If you go on a business trip within the U.S. and add on some vacation days, you know you can deduct some of your expenses. The question is how much. First, let’s cover just the pure transportation expenses. By this, we mean the costs of getting to and from the scene of your business activity, which includes travel to and from your departure airport, the airfare itself, baggage fees and tips, cabs to and from the destination airport, and so forth. Costs for rail travel or driving your personal car also fit into this category. The bottom line is that your domestic transportation costs are 100% deductible as long as the primary reason for the trip is business rather than pleasure. On the other hand, if vacation is the primary reason for your travel, then generally none of your transportation expenses are deductible.
The IRS does not specify how to determine if the primary reason for domestic travel is business. Obviously, the number of days spent on business versus pleasure is the key factor. We can look to the rules covering foreign travel for guidance on this issue. These rules say your travel days count as business days, as do weekends and holidays if they fall between days devoted to business, and it would be impractical to return home. “Standby days” (days when your physical presence is required) also count as business days, even if you are not called upon to work on those days. Any other day principally devoted to business activities during normal business hours is also counted as a business day, and so are days when you intended to work, but could not due to reasons beyond your control (local transportation difficulties, power failure, etc.).
You should be able to claim business was the primary reason for a domestic trip whenever the business days exceed the personal days. Be sure to accumulate proof and keep the proof with your tax records. For example, if your trip is made to attend client meetings, log everything on your daily planner and copy the pages for your tax file. If you attend a convention or training seminar, keep the program and take some notes to show you attended the sessions.
Once at the destination, your out-of-pocket expenses for business days are fully deductible. Out-of-pocket expenses include lodging, hotel tips, meals (subject to the 50% disallowance rule), seminar and convention fees, and cab fare. Expenses for personal days are nondeductible.
Friday, September 2, 2011
Tax Update: Business Mileage Rate Increase
The IRS recently announced that the optional mileage allowance for owned or leased autos (including vans, pickups, or panel trucks) will increase by 4.5¢, from 51¢ to 55.5¢ per mile for business travel from July 1, 2011, through December 31, 2011. This increase is to better reflect the real cost of operating an auto in this period of higher gas prices. This rate can also be used by employers to reimburse employees tax-free when employees supply their own autos for business use under an accountable plan and to value personal use of certain low-cost employer-provided vehicles. The rate for using a car to get medical care or in connection with a move that qualifies for the moving expense will also increase by 4.5¢ for the last half of 2011, from 19¢ to 23.5¢ per mile.
Inflation or Deflation: Watching for Warning Signs
There's been much debate in investing circles over the last year about whether inflation or deflation represents a more likely threat to the future of the U.S.
The Federal Reserve Board's monetary policy committee maintains that inflation currently is too weak to support normal economic growth, let alone launch an inflationary spiral. However, those who see inflation in our future watch for warning signs such as increased Treasury yields, particularly on longer-term bonds. Higher yields when bonds are auctioned suggest that investors are increasingly wary of tying up their money for long periods at a fixed interest rate if they feel that inflation is going to erode the buying power of those fixed payments over time. Wholesale prices also are watched closely; higher prices at the wholesale level can be a precursor of higher prices at retail (that is, if retailers are able to pass those costs along to buyers, which is not always the case).
Deflation typically affects not only prices but wages; scarce jobs can lead to pay cuts even for those who stay employed. And lower incomes can start a new round of cost-cutting by both consumers and business. If this process sounds familiar, it's because for much of 2009, theU.S.
Though consumers have loosened their purse strings in recent months, deflationistas argue that if another financial crisis were to reduce credit availability, or if high ongoing unemployment once again begins to weigh on consumers' willingness and ability to spend, the threat of deflation could return. Those concerned about the possibility of a new round of deflation at some point keep an eye on consumer spending, the state of the credit and housing markets, and the stability of banks and other financial institutions.
The case for inflation
As the economy has begun to recover, worries about the potential for future inflation have become widespread. The Fed has undertaken extraordinary measures to make sure there is plenty of money in circulation, but some experts worry that the increased money supply will eventually cut the dollar's purchasing power, especially if interest rates are kept at historically low levels for too long. They cite the easy availability of money as contributing to the late-1990s tech bubble and the mid-2000s housing bubble, and fear that another could be on the way.The Federal Reserve Board's monetary policy committee maintains that inflation currently is too weak to support normal economic growth, let alone launch an inflationary spiral. However, those who see inflation in our future watch for warning signs such as increased Treasury yields, particularly on longer-term bonds. Higher yields when bonds are auctioned suggest that investors are increasingly wary of tying up their money for long periods at a fixed interest rate if they feel that inflation is going to erode the buying power of those fixed payments over time. Wholesale prices also are watched closely; higher prices at the wholesale level can be a precursor of higher prices at retail (that is, if retailers are able to pass those costs along to buyers, which is not always the case).
The case for deflation
At first blush, the falling prices that characterize deflation don't sound like such a bad thing. Who wouldn't like to be able to buy things for less than they cost now, especially when times are tough? The problem is that those falling prices can harm the economy in several ways, as Americans were reminded during the recent recession. When prices are dropping, people tend to postpone purchases, hoping to pay less in the future (consider what's happened with real estate since 2007). Delayed spending puts pressure on corporate profit margins and companies tend to cut spending themselves, creating financial difficulties for companies that rely on business spending. Cutbacks begin to ripple through the economy.Deflation typically affects not only prices but wages; scarce jobs can lead to pay cuts even for those who stay employed. And lower incomes can start a new round of cost-cutting by both consumers and business. If this process sounds familiar, it's because for much of 2009, the
Though consumers have loosened their purse strings in recent months, deflationistas argue that if another financial crisis were to reduce credit availability, or if high ongoing unemployment once again begins to weigh on consumers' willingness and ability to spend, the threat of deflation could return. Those concerned about the possibility of a new round of deflation at some point keep an eye on consumer spending, the state of the credit and housing markets, and the stability of banks and other financial institutions.
Seeing shades of gray
Inflation and deflation aren't necessarily an either-or proposition. It's possible to have inflation in some areas and deflation in others; anyone who has watched food prices or health-care costs increase while their paycheck stayed the same and the value of their house declined can vouch for that.From an investing standpoint, inflation isn't black-and-white, either. Some industries and asset classes benefit from inflationary forces, while companies that are highly dependent on both commodity prices and cheap labor can be more challenged by rising prices.
Tuesday, August 9, 2011
Tax Planning for Mutual Funds
If you have ever had to go back and find mutual fund records from several years in the past, you know how painful that process can be. You may have been forced to endure searching through several years of mutual fund and broker’s statements or confirmations looking for mutual fund transaction information to have your tax return prepared. If you do manage to find those old statements, you may then be faced with computing the actual cost basis of your mutual funds after allowing for the reinvested fund distributions received each year, additional purchases, and partial sales. However, with an improved record-keeping system and some careful planning, you can avoid the headaches associated with locating investment information, ease the cost basis computation burden, and increase the after-tax rate of return on your mutual funds.
If you elect to reinvest your periodic mutual fund distributions (as many investors do), those distributions generally increase your cost basis for determining taxable gain or loss. Even when your mutual fund distributions are reinvested, you pay taxes on them in the year received [current taxation is not applicable to tax-deferred retirement accounts, such as a 401(k), IRA, etc.], and each reinvestment is like making a new purchase with its own cost basis and holding period. Therefore, when you sell or redeem your mutual fund shares, it’s critical you include that additional cost basis when computing your gain or loss. If you don’t, you may pay double the tax since you were already taxed in the year the distribution was received. Keeping track of that additional cost basis can be complicated, but it's necessary, as keeping accurate records could result in lower taxes.
When you sell or redeem mutual fund shares without liquidating your entire investment position in the fund, you have choices for determining how much cost basis is assigned to the shares sold. If you have purchased shares on different dates and at different prices, the method used can significantly affect the amount of taxable gain or loss and the holding period, which in turn determines whether you qualify for the preferential long-term capital gain tax rates.
Another planning issue relates to choosing mutual funds in which to invest. Although you cannot control the fund’s timing of internal investment sales (and their capital gain recognition and distribution), you can choose a fund that is managed with a level of tax efficiency that fits your particular situation.
Please contact us for more ideas on tracking your mutual fund investments and saving taxes.
If you elect to reinvest your periodic mutual fund distributions (as many investors do), those distributions generally increase your cost basis for determining taxable gain or loss. Even when your mutual fund distributions are reinvested, you pay taxes on them in the year received [current taxation is not applicable to tax-deferred retirement accounts, such as a 401(k), IRA, etc.], and each reinvestment is like making a new purchase with its own cost basis and holding period. Therefore, when you sell or redeem your mutual fund shares, it’s critical you include that additional cost basis when computing your gain or loss. If you don’t, you may pay double the tax since you were already taxed in the year the distribution was received. Keeping track of that additional cost basis can be complicated, but it's necessary, as keeping accurate records could result in lower taxes.
When you sell or redeem mutual fund shares without liquidating your entire investment position in the fund, you have choices for determining how much cost basis is assigned to the shares sold. If you have purchased shares on different dates and at different prices, the method used can significantly affect the amount of taxable gain or loss and the holding period, which in turn determines whether you qualify for the preferential long-term capital gain tax rates.
Another planning issue relates to choosing mutual funds in which to invest. Although you cannot control the fund’s timing of internal investment sales (and their capital gain recognition and distribution), you can choose a fund that is managed with a level of tax efficiency that fits your particular situation.
Please contact us for more ideas on tracking your mutual fund investments and saving taxes.
Corporate Distributions
There are several ways to extract cash from a closely held C corporation. The purpose of this article is to alert you to the tax planning opportunities that exist if you intend to tap into that hard-earned business cash.
Historically, dividend treatment has been something to avoid because of the double taxation issue. In effect, dividends are subject to double taxation because your corporation pays income taxes on the earnings that generate the dividends, on which you also pay income taxes when the earnings are paid out to you. This harsh effect has been softened somewhat by the lowering of the maximum qualified dividend tax rate to 15%. However, in 2013 (barring any intervening tax legislation) this favorable tax rate will expire.
A planning strategy for a closely held C corporation is to calibrate shareholder-employee salary and bonus payments to reduce the corporation’s annual taxable income to the $50,000 level and minimize the combined shareholder-owner/corporate tax liability. Sometimes, however, intentionally arranging for you to receive double-taxed dividends can be beneficial. For example, a dividend paid by your corporation begins to become tax-efficient compared to a deductible payment when your income tax rate is 28% or higher, and your corporation’s tax rate does not exceed 15%. As long as the corporation’s top rate is 15%, dividends become relatively more tax-efficient as your personal tax rate increases to 33% and 35%. Note that the top individual rate is currently scheduled to increase to 39.6% in 2013.
Your corporation may have built up substantial earnings and profits over the years. A profitable corporation becomes exposed to the accumulated earnings penalty tax when it accumulates earnings in excess of reasonable business needs and does not pay dividends. Right now, the accumulated earnings tax rate is only 15%. However, after 2012, the accumulated earnings tax rate will return to the maximum individual federal rate on ordinary income. Therefore, now is a good time to pay out dividends and reduce your corporation’s exposure to this penalty tax.
Another way for you to tap the earnings that have built up in your corporation is to arrange to distribute cash and or property for your stock. This is called a stock redemption. A stock redemption may be treated as a sale in some cases, which qualifies for capital gain or loss treatment. Sale treatment would be preferred if you have a substantial basis in your stock. Sale treatment is a good thing because the maximum tax rate on long-term capital gains is currently only 15%, but is scheduled to increase to 20% in 2013.
As you can see, the current low federal tax rates on both dividends and long-term capital gains make the idea of taking corporate distributions worth considering. With careful planning, we can determine whether dividend treatment or sale treatment is best for you.
Please contact us if you have questions or want more information on this or any other tax planning issue.
Historically, dividend treatment has been something to avoid because of the double taxation issue. In effect, dividends are subject to double taxation because your corporation pays income taxes on the earnings that generate the dividends, on which you also pay income taxes when the earnings are paid out to you. This harsh effect has been softened somewhat by the lowering of the maximum qualified dividend tax rate to 15%. However, in 2013 (barring any intervening tax legislation) this favorable tax rate will expire.
A planning strategy for a closely held C corporation is to calibrate shareholder-employee salary and bonus payments to reduce the corporation’s annual taxable income to the $50,000 level and minimize the combined shareholder-owner/corporate tax liability. Sometimes, however, intentionally arranging for you to receive double-taxed dividends can be beneficial. For example, a dividend paid by your corporation begins to become tax-efficient compared to a deductible payment when your income tax rate is 28% or higher, and your corporation’s tax rate does not exceed 15%. As long as the corporation’s top rate is 15%, dividends become relatively more tax-efficient as your personal tax rate increases to 33% and 35%. Note that the top individual rate is currently scheduled to increase to 39.6% in 2013.
Your corporation may have built up substantial earnings and profits over the years. A profitable corporation becomes exposed to the accumulated earnings penalty tax when it accumulates earnings in excess of reasonable business needs and does not pay dividends. Right now, the accumulated earnings tax rate is only 15%. However, after 2012, the accumulated earnings tax rate will return to the maximum individual federal rate on ordinary income. Therefore, now is a good time to pay out dividends and reduce your corporation’s exposure to this penalty tax.
Another way for you to tap the earnings that have built up in your corporation is to arrange to distribute cash and or property for your stock. This is called a stock redemption. A stock redemption may be treated as a sale in some cases, which qualifies for capital gain or loss treatment. Sale treatment would be preferred if you have a substantial basis in your stock. Sale treatment is a good thing because the maximum tax rate on long-term capital gains is currently only 15%, but is scheduled to increase to 20% in 2013.
As you can see, the current low federal tax rates on both dividends and long-term capital gains make the idea of taking corporate distributions worth considering. With careful planning, we can determine whether dividend treatment or sale treatment is best for you.
Please contact us if you have questions or want more information on this or any other tax planning issue.
Mid-Year Tax Considerations
Though it may seem as if the ink has barely dried on your 2010 federal income tax return, the end of 2011 is now visible on the horizon. Here are some things to consider as you take stock of your current tax situation.
Have you earmarked the resulting extra dollars in your paycheck efficiently by, for example, paying down high-interest debt or saving for retirement? If you haven't, consider making up for it by contributing an extra 4% of your income to your 401(k) or an IRA for the remainder of the year. By applying the extra money toward a long-term goal, the potential benefit of the temporary tax reduction can extend beyond 2011.
That consistency, however, does not apply to the alternative minimum tax (AMT)--essentially a parallel federal income tax system, with its own rates and rules. While the December legislation extended regular income tax rates through 2012, it only extended AMT relief (in the form of increased AMT exemption amounts) through 2011. You can probably expect another AMT fix in legislation later this year, since without it there would be a dramatic increase in the number of individuals subject to AMT in 2012. But that leaves a fair degree of uncertainty today, however, as you consider your overall tax situation.
IRA qualified charitable distributions: Absent additional legislation, 2011 will be the last year that you'll be able to make qualified charitable distributions (QCDs) of up to $100,000 from an IRA directly to a qualified charity if you're age 70½ or older. Such distributions may be excluded from income and count toward satisfying any required minimum distributions (RMDs) that you would otherwise have to receive from your IRA in 2011.
Depreciation and IRC Section 179 expensing: If you're a business owner or self-employed individual, you're allowed a first-year depreciation deduction of 100% of the cost of qualifying property acquired and placed in service during 2011 (the "bonus" first-year additional depreciation deduction will drop to 50% for property acquired and placed in service during 2012). For 2011, the maximum amount that can be expensed under IRC Section 179 is $500,000, but in 2012 the limit will drop to $125,000.
For more information, questions or concerns, please call our office, 714-772-4744.
The 2% difference
If you're an employee, 6.2% of your wages (up to the taxable wage base--$106,800 in 2011) would normally be withheld for your portion of the Social Security retirement component of FICA employment tax. But legislation passed in December 2010 included a temporary one-year 2% reduction in this tax. That means for 2011, you're paying the tax at a rate of 4.2%. If you're self-employed, the 12.4% you would normally pay for the Social Security portion of your self-employment tax is reduced to 10.4%.Have you earmarked the resulting extra dollars in your paycheck efficiently by, for example, paying down high-interest debt or saving for retirement? If you haven't, consider making up for it by contributing an extra 4% of your income to your 401(k) or an IRA for the remainder of the year. By applying the extra money toward a long-term goal, the potential benefit of the temporary tax reduction can extend beyond 2011.
Tax rates
The same federal income tax rates that applied in 2010 continue to apply in 2011 and 2012 (depending on your taxable income, you'll fall into either the 10%, 15%, 25%, 28%, 33%, or 35% rate bracket). And, as in 2010, long-term capital gains and qualifying dividends in 2011 and 2012 continue to be taxed at a maximum rate of 15%; if you're in the 10% or 15% marginal income tax brackets, a special 0% rate will generally apply. So, unlike this time last year, you don't have to contend with the uncertainty of not knowing what next year's tax rates will be.That consistency, however, does not apply to the alternative minimum tax (AMT)--essentially a parallel federal income tax system, with its own rates and rules. While the December legislation extended regular income tax rates through 2012, it only extended AMT relief (in the form of increased AMT exemption amounts) through 2011. You can probably expect another AMT fix in legislation later this year, since without it there would be a dramatic increase in the number of individuals subject to AMT in 2012. But that leaves a fair degree of uncertainty today, however, as you consider your overall tax situation.
Also worth noting
Small business stock: Generally, individuals may exclude 50% of any capital gain from the sale or exchange of qualified small business stock provided they meet certain requirements, including a five-year holding period. For qualified small business stock issued and acquired after September 27, 2010, and before January 1, 2012, however, 100% of any capital gain may be excluded from income if the stock is held for at least five years and all other requirements are met.IRA qualified charitable distributions: Absent additional legislation, 2011 will be the last year that you'll be able to make qualified charitable distributions (QCDs) of up to $100,000 from an IRA directly to a qualified charity if you're age 70½ or older. Such distributions may be excluded from income and count toward satisfying any required minimum distributions (RMDs) that you would otherwise have to receive from your IRA in 2011.
Depreciation and IRC Section 179 expensing: If you're a business owner or self-employed individual, you're allowed a first-year depreciation deduction of 100% of the cost of qualifying property acquired and placed in service during 2011 (the "bonus" first-year additional depreciation deduction will drop to 50% for property acquired and placed in service during 2012). For 2011, the maximum amount that can be expensed under IRC Section 179 is $500,000, but in 2012 the limit will drop to $125,000.
For more information, questions or concerns, please call our office, 714-772-4744.
Monday, July 11, 2011
Deducting Interest on Home Loans
The political debate on tax reform touches many topics, including the federal tax deduction for interest on home loans. There is no way to determine if this deduction will continue or at what level, but we thought it would be a good time to review current federal law on deducting residential interest.
Interest paid on qualified residence debt is deductible, but limitations apply. Qualified residence debt can be either (a) home acquisition indebtedness, or (b) home equity indebtedness. Qualified residence interest expense incurred on up to $1 million ($500,000 for married filing separately) of home acquisition indebtedness is fully deductible for regular tax purposes as an itemized deduction. Taxpayers generally can deduct interest on up to $100,000 ($50,000 for married filing separately) of home equity indebtedness. However, there are restrictions on the deductibility of qualified residence and home equity interest for AMT purposes.
Mortgage interest is only deductible when paid by the taxpayer who is the legal or equitable owner of the property. Thus, a taxpayer cannot deduct interest he or she pays on the mortgage of another person. This may occur, for example, if parents make mortgage payments for their adult children. Similarly, a taxpayer who holds a mortgage generally cannot deduct the interest if it is paid by another person.
A qualified residence (for determining if the underlying debt is qualified residence debt) can be the taxpayer’s principal residence and one other residence selected by the taxpayer for the tax year. In other words, if the taxpayer has several vacation homes in addition to a principal residence, the taxpayer can designate a different vacation home as the second qualified residence for different tax years. A residence is defined as (a) a house, (b) a condominium, (c) a mobile home, (d) a boat, (e) a house trailer, or (f) other property that under all the facts and circumstances can be considered a residence. Vacant land used for occasional camping does not qualify as a residence.
Planning Tip: Taxpayers with more than two homes should consider keeping a mortgage on their principal residence and one other residence selected as a qualified residence and paying off debt on any house(s) for which interest will not be deductible.
Spouses who file a joint return may treat their common principal residence, as well as property that otherwise qualifies as a second residence, whether it is owned jointly or by one spouse only, as a qualified residence. Conversely, spouses who file separate returns may each take into account only one residence as the qualified residence, regardless of how the properties are owned. However, a deduction for a second residence is available if both spouses consent in writing to one of them taking into account both the principal and the second residence.
A residence under construction can be treated as a qualified residence for up to 24 months, but only if the residence actually becomes a qualified residence when it is ready for occupancy. However, the land a home is constructed on does not qualify as a residence under the above rule until construction begins. Interest on debt to acquire a lot that is incurred before construction begins would be personal interest. However, that interest could be deductible if a home equity loan is used to acquire the lot.
Please contact us to discuss the tax treatment for interest on your home loan or any other tax compliance or planning issue.
Interest paid on qualified residence debt is deductible, but limitations apply. Qualified residence debt can be either (a) home acquisition indebtedness, or (b) home equity indebtedness. Qualified residence interest expense incurred on up to $1 million ($500,000 for married filing separately) of home acquisition indebtedness is fully deductible for regular tax purposes as an itemized deduction. Taxpayers generally can deduct interest on up to $100,000 ($50,000 for married filing separately) of home equity indebtedness. However, there are restrictions on the deductibility of qualified residence and home equity interest for AMT purposes.
Mortgage interest is only deductible when paid by the taxpayer who is the legal or equitable owner of the property. Thus, a taxpayer cannot deduct interest he or she pays on the mortgage of another person. This may occur, for example, if parents make mortgage payments for their adult children. Similarly, a taxpayer who holds a mortgage generally cannot deduct the interest if it is paid by another person.
A qualified residence (for determining if the underlying debt is qualified residence debt) can be the taxpayer’s principal residence and one other residence selected by the taxpayer for the tax year. In other words, if the taxpayer has several vacation homes in addition to a principal residence, the taxpayer can designate a different vacation home as the second qualified residence for different tax years. A residence is defined as (a) a house, (b) a condominium, (c) a mobile home, (d) a boat, (e) a house trailer, or (f) other property that under all the facts and circumstances can be considered a residence. Vacant land used for occasional camping does not qualify as a residence.
Planning Tip: Taxpayers with more than two homes should consider keeping a mortgage on their principal residence and one other residence selected as a qualified residence and paying off debt on any house(s) for which interest will not be deductible.
Spouses who file a joint return may treat their common principal residence, as well as property that otherwise qualifies as a second residence, whether it is owned jointly or by one spouse only, as a qualified residence. Conversely, spouses who file separate returns may each take into account only one residence as the qualified residence, regardless of how the properties are owned. However, a deduction for a second residence is available if both spouses consent in writing to one of them taking into account both the principal and the second residence.
A residence under construction can be treated as a qualified residence for up to 24 months, but only if the residence actually becomes a qualified residence when it is ready for occupancy. However, the land a home is constructed on does not qualify as a residence under the above rule until construction begins. Interest on debt to acquire a lot that is incurred before construction begins would be personal interest. However, that interest could be deductible if a home equity loan is used to acquire the lot.
Please contact us to discuss the tax treatment for interest on your home loan or any other tax compliance or planning issue.
Current Favorable Long-term Capital Gain Rates
Congress continues to discuss tax reform and whether taxes and spending should be raised or lowered. One of the topics being bantered about is whether long-term capital gain rates should be increased. Although it is difficult to say where tax rates will go in the future, we have a pretty good idea of where they will be until the end of 2012, when the current lower rates are set to expire.
The present preferential tax treatment of long-term capital gains is creating a significant planning opportunity. Clearly, for taxpayers in higher ordinary income tax brackets, shifting to investments that generate long-term capital gains rather than ordinary income should reduce taxes.
To qualify for the preferential long-term capital gain rates, the taxpayer must hold the asset for more than 12 months. The holding period generally begins the day after an asset is purchased and runs through (and includes) the date of sale. These rules must be followed exactly, because missing the required holding period by even one day prevents the taxpayer from using the preferential rates. However, the downside of holding assets (e.g., stocks) for a longer term is the risk that the price or value will fall and money will be lost on that investment.
Note that it is important to consider owning assets that generate capital gains outside of qualified (e.g., pension or profit-sharing) plans or IRAs. Distributions from those retirement accounts are almost always ordinary income, so the benefit of the lower long-term capital gain rates may be wasted.
Generally, your ordinary income assets should be held inside the qualified plan or IRA, and capital gain assets should be held directly in taxable accounts. However, a careful analysis of your investment policy is necessary to determine how to allocate investments between your qualified accounts and taxable accounts.
Please contact us to discuss how to qualify for long-term capital gain treatment.
The present preferential tax treatment of long-term capital gains is creating a significant planning opportunity. Clearly, for taxpayers in higher ordinary income tax brackets, shifting to investments that generate long-term capital gains rather than ordinary income should reduce taxes.
To qualify for the preferential long-term capital gain rates, the taxpayer must hold the asset for more than 12 months. The holding period generally begins the day after an asset is purchased and runs through (and includes) the date of sale. These rules must be followed exactly, because missing the required holding period by even one day prevents the taxpayer from using the preferential rates. However, the downside of holding assets (e.g., stocks) for a longer term is the risk that the price or value will fall and money will be lost on that investment.
Note that it is important to consider owning assets that generate capital gains outside of qualified (e.g., pension or profit-sharing) plans or IRAs. Distributions from those retirement accounts are almost always ordinary income, so the benefit of the lower long-term capital gain rates may be wasted.
Generally, your ordinary income assets should be held inside the qualified plan or IRA, and capital gain assets should be held directly in taxable accounts. However, a careful analysis of your investment policy is necessary to determine how to allocate investments between your qualified accounts and taxable accounts.
Please contact us to discuss how to qualify for long-term capital gain treatment.
Friday, July 8, 2011
Rollovers from Qualified Plans to IRAs
Deciding whether it is advantageous to roll over a qualified retirement plan account [e.g., 401(k) account] to an IRA depends on the taxpayer’s specific circumstances. However, there are some general advantages:
1. Postmortem Tax-deferral Opportunities. Beneficiary designations as of the date of the owner’s death control the availability of various postmortem tax-deferral opportunities. Therefore, it is important to set up these designations to maximize those opportunities. Greater flexibility generally is afforded in beneficiary designations for IRAs and in stretching out the tax-deferral period.
2. Investment Choices. Although some qualified plans offer self-directed accounts, many restrict the available investment choices. However, most IRA providers offer their entire investment portfolio for the participant to choose from.
3. Availability of Taking Withdrawals. While most qualified plans restrict the availability of withdrawals, IRA withdrawals are available at any time and in any amount.
4. Investment Advice. While in recent years the availability of investment advice offered to qualified plan participants has expanded, IRAs generally will offer greater availability. However, the cost of that advice should be compared to the services that are being provided.
5. Control over Funds. When funds are maintained in a qualified plan, the employer has the right to amend discretionary provisions in the plan, including the right to terminate it. This is not the case with an IRA.
Please contact us if you have questions about qualified plan rollovers or the tax aspects of retirement saving.
1. Postmortem Tax-deferral Opportunities. Beneficiary designations as of the date of the owner’s death control the availability of various postmortem tax-deferral opportunities. Therefore, it is important to set up these designations to maximize those opportunities. Greater flexibility generally is afforded in beneficiary designations for IRAs and in stretching out the tax-deferral period.
2. Investment Choices. Although some qualified plans offer self-directed accounts, many restrict the available investment choices. However, most IRA providers offer their entire investment portfolio for the participant to choose from.
3. Availability of Taking Withdrawals. While most qualified plans restrict the availability of withdrawals, IRA withdrawals are available at any time and in any amount.
4. Investment Advice. While in recent years the availability of investment advice offered to qualified plan participants has expanded, IRAs generally will offer greater availability. However, the cost of that advice should be compared to the services that are being provided.
5. Control over Funds. When funds are maintained in a qualified plan, the employer has the right to amend discretionary provisions in the plan, including the right to terminate it. This is not the case with an IRA.
Please contact us if you have questions about qualified plan rollovers or the tax aspects of retirement saving.
Tuesday, April 5, 2011
New Details for Selected Charitable Contributions
The 2010 Tax Relief Act extended numerous federal tax provisions. Among those are two valuable charitable contribution opportunities for individuals. The IRA qualified charitable contributions provision was extended through 2011. Under this provision, IRA owners who have reached age 70½ are allowed to make annual tax-free distributions of up to $100,000 directly out of their IRAs to charitable organizations.
These donations, called qualified charitable distributions (QCDs), generally do not directly affect the IRA owner’s federal income tax bill because funds go directly to the charity. Additionally, the taxpayer does not need to itemize to benefit from this provision, and the QCDs count as IRA required minimum distributions (RMDs). Therefore, charitably inclined seniors with more IRA money than they need can get a tax break by arranging for tax-free QCDs to take the place of taxable RMDs, and those who do not itemize can effectively get the benefit of the deduction by arranging tax-free QCDs. The QCD break originally expired at the end of 2009 but has been extended through 2011.
Liberalized qualified conservation contribution rules expired at the end of 2009, but were extended through 2011 by the recent 2010 Tax Relief Act. Qualified conservation contributions are charitable donations of real property interests, including remainder interests and easements that restrict the use of real property. For individuals, the maximum write-off for qualified conservation contributions of long-term capital gain property is increased from the normal 30% to 50% of adjusted gross income.
For an individual who is a qualified farmer or rancher, the qualified conservation contribution write-off for donated farm or ranch real property can be as much as 100% of the donor’s adjusted gross income. However, the donation must include a usage restriction stating that the property must remain available for agricultural or livestock production. In addition, qualified conservation contributions are not counted when calculating an individual’s allowable write-offs for other charitable contributions. Qualified conservation contributions in excess of what can be written off in the year of the donation can be carried forward for 15 years (only a five-year carryover period was allowed under the previous rules).
Please contact us concerning these or other charitable contribution opportunities.
These donations, called qualified charitable distributions (QCDs), generally do not directly affect the IRA owner’s federal income tax bill because funds go directly to the charity. Additionally, the taxpayer does not need to itemize to benefit from this provision, and the QCDs count as IRA required minimum distributions (RMDs). Therefore, charitably inclined seniors with more IRA money than they need can get a tax break by arranging for tax-free QCDs to take the place of taxable RMDs, and those who do not itemize can effectively get the benefit of the deduction by arranging tax-free QCDs. The QCD break originally expired at the end of 2009 but has been extended through 2011.
Liberalized qualified conservation contribution rules expired at the end of 2009, but were extended through 2011 by the recent 2010 Tax Relief Act. Qualified conservation contributions are charitable donations of real property interests, including remainder interests and easements that restrict the use of real property. For individuals, the maximum write-off for qualified conservation contributions of long-term capital gain property is increased from the normal 30% to 50% of adjusted gross income.
For an individual who is a qualified farmer or rancher, the qualified conservation contribution write-off for donated farm or ranch real property can be as much as 100% of the donor’s adjusted gross income. However, the donation must include a usage restriction stating that the property must remain available for agricultural or livestock production. In addition, qualified conservation contributions are not counted when calculating an individual’s allowable write-offs for other charitable contributions. Qualified conservation contributions in excess of what can be written off in the year of the donation can be carried forward for 15 years (only a five-year carryover period was allowed under the previous rules).
Please contact us concerning these or other charitable contribution opportunities.
Claiming Bonus Depreciation for Business Property Acquisitions
As the economy picks up, business begins to expand, and the bottom line starts to improve. But, quite often, the tax bill goes up as well. However, an excellent way to reduce that tax bill is through the use of bonus depreciation. Bonus depreciation is available for qualified property in the year the property is acquired and placed in service. Bonus depreciation is not prorated; therefore, it doesn’t matter when during the tax year the property was placed in service. So, even property placed in service on the last day of the tax year is eligible for the full applicable amount. Bonus depreciation is available for qualifying vehicles via an $8,000 increase in the first-year luxury auto depreciation limit.
The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (2010 Tax Relief Act) provides for 100% first-year bonus depreciation (i.e., effectively writing off the entire cost of the asset in the year placed in service) for qualified property that is purchased and placed in service after September 8, 2010, and before January 1, 2012 (January 1, 2013, for certain aircraft and long-production-period property). Prior to this legislation, the maximum bonus depreciation allowance percentage had been 50%. Note the 100% first-year bonus depreciation rules apply for both regular tax and AMT purposes, so no adjustment is required for AMT.
To be eligible for bonus depreciation, the property must meet three broad criteria:
1. The asset must be qualified property (defined below),
2. The original use must commence with the taxpayer, and
3. The property must be acquired and placed in service before January 1, 2012 (January 1, 2013, for certain aircraft and long-production-period property).
Qualified property must also meet one of four definitions:
1. The asset is eligible property with a recovery period of 20 years or less.
2. The asset is depreciable computer software.
3. The property is water utility property.
4. The asset is qualified leasehold improvement property.
The term original use generally means the first use of the asset. Simply put, the asset generally must be new, rather than pre-owned; however, there are some exceptions. New property initially used by a taxpayer for personal use and subsequently converted to business use meets the original-use requirement. Property acquired for use in a taxpayer’s business that was previously used by another taxpayer does not qualify regardless of how the previous owner used the property (i.e., for business or personal use). Capital expenditures to recondition or rebuild acquired or owned property satisfy the original use requirement, but purchases of reconditioned or rebuilt assets do not qualify. The determination of whether an asset is reconditioned or rebuilt (i.e., used) is a question of fact. However, an asset that contains used parts will not be considered used if the cost of the used parts is 20% or less of the total cost.
The time to take advantage of the 100% first-year bonus depreciation provision is limited. So, please contact us to discuss the benefits of bonus depreciation or any other tax compliance or planning issue.
Tahim and Associates, APC
An Accountancy and Financial Planning Firm
Tel: 714-772-4744
The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (2010 Tax Relief Act) provides for 100% first-year bonus depreciation (i.e., effectively writing off the entire cost of the asset in the year placed in service) for qualified property that is purchased and placed in service after September 8, 2010, and before January 1, 2012 (January 1, 2013, for certain aircraft and long-production-period property). Prior to this legislation, the maximum bonus depreciation allowance percentage had been 50%. Note the 100% first-year bonus depreciation rules apply for both regular tax and AMT purposes, so no adjustment is required for AMT.
To be eligible for bonus depreciation, the property must meet three broad criteria:
1. The asset must be qualified property (defined below),
2. The original use must commence with the taxpayer, and
3. The property must be acquired and placed in service before January 1, 2012 (January 1, 2013, for certain aircraft and long-production-period property).
Qualified property must also meet one of four definitions:
1. The asset is eligible property with a recovery period of 20 years or less.
2. The asset is depreciable computer software.
3. The property is water utility property.
4. The asset is qualified leasehold improvement property.
The term original use generally means the first use of the asset. Simply put, the asset generally must be new, rather than pre-owned; however, there are some exceptions. New property initially used by a taxpayer for personal use and subsequently converted to business use meets the original-use requirement. Property acquired for use in a taxpayer’s business that was previously used by another taxpayer does not qualify regardless of how the previous owner used the property (i.e., for business or personal use). Capital expenditures to recondition or rebuild acquired or owned property satisfy the original use requirement, but purchases of reconditioned or rebuilt assets do not qualify. The determination of whether an asset is reconditioned or rebuilt (i.e., used) is a question of fact. However, an asset that contains used parts will not be considered used if the cost of the used parts is 20% or less of the total cost.
The time to take advantage of the 100% first-year bonus depreciation provision is limited. So, please contact us to discuss the benefits of bonus depreciation or any other tax compliance or planning issue.
Tahim and Associates, APC
An Accountancy and Financial Planning Firm
Tel: 714-772-4744
Age-related Planning Milestones
In an era filled with uncertainty, you can count on one thing for sure: time marches on! Listed below are some important age-related tax and financial planning milestones that you should keep in mind. Many of these milestones present tax-saving opportunities.
Age 0–23:
The so-called Kiddie Tax rules can potentially apply to your child’s or grandchild’s investment income above a specified amount until the year he or she reaches age 24. For 2011, the investment income threshold is $1,900.
Age 50:
If you’re age 50 or older as of the end of the year, you can make an additional catch-up contribution of up to $5,500 for 2011 to your 401(k), Section 403(b), or Section 457 plan, or up to $2,500 for 2011 to your SIMPLE plan, assuming the plan permits catch-up contributions. You can also make an additional catch-up contribution of up to $1,000 for 2011 to your traditional or Roth IRA.
Age 55:
If you permanently leave your job for any reason, you can receive distributions from the former employer’s qualified retirement plan(s) without being hit with the 10% premature withdrawal penalty tax. This is an exception to the general rule that the taxable portion of qualified retirement plan distributions received before age 59½ are subject to the 10% penalty tax.
Age 59½:
You can receive distributions from all types of tax-favored retirement plans and accounts [e.g., IRAs, 401(k) accounts, pensions] and from tax-deferred annuities without incurring the 10% premature withdrawal penalty tax. Before age 59½, the 10% penalty tax will hit the taxable portion of distributions unless an exception to the penalty tax applies.
Age 62:
You can choose to start receiving social security retirement benefits; however, your benefits will be lower than if you wait until reaching full retirement age, which is age 66 for those born between 1943 and 1954. If you also work before reaching full retirement age, your 2011 social security retirement benefits will be further reduced if your income from working exceeds $14,160 for 2011.
Age 66:
You can start receiving full social security retirement benefits at age 66 if you were born between 1943 and 1954. You won’t lose any benefits if you work in years after the year you reach age 66, regardless of how much money you make in those years. However, if you will reach age 66 this year, your 2011 benefits will be reduced if this year’s earnings exceed $37,680.
Age 70:
You can choose to postpone receiving social security retirement benefits until you reach age 70. If you make this choice, your benefits will be higher than if you started earlier.
Age 70½:
You generally must begin taking annual required minimum distributions (RMDs) from tax-favored retirement accounts [e.g., traditional IRAs, SEP accounts, 401(k) accounts] and pay the resulting income taxes. (However, you need not take any RMDs from Roth IRAs set up in your name.) The initial RMD is for the year you turn 70½, but you can postpone taking that one until as late as April 1 of the following year. If you choose that option, however, you must take two RMDs in that year: one by the April 1 deadline (the RMD for the previous year), plus another by December 31 (the RMD for the current year). For each subsequent year, you must take another RMD by December 31. There’s one more exception: if you’re still working after reaching age 70½ and you don’t own over 5% of the employer, you can postpone taking any RMDs from the employer’s plan(s) until after you’ve actually retired.
Age 0–23:
The so-called Kiddie Tax rules can potentially apply to your child’s or grandchild’s investment income above a specified amount until the year he or she reaches age 24. For 2011, the investment income threshold is $1,900.
Age 50:
If you’re age 50 or older as of the end of the year, you can make an additional catch-up contribution of up to $5,500 for 2011 to your 401(k), Section 403(b), or Section 457 plan, or up to $2,500 for 2011 to your SIMPLE plan, assuming the plan permits catch-up contributions. You can also make an additional catch-up contribution of up to $1,000 for 2011 to your traditional or Roth IRA.
Age 55:
If you permanently leave your job for any reason, you can receive distributions from the former employer’s qualified retirement plan(s) without being hit with the 10% premature withdrawal penalty tax. This is an exception to the general rule that the taxable portion of qualified retirement plan distributions received before age 59½ are subject to the 10% penalty tax.
Age 59½:
You can receive distributions from all types of tax-favored retirement plans and accounts [e.g., IRAs, 401(k) accounts, pensions] and from tax-deferred annuities without incurring the 10% premature withdrawal penalty tax. Before age 59½, the 10% penalty tax will hit the taxable portion of distributions unless an exception to the penalty tax applies.
Age 62:
You can choose to start receiving social security retirement benefits; however, your benefits will be lower than if you wait until reaching full retirement age, which is age 66 for those born between 1943 and 1954. If you also work before reaching full retirement age, your 2011 social security retirement benefits will be further reduced if your income from working exceeds $14,160 for 2011.
Age 66:
You can start receiving full social security retirement benefits at age 66 if you were born between 1943 and 1954. You won’t lose any benefits if you work in years after the year you reach age 66, regardless of how much money you make in those years. However, if you will reach age 66 this year, your 2011 benefits will be reduced if this year’s earnings exceed $37,680.
Age 70:
You can choose to postpone receiving social security retirement benefits until you reach age 70. If you make this choice, your benefits will be higher than if you started earlier.
Age 70½:
You generally must begin taking annual required minimum distributions (RMDs) from tax-favored retirement accounts [e.g., traditional IRAs, SEP accounts, 401(k) accounts] and pay the resulting income taxes. (However, you need not take any RMDs from Roth IRAs set up in your name.) The initial RMD is for the year you turn 70½, but you can postpone taking that one until as late as April 1 of the following year. If you choose that option, however, you must take two RMDs in that year: one by the April 1 deadline (the RMD for the previous year), plus another by December 31 (the RMD for the current year). For each subsequent year, you must take another RMD by December 31. There’s one more exception: if you’re still working after reaching age 70½ and you don’t own over 5% of the employer, you can postpone taking any RMDs from the employer’s plan(s) until after you’ve actually retired.
Monday, March 7, 2011
Today's News on Social Security for Baby Boomers
Today, March 7, 2011 MONEY Magazine published:
The first wave of of baby boomers -- including Cher, Steven Spielberg, George W. Bush, Bill Clinton, and nearly 3 million other Americans -- will turn 65 this year. If you're among those celebrating in 2011 or the next few years, you may be feeling a bit gloomy about a birthday that officially crowns you a senior citizen. You're too young to be old, right? Adding insult to arthritis, this big birthday doesn't offer all the perks it used to: You can't collect full Social Security benefits at age 65 anymore; boomers qualify between 66 and 67, depending on their birth year. And most "senior" discounts -- from travel bargains to blue-plate specials -- kick in from 50 to 60 nowadays, as horrifying as that may be.
(See seniordiscounts.com for a comprehensive list.)
That's not to say that this trip over the hill isn't a financial milestone at all. There are still a few important actions to take and things to think about as you approach this new mark of maturity.
* A larger federal deduction. The standard deduction increases for taxpayers 65 and older -- good news for those who don't itemize. For singles it goes from $5,700 to $7,100; for couples in which one partner is 65 it rises from $11,400 to $12,500; when both spouses are 65 or older, it's $13,600. That last boost, for those in the 28% bracket, knocks $616 off your tax bill.
* Property tax breaks. Forty-five states and the District of Columbia give seniors a break on real estate taxes for a primary residence, says analyst Cathleen Calhoun of tax information service CCH; in the vast majority of them you must be 65 to qualify.
The deals vary: In Ohio the Homestead Exemption cuts about $400 off yearly property taxes. In Illinois the assessment on your home is frozen when you or your spouse turns 65. Check with your tax assessor's office to see what's offered and if there are any income limits or prerequisites.
For more information on Pre/ Post Retirement Planning contact our office. We also offer our comprehensive retirement planning guides for those in or planning to retire in the next 5-10 years.
The first wave of of baby boomers -- including Cher, Steven Spielberg, George W. Bush, Bill Clinton, and nearly 3 million other Americans -- will turn 65 this year. If you're among those celebrating in 2011 or the next few years, you may be feeling a bit gloomy about a birthday that officially crowns you a senior citizen. You're too young to be old, right? Adding insult to arthritis, this big birthday doesn't offer all the perks it used to: You can't collect full Social Security benefits at age 65 anymore; boomers qualify between 66 and 67, depending on their birth year. And most "senior" discounts -- from travel bargains to blue-plate specials -- kick in from 50 to 60 nowadays, as horrifying as that may be.
(See seniordiscounts.com for a comprehensive list.)
That's not to say that this trip over the hill isn't a financial milestone at all. There are still a few important actions to take and things to think about as you approach this new mark of maturity.
1. Get set with Medicare
"If you don't take Medicare at the appropriate time, you face a lifetime of penalties and will have gaps in coverage," says Ilene Stein, a lawyer at the Medicare Rights Center. You can enroll, at medicare.gov or by calling 800-772-1213, from three months before you turn 65, and Medicare will kick in the first day of your birth month. You have three months after your birthday to enroll without penalty -- unless you're still working and have comparable insurance through your job, in which case you have eight months after that coverage ends to join up. Deciding between original Medicare (Parts A and B) and privately run Advantage plans (Part C) can be overwhelming. But you can compare premiums and out-of-pocket costs for all your options at medicare.gov. Just be sure to narrow your Advantage choices to plans that get four or five stars from Medicare. 2. Slash your taxes
Facing higher costs under health care reform, some plans may slash benefits or raise premiums. But as of 2012, the highest-rated plans will get federal bonuses too. At 65 you're entitled to some tax breaks that can add up to serious savings. These include: * A larger federal deduction. The standard deduction increases for taxpayers 65 and older -- good news for those who don't itemize. For singles it goes from $5,700 to $7,100; for couples in which one partner is 65 it rises from $11,400 to $12,500; when both spouses are 65 or older, it's $13,600. That last boost, for those in the 28% bracket, knocks $616 off your tax bill.
* Property tax breaks. Forty-five states and the District of Columbia give seniors a break on real estate taxes for a primary residence, says analyst Cathleen Calhoun of tax information service CCH; in the vast majority of them you must be 65 to qualify.
The deals vary: In Ohio the Homestead Exemption cuts about $400 off yearly property taxes. In Illinois the assessment on your home is frozen when you or your spouse turns 65. Check with your tax assessor's office to see what's offered and if there are any income limits or prerequisites.
3. Assess retirement plans
Sixty-five may no longer be the retirement turning point it used to be, but it's still a watershed year psychologically. If you're still working -- nearly half of leading-edge boomers are, a recent AARP survey found -- you may be feeling an itch to get out. Put that desire to use by thinking about how you'd like to spend your retirement. Will you travel? Will you work at all? Will you move? Next, figure out how much your dream life will cost, and stress test your nest egg. Our OnTrak Retirement calculator can help you determine how much income your savings, Social Security, and any pension will provide. If it isn't enough, you could dial back your plans or work a few more years to postpone drawing on your savings and collecting Social Security. Delaying the latter beyond your full retirement age increases your benefit 8% a year. Determine what your payout will be with the Retirement Estimator at ssa.gov.For more information on Pre/ Post Retirement Planning contact our office. We also offer our comprehensive retirement planning guides for those in or planning to retire in the next 5-10 years.
Individual and Business Tax Relief from New Law
The recent Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (Act) includes many taxpayer-friendly provisions for individuals and businesses. Listed below is information on several of them.
Lower Tax Rates. The Act extends the 10%, 15%, 25%, 28%, 33%, and 35% federal income tax rates on ordinary income through 2012. It also extends the 0% and 15% federal income tax rates on most long-term capital gains and dividends through 2012. Without the new law, most long-term capital gains would have been taxed at 10% or 20%, and dividends would have been taxed at ordinary rates of up to 39.6%.
Marriage Penalty Relief. Getting married can cause a couple’s combined federal income tax bill to be higher than if they were single. Tax reduction legislation in 2001 eased this marriage penalty by tweaking the lowest two tax brackets for married couples and giving them bigger standard deductions. The Act extends this relief through 2012.
Social Security Tax Reduction. The Act cuts the Social Security tax withholding rate on employee salaries from 6.2% to 4.2% for 2011. This temporary change affects the first $106,800 of 2011 wages. The maximum savings are $2,136 for unmarried individuals and $4,272 for couples. The Social Security tax component of the self-employment tax is cut from 12.4% to 10.4% for 2011, so self-employed folks will benefit, too.
Alternative Minimum Tax (AMT). As you may know, it has become an annual ritual for Congress to “patch” the AMT rules to prevent millions of additional households from getting socked with this add-on tax. The patch primarily consists of allowing bigger AMT exemptions and allowing personal tax credits to offset the AMT. The Act provides an AMT patch for 2010 and 2011.
American Opportunity Education Credit. The American Opportunity credit can be worth up to $2,500, be claimed for up to four years of undergraduate education, and is 40% refundable. It was scheduled to expire at the end of 2010. The Act extends this credit through 2012.
College Tuition Deduction. This write-off, which can be as much as $4,000, or $2,000 at higher income levels, expired at the end of 2009. The Act retroactively restores the deduction for 2010 and extends it through 2011.
More Generous Student Loan Interest Deduction. This write-off, which can be as much as $2,500 (whether you itemize or not), was scheduled to fall under less favorable rules in 2011 and beyond. The Act extends through 2012 the more favorable rules established by 2001 legislation.
Education Savings Accounts (ESAs). For 2011, the maximum contribution to federal-income-tax-free ESAs was scheduled to drop from $2,000 to only $500, and a stricter phase-out rule would have limited contributions by many married joint-filing couples. The Act extends through 2012 the more generous contribution rules established by 2001 legislation.
State and Local Sales Taxes. For the last few years, individuals who paid little or no state income taxes had the option of claiming an alternative itemized deduction for state and local general sales taxes. The sales tax deduction option expired at the end of 2009. The Act retroactively restores it for 2010 and extends it through 2011.
Smaller Tax Credit for 2011 Energy-efficient Home Improvements. The 2009 Stimulus Act provided that 30% of 2009 and 2010 expenditures for energy-efficient insulation, windows, doors, roofs, and heating and cooling equipment in U.S. residences could qualify for a credit, up to a maximum credit amount of $1,500, over the two years combined. The Act extends the credit through 2011, but the credit percentage is scaled back to only 10%, and the lifetime credit limit is only $500. The $500 credit cap is reduced by any credits claimed in 2006–2010.
First-year Bonus Depreciation. The Act generally allows 100% first-year bonus depreciation for qualifying new assets that are acquired and placed in service after September 8, 2010, through December 31, 2011. It also allows 50% first-year bonus depreciation for qualifying new assets that are placed in service in calendar year 2012. For a new passenger auto or light truck that is used for business and is subject to the luxury auto depreciation limitation, the bonus depreciation breaks increase the maximum first-year depreciation deduction by $8,000 for vehicles acquired and placed in service by December 31, 2012.
15-year Depreciation for Leasehold Improvements, Restaurant Property, and Retail Space Improvements. The 15-year straight-line depreciation privilege for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail space improvements is retroactively restored for property placed in service in 2010 and extended to cover property placed in service in 2011. (Without the favorable 15-year depreciation rule, these assets would have to be depreciated straight-line over 39 years.)
100% Gain Exclusion for Qualified Small Business Stock (QSBS). The Small Business Jobs Act of 2010 (enacted last September) created temporary 100% gain exclusion (within limits) for sales of QSBS issued after September 27, 2010, through December 31, 2010. The Act extends the window for taking advantage of this change by one year to cover QSBS shares issued after September 27, 2010, through December 31, 2011.
Lower Tax Rates. The Act extends the 10%, 15%, 25%, 28%, 33%, and 35% federal income tax rates on ordinary income through 2012. It also extends the 0% and 15% federal income tax rates on most long-term capital gains and dividends through 2012. Without the new law, most long-term capital gains would have been taxed at 10% or 20%, and dividends would have been taxed at ordinary rates of up to 39.6%.
Marriage Penalty Relief. Getting married can cause a couple’s combined federal income tax bill to be higher than if they were single. Tax reduction legislation in 2001 eased this marriage penalty by tweaking the lowest two tax brackets for married couples and giving them bigger standard deductions. The Act extends this relief through 2012.
Social Security Tax Reduction. The Act cuts the Social Security tax withholding rate on employee salaries from 6.2% to 4.2% for 2011. This temporary change affects the first $106,800 of 2011 wages. The maximum savings are $2,136 for unmarried individuals and $4,272 for couples. The Social Security tax component of the self-employment tax is cut from 12.4% to 10.4% for 2011, so self-employed folks will benefit, too.
Alternative Minimum Tax (AMT). As you may know, it has become an annual ritual for Congress to “patch” the AMT rules to prevent millions of additional households from getting socked with this add-on tax. The patch primarily consists of allowing bigger AMT exemptions and allowing personal tax credits to offset the AMT. The Act provides an AMT patch for 2010 and 2011.
American Opportunity Education Credit. The American Opportunity credit can be worth up to $2,500, be claimed for up to four years of undergraduate education, and is 40% refundable. It was scheduled to expire at the end of 2010. The Act extends this credit through 2012.
College Tuition Deduction. This write-off, which can be as much as $4,000, or $2,000 at higher income levels, expired at the end of 2009. The Act retroactively restores the deduction for 2010 and extends it through 2011.
More Generous Student Loan Interest Deduction. This write-off, which can be as much as $2,500 (whether you itemize or not), was scheduled to fall under less favorable rules in 2011 and beyond. The Act extends through 2012 the more favorable rules established by 2001 legislation.
Education Savings Accounts (ESAs). For 2011, the maximum contribution to federal-income-tax-free ESAs was scheduled to drop from $2,000 to only $500, and a stricter phase-out rule would have limited contributions by many married joint-filing couples. The Act extends through 2012 the more generous contribution rules established by 2001 legislation.
State and Local Sales Taxes. For the last few years, individuals who paid little or no state income taxes had the option of claiming an alternative itemized deduction for state and local general sales taxes. The sales tax deduction option expired at the end of 2009. The Act retroactively restores it for 2010 and extends it through 2011.
Smaller Tax Credit for 2011 Energy-efficient Home Improvements. The 2009 Stimulus Act provided that 30% of 2009 and 2010 expenditures for energy-efficient insulation, windows, doors, roofs, and heating and cooling equipment in U.S. residences could qualify for a credit, up to a maximum credit amount of $1,500, over the two years combined. The Act extends the credit through 2011, but the credit percentage is scaled back to only 10%, and the lifetime credit limit is only $500. The $500 credit cap is reduced by any credits claimed in 2006–2010.
First-year Bonus Depreciation. The Act generally allows 100% first-year bonus depreciation for qualifying new assets that are acquired and placed in service after September 8, 2010, through December 31, 2011. It also allows 50% first-year bonus depreciation for qualifying new assets that are placed in service in calendar year 2012. For a new passenger auto or light truck that is used for business and is subject to the luxury auto depreciation limitation, the bonus depreciation breaks increase the maximum first-year depreciation deduction by $8,000 for vehicles acquired and placed in service by December 31, 2012.
15-year Depreciation for Leasehold Improvements, Restaurant Property, and Retail Space Improvements. The 15-year straight-line depreciation privilege for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail space improvements is retroactively restored for property placed in service in 2010 and extended to cover property placed in service in 2011. (Without the favorable 15-year depreciation rule, these assets would have to be depreciated straight-line over 39 years.)
100% Gain Exclusion for Qualified Small Business Stock (QSBS). The Small Business Jobs Act of 2010 (enacted last September) created temporary 100% gain exclusion (within limits) for sales of QSBS issued after September 27, 2010, through December 31, 2010. The Act extends the window for taking advantage of this change by one year to cover QSBS shares issued after September 27, 2010, through December 31, 2011.
New Estate and Gift Tax Rules
Estate tax legislation has been debated in Congress for several years. The recent Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (Act) includes estate tax provisions for individuals who died in 2010, as well as those who die in 2011 and 2012. Here is a brief summary.
$5 Million Estate Tax Exemption and 35% Rate. For estates of individuals who die in 2010 through 2012, the Act establishes a $5 million federal estate tax exemption with the 2012 amount indexed for inflation. Big estates are taxed at 35% above the $5 million threshold.
Electing out of the Estate Tax in 2010. For estates of decedents who died in 2010, executors are permitted to elect out of the estate tax rules (the default rules), and instead choose the modified carryover basis rules for property transferred at death. Although no estate tax will be due, assets transferred at death will not get the step-up in basis to date of death fair market value, and the transferees will owe income tax on the appreciation on those assets. Determining whether to follow the default rules or elect out of the estate tax will depend on many factors that will require professional guidance.
Unused Estate Tax Exemption. For the first time, married individuals who do not use up their estate tax exemptions will be able to pass along unused amounts to surviving spouses. In other words, unused exemptions of individuals who die in 2011 or 2012 (but not 2010) will be "portable."
Unlimited Basis Step-ups for Inherited Assets. For heirs of decedents who die in 2011 and beyond, the rule is reinstated that allows the federal income tax basis of inherited capital-gain assets (such as real estate and stock) to be stepped up to reflect fair market value on the date of death. This favorable rule is also reinstated for decedents who died in 2010, unless the estate elects to instead use the modified carryover basis rule. With the restoration of the unlimited basis step-up rule, heirs will not owe any federal capital gains taxes on appreciation that occurs through the date of death—as long as that date is after 2010 or, for decedents who died in 2010, if their estate does not elect to use the modified carryover basis rules.
Estate and Gift Tax Exemptions and Rates Are Equalized. The Act sets the lifetime federal gift tax exemption for 2011 and 2012 at $5 million—with the 2012 amount indexed for inflation (likewise for the generation-skipping transfer tax exemption). Thus, the gift and estate tax exemptions are equalized for 2011 and 2012. This is a huge improvement over the previous $1 million gift tax exemption (which continued to apply for 2010). An unmarried person can now give away up to $5 million while alive without paying any gift tax, and a married couple can give away up to $10 million. However, to the extent you dip into your gift tax exemption, your estate tax exemption is reduced dollar-for-dollar. The tax rate on 2011 and 2012 gifts in excess of the $5 million exemption is 35%, the same as the estate tax rate. Again, due to sunset provisions, the gift tax exclusion reverts back to $1 million after 2012.
Minimizing estate and gift taxes is a complex process. So, please contact us for information on how to reduce these onerous taxes.
$5 Million Estate Tax Exemption and 35% Rate. For estates of individuals who die in 2010 through 2012, the Act establishes a $5 million federal estate tax exemption with the 2012 amount indexed for inflation. Big estates are taxed at 35% above the $5 million threshold.
Electing out of the Estate Tax in 2010. For estates of decedents who died in 2010, executors are permitted to elect out of the estate tax rules (the default rules), and instead choose the modified carryover basis rules for property transferred at death. Although no estate tax will be due, assets transferred at death will not get the step-up in basis to date of death fair market value, and the transferees will owe income tax on the appreciation on those assets. Determining whether to follow the default rules or elect out of the estate tax will depend on many factors that will require professional guidance.
Unused Estate Tax Exemption. For the first time, married individuals who do not use up their estate tax exemptions will be able to pass along unused amounts to surviving spouses. In other words, unused exemptions of individuals who die in 2011 or 2012 (but not 2010) will be "portable."
Unlimited Basis Step-ups for Inherited Assets. For heirs of decedents who die in 2011 and beyond, the rule is reinstated that allows the federal income tax basis of inherited capital-gain assets (such as real estate and stock) to be stepped up to reflect fair market value on the date of death. This favorable rule is also reinstated for decedents who died in 2010, unless the estate elects to instead use the modified carryover basis rule. With the restoration of the unlimited basis step-up rule, heirs will not owe any federal capital gains taxes on appreciation that occurs through the date of death—as long as that date is after 2010 or, for decedents who died in 2010, if their estate does not elect to use the modified carryover basis rules.
Estate and Gift Tax Exemptions and Rates Are Equalized. The Act sets the lifetime federal gift tax exemption for 2011 and 2012 at $5 million—with the 2012 amount indexed for inflation (likewise for the generation-skipping transfer tax exemption). Thus, the gift and estate tax exemptions are equalized for 2011 and 2012. This is a huge improvement over the previous $1 million gift tax exemption (which continued to apply for 2010). An unmarried person can now give away up to $5 million while alive without paying any gift tax, and a married couple can give away up to $10 million. However, to the extent you dip into your gift tax exemption, your estate tax exemption is reduced dollar-for-dollar. The tax rate on 2011 and 2012 gifts in excess of the $5 million exemption is 35%, the same as the estate tax rate. Again, due to sunset provisions, the gift tax exclusion reverts back to $1 million after 2012.
Minimizing estate and gift taxes is a complex process. So, please contact us for information on how to reduce these onerous taxes.
Tuesday, February 8, 2011
Business Property Expenditures
Many businesses continually make expenditures to improve and maintain business property. However, it is not always clear whether the amount incurred to repair or refurbish that business property is a capital expense or an incidental repair. Proper classification is critical because, for federal tax purposes, capital expenditures (see below) must be added to the property’s tax basis and recovered (expensed) through depreciation over a period of years. If the property is not subject to depreciation, capitalized costs are only recovered when the property is sold. Incidental repairs are not considered capital expenditures and can be deducted as incurred, providing a more immediate tax benefit.
Capital expenditures include (1) costs of permanent improvements or betterments to increase the value of the property or (2) amounts expended in restoring property. In addition, capital expenditures include amounts paid or incurred to add value to or prolong the useful life of property or adapt property to a new or different use. Capital expenditures also include the cost of title defense or perfection, architects’ fees, and purchase commissions.
Incidental repairs are deductible currently as ordinary and necessary business expenses. These costs do not materially add to the value of property or appreciably prolong its life. Rather, they keep the property in an ordinarily efficient operating condition.Costs of acquiring property generally are capitalized as part of the property’s basis. However, expenses for repairs immediately after the property is acquired might be either capitalized or deducted. These repairs can be deducted if the expense would ordinarily qualify for deduction as a repair. If, however, the repairs are required as a condition of the purchase, their cost is capitalized.
It is often difficult to determine the proper classification for capital and repair expenditures. So, please contact us concerning capital expenditure classification matters or any other tax compliance or planning issue.
Capital expenditures include (1) costs of permanent improvements or betterments to increase the value of the property or (2) amounts expended in restoring property. In addition, capital expenditures include amounts paid or incurred to add value to or prolong the useful life of property or adapt property to a new or different use. Capital expenditures also include the cost of title defense or perfection, architects’ fees, and purchase commissions.
Incidental repairs are deductible currently as ordinary and necessary business expenses. These costs do not materially add to the value of property or appreciably prolong its life. Rather, they keep the property in an ordinarily efficient operating condition.Costs of acquiring property generally are capitalized as part of the property’s basis. However, expenses for repairs immediately after the property is acquired might be either capitalized or deducted. These repairs can be deducted if the expense would ordinarily qualify for deduction as a repair. If, however, the repairs are required as a condition of the purchase, their cost is capitalized.
It is often difficult to determine the proper classification for capital and repair expenditures. So, please contact us concerning capital expenditure classification matters or any other tax compliance or planning issue.
Converting a Residence to Rental Property
For various reasons, including the generally depressed real estate market, homeowners may consider converting their personal residence to rental property. The process for making this decision should include an analysis of economic factors, such as the homeowners’ marginal tax rate and the potential loss of the ability to exclude up to $250,000 ($500,000, if married) of gain from the sale of their principal residence for federal income tax purposes.
Other economic factors to consider include the expected growth rate for rental property in the area, length of time the house will be rented before being sold, cash flow from renting, effect of passive activity rules (which limit and defer tax deductions), and expected rate of return available on other investments. Generally, the economic advantage of converting a personal residence to a rental rather than selling it is increased as the growth rate of the rental property increases and the rate of return on alternative investments decreases. But, each situation should be thoroughly analyzed given its particular facts and circumstances.
If selling a personal residence would result in a nondeductible loss, the homeowner can seriously consider converting the residence to a rental property. Tax savings opportunities generally are limited for residential rental conversions, primarily because of the passive activity loss rules. Converting a personal residence into rental property may allow the homeowner to eventually recognize a loss for tax purposes on the property’s subsequent sale if the property continues to decline in value, but provide cash flow in the interim.
The fact that a residence is rented at the time of the sale does not automatically preclude gain attributable to such use to be excluded under the gain exclusion rules. Instead, the exclusion of gain depends on whether the homeowner meets the ownership and use requirements and the one-sale-in-two-years test at the time of the sale. In all cases, however, gain exclusion cannot be claimed to the extent of depreciation adjustments attributable to periods after May 6, 1997.
The decision to convert a residence to rental or investment property is complex, and the ramifications of this decision are far-reaching. Please contact us to thoroughly explore the numerous tax and economic issues related to such a conversion.
Other economic factors to consider include the expected growth rate for rental property in the area, length of time the house will be rented before being sold, cash flow from renting, effect of passive activity rules (which limit and defer tax deductions), and expected rate of return available on other investments. Generally, the economic advantage of converting a personal residence to a rental rather than selling it is increased as the growth rate of the rental property increases and the rate of return on alternative investments decreases. But, each situation should be thoroughly analyzed given its particular facts and circumstances.
If selling a personal residence would result in a nondeductible loss, the homeowner can seriously consider converting the residence to a rental property. Tax savings opportunities generally are limited for residential rental conversions, primarily because of the passive activity loss rules. Converting a personal residence into rental property may allow the homeowner to eventually recognize a loss for tax purposes on the property’s subsequent sale if the property continues to decline in value, but provide cash flow in the interim.
The fact that a residence is rented at the time of the sale does not automatically preclude gain attributable to such use to be excluded under the gain exclusion rules. Instead, the exclusion of gain depends on whether the homeowner meets the ownership and use requirements and the one-sale-in-two-years test at the time of the sale. In all cases, however, gain exclusion cannot be claimed to the extent of depreciation adjustments attributable to periods after May 6, 1997.
The decision to convert a residence to rental or investment property is complex, and the ramifications of this decision are far-reaching. Please contact us to thoroughly explore the numerous tax and economic issues related to such a conversion.
Retirement Plan Review
Your retirement plan savings (that is, qualified plans and IRAs) are important to your financial well-being for several reasons. Right now, you can accumulate income without currently paying tax, and the power of compounding pretax dollars makes a retirement plan one of the most powerful investment vehicles available. When you reach retirement age, the assets in your retirement plan(s) may be a significant portion of your overall savings. Therefore, it is important that you do everything you can to get the most out of one of the best investment opportunities you have. So, listed below is information to consider when conducting a review of your retirement plans.
Generally, when you begin to withdraw funds from your retirement plans, you will be subject to tax on the distributions. If you made after-tax contributions to your plan, a portion of each distribution will be tax-free. Also, special rules apply to Roth IRAs. If distributions begin prematurely (before age 59 1/2) you may be hit with a 10% penalty tax, but exceptions are available. When you reach age 70 1/2 (or in some cases, retire) you must start withdrawing a minimum amount from your traditional IRAs and qualified plans each year. Severe penalties can result if required minimum distributions are not made on a timely basis. However, distributions from Roth IRAs are not required during your lifetime. At the time of your death, the beneficiary designation in effect at the date of death will determine not only who gets the retirement plan assets, but also how quickly your account must be paid out to your beneficiary (and, therefore, how quickly the benefits of tax deferral are lost). So, beneficiary designation adjustments may be necessary as family and beneficiary conditions change (e.g., divorce).
Your retirement plan savings may be critical for you and your dependents’ future well-being. With proper planning, you can maximize tax-deferred earnings, avoid penalty taxes, choose a desired beneficiary, and minimize the amount your heirs are required to withdraw (and pay taxes on) after your death.
Please contact us to assist with your retirement plan checkup and ensure you are doing everything you can to get the most out of your retirement savings.
Generally, when you begin to withdraw funds from your retirement plans, you will be subject to tax on the distributions. If you made after-tax contributions to your plan, a portion of each distribution will be tax-free. Also, special rules apply to Roth IRAs. If distributions begin prematurely (before age 59 1/2) you may be hit with a 10% penalty tax, but exceptions are available. When you reach age 70 1/2 (or in some cases, retire) you must start withdrawing a minimum amount from your traditional IRAs and qualified plans each year. Severe penalties can result if required minimum distributions are not made on a timely basis. However, distributions from Roth IRAs are not required during your lifetime. At the time of your death, the beneficiary designation in effect at the date of death will determine not only who gets the retirement plan assets, but also how quickly your account must be paid out to your beneficiary (and, therefore, how quickly the benefits of tax deferral are lost). So, beneficiary designation adjustments may be necessary as family and beneficiary conditions change (e.g., divorce).
Your retirement plan savings may be critical for you and your dependents’ future well-being. With proper planning, you can maximize tax-deferred earnings, avoid penalty taxes, choose a desired beneficiary, and minimize the amount your heirs are required to withdraw (and pay taxes on) after your death.
Please contact us to assist with your retirement plan checkup and ensure you are doing everything you can to get the most out of your retirement savings.
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