If you have lost your home or sold your home for less than its value and you receive one of these Forms, please contact me immediately so I can help you take advantage of this special taxpayer relief provision.

IRS BOOSTS OVERSIGHT OF TAX RETURN PREPARERS

You may have heard recently that the IRS has undertaken a major initiative to regulate all tax return preparers. Not only is the IRS conducting field visits to tax return businesses, but they also are sending out agents posing as taxpayers. The undercover visits were designed to catch “unscrupulous preparers” from filing inaccurate returns.

The IRS also is requiring that all tax preparers register with the IRS in a central database and put their registration number on all tax returns or claims for refunds that they prepare. Tax preparers who prepare returns for a fee must sign the tax return and must put their number on the return. One problem is that the registration requirement will not catch preparers who do not sign the returns. Only taxpayers can stop preparers from preparing returns and then giving them to taxpayers to file without the preparer’s signature.

What This Means for You

As your tax professional, I want to assure you that I support the efforts to improve the competency of the profession. I already sign all returns, and I have an IRS registration number. As part of a professional organization, the National Society of Tax Professionals, I abide by a rigorous Code of Ethics, and I regularly take professional continuing education courses to keep up with all tax developments so I can serve you to the best of my ability.

Thank You for Your Business

As your tax professional, I assure you that I will be keeping a watchful eye on IRS actions which may affect your business and your tax filings. I will be happy to address any concerns and answer questions you have about any of the issues covered in this newsletter. Thank you for the opportunity and privilege of allowing me to serve as your tax professional.

Best regards,

Lisa M. Stiffler, EA

Fall 2009 Newsletter

2009-11-18T13:49:00.003-05:00

Tax News

Fall 2009 Tax Client Newsletter

With the end of the Congressional session nearing, tax legislation is starting to take shape. Members of Congress are notorious procrastinators, so most legislation is passed in the final weeks before the New Year. Congress surprised us this year by passing a bill in early November with several significant tax changes, including an extension of the popular homebuyers’ tax credit and expanded loss deductions for businesses. The health care legislation also has significant tax provisions, including a proposed surtax on high-income earners with over $500,000 in income in the House bill and an excise tax on health insurers in the Senate bill.

While the IRS usually does not “push” tax breaks, it has undertaken a number of public relations campaigns to remind taxpayers to take advantage of stimulus provisions before they expire. These provisions include the deduction for sales taxes on new car purchases, energy efficiency improvement credits, and the increased tax credit for higher education expenses, which are discussed in more detail below.

The somewhat Draconian IRS rules for deducting business use of cell phones are under review by the IRS and by Congress, and relief appears to be on the way. The problem is that the record keeping required to divide cell phone use between personal calls and business calls is out of proportion with the amount of the deduction for taxpayers and the cost of the deduction to the IRS.

IRS inflation adjustments are down, which will leave many tax benefits at last year’s level. Another bit of bad news is that the Obama Administration is considering a program to allow the IRS to prepare tax returns for some taxpayers. As your tax professional, I find this idea alarming because of the inherent conflict of interest between the tax collector and the taxpayer. Read below for a news story on this issue and other significant tax developments in the second half of 2009.

CONGRESSIONAL UPDATE

NEW HOMEBUYERS CREDIT LAW PASSED WITH UNEMPLOYMENT BENEFIT EXTENSION

On November 6, President Obama signed into law H.R. 3548, the “Worker, Homeownership, and Business Assistance Act of 2009.” The major relief provisions are designed to further prop up the U.S. housing market and address unemployment and business losses. These tax breaks are paid for by an increase in the required estimated tax payments by corporations and by higher penalties for partnerships and S Corporations who fail to file tax returns. The Act also extends the surtax on the federal unemployment tax (FUTA) to help pay for an extension of unemployment benefits.

Homebuyers Credit Expanded

The legislation extends the $8,000 first-time homebuyer credit through April 30, 2010, allowing homebuyers under a binding contract an additional 60 days to close after that date. (The credit was set to expire on December 1, 2009.) If homebuyers enter into a contract to buy a home before May 1, 2010, then they have until July 1, 2010 to close on the purchase and still claim the credit.

A new credit to allow howeowners to step up to a larger residence was added by the legislation. A $6500 credit will now be available to new buyers who have lived in their current residence for at least five consecutive years during the eight-year period before the purchase of the new residence. (These credits are equal to 10% of the purchase price of the home up to either the $8000 or the $6500 limit.)

The Act also makes these credits available to higher-income taxpayers. Previously, the credit would phase out for single taxpayers with between $75,000 and $95,000 in income and married taxpayers with between $150,000 and $170,000 in income. The new law increases the income limits to between $125,000 and $145,000 for single taxpayers and between $225,000 and $245,000 for married taxpayers filing a joint return. As under the previous law, taxpayers will have to repay the credit if they do not live in the house for at least 36 months.

For the first time, there will be a dollar cap on qualifying residences. The credit is available only for principal residences with a purchase price of $800,000 or less. If the new home costs more than this amount, the entire credit is lost. The Act also contains anti-fraud provisions to ensure that ineligible taxpayers do not claim the credit. Those measures include:

1. The taxpayer or the taxpayer’s spouse must be 18 years old to claim the credit.

2. Taxpayers cannot claim the credit if they are claimed as a dependent on someone else’s tax return.

3. The taxpayer must attach a copy of the settlement statement to the return on which the credit is claimed.

4. Purchases do not qualify if the taxpayer buys the home from a related person.

Service members have more liberalized rules for claiming the homebuyers credit. They are not subject to the same recapture rules, and they get additional time to qualify for the credit if they serve outside of the United States for at least 90 days in 2009 or 2010. Also, military personnel who receive payments under the Defense Housing Assistance Program (HAP) to assist them in selling a home that has declined in value do not have to report the payments as income.

Despite the fact that this credit is estimated to cost $10.8 billion over 10 years, Congress was persuaded by statistics from the National Association of Realtors who reported in October that existing home sales rose 9.2 percent in September compared with sales in the same month in 2008 due to the homebuyer credit.

Extended Period to Take Business Losses

Under the tax law, businesses who have a loss for a particular tax year because their gross income was less than their business deductions can use the loss in another tax year. These so-called “net operating losses” (NOLs) can be carried back two years or carried forward for 20 years. The American Recovery and Reinvestment Act passed last February allowed small businesses to carry losses from 2008 or 2009 back up to five years if they had less than $15 million in annual gross receipts. The new Act allows all businesses (except bailed-out banks) to use NOLs from 2008 or 2009 to offset profits from five previous years. In many cases, this rule will result in tax refunds for struggling businesses.

Unemployment Benefits and FUTA Surtax Extended

The new Act extends unemployment insurance benefits to out-of-work Americans in all 50 states by an additional 14 weeks. The legislation also extends benefits to jobless Americans for six additional weeks in states with unemployment levels over eight and a half percent. To pay for this extension, Congress has extended through June 30, 2011, the special surtax on employers who pay federal unemployment compensation taxes (FUTA). The permanent rate is 6%, but a temporary 0.2% surtax was added in the February stimulus law. The new Act extends this 0.2% surtax through the first half of 2011, making the FUTA rate on employers 6.2% for this time period.

Penalties on Partnerships and S Corporations

One of the revenue raisers in the Act increases the penalties for failure to file a partnership return or an S corporation return. For taxable years beginning after 2010, the base penalty will be increased by $106 (from $89 to $195). This provision is estimated to raise $1.2 billion over 10 years.

Increased Estimated Taxes on Corporations

Another revenue raiser in the bill increases the amount of required estimated taxes for large corporations with assets over $1 billion. The tax law requires that corporations make quarterly estimated tax payments of their income tax liability. This bill increases the amount of those payments by 33%.

PROPOSALS WOULD EASE RULES FOR OFFERS IN COMPROMISE

Members of the tax-writing committee in the House of Representatives have introduced a bill to relieve taxpayers from making partial payments with their applications for an Offer in Compromise (OIC). This bill mirrors a proposal by President Obama, and so it may have a good chance of passing Congress in the next year. The bill is designed to help taxpayers who want to enter into payment agreements with the IRS, but do not have the required down payment available because they have recently lost jobs or are experiencing financial difficulties.

Under current law, a taxpayer offering to settle a tax liability must make a partial payment when submitting an offer in compromise proposal to the IRS. This partial payment can be as much as 20% of the offer amount. If the OIC application is turned down, the taxpayer's down payment is not refunded. This down payment requirement was passed into law in 2006. The National Taxpayer Advocate, Nina Olson, has reported that the number of OICs received by the IRS fell by 21 percent from Fiscal Year 2006 to Fiscal Year 2007. She attributed this decline to the down payment requirement, and she has testified before Congress that the IRS would actually bring in more money if the partial payment rules were suspended.

With the Administration, powerful Members of Congress, and the National Taxpayer Advocate all backing this change, it is likely to get some serious attention in Congress, but probably not until next year. Congress is focused on the health care legislation now and until that is out of the way, other tax reforms will have to wait.

HEALTH CARE TAX PROVISIONS

All of us are bombarded daily with information on health care reform, but usually without mention of the tax provisions in the legislation. The following is an outline of the major tax changes that may make it into any final legislation, including new taxes and penalties.

House Bill Taxes High-Income Earners

Under the House bill, which passed the House on November 7, 2009, a 5.4% income surtax would be paid by individuals earning more than $500,000 and married taxpayers filing joint returns who make more than $1 million per year. This surtax would be in addition to the regular 35% highest marginal income tax rate. This proposal is being criticized because the income thresholds would not be indexed for inflation.

Mandatory Coverage

Employers would be subject to new requirements that they provide health insurance to their employees. If they do not, they would be subject to a payroll tax to help fund their employees’ health insurance. The new tax would be equal to 8% of their payroll earmarked to help cover expenses of employees who seek coverage through a new health insurance exchange. Small businesses with annual payrolls below $500,000 would be exempt from coverage requirements, including the 8% payroll tax. Small businesses with 10 or fewer employees would be eligible for a tax credit for providing health care coverage.

All Americans except those below the income tax filing threshold would be required to have health insurance coverage. If they do not, they will have to pay an additional tax. The bill also limits contributions to health flexible spending arrangements to $2,500, and imposes a 2.5% excise tax on medical devices.

Senate Plan Taxes High-Priced Health Plans

The Senate has been working on its own bill, S. 1796, the “America's Healthy Future Act of 2009.” It would provide a “health care affordability tax credit” to small businesses and working families to enable them to purchase insurance through new insurance pools called “exchanges.” The Senate has been cool to the idea of imposing a surtax on high-income earners or any other increased taxes on individuals. Instead, the Senate bill would pay for the new health insurance system by imposing an excise tax on health insurers who offer high-priced “Cadillac” plans. The tax would be 40% if an employer pays more than $8,000 in premiums for individuals and more than $21,000 for families. It would be effective for tax years beginning after 2012. Retired persons and high-risk professions, such as firefighters and construction workers, would be allowed a higher amount of employer health coverage without their health plans being subject to the tax.

Small Business Credit

The small business credit would be equal to 50 percent of the employer’s contribution to health insurance for businesses with 10 or fewer employees. The credit would phase out for businesses with over 10 employees and an average wage for those employees over $20,000. It would be unavailable for businesses with more than 25 employees and $40,000 in average wages per employee.

Penalties and Deduction Limits

The bill captures more revenue by taxing individuals who go without health insurance coverage for three months and increasing the penalty from 10 to 20 percent for early withdrawals from health savings accounts. It disallows the use of health flexible spending plans and health savings accounts to pay for over-the-counter medicine. Like the House bill, contributions to health flexible spending accounts would be capped at $2,500.

Deductions for medical expenses would be even more difficult to take than they are now. Currently, you can only deduct medical expenses on your tax return if your expenses for the year exceed 7.5% of your adjusted gross income (AGI). The bill would raise this floor to 10%. So, for example, if your adjusted gross income was $100,000, you could only deduct medical expenses which exceed $10,000 for the tax year.

2012 Effective Date

Most provisions in the bills will not take effect until 2012, so we will all have time to study them and adjust our insurance plans and business practices. You can be assured that I will be following the health care legislation closely and will be prepared to get a jump-start on answering your questions.

IRS UPDATE

SALES TAXES ON CARS DEDUCTIBLE FOR 2009

The “cash for clunkers” program may be history, but you can still get a special deduction from the IRS if you purchased a new car before the end of the year. A provision in the American Recovery & Reinvestment Act of 2009 (ARRA) allows a deduction for state and local sales and excise taxes imposed on a car purchase. The deduction is limited to the sales and excise taxes and similar fees paid on up to $49,500 of the purchase price of a new vehicle. You can take this deduction even if you do not itemize your deductions. However, it is subject to income limits, so you have to make under $125,000 as an individual, or $250,000 if you are married filing jointly to claim the full tax benefit. With 2010 models arriving in dealer showrooms, there is still time to get a new car for less.

INFLATION ADJUSTMENTS LOW FOR 2010

Inflation is a problem except when it comes to the inflation-indexing of certain tax provisions. More than three dozen tax benefits are subject to inflation adjustments. Every year, the IRS increases the value of the personal exemption, the standard deduction, tax brackets, and other tax benchmarks to keep up with the inflation rate. That is the good news. The bad news is that inflation has been so low that next year’s inflation adjustments are negligible. The returns for tax year 2010 that we prepare for you in early 2011 will reflect a slightly increased standard deduction but only for those taxpayers filing as head of household. The new amount is $8,400, raised slightly from $8,350. Almost all other numbers stay the same. Key provisions affecting your 2010 returns follow:

The value of each personal and dependency exemption available to most taxpayers is $3,650, unchanged from 2009.

The new standard deduction for heads of household is $8,400, up from $8,350 in 2009. For other taxpayers, the standard deduction remains unchanged at $11,400 for married couples filing a joint return and $5,700 for singles and married individuals filing separately. Nearly two out of three taxpayers take the standard deduction rather than itemizing deductions, such as mortgage interest, charitable contributions, and state and local taxes.

Various tax bracket thresholds will see minor adjustments. For example, for a married couple filing a joint return, the taxable income threshold separating the 15 percent bracket from the 25 percent bracket is $68,000, up from $67,900 in 2009.

The annual gift tax exclusion remains unchanged at $13,000.

Social Security and Nanny Tax Wage Bases Remain Unchanged

The Social Security Administration (SSA) has announced that the wage base for computing the Social Security tax in 2010 will remain at $106,800. This means that once you have reached this amount of income for the year, you will not have to pay social security taxes on additional amounts of income for the year.

The SSA also has announced that the “Nanny tax” threshold will remain at $1,700 for 2010. If you pay a domestic employee in your private home less than $1,700 per year, you will not have to withhold and pay social security taxes on the employee.

IRS CONTINUES TO PUSH RECOVERY ACT BENEFITS

Although the IRS’s official position is that it does not advocate for tax benefits, its press releases recently have focused on reminding taxpayers to take advantage of 2009 tax breaks available under the provisions of the American Recovery and Reinvestment Act (ARRA). These benefits include tax incentives for those investing in energy-efficient property and for students with higher education expenses. An explanation of the first-time homebuyers’ credit appears earlier in this issue. Other Recovery Act incentives are briefly described below.

Energy-Efficient Home Improvements

The Recovery Act allows a credit for 30 percent of the cost of improvements for homeowners who make energy-efficient improvements to existing homes. Qualifying improvements include the addition of insulation, energy-efficient exterior windows and energy-efficient heating and air conditioning systems. The maximum credit is $1,500 for improvements made in 2009 and 2010. Qualifying for this credit can be tricky, but most reputable energy contractors have information on which of their products are covered. For example, you cannot just buy an air conditioner which meets certain energy efficiency standards. Your entire heating and cooling system must meet the standards. Here is a summary of items qualifying for the credit:

For 2009 and 2010, the following items are eligible for the credit:

● Windows and Doors

● Insulation

● Roofs (Metal and Asphalt)

● HVAC

● Water Heaters (non-solar)

● Biomass Stoves

Residential Energy Efficient Property Credit

If you are a homeowner who is thinking of going green, you should also consider a second tax credit designed to spur investment in alternative energy equipment. The residential energy efficient property credit equals 30 percent of what you spend on property such as solar electric systems, solar hot water heaters, geothermal heat pumps, wind turbines, and fuel cell property. Generally, labor costs are included when calculating this credit. Also, no cap exists on the amount of credit available except in the case of fuel cell property. Not all energy-efficient improvements qualify for these tax credits. For that reason, you should check the manufacturer's tax credit certification statement before purchasing or installing any of these improvements. The certification statement can usually be found on the manufacturer's website or with the product packaging. Normally, a homeowner can rely on this certification. The IRS cautions that the manufacturer's certification is different from the Department of Energy's Energy Star label, and not all Energy Star labeled products qualify for the tax credits.

Through 2016, the following items are eligible for this credit:

● Geothermal Heat Pumps

● Solar Panels

● Solar Water Heaters

● Small Wind Energy Systems

● Fuel Cells

Note that homebuilders and those taxpayers with commercial buildings have other tax credits available to them for energy efficiency improvements.

Tax Credit for First Four Years of College

The American Opportunity Credit is allowed for the cost of the first four years of college. The new credit modifies the existing Hope credit for tax years 2009 and 2010, making it refundable and available to more taxpayers, including those with higher incomes. Tuition, related fees, books and other required course materials all qualify now. The maximum annual credit is $2,500 per student.

Computer Technology Purchases Allowed for 529 Plans

For 2009 and 2010, computer equipment and internet access can be paid by a qualified tuition program (QTP), commonly referred to as a 529 plan. Software designed for sports, games or hobbies does not qualify unless it is predominantly educational in nature.

GOVERNMENT PAYMENTS TO AT-RISK HOMEOWNERS ARE EXCLUDABLE

Under a new program designed to prevent foreclosures, the U.S. government offers incentive payments to homeowners who make their mortgage payments on time. The IRS has ruled that these payments, made under the Home Affordable Modification Program (HAMP), do not have to be reported as income.

Under HAMP, homeowners who make timely payments on their modified loans are eligible to have incentive payments made on their behalf to lenders/investors. Each month that a homeowner makes a mortgage payment on time, the homeowner accrues an amount toward a Pay-for-Performance Success Payment. The government then makes payments of the accrued amounts annually to the mortgage holder to reduce the principal balance on the homeowner's mortgage loan. The IRS has determined that Congress did not want these payments to be taxable, so they will be excluded from a taxpayer’s income.

ROTH IRA ROLLOVER RESTRICTIONS LIFTED IN 2010

In 2008, taxpayers were for the first time allowed to roll over amounts in employer plans, such as 401(k)s, into Roth IRAs. Before then, taxpayers had to move the funds to a traditional IRA first, then to a Roth IRA. In addition, until the end of 2009, there is an income limit on Roth rollovers. Taxpayers can only do Roth rollovers if they have adjusted gross income that does not exceed $100,000. In 2010, this income limitation is abolished and taxpayers will be able to roll over amounts from an employer plan or a traditional IRA into a Roth IRA without limit.

When you roll over fund into a Roth IRA, you usually have to pay income taxes on those amounts. If you do Roth rollovers in 2010, you will be able to take rolled over amounts into income over two tax years, 2011 and 2012. Allowing you to split the income over two years will reduce the tax rate you will have to pay on the rollover amounts. These law changes are very favorable to taxpayers and allow you great flexibility in reinvesting your retirement funds, but the rules are complex. Please contact me if you want to discuss your options.

IRS, CONGRESS PROPOSE CHANGES IN CELL PHONE TAXATION

Confronting the realities of employee cell phone usage, the IRS has proposed new, simplified approaches to taxing employees’ personal use of business cell phones. Meanwhile in Congress, members of both the House and Senate tax committees have introduced legislation to ease the rules on proving the amount of business use. Existing law requires burdensome record keeping by businesses to claim deductions for cell phones. Now, taxpayers can deduct business expenses associated with the use of cellular telephones only if they maintain detailed logs of all employee calls, text messages, and emails, including the date and amount of each use in a tax year. The logs must identify who was called and the business purpose of the call. If these records are not properly maintained, cell phone use can be taxed as income to the employee, and the business will not get a deduction for the cost of the phone.

IRS Considering Three Alternatives

The IRS has proposed three new alternative methods to substantiate business cell phone use, described below, and has asked for comments from tax practitioners on its proposals. Many comments have been sent to the IRS on this issue, but it has not announced a final decision yet. No matter which option is chosen, any business that wishes to use a simplified cell phone substantiation method will have to have a written policy that requires employees to use the employer-provided cell phones only for business and that prohibits personal use except for minimal personal use. Here are the three possible methods of calculating business use:

1. Minimal personal use method: If the employee has a personal cell phone as well as an employer-provided cell phone, then the business cell phone would be tax free. Alternatively, the employer could define a specified amount of personal use as "minimal" personal use that would be disregarded.

2. Safe Harbor method: An employer would treat a certain percentage of each employee's use of an employer-provided cell phone as business usage. The remaining percentage of use would be considered personal use. The IRS suggests a 75/25 allocation, where the employer treats 75% as business use and the remaining 25% as personal use taxable to the employee.

3. Statistical Sampling method: This method would allow employers to use statistics on personal versus business use to measure an employee's personal use of an employer-provided cell phone.

Cell Phone Changes Pushed in Congress

Republicans and Democrats in both the House and the Senate have joined together and introduced legislation to “modernize” the treatment of business cell phones. Both bills would eliminate the paperwork required for businesses to claim a deduction.

Observation: With the wide use of cell phones in both small and large-sized businesses, the existing rules are a significant burden on businesses. If you look at recent court cases it is obvious that the IRS challenges taxpayers’ cell phone deductions on a regular basis. There is now an opportunity to change the law. If cell phone use is an important part of your business, you may want to weigh in on the proposed changes and submit your comments to the IRS or to Congress regarding easing of these rules.

OFFSHORE ACCOUNTS FOCUS OF INTENSIVE IRS ENFORCEMENT EFFORT

If you hold interests in offshore accounts or you are a signatory on an offshore corporate account, then you should be aware of a myriad of new rules affecting the reporting on these accounts. All taxpayers with offshore accounts now are required to file a new form, commonly known as “FBAR”, if the accounts have an aggregate value exceeding $10,000 at any time during the tax year. A U.S. taxpayer is considered to have a financial interest in the accounts of an entity such as a corporation, partnership, or trust, if the U.S. person has more than a 50 percent ownership, income, or voting interest in the entity.

If you fail to disclose these accounts, you could be subject to very high civil penalties as well as criminal penalties. The filing requirements are complex, and the new form must be filed in addition to the taxpayer’s federal income tax return for the year, even if the full amount of foreign income is reported on the taxpayer’s income tax return. Not only does the FBAR have a different due date than a taxpayer’s income tax return, but it also must be sent to a different address.

If you hold any interest in an offshore bank account, you should contact me promptly to discuss how I can bring you in compliance with this new law. The IRS’s enforcement budget has extra funds this year to be targeted toward offshore compliance, so you can expect the IRS to be pursuing noncompliant taxpayers vigorously.

IRS ENFORCEMENT BUDGET TO INCREASE

The IRS's Fiscal Year 2010 budget request is $500 million above its Fiscal Year 2009 enacted budget. More than half of this amount, approximately $300 million, is intended for enforcement. Conventional wisdom says that IRS compliance activities recoup $5 for every $1 spent. The increased funds are supposed to go to international tax enforcement as well as to providing improved taxpayer services.

The IRS Commissioner, Douglas Shulman, has promised to have an additional 4500 IRS examiners on the payroll, and he expects them to generate an additional $2 billion once the new hires reach full potential in FY 2012. Here are some interesting audit numbers cited by the IRS Commissioner in recent statements to Congress.

Enforcement Results

Revenue. Enforcement revenue has risen from $33.8 billion in FY 2001 to $56.3 billion in FY 2008, an increase of 67 percent.

Audit Numbers. In FY 2008, both the levels of individual returns examined and coverage rates rose substantially. The IRS conducted nearly 1.4 million examinations of individual tax returns in FY 2008, an 8 percent increase over FY 2006.

High-Income Earners. Most audits were of individuals with incomes over $200,000. Audits of these individuals increased from 105,549 in FY 2007 to 130,751 during FY 2008, an increase of 24 percent. Their audit rate has risen from 2.68 percent in FY 2007 to 2.94 percent in FY 2008.

Partnerships and S Corps. Coverage rates for partnership returns stayed even as compared to FY 2007, while Subchapter S returns reflected a small .05 percent drop due largely to the increase in number of S-corporations.

Criminal Cases. The IRS has increased criminal charges against taxpayers for tax evasion, money laundering, and other financial crimes, with the overall number of individuals charged increasing from 2,323 in FY 2007 to 2,547 in FY 2008.

Foreign Enforcement. In FY 2008, IRS cases related to foreign and offshore issues resulted in 61 criminal convictions, and the average term for those going to jail was 32 months. For the first four months of FY 2009, there were 20 convictions, and the average sentence was 84 months.

COURT CASES ON LLCS AND LLPS FORCE IRS INTO 21^ST CENTURY

The popular business types, Limited Liability Companies (LLCs) and Limited Liability Partnerships (LLPs), have been around since 1977 but are still not fully recognized by the IRS in fashioning its tax rules for these entities. For the last reporting year, 2005, approximately 1,565,000 of these entities filed partnership returns. Since 1996, LLCs have grown at the rate of approximately 23 percent per year. However, the IRS has refused to confront key LLC and LLP tax issues, such as how the passive loss limitations apply to LLC and LLP members who actively participate in their businesses. As a result, within the last several months, the IRS has lost three court cases on the tax treatment of LLC and LLP members, with the courts holding that LLC and LLP members should not be treated as “limited partners” for purposes of the passive activity loss rules.

The passive loss rules prevent taxpayers from deducting losses from “passive activities” against their income from other sources. Passive losses can only be deducted against passive income. Thus, taxpayers can lose these deductions. Passive activities are defined as those activities in which a taxpayer does not “materially participate.” The IRS’s position is that LLC and LLP members should be treated like limited partners, who cannot participate in business management under state law. Limited partners are very restricted in their ability to deduct losses from their business interests. Even though state law allows LLC and LLP members to participate in the management of their businesses without losing their limited liability, the IRS insists they should still be considered nonparticipating limited partners. The Tax Court and the U.S. Court of Federal Claims have rejected the IRS’s treatment of LLC and LLP members and have allowed taxpayers in those entities to prove their participation in management. If taxpayers can prove their participation under any one of seven different tests of their involvement, their business activity will not be considered passive and they will be able to fully use their business deductions.

As a result of these court losses, the IRS has announced that it is studying the treatment of LLCs and LLPs and will issue new rules soon. The question remains whether the IRS will follow the Courts’ liberalized loss rules or whether it will try to propose another solution that will continue to restrict LLC and LLP members’ loss deductions. This issue could impact thousands of LLC and LLP members, especially now that our economy is generating much higher business losses. As your tax professional, I am closely watching developments in this area for all of my clients who hold interests in an LLC or LLP.

STATES LOOKING TO TAX SERVICES

With State revenues across the country down sharply in the current recession, State authorities are considering the imposition of a sales tax on services, such as household repairs, landscaping, diaper services, and even tax preparation services. For example, at this time North Carolina, California, and Colorado are seriously debating a broader sales tax base which would include services. We are watching locally on your behalf for any proposed new taxes on these categories of services:

● services primarily purchased by businesses, such as payroll processing and television advertising;

● services primarily purchased by households, such as a diaper service and cable TV;

● services frequently purchased by both households and businesses, such as landscaping and pest control.

A recent report by the Center for Budget and Policy Priorities identifies approximately 200 different types of services that could be brought into the tax base. The idea of taxing services has come about because of a shift in consumer behavior. According to the report, household spending has been shifting from goods to services. Thus, the states’ traditional sales tax base, which consists largely of purchases of durable goods (like cars) and non-durable goods (like clothing), fell from 39 percent of household consumption in 1970 to 32 percent in 2007. Many state legislatures start new sessions in early 2010, and you can expect new tax proposals to be a major focus in the New Year.

MOST TAXPAYERS FILE ELECTRONICALLY

The IRS has released its yearly return statistics which show that a record number of taxpayers had their returns filed electronically. Some 95 million federal income tax returns were electronically filed during 2009, up almost 6 percent from last year's total of nearly 90 million. This represents 67 percent of returns, up from 59 percent last year. Taxpayers also are more frequently having their refunds electronically deposited into their bank accounts. These direct deposit refunds accounted for 66 percent of all refunds, up from 62 percent of refunds last year. Overall, the IRS issued 110 million refunds, averaging $2,753 per refund; direct deposit refunds averaged $2,997 per refund.

Undeliverable Refunds a Problem

The IRS also has announced that it has $123.5 million in the form of 107,831 refund checks that were returned by the U.S. Postal Service due to mailing address errors.

Average undeliverable refunds rose by 16 percent this year, which is in line with the 16 percent rise in average refunds for all tax returns in the latest filing season. Several changes in tax law likely played a role in boosting refunds, including the First-Time Homebuyer's Credit and the Recovery Rebate Credit.

Because of address and mailing problems, it is generally best to choose direct deposit when you file your tax returns because it puts an end to lost, stolen or undeliverable checks. You can receive refunds directly into your personal checking or savings accounts. Direct deposit is available for filers of both paper and electronic returns.

DO YOU WANT THE IRS PREPARING YOUR TAX RETURN?

The Obama Administration has proposed simplifying the tax preparation process by having the IRS prepare pre-filled formsfor taxpayers. The argument goes that the IRS already receives most Americans' financial information directly from employers and banks. Under this program, the IRS would partially fill out the forms and then give them to the taxpayer to verify, sign, and return to the IRS or file online. Although some experts believe this will save American taxpayers time and money on tax preparation, we in the tax professional community believe this should set off alarm bells. The tax law is not always exact and any vagueness would be settled in the IRS’s favor. In addition, the IRS could make errors which would be difficult for taxpayers to correct. Finally, the IRS is not in the business of advising taxpayers on how best they can legally minimize their tax burden, so many taxpayers would lose their financial advocates.

Volunteer Tax Preparation Falls Short in Accuracy

If the government-sponsored volunteer tax preparation program is any measure, tax return preparation is best left in the hands of the private sector. The accuracy rates for tax returns prepared at Volunteer Program sites decreased from 69 percent to 59 percent for the 2009 filing season. According to the Treasury Department’s Inspector General, of the 49 tax returns prepared for Treasury auditors by Volunteer Income Tax Assistance and Tax Counseling for the Elderly sites, 29 (59 percent) were prepared correctly and 20 (41 percent) were prepared incorrectly. If 17 of the incorrectly prepared tax returns had been filed, taxpayers would not have received $4,138 in tax refunds to which they were entitled. For the other three, the IRS would have been entitled to more tax owed.

END OF THE YEAR TAX PLANNING TIPS

If you can move quickly, you can use some basic tax planning tools to reduce your 2009 business and individual income taxes. Here are some ways to save on this year’s tax bill:

1. Defer Income: If possible under your accounting method, delay the receipt of payments you are owed until after the new year

2. Increase Business Expenses: Buy items for your business this year, with credit cards if necessary. That way you can maximize your deductions for this year. You can buy office supplies and equipment and pay some of your business bills early, such as phone services, utilities, insurance, rent, and professional subscriptions.

3. Contribute to a Retirement Plan: Make an extra contribution to your retirement plan before the end of the year.

4. Make Charitable Contributions: Donate to your favorite charity by the end of the year if you have not bumped up against your charitable contribution limits. If you have an estimate of what you have already given in 2009, I will be glad to advise you on whether or not it would be worth it to make additional donations.

5. Prepay your State and Local taxes: If your cash flow allows it, prepay state and local taxes before the end of the year.

CONCLUSION:

There is always mixed news about tax developments. For every new tax bill that makes it through Congress, there are winners and losers. Even if your tax burden may increase due to 2009 changes, there are legitimate, legal ways to rearrange your personal and business affairs to minimize any additional burden. I always stand ready to discuss your concerns and to advise you on our ever-evolving tax system. Please do not hesitate to make an appointment to see me soon if you need tax advice.

Thank you for reviewing the Fall 2009 Tax Client Newsletter, and I appreciate the opportunity and privilege of serving as your tax professional.

Sincerely,

Lisa M. Stiffler

Summer 2009 Tax Update

2009-06-22T11:16:00.011-04:00

Tax filing season is barely over but it’s not too early to start looking ahead to next year, especially with the rapid pace of legislative change over the past nine months since the first economic recovery bill was passed. Another huge tax bill has become law, the American Recovery and Reinvestment Act of 2009, which expands and extends many popular

tax provisions, including the child tax credit, the first-time homebuyers’ credit, college credits, and bonus depreciation. But the President and Congress are not stopping there. More tax changes are being considered in Congress as part of the Obama Administration’s 2010 fiscal year budget. Congress has to act on these proposals because of the need to fund government operations and because the Bush tax cuts expire at the end of 2010. A replacement plan for the Bush tax cuts is expected to pass Congress late this year. We will show you what it may look like.

Meanwhile, the IRS is struggling to keep up with the guidance taxpayers need to comply with the new rules. Some topics discussed in this newsletter include how to claim the first-time homebuyer credit and how the new withholding tables for the Making Work Pay credit could affect your 2009 tax liability. The IRS also has recognized the difficult economic times by granting relief to taxpayers who can’t pay their tax bills. Details are provided below.

All of the tax changes are difficult to adjust to for both practitioners and their clients, but the news is not all bad. In fact, there are many planning opportunities you may be able to take advantage of this year, so read on.

NEW TAX BENEFITS AVAILABLE UNDER THE STIMULUS BILL

On February 17, 2009, President Obama signed into law H.R. 1, the American Recovery and Reinvestment Act of 2009, which was designed to give relief to struggling taxpayers and to stimulate certain sectors of the economy. This massive legislation extends and expands many of the tax changes enacted in the economic recovery act passed in late 2008. Below are highlights of the tax breaks contained in the new law.

TAX BREAKS FOR INDIVIDUALS

● Making Work Pay Credit – The refundable credit is equal to 6.2 percent of a taxpayer's earned income with a maximum credit of $800 for a married couple filing a joint return and $400 for other taxpayers, but it is phased out for higher income taxpayers. The phase-out applies for those with adjusted gross income above $75,000 for individuals and $150,000 for married couples filing jointly. The credit is available for 2009 and 2010, but may be extended under President Obama’s budget proposals (See the article on the Obama budget below.) Ineligible individuals include nonresident aliens, those claimed as a dependent on another person’s tax return and those who do not include a social security number on their tax return. For joint filers, only one social security number is required on the return.

The credit is being implemented through revised income tax withholding tables which employers were required to start using by April 1 of this year. Employers and payroll companies will handle this change, so taxpayers do not need to fill out new W-4 withholding forms to have the credit amount reflected in their take-home pay.

Two Important Points: Taxpayers will not get a separate check mailed to them from the IRS like last year's economic stimulus payment. Also, with the adjusted withholding tables, employees need to ensure that enough taxes are withheld, as the credit could reduce the withholding for a married couple with dual income by too much if the couple is ineligible or only partially eligible for the credit.

● First $2400 of 2009 Unemployment Benefits Tax Free -- The first $2,400 of unemployment benefits received by taxpayers in 2009 are tax free. For a married couple, the exclusion applies to each spouse separately. Unemployed workers can choose to have income tax withheld from their unemployment benefit payments. Those who choose this option will have a flat 10 percent tax withheld from their benefits. The IRS has instructed taxpayers to use Form W-4V, Voluntary Withholding Request, or the equivalent form provided by the payer, to request withholding to begin or end.

● First-Time Homebuyer Credit – Qualifying taxpayers who purchase a home before December 1, 2009 receive a credit of 10% of the cost of the home purchase up to $8000 or $4,000 for married individuals filing separately. You can qualify if you have not owned a home for the past three years. Taxpayers have the option of claiming the credit either on their 2008 tax returns or on their 2009 tax returns next year. The amount of the credit begins to phase out for taxpayers whose adjusted gross income is more than $75,000, or $150,000 for married couples filing jointly. Taxpayers buying the home after December 31, 2008 do not have to repay the credit. (Taxpayers who bought a home under the previous provision during calendar year 2008 have to repay the credit over 15 years.)
Some filing options to consider are:

1) Amend the 2008 tax return. Taxpayers who buy a home after they filed their 2008 return can consider filing an amended tax return. The amended tax return will allow them to claim the homebuyer credit on the 2008 return without waiting until next year to claim it on their 2009 return.

2) Claim the credit in 2009 rather than 2008. For some taxpayers, it may make more financial sense to wait and claim the homebuyer credit next year when they file the 2009 tax return, rather than claiming it on the 2008 tax return. This could benefit taxpayers who might qualify for a higher credit on the 2009 tax return because they have less income in 2009 due to a job loss or a drop in investment income and, thus, will not be penalized by the phase-out provisions.

Instant Credit May Be Available: Buyers eligible for the credit who get FHA loans may soon also be eligible for cash advances from their loan companies up to the amount of the credit. The Federal Housing Administration has announced it will authorize lenders who do business with the agency to provide bridge loans at closing secured only by the tax credit the borrower will receive from the IRS. The bridge loans act as advances on the credit which the homebuyer can use to make the down payment or pay closing costs without waiting for the normal tax filing cycle to claim their credit.

● Deduction for Sales and Excise Taxes on Purchase of Vehicle – Taxpayers can deduct state and local sales and excise taxes they pay on the purchase of a new automobile in 2009. The deduction is limited to tax amounts paid on up to $49,500 of the purchase price of a qualified new car, light truck, motor home or motorcycle. Also, the deduction is allowed for purchases of motor homes or vehicles with a gross vehicle rating of not more than 8,500 pounds. The deduction is phased out for taxpayers whose adjusted gross income is between $125,000 and $135,000 for individual filers and between $250,000 and $260,000 for married couples filing jointly. To qualify, the vehicle must be purchased after February 16, 2009, and before January 1, 2010. The deduction may be taken on the 2009 tax return and is available to both those who itemize their deductions and those who take the standard deduction instead.

● American Opportunity Tax Credit for College Costs – The HOPE college credit has been renamed the “American Opportunity Tax Credit” and has been increased to $2500 per eligible student, beginning in 2009 or 2010. The new credit rate is 100% of the first $2,000 of qualified tuition and related expenses and 25% of the next $2,000 of qualified tuition and related expenses. The credit is available for the first four years of higher education. The credit is phased out for taxpayers with adjusted gross income between $80,000 and $90,000 ($160,000 and $180,000 for married couples filing jointly. A portion of the credit is refundable.

Note: Obama’s budget proposal would make this credit permanent. Congress also is requiring the IRS to submit a study by February 17, 2010 on requiring students to perform community service as a condition of receiving tuition credits.

● Computer Equipment Qualifies as College Expense – Taxpayers may use funds from tax-qualified 529 accounts for purchases of computer hardware, software, internet access or related services used by a college student. The purchases must take place in 2009 or 2010. Software designed for sports, games, or hobbies does not qualify unless it is mainly educational in nature.

● Increase in Tax-Free Transit and Vanpool Benefits – If your employer provides transit passes and vanpool benefits to you for commuting, the amount of those benefits is excluded from your income up to $230 per month. Previously, only parking benefits were tax-free. The increase applies to months beginning on March 1, 2009 and before January 1, 2011.

● Employee Subsidy for COBRA Coverage and Tax Credit for Employers Who Provide COBRA Benefits – Employees who lose their jobs after August 31, 2008 and before January 1, 2010 and who elect COBRA health continuation coverage are entitled to receive a 65 percent subsidy on their COBRA premiums. For periods of COBRA coverage beginning after February 16, 2009, the employee is covered by paying only 35 percent of the premium amount. The employer may recover the other 65 percent by taking the subsidy amount as a credit on their quarterly employment tax return.

● Child Tax Credit – The refundable portion of the child tax credit has been increased by changing the amount refundable from 15% of earned income in excess of $12,550 to 15% of earned income in excess of $3,000, for tax years beginning in 2009 and 2010. The amount of the existing child tax credit is $1,000 per qualifying dependent child under age 17 through 2010 (and $500 thereafter). The credit is phased out for taxpayers with adjusted gross income above $110,000 for married couples filing jointly and above $75,000 for single taxpayers.

Refundable v. Nonrefundable Credits: With a refundable credit, if the amount of a credit exceeds the amount of the taxpayer's total income tax liability for the year, the excess amount is paid by the government to the taxpayer. For nonrefundable credits, you lose whatever amount of a credit that you cannot use against your tax liability.

● Earned Income Tax Credit – The earned income tax credit (EITC) for families with three or more qualifying children is increased to 45% for 2009 and 2010, resulting in a maximum credit of $5,656.50. The phase-out thresholds also are increased for 2009 and 2010.

● Recovery Payment for Federal Program Beneficiaries and Retired Federal and State Employees -- Retirees, disabled individuals, Railroad Retirement beneficiaries, and disabled veterans will receive a one-time $250 “recovery” payment in 2009. To be entitled to the payment, an individual must have been eligible for those benefit programs during November and December 2008 and January 2009. Federal and state pensioners who are not eligible for social security also will receive the $250 payment. The one-time payment will reduce any allowable Making Work Pay credit. The IRS won't be making these $250 payments. Instead, they will be made through the agency that provides the benefits under these programs.

ALTERNATIVE MINIMUM TAX RELIEF

For tax years beginning in 2009, individuals will receive some relief from the alternative minimum tax (AMT) through an increase in the exemption amounts to $46,700 for unmarried individuals, $70,950 for married couples filing a joint return and surviving spouses, and $35,475 for married persons filing separate returns. Also, nonrefundable credits are allowed against the minimum tax. Finally, tax-exempt interest on private activity bonds will not be included in the minimum tax calculation.

Minimum Tax in a Nutshell: The alternative minimum tax requires that taxpayers in the higher income brackets who have large deductions, particularly for state and local taxes and mortgage interest on loans not used for home improvements, calculate their tax twice: first, under the regular tax rules; and then under special minimum tax rules, which disallow many deductions. The minimum tax rules also include more items in income than the regular tax rules, such as tax-exempt bond interest and income from the exercise of stock options. Then, the taxpayer has to pay the regular tax amount and any minimum tax amount which exceeds the regular tax calculation. More taxpayers are subject to the minimum tax each year because it is not adjusted to reflect inflation. To ease this problem, Congress increases the minimum tax exemption amount each year, but Congress has never fixed the underlying inflation problem.

BUSINESS TAX BREAKS

The February 2009 Act created, extended, and expanded many business tax deductions and credits affecting both large and small businesses. Because some of these changes are only available this year, eligible businesses only have a few months to take action and save on their taxes. Here is a quick rundown of some of the key provisions.

● Estimated Tax Payments – Many individual small business taxpayers may be able to defer until the end of the year paying a larger part of their 2009 tax obligation. For 2009, business owners can make quarterly estimated tax payments equal to 90 percent of their 2009 tax or 90 percent of their 2008 tax, whichever is less. Individuals qualify if they received more than half of their gross income from their small business in 2008 and meet other requirements. To qualify, an individual must have less than $500,000 of adjusted gross income (AGI) ($250,000 if married filing separately) shown on the tax return for the preceding tax year. For purposes of this rule, a small business is one that employs no more than 500 persons.

● Bonus Depreciation – An additional 50% first-year write-off is allowed for business property acquired and placed in service before 2010.

● Depreciation Cap for New Passenger Autos -- The depreciation limit for qualified new passenger automobiles used in a business is increased by $8000 over the 2009 dollar caps. Note that the boosted depreciation limit is reduced to the extent of non-business use and does not apply if the taxpayer elects out of bonus first year depreciation.

● Immediate Expensing Deduction– The Act extends the higher limits on the immediate deduction for investment in business property through 2010. The limits will continue to be a total of $250,000 per year, with a limit of $800,000 for all property purchased. This limit is designed to target the expensing deduction to small businesses. The investment limit requires that the deduction be phased out dollar-for-dollar for purchase amounts in excess of $800,000. “Expensing” under the tax rules means that the business can take a higher portion of the cost of business property as a deduction in the current year instead of taking lower depreciation deductions each year over the life of the asset. Thus, businesses can expense a significant portion of the cost in the year of purchase and then take depreciation deductions over time for the rest.

● Loss Carrybacks by Small Businesses -- Many small businesses that had expenses exceeding their income for 2008 can choose to carry the loss back for up to five years, instead of the usual two years. For small businesses that were profitable in the past but lost money in 2008, this could mean a special tax refund. The option is available for a small business that has no more than an average of $15 million in gross receipts over a three-year period. This option is available for most eligible taxpayers for a limited time. A corporation that operates on a calendar-year basis, for example, must file a claim by September 15, 2009. For eligible individuals, the deadline is October 15, 2009.

● Work Opportunity Credit – Businesses may now take an expanded per-employee credit for hiring individuals in targeted groups including unemployed veterans and “disconnected youth” who are hired in 2009 or 2010. A “disconnected youth” is defined as an individual at least age 16 but not yet age 25 on the hiring date who is not attending school, is unemployed, and who is not readily employable because of a lack of skills.

● Built-in Gains Tax – For tax years beginning in either 2009 or 2010, the new law eliminates the corporate level tax on the built-in gains of an S-Corporation that converted from C-corporation status at least seven tax years before the current tax year.

● Exclusion of Gain on Small Business Stock -- To encourage investment in small businesses, the new law increases from 50 to 75% the exclusion of gain from the sale of qualified small business stock which was acquired after February 17, 2009, and before January 1, 2011 and held for more than five years. This provision is limited to individual investors and not available to corporations.

ALTERNATIVE ENERGY TAX BREAKS

Both individuals and business can take advantage of new or expanded tax benefits for costs associated with reducing energy use or creating new energy sources. Two of the more useful credits for individuals are the new tax credit for plug-in electric vehicles and the credit for making energy efficient improvements to your home. Here’s a run down of some of the new provisions.

● Residential Energy Property Credit -- Taxpayers can now get a generous credit for making energy efficient improvements to their existing homes equal to 30 percent of the cost up to $1,500 for 2009 and 2010.The credit applies to improvements such as adding insulation, energy efficient exterior windows and energy-efficient heating and air conditioning systems.

Note: For information on efficiency standards and what type of equipment qualifies for the credit, you can go to the government’s information website at http://www.energystar.gov. Most manufacturers and installers also have information on which models qualify for the credit.

● Residential Energy Efficient Property Credit -- This nonrefundable energy tax credit will help individual taxpayers pay for qualified residential alternative energy equipment, such as solar hot water heaters, geothermal heat pumps and wind turbines.

● Plug-In Vehicles – Taxpayers may take a new 10%, nonrefundable credit for vehicles bought after February 17, 2009 and before January 1, 2012, including electric drive low-speed vehicles, motorcycles, and three-wheeled vehicles. The maximum credit amount is $2,500. A new 10% credit also is allowed for the cost of converting any motor vehicle into a plug-in vehicle, with a maximum credit of $4000.

● Business Credits for Manufacturing Green Equipment and Producing Alternative Energy – Manufacturers get a new credit for producing clean energy equipment. Businesses that produce electricity from alternative sources also can get a generous credit or apply for a grant to offset their costs.

IRS REACHING OUT TO HARD-HIT SMALL BUSINESSES WITH SPECIAL RELIEF MEASURES

The IRS has put in place special programs to help small business owners -- primarily Schedule C filers - - facing hardship as a result of the economic downturn. Here’s a list of IRS initiatives aimed at helping small business:

Offering Installment Agreements: The IRS has instructed its agents who are examining returns to consider collectability during the pre-audit phase. They also are being encouraged to offer installment agreements at the end of an audit when taxpayers are having difficulty paying all of the tax at once, thereby enabling them to minimize interest and penalty charges.

Postponement of Collection Actions: IRS employees may suspend collection actions in certain hardship cases where taxpayers are unable to pay. This includes instances when the taxpayer has recently lost a job, is relying solely on Social Security or other assistance or is facing devastating illness or significant medical bills.

Added Flexibility for Missed Payments: The IRS has flexibility in working with taxpayers who have previously complied with a payment schedule who are now having difficulty making payments because of financial hardship. The IRS may allow a skipped payment or a reduced monthly payment without automatically suspending the Installment Agreement.

Prevention of Offer in Compromise (OIC) Defaults: Taxpayers who are unable to meet the payment terms of an accepted offer in compromise will receive a letter from the IRS outlining options available to help them avoid default.

Expedited Levy Releases: The IRS will speed the delivery of levy releases by easing requirements on taxpayers who request expedited levy releases for hardship reasons.

Fast Track Settlement: The IRS is using its Fast Track Settlement (FTS) program to settle cases more quickly than is possible with its traditional Appeals procedures. This process is especially beneficial to taxpayers who have a tax liability in dispute that is greater than $25,000. It speeds up the process and gets the IRS Appeals office involved at an earlier stage.

Lien Assistance – The IRS has changed its procedures to better assist taxpayers with lien releases. When a taxpayer cannot pay the full amount on a lien and there is a pending real estate transaction or refinancing, the IRS provides them with information about partially discharging liens, subordinating them to other lenders’ liens, and the telephone number to call to inquire about lien assistance.

EMPLOYER RELIEF TO SAVE 401(K) PLANS

To prevent cash-strapped employers from terminating their employees' 401(k) plans, the IRS is allowing some employers to reduce or suspend certain required contributions they make to their employees' individual plan accounts as long as the employers follow certain notice and timing procedures.

TAX PROPOSALS IN OBAMA’S BUDGET CURRENTLY BEFORE CONGRESS

President Obama unveiled his budget proposal on February 26, 2010. The budget blueprint raises revenue by approximately $1 trillion over 10 years but contains an additional $1 trillion in spending cuts over the same period. Many of the tax provisions would not take effect until 2011.

The tax increases are said to fall mostly on high-income individuals. The revenue raised is supposed to fund health care reform, according to the budget description. One of the most controversial proposals is the plan to limit the value of itemized deductions to 28% for upper income taxpayers. Interestingly, much of the opposition is coming from the President’s own party, including Congressional leaders who are concerned about the effect on charities and on the housing market, since charitable deductions and home mortgage interest deductions would be capped at 28%. Legislation containing these proposals is moving through Congress and is expected to be passed in Fall 2009. Set forth below is a list of possible changes that could affect your tax bill in the near future.

UPPER INCOME TAX INCREASES:
-- Increase the top rates for taxpayers earning over $250,000 (married taxpayers) or $200,000 (for singles) to 36 and 39.6 percent.
-- Reinstate the personal exemption phase-out and itemized deduction limitation for taxpayers earning over $250,000 (married taxpayers) or $200,000 (for singles) which is set to expire in 2010.
-- Increase the capital gains and dividends tax rate from 15% to 20% for taxpayers earning over $250,000 (married taxpayers) or $200,000 (for singles).

INDIVIDUAL TAX CUTS:
-- Make permanent the following credits:
▪ Making Work Pay Credit
▪ Child Tax Credit
▪ New American Opportunity Tax Credit (for college expenses)
-- Expand the Earned Income Tax Credit
-- Expand saver’s credit and provide automatic enrollment in IRAs and 401(k)s.

BUSINESS TAX CUTS:
-- Completely eliminate capital gains tax on small businesses.
-- Make permanent the research and experimentation credit.
-- Extend the carryback period for business losses to five years.

OTHER TAX CHANGES:
-- Freeze the estate tax at its 2009 level which includes an exemption for estates valued at up to $3.5 million and a top rate of 45 percent.
-- Require information reporting for rental payments.
-- Tax carried interest paid to managing partners as ordinary income instead of capital gains.

ALTERNATIVES TO TRADITIONAL HEALTH INSURANCE TAX BENEFITS BEING CONSIDERED IN CONGRESS

A new bill, the Small Business Health Options Program (SHOP) Act of 2009, would create a national small-business health insurance purchasing pool and give tax credits for the health insurance expenses of small businesses. The bill has bipartisan support in Congress and also is backed by some key business and labor groups. Under the program, small businesses would receive a tax credit of up to $1000 per employee if the business covers at least 60 percent of employee premiums. Employers funding more than 60 percent of premiums would receive a bonus tax credit. Self-employed workers would be eligible for a $1,800 tax credit ($3,600 for families).

As an alternative, Republicans have introduced the Patients' Choice Act of 2009, which is designed to increase private coverage of the uninsured. Sponsored by key Republicans, the bill would replace the current tax exclusion for employer-provided healthcare plans with a refundable $2,300 tax credit ($5,700 for families) for employees to allow them to purchase their insurance. The credit could be received in advance for taxpayers unable to afford the premiums. The bill also would allow taxpayers to use health savings accounts to pay for health insurance premiums.

Some type of health care reform bill is expected to be voted on in late Summer. Both businesses and individual taxpayers could be affected. In fact, health care reform could bring unprecedented change to the current system of tax-free health insurance benefits provided by employers. Keep your eye on this one.

VICTIMS OF PONZI SCHEMES MAY TAKE DEDUCTION FOR THEFT LOSSES, IRS RULES

The IRS has issued guidance to taxpayers on how to deduct losses from fraudulent investment arrangements, such as Ponzi schemes. If there was criminal intent to defraud the investor, then the loss is considered a theft loss under the tax law, not a capital loss. Theft loss deductions can be taken in the year the taxpayer discovers the loss. However, if there is a reasonable chance of recovering the money, the loss deduction cannot be taken until the tax year in which the taxpayer can tell whether or not he will receive the reimbursement. The amount of the deduction is the amount invested in the arrangement, less amounts withdrawn, reduced by reimbursements or other recoveries.

The IRS also has provided a so-called “safe harbor” formula under which defrauded investors can claim a theft loss deduction the IRS will not challenge. The calculation is complex and must be reported on a specific IRS form. The taxpayer also must sign a statement containing specific information about the investor and the fraud and attach it to the return. Thus, this type of claim is best left to your tax preparer. Also, the investor may have income or an additional deduction in a later year depending on the actual amount of the loss that is eventually recovered. The safe harbor procedure only applies to losses discovered beginning in 2008.

IRS SEEKS TO BRING OFFSHORE TAX EVADERS INTO THE FOLD

In a major new initiative, the IRS has unveiled new incentives for people with offshore accounts to turn themselves in voluntarily over the next six months, pay what they owe and answer questions about who helped them set up secret accounts. Government officials are offering milder penalties than could otherwise be imposed -- and a reduced likelihood of criminal prosecution.

TAXPAYERS IN SOME STATES ELIGIBLE FOR DISASTER RELIEF

In the last several months, the IRS has declared taxpayers in a number of states eligible for disaster relief in the form of later filing deadlines and penalty waivers on tax deposits. States on the list include Arkansas, Indiana, Georgia, Florida, Minnesota, and North Dakota. We can assist you to obtain relief, if you receive a penalty notice or otherwise need to qualify.

IT MAY NOT BE TOO LATE FOR INNOCENT SPOUSES

The U.S. Tax Court slapped the IRS on the wrist this month by holding one of its innocent spouse regulations invalid. Congress enacted a special equitable relief provision for innocent spouses who could not take advantage of the standard rules because of some legal technicality. The IRS tried to impose the two-year limit of the regular innocent spouse rules to the equitable relief provisions, but the Tax Court would have none of it. The Tax Court struck down the two-year limit, commenting that the nature of equitable relief is to address hardship cases, such as missed deadlines, unforeseen circumstances, etc. You should see us, if you think you qualify for such equitable relief.

DIRTY DOZEN TAX SCAMS FOR 2009

The IRS has issued its 2009 "dirty dozen" list of tax scams. "Taxpayers should be wary of scams to avoid paying taxes that seem too good to be true, especially during these challenging economic times," IRS Commissioner Doug Shulman commenting when releasing the list. Here’s some of the 2009 list:

Phishing

Phishing is a tactic used by Internet-based scam artists to trick unsuspecting victims into revealing personal or financial information. These scams send e-mails which appear to come from the IRS promising a refund. If the taxpayer sends personal or financial information back, this information is used to steal the person’s identity or raid their bank account.

Hiding Income Offshore

Taxpayers try to avoid or evade U.S. income tax by hiding income in offshore banks, brokerage accounts or through other entities. Taxpayers also evade taxes by using offshore debit cards, credit cards, wire transfers, foreign trusts, employee-leasing schemes, private annuities or life insurance plans.

Filing False or Misleading Forms

Some scam artists file false or misleading returns to claim refunds that they are not entitled to, such as Form 1099-Original Issue Discount (OID), claiming false withholding credits.

Abuse of Charitable Organizations and Deductions

Exempt organization scams include arrangements to improperly shield income or assets from taxation and attempts by donors to maintain control over donated assets or income from donated property. Another area of abuse is the donation of over-valued assets.

Return Preparer Fraud

Dishonest return preparers can cause many headaches for taxpayers who fall victim to their ploys. These preparers skim a portion of their clients' refunds and charge inflated fees for return preparation services. They attract new clients by promising large refunds.

Frivolous Arguments

Promoters of frivolous schemes encourage people to make unreasonable and unfounded claims to avoid paying the taxes they owe. The IRS has a list of frivolous legal positions that taxpayers should avoid. Taxpayers who file a tax return or make a submission based on one of the identified abuses on the list are subject to a $5,000 penalty.

Abusive Retirement Plans

The IRS continues to find abuses in retirement plans, including Roth Individual Retirement Arrangements (IRAs). The IRS is looking for transactions that taxpayers are using to avoid the limitations on contributions to IRAs as well as transactions that are not reported as early distributions. The IRS warns taxpayers to be wary of advisors who encourage them to shift appreciated assets into IRAs at less than fair market value to circumvent annual contribution limits.

Disguised Corporate Ownership

Some taxpayers form corporations and other entities for the primary purpose of disguising the ownership of a business or financial activity. Such entities can be used to facilitate underreporting of income, fictitious deductions, non-filing of tax returns, participating in tax shelters, money laundering, and financial crimes.

Misuse of Trusts

The IRS notes that, for years, unscrupulous promoters have urged taxpayers to transfer assets into trusts. Some promoted transactions promise reduction of income subject to tax, deductions for personal expenses and reduced estate or gift taxes. Such trusts rarely deliver the promised tax benefits and are being used primarily as a means to avoid income tax liability and hide assets from creditors, including the IRS.

Fuel Tax Credit Scams

The IRS is receiving claims for the fuel tax credit that are unreasonable. Some taxpayers, such as farmers who use fuel for off-highway business purposes, may be eligible for the fuel tax credit. Some individuals are claiming the tax credit for nonbusiness uses of fuel.

STATES LOOK TO NOVEL WAYS TO RAISE REVENUE

If you are excited about getting a few more dollars in your paychecks thanks to the new stimulus bill, your federal tax break may be offset by new State taxes. Many states are considering major increases in sales and income taxes to backfill some of the shortfall they are experiencing in their tax revenues from the dramatic downturn in the economy. Unlike the federal government, many states cannot run a deficit under state law but instead must balance their budgets by raising taxes, cutting spending or dipping into their reserves, if they have any.

To give you a feel for the new frontier of state taxation, we have assembled information on several recent state tax initiatives, described below.

● Connecticut is faced with trying to raise $3 billion extra from sales tax in the next two years.
● Delaware Gov. Jack Markell wants to raise the marginal income tax rate by one percentage point, to 6.95%.
● New York and Washington State have discussed a tax on pornography.
● Oregon is looking at a Beer Tax increase of 1900%.
● One California legislator has introduced a weed tax which would legalize and tax marijuana, which could bring in as much as $1 billion.
● Some officials in Nevada have proposed legalizing prostitution throughout the state, not just in a few areas as it is now, to raise $200 million in taxes.
● Lawmakers in New Jersey are considering taking food taxes a step further and placing a "sin" tax on fast food. The U.S. Congress briefly considered a tax on sugary sodas this year, but the idea was put aside.

THANKS FOR YOUR BUSINESS

As your tax professional, I assure you that I will be keeping a watchful eye on Congress and on IRS actions which may affect your tax filings. I will be happy to address any concerns and answer questions you have about your taxes and the issues covered in this newsletter.

Thank you for reviewing the Summer 2009 Tax Client Newsletter and for the opportunity and privilege of allowing me to serve as your tax professional. Rest easy. Good things happen in the Summer. For one thing, Congress usually leaves town.

Best regards,

Lisa M. Stiffler, EA

December 2008 Newsletter

2008-12-03T16:06:00.023-05:00

It’s been hard to get this letter out to you this year because it seems like on an hourly basis, everything changes. The roller coaster ride that we have been through watching Congress and the Administration try to address the economic woes is like nothing any of us have seen in our professional careers. One indication of this volatility is the fact that the stock market this Fall has moved up and down in value by wider margins in the last 50 trading days than it had in the previous 25 years. These moves are approaching a trillion dollars in value on a daily basis.

The tax law is so closely linked with the volatile shifts in politics and the economy that few of us know with certainty what will happen next. What I can do is give you an overview of the recent changes that might affect you and some idea of what the next round of stimulus measures and tax changes might be. If you have any questions concerning any of the information outlined below, please contact my office to schedule an appointment.

Bailout Bill Has 100 Tax Provisions

On October 3, 2008, President Bush signed into law H.R. 1424 (P.L. 110-343), the so-called “Bailout Bill.” The new law contains not only the $700 billion financial industry rescue plan but also several important and far-reaching tax bills that were moving through Congress at the same time. The tax titles include the yearly extension of expiring tax provisions (the tax "extenders" bill), a temporary adjustment in income thresholds for the alternative minimum tax (the AMT “patch”), tax relief for Midwestern disaster areas hit by storms and floods, and, finally, numerous energy tax incentives.

The bailout bill provided the perfect opportunity for Congress to combine bank rescue with these tax bills. Both the energy bill and the extenders bill were being blocked by election year politicking, filibuster and veto threats. With Congress set to adjourn before the elections, it appeared that we were going to face yet another year of uncertainty, particularly with regard to the alternative minimum tax and the expiration of popular tax credits. Because of the urgency of the bailout plan and the backing of the Bush Administration and both Presidential candidates, these huge tax bills slipped through Congress at the last minute--with close to 100 Act sections and something for everyone! A description of the major provisions affecting your taxes is given below.

More Congressional Action Pending

But Congress is not finished yet. It is considering yet another economic stimulus bill, including a bailout for the U.S. car companies that might get passed in an historic second lame-duck session in December. Car companies are presenting a business plan to Congress which includes job cuts, closed factories, reductions in executive pay, and a commitment to fuel-efficient cars. They hope these concessions will land them $25 billion in emergency loans.

A second stimulus package already has been drafted by Senate tax writers and is expected to serve as the basis for another round of tax incentives to jump-start the economy. Two key business provisions include an extension of bonus depreciation for 2009 which allows a taxpayer to depreciate 50 percent of the cost of an asset in the year it was acquired and an extension for one year of the rule which allows small businesses to immediately deduct up to $250,000 for property acquired and placed into service in 2009. This bill also contains relief to individuals and pension plans affected by the recent financial crisis, the most visible of which is to put a moratorium on required distributions from retirement plans. If you are age 70 ½ or older, you will not be required to take distributions from your retirement savings for 2009 if this bill goes through. This allows your savings to stay put and helps you avoid a tax hit when the market is down.

TAX PROVISIONS OF THE BAILOUT BILL

Highlights of the tax provisions include:

--Tax-free mortgage debt forgiveness for homeowners.
--Restricted deductions for executive compensation of bailed out companies.
--Increased AMT exemption for individuals and AMT credit offsets.
--Extension of many expiring tax provisions, including the sales tax deduction, tuition deduction, IRA charitable transfers, and the R&D credit.
--Additional standard deduction for property taxes of non-itemizers.
--Five-year depreciation for farm property.
--Child tax credit changes.
--Alternative energy and efficient energy credits and deductions.
--Liberalized loss deductions for disaster victims.

Mortgage Forgiveness Not Taxable

Congress has extended the tax exclusion for forgiven mortgage debt through 2012. There is a $2 million limit ($1 million for married individuals filing separately) on this tax exclusion and the loan must have been used to buy or improve your principal residence. Under previous law, forgiven debt would be considered taxable income by the IRS. While you may qualify for this immediate tax exclusion, you may have to pay more tax once you sell your home. The nontaxable portion, or cost basis, of your home will be reduced by the excluded amount, possibly resulting in more gain on the eventual resale.

So-Called Alternative Minimum Tax Patch

You may be in the lucky group that avoids the higher alternative minimum tax this year. Congress has fixed the AMT problem for another year by increasing the exemption amounts to $46,200 for individuals and $69,950 for joint returns. Other adjustments to the AMT calculation could keep you out of the AMT system for another year.

Other Popular Individual Tax Breaks.
Many of these provisions were set to expire in 2008 and have been extended retroactively for 2008 and forward for several more years.

Deduction for State and local sales taxes. You may still elect to deduct State and local sales taxes instead of State and local income taxes for two years, through December 31, 2009. IRS publishes tables for each state based on income level and average sales and use taxes imposed by each state. Contact me if you are interested in finding out the average state and local sales and use taxes for your area.

Deduction of qualified tuition and related expenses. Even if you do not itemize your deductions you will be able to take a tuition deduction for college expenses for two more years.

Deduction for certain expenses of elementary and secondary school teachers. Elementary and secondary school educators may deduct the cost of books, supplies, computer equipment and other equipment and other materials used in the classroom for two more years, through 2009. You do not have to itemize your deductions to get this benefit.

Additional standard deduction for real property taxes for nonitemizers. You can get up to a $500 additional standard deduction for State and local real property taxes for an additional year. If you are married, the additional deduction limit is $1000.

Tax-free distributions from IRAs for charitable purposes. For two more years through 2009, you will be able to take tax-free distributions from your IRA accounts if you donate the money to charity. The limit on this tax exclusion is $100,000 a year.

Higher refundable child tax credit. Beginning in 2009, a higher refundable child tax credit will be available to qualified taxpayers because the earned income threshold for getting the refund will be reduced from $12,050 to $8,500.

Extension of Business Tax Provisions/ Disaster Relief

Numerous business relief provisions have been extended by Congress, but not for long. As in the past, Congress seems only to be able to deal with the tax code for two years at a time. Large corporations got a renewal of their research and development credit, which expires almost every year. As a small business owner, you can breath easier for a couple more years due to the following extensions for hard-hit areas and special industries:
• Bigger depreciation deductions for improvements to restaurants and to retail spaces.
• Quicker write-offs for investments in farming business machinery and equipment.
• Relaxed rules for deducting disaster losses and an increase in the deduction limit from $100 per casualty to $500, for taxable years beginning after December 31, 2008, and before January 1, 2012.
• More favorable treatment of charitable contributions for S Corporation shareholders.
• Extended work opportunity tax credit for employees who lived in the Hurricane Katrina disaster area and have been employed in the core disaster area.
• Extended credit for rehabilitating depreciable buildings in the Gulf Opportunity Zone.
• Temporary tax relief for areas damaged by 2008 Midwestern severe storms, tornados, and flooding, including faster write-offs for purchases of business property and employment credits. The Midwest Disaster area includes areas hit by severe storms, tornados, or flooding in any of the States of Arkansas, Illinois, Indiana, Iowa, Kansas, Michigan, Minnesota, Missouri, Nebraska, and Wisconsin.
• Immediate deductions for debris removal and repair of damaged business property in disaster areas.
• Faster depreciation for business property on Indian reservations.

Energy Tax Incentives

Congress’s rush to adopt an energy plan has led to a confusing patchwork of energy tax incentives available for you if you drive hybrid vehicles or make energy efficient improvements to your home. There are so many different provisions, that the best thing to do is to consult with me before you make any significant improvements to your home, before you purchase any major appliances, and before you purchase a hybrid vehicle. Here’s a list of some of the possible credits and deductions:

● Up to $2000 Credit for residential energy efficient property such as solar heaters or wind energy systems.
● $3000 Credit for new plug-in electric drive motor vehicles.
● An alternative fuel vehicle property credit for the cost of installing alternative fuel dispensing systems at a taxpayer’s home or business.
● 10% Credit for energy efficiency improvements for existing homes.
● Energy efficient commercial buildings deduction.
● New energy efficient home credit for contractors who build new energy efficient houses purchased by individuals as their principal residence.

Ride Your Bike to Work

The energy portion of the bailout bill also allows tax-free employer reimbursements of up to $20 per month for employees who ride their bike to work. Previously, tax-free transportation fringe benefits included only commuter highway vehicles, transit passes, and certain parking expenses. The new rule is effective for taxable years beginning after December 31, 2008.

Higher Unemployment Taxes for Employers

If you are an employer, you have been paying an increased federal unemployment tax (FUTA) tax rate (6.2%), which was set to expire after 2008. The normal FUTA rate is 6%, but there has been a 0.2% surcharge on this rate for many years. One of the revenue raisers in the bank bailout bill is an extension of the 0.2% FUTA surtax through 2009. The rate now is set to go back down to 6% in calendar year 2010. One note: Employers who pay state unemployment taxes get a credit against a portion of their federal unemployment tax.

Mental Health Benefits Must Be on Equal Footing

Believe it or not, the bailout legislation (H.R. 1424) originally was a very limited bill requiring employers to offer mental health benefits in a similar fashion to regular medical coverage. This provision stayed in the bill as the bank provisions and numerous tax changes were added. The new law prevents group health plans from imposing stricter rules on mental health benefits than those for other medical benefits, such as lifetime or annual dollar limits that are not applied to medical and surgical benefits.

Highlights of the Upcoming 2009 Rate and Rule Changes

Many tax provisions are indexed for inflation on an annual basis based on the consumer price index (CPI). Tax rates, the standard deduction, the personal exemption and deductible contributions to some retirement plans all are increased for 2009. For example, the tax rate for single individuals changes from 15% to 25% at $33,950 worth of income, while for married couples, it goes up to 25% with $67,900 in income. Adjusting the tax brackets for inflation lowers your tax liability by taxing more of your income at a lower rate. If you do not itemize your deductions, the new standard deduction amount for married taxpayers filing jointly is moving from $10,900 to $11,400. For single taxpayers it is increased to $5700 from $5450 in 2008. Elderly and blind taxpayers get an additional standard deduction of $1050 in 2008 and $1,100 in 2009. Your personal exemption amount will increase from $3,500 in 2008 to $3,650 in 2009.
The cap on the amount of your wages subject to payroll taxes also is increased for 2009. For 2009, the 6.20% employee Social Security tax will be imposed on the first $106,800 of your wages (as compared to the first $102,000 in 2008), making your maximum social security contribution $6,621.60. The 1.45% in Medicare taxes you pay is computed on your total wages, with no limit.

Phase-out of Itemized Deductions and the Personal Exemption

If you bump up against certain income thresholds, your itemized deductions and personal exemptions start disappearing. The reduction does not apply to deductions for medical expenses, investment interest, nonbusiness casualty and theft losses, and gambling losses. Luckily, these thresholds are increased each year for inflation. For 2009, the applicable amount is $166,800 for married couples. For 2008, it's $159,950. The reduction itself is phased out by 2010. For 2008 and 2009, you will lose only 1/3 of the amount under the full reduction computation which was effective last year. Unless the new Congress changes the law, you should get your full itemized deductions back in 2010.

For 2008, the personal exemption also phases out at income levels of $239,950 (joint return or surviving spouse), $199,950 (head of household), $159,950 (single) and $119,975 (married filing separately). For 2009, these figures are $250,200, $208,500, $166,800 and $125,100 for these same filing categories. The reduction is phased out in 2008 and 2009 and expires in 2010.

Business standard mileage rate

If you use a passenger car, including a van or pickup truck for business purposes, the standard mileage rate you can use to compute your deductions changed in the middle of 2008. For the first half of 2008, the rate was 50.5 cents per mile. Recognizing the high cost of gasoline, IRS increased the rate for the second half of 2008 to 58.5 cents per business mile. The 2009 rates drop down to 55 cents per mile.

If you had to move this year because of a job change, you can deduct your actual expenses for traveling to your new home at the rate of 19 cents per mile for the first six months of 2008 and 27 cents per mile for the last six months of the year. The 2009 moving and medical mileage rate is 24 cents per mile. The mileage rate for charitable use of your vehicle is set at 14 cents per mile next year.

Mortgage Insurance Deduction Extended

If you are still paying PMI (private mortgage insurance) on your home, you may continue to deduct those payments as mortgage interest through 2010. The deduction is only allowed for debt on your principal residence.

Good News and Bad News on Exclusion of Gain on Your Home

If only you could sell, you would be able to exclude from your income up to $250,000 if you are single or $500,000 if you are married of the capital gains on the sale of your home. You must use the home as your principal residence for at least 2 of the 5 years before the sale to qualify for this tax break.

The catch is for those of you with rental property. To prevent taxpayers from turning rental property into a principal residence for a couple of years just to take advantage of the tax-free income, Congress changed the rules for sales after 2008. Now, the increase in value of the property which occurred during previous periods of rental use will not be eligible for the tax exclusion.

Beginning in 2008, a surviving spouse can get the full $500,000 exclusion from profits on the sale of a home if the sale occurs within two years after the first spouse’s death as long as both taxpayers qualified before the death and as long as the spouse remains unmarried.

Paying the Babysitter

If you have a nanny or a cleaning service, the new annual threshold amount for having to report and pay employment taxes is $1,600 for 2008 and $1,700 for 2009. If your yearly payments to any one domestic employee exceed these amounts, you have to report withheld income and social security taxes on your individual tax return and you will need an employer identification number (EIN). This dollar amount applies separately to each employee so you do not have to combine all payments when calculating whether or not you owe employment taxes.

Rules Change for Claiming a Dependent Child in Divorce

In a move that is sure to lessen the friction between divorced spouses, IRS has said that it will automatically treat a child as a dependent of both parents whether or not the custodial parent consents. This treatment only applies if the parents are divorced, legally separated under a court order, or live apart at all times during the last 6 months of the calendar year. The child must receive over one-half of his or her support during the calendar year from the parents and must be in the custody of one or both parents for more than half of the calendar year. Finally, the child must have a family connection to the parents or must be a member of the parent’s household.
Before this rule change, IRS got in the middle of custody disputes by requiring proof that one parent had released the exemption to the other parent before the noncustodial parent could take advantage of certain employer-provided fringe benefits or take the medical deduction for their children. This must have been too much for IRS to police, so IRS has gone back to allowing both parents to claim these tax benefits for their children.

Dependency claims even when there is no custody issue continue to be one of the most scrutinized areas by the IRS and can result in a very unfavorable adjustment to your tax bill. If you want to claim someone as a dependent who is not your natural or adopted child and who is over the age of 18, you should be prepared to prove that you supported this person with credible, written documentation that proves they lived in your home and that you paid a substantial amount of their support.

Paying Tax on Your Children’s Income—the Kiddie Tax

If your child has unearned income (interest, trust payments, or just about anything other than earnings at a job), your child will have to pay the so-called “kiddie tax” at your highest marginal tax rate. The threshold amount for the kiddie tax has been increased to $1800 in 2008 and $1900 in 2009.

Giving Made Easier

If you want to give more away, you will be exempt from gift tax if your annual gift to any one individual is over $12,000 in 2008. This amount increases to $13,000 for 2009.

Act Quickly to Get Home-Buying Credit

If you buy a home after April 8, 2008 and before July 1, 2009, you may be entitled to a refundable tax credit up to $7,500. Of course, like other provisions, the credit is phased out for taxpayers at higher income levels. To qualify for this credit, you must not have owned a principal residence within three years before the new purchase.

Business Owners Beware. Credit Card Transactions Reported to IRS in 2011

This provision does not appear to be getting much press, but banks and online payment networks will have to report a merchant’s credit and debit card sales to IRS beginning in 2011. The merchant’s name, address, and taxpayer identification number will be included on these information returns. Online third-party network transactions, such as those done with PayPal, also must be reported. The stated objective of this rule is to improve tax compliance by merchants.

Hardship Distributions from Retirement Plans

If your money is locked away in an ever-decreasing 401(k) or IRA account and you need it to stay afloat, relief may be on the way. Heavy penalties, including regular income tax as well as a 10% additional penalty usually apply to early distributions from these plans. However, there are special loan provisions and hardship withdrawal rules you may be able to take advantage of in these tough economic times which will lessen the penalty. You also can withdraw certain amounts for an immediate and heavy financial need. You can withdraw from IRAs for extraordinary medical expenses, medical insurance premiums if you are unemployed, and college tuition expenses. First-time homebuyers may withdraw $10,000 from IRAs to put down on a house. If you have had to take money from your retirement plan or if you will need to do so in the immediate future, contact me to find out if you may qualify for a hardship exemption.

Another important note. One of President-Elect Barak Obama’s tax proposals is to allow a withdrawal from a retirement plan of up to $10,000 in 2008 penalty-free. This provision may be enacted early in the Obama Administration with retroactive effect!

Other Possible Tax Changes Early in Obama Administration

As the transition to a new President progresses, more information is coming out on what to expect early on the tax side in Barak Obama’s presidency. He may let some 2001 and 2003 tax breaks expire at the end of 2010, as they are currently scheduled to do. But it is beginning to look less likely that he will take any immediate action to raise taxes, even on higher income individuals earning more than $200,000 per year. At one point, Obama floated the idea of raising the capital gains and dividend tax rate on high-income filers from 15% to 20%.

You can expect some “middle-class” tax cuts to be included with any new economic stimulus package. Obama’s campaign platform included an exemption of $50,000 for all seniors, a 50% credit for child care expenses for low-income families, a working family’s credit of up to $1000, a universal mortgage credit of 10% for non-itemizers, a $4000 tax credit for tuition, and an increased savers’ credit. At one point, Obama advocated a $1000 Emergency Energy Rebate for families paid for with a Windfall Profits Tax on oil prices exceeding $80 per barrel. Oil prices are below that right now, but expected to rise again in the not-too-distant future.

You can be sure that I, as your tax professional, will be working hard to keep up with all of the potential changes and to make sure you will be able to take full advantage of any available tax relief.

Conclusion:

The Bailout Bill represents the single biggest piece of tax legislation in years. As always, your individual focus should be on how the law changes affect you and how the tax law changes benefit you. Whether it is a concern you might have over the new legislation or general issues concerning your individual tax situation, your particular tax needs are in the forefront of our thoughts. As your Tax Professional, I look forward to speaking with you regarding any personal concerns or questions you might have. Please make an appointment to see me soon.

Thank you for reviewing the December 2008 Tax Client Newsletter, and I appreciate the opportunity and privilege of serving as your tax professional.

Sincerely,

Lisa M. Stiffler, EA

Winter Tax Newsletter

2008-11-17T16:29:00.002-05:00

Lisa M. Stiffler, Inc. reminds taxpayers about the most over looked itemized deductions. Miscellaneous itemized deductions are ofter the most difficult to remember at tax time. Plus, in most cases, only your miscellaneous deductions that exceed two percent of your adjusted gross income are deductible. Did you incur any of the following expenses in 2008?

Depreciation on a self-owned computer or cell phone required to do your job.
Dues to chambers of commerce, professional societies, and unions.
Education that is employment-related.
Home office or part of your home used regularly and exclusively in your work.
Job-search expenses in your present occupations.
Legal fees related to doing or keeping you job, and protecting or collecting taxable income.
Licenses and regulatory fees, as well as occupational taxes.
Malpractice insurance premiums.
Medical examinations required by an employer.
Passport for a business trip.
Subscriptions to professional journals and trade magazines related to your work.
Tools and supplies used in your work.
Travel, transportation, entertainment, and gift expenses related to your work.
Work clothes and uniforms and their upkeep costs.
Tax preparation fees.
Union dues.
Safety equipment used for your work.
Safe deposit box.

If you incurred any of these expenses, be sure to notify Lisa M. Stiffler, EA so she can determine if they are deductible. Once you get past the two-percent limit, these deductions can really add up! For more information or any other tax-related topic, contact Lisa M. Stiffler, Inc. You can learn more about my firm at http://www.lisastiffler.com/. We would be happy to assist you in saving valuable tax dollars. I am a member of the National Association of Tax Professionals (NATP). Learn more at http://www.natptax.com/.

Lisa M. Stiffler, Inc.
P.O. Box 121770
West Melbourne, FL 32912
lisa@lisastiffler.com