Archive for 'Taxes'

Feb 16

The President delivered his proposed budget for fiscal year 2013 this Monday. The budget included as one of its five tax “reform” principles the following:

  • Simplify the Internal Revenue Code

Sounds good. Here are some proposed tax “simplifications”:

  • Provide a temporary 10% tax credit for new jobs and wage increases
  • Provide additional tax credits for investment in advanced energy manufacturing
  • Provide tax credit for energy-efficient commercial building property expenditures
  • Reform and extend Build America Bonds
  • Provide for automatic enrollment in IRAs, including a small-employer tax credit
  • Expand the earned income tax credit for larger families
  • Expand the child and dependent care tax credit
  • Provide tax incentives for locating jobs and business activity in the United States
  • Provide new manufacturing communities tax credit
  • Target the domestic production deduction to domestic manufacturing activities
  • Provide a tax credit for the production of advanced technology vehicles
  • Provide a tax credit for medium- and heavy-duty alternative-fuel commercial vehicles
  • Modify certain energy incentives
  • Eliminate capital gains taxation on investments in small business stock
  • Expand the tax credit provided to qualified small employers for nonelective contributions to employee health insurance
  • Extend and modify the new markets tax credit
  • Designate growth zones
  • Provide tax incentives for transportation infrastructure
  • Modify tax-exempt bonds for Indian tribal governments
  • Allow current refundings of state and local governmental bonds
  • Reform and expand the low-income housing tax credit
  • Defer deduction of interest expense related to deferred income of foreign subsidiaries
  • Determine the foreign tax credit on a pooling basis
  • Tax currently excess returns associated with transfers of intangibles offshore
  • Limit shifting of income through intangible property transfers
  • Disallow the deduction for nontaxed reinsurance premiums paid to affiliates
  • Limit earnings stripping by expatriated entities
  • Modify tax rules for dual capacity taxpayers
  • Tax gain from the sale of a partnership interest on a lookthrough basis
  • Prevent use of leveraged distributions from related foreign corporations to avoid dividend treatment
  • Extend Sec. 338(h)(16) to certain asset acquisitions
  • Remove foreign taxes from a Sec. 902 corporation’s foreign tax pool when earnings are eliminated
  • Require a certified taxpayer identification number (TIN) from contractors and allow withholding if the contractor does not provide a TIN
  • Require e-filing by any entity that must file Schedule M-3
  • Authorize Treasury to require additional information to be included in Form 5500, Annual Return/Report of Employee Benefit Plan
  • Allow the IRS to require prospective reclassification of misclassified workers
  • Extend the statute of limitation where a state adjustment affects federal tax liability
  • Require taxpayers who prepare their returns electronically but file their returns on paper to print a 2D bar code
  • Impose a penalty on failure to comply with electronic filing requirements

Don’t worry too much about this. The Senate hasn’t passed a budget in years.

Feb 15

Congress is looking to take away a planning option for IRAs as it seeks more money to fund its spending.

The proposal was snuck into the Highway Investment, Job Creation and Economic Growth Act of 2012. The bill was heard by the Senate Finance Committee, and Chairman Max Baucus (D., Mont.) recommended a provision curtailing the use of “stretch” IRAs.

What is a “stretch” IRA? Say you leave your IRA, or part of your IRA, to your son and daughter. Upon your passing, they take over (separate) IRA accounts. They cannot wait until 70 ½ to begin distributions, as these are inherited IRAs. They have to begin distributions by December 31 of the year following your death, but they are allowed to reset the distribution period to their own life expectancy. This allows the opportunity to have the IRA compound – or “stretch” – over their much longer life expectancy.

Truthfully, the numbers can be astounding. Consider a 78 year-old grandfather passing a $100,000 IRA to his granddaughter, who, upon her passing, transfers the remaining stretch IRA to her son or daughter. This wealth compounding is a reason financial planners like to work with stretch IRAs.

It is of course unpalatable to allow one to decide how to distribute the monies in his/her IRA, so Sen. Baucus has stepped-in to decide this matter for you. Under his proposal, most nonspouse inheritors would have to withdraw the entire amount from the traditional IRA over a period of five years. There would be exceptions for beneficiaries who are disabled, chronically ill, a minor, or a beneficiary no more than 10 years younger than the IRA owner.

Roth IRAs would remain unchanged. Nonspouse beneficiaries must begin distributions from the Roth by December 31 of the year after inheriting, but they can draw these out over their own expected life expectancies.

Why are people concerned? Here is a statistic: approximately 40% of the stock market is tied-up in 401(k)s, 403(b)s, IRAs and similar vehicles. It is an attractive target.

Feb 14

The IRS has decided that businesses will not be required to reconcile their gross receipts with merchant card transactions reported on the new 1099-K form.

Steven T. Miller, IRS deputy commissioner for services and enforcement, wrote to the National Federation of Independent Business that no reconciliation will be required on 2012 or future business tax returns. Last October the IRS had earlier said that no reconciliation would be required for only the 2011 tax returns.

In the way of history, the Housing and Economic Recovery Act of 2008 required the IRS to begin collecting a new Form 1099-K from payment-settlement entities, such as credit card companies, for merchant transactions such as credit and debit card payments. The payment settlement entity is required to issue a 1099-K to a merchant if the merchant’s business for the previous year exceeded either $20,000 or 200 transactions.

Why would businesses complain? Well, for one, if the taxpayer identification number and legal name do not match with IRS’s files, there is back-up withholding of 28% of the transaction. How is the business to account for refunds or returns? For sales taxes? How is the 1099-K to be reconciled with accounting systems which are geared to track sales by product or type, not by payment type? How will one account for fiscal years, when the 1099-K’s will all be on a calendar year? And who is going to pay for the accountant to reconcile all this nonsense?

Feb 09

Starting March 1, 2012 married couples will have to file separate powers of attorney for their tax representative.

It used to be that both spouses could sign one power naming a representative. You may recall that you signed near the top of page 2. That has changed because of increased sensitivity to privacy and data security.

There is another change on the power, but the change applies to tax representatives. The representative must now include his/her PTIN on the power. Tax advisors may remember that the IRS has discussed increased practitioner enforcement, including automatic referral to the Office of Professional Responsibility of a practitioner associated with a substantial understatement penalty. The PTIN is a way to identify a specific return to a specific tax preparer.

Feb 06

The following question came up recently:

I make too much money to contribute to a Roth. Is there another way to make an additional contribution to my retirement savings?

How much is too much money? If you are single the upper limit is $122,000. If you are married the upper limit is $179,000. We are assuming, by the way, that you are covered by a plan – say a 401(k) – at work.

So what do you do?

Fund a nondeductible IRA. What is this? It is the third “flavor” of an IRA. We all know the regular IRA, where you put away money, deduct it on your tax return and pay tax on the monies down the road when you take the money out. For a Roth, you put away money, take no deduction but pay no tax when you take out the money. Then there is the nondeductible. You get no deduction and the money is (partially) taxable when you take it out.

For example, say that you put away $50,000 in nondeductibles which are worth $250,000 when you start drawing. The withdrawal is 20% nontaxable ($50,000/$250,000). Another way to say this is that 80% will be taxable.

Nondeductibles are the stepchild of IRAs. You want to fund a Roth (if you can) before considering a nondeductible.

Say that you are single, in your 40s and make $200,000 per year. I recommend that you fund a nondeductible IRA for $5,000, because $5,000 is the best you can do. You have to fund your IRA by April 15th under all flavors of IRA. Let April 15th pass and convert the nondeductible to a Roth. How do you do that? It may be as easy as going on the broker’s website and moving the monies between the two IRAs. Think of it as moving monies between a savings and checking account.

It used to be that one could not do this, but the tax rules have been changed to allow it.

What is the downside? There are two, and the second one can be an insurmountable hurdle to some taxpayers.

(1)    First, any income in the nondeductible becomes immediately taxable. In our example, if the $5,000 is now worth $5,450, you will have $450 of taxable income. If you do what I recommend, chances are the income will be negligible as you did not leave the monies in the nondeductible for very long.

(2)    Second, the pro rata rule. If you have monies in other IRAs, you have to use a fraction. The numerator is the amount you have in the nondeductible. The denominator is the total you have in all IRAs. For example, if you have a $5,000 nondeductible and $95,000 in a regular IRA, your ratio will be 5% ($5,000/ ($5,000 + $95,000). If you convert in this scenario, the conversion will be 95% taxable.

How do you handle issue (2)? If you have a retirement plan at work and the plan allows you to roll-in, then you would roll-in your $95,000 regular IRA. At this point the only IRA you have is the $5,000 nondeductible. Your ratio now is $5,000/$5,000, meaning that 0% is taxable.

The nice thing about a nondeductible is that there is no income limit. If you make $1 million per year, you can still contribute to a nondeductible.

How long do you let the money cool before converting? Tax advisors disagree. Some advisors recommend at least six months, whereas others say that you can do so the next day. I would recommend more than a day and not more than December 31st of the year of the conversion.

One more bit of advice. If you fund a nondeductible, put it in its own account, preferably titled “Nondeductible.” Do not commingle your IRAs. This is not Neapolitan ice cream.

Feb 03

The number of expatriates continues to increase. The number for 2011 was 1,781 and represents more than a 15% increase from 2010.

Not all expatriates are wealthy and seeking to sidestep what they perceive as harsh and confiscatory government policies. The IRS itself estimates that up to seven million U.S. residents reside abroad. I have family overseas, for example, and they have no intention of returning. They must nonetheless file a U.S. tax return annually, file a FBAR and, assuming that they have not spent every nickel they ever earned, have to deal with FATCA reporting. Did you know that there are tax restrictions on a U.S. citizen marrying a non-U.S. spouse? Does that make sense to you?

The most recent assault by Treasury on non-U.S. financial institutions, such as UBS, has had the perverse effect of these institutions dropping U.S. clients – and certainly not accepting new ones. I am not condoning the uber-wealthy hiding their income and assets from the U.S., but it is a far reach to argue back that a U.K. bank should report electronically on the bank activity and balances of my family.

Here is a chart on the number of expatriates over recent years. Kudos to Andrew Mitchel for the graph. Draw your own conclusion, if a conclusion is there to be drawn.

Feb 02

U.S. Senator Whitehouse (D-R.I.) has introduced a tax bill named the Paying a Fair Share Act.

This is the Buffett Rule. It would apply only to taxpayers with income over $1 million. At income levels over $2 million, there would be a flat 30% tax. At income between $1 million and $2 million there would be a phase-in to get the effective tax rate to 30%.

The bill is co-sponsored by the following:

  • Sen Daniel Akaka, D-Hawaii
  • Sen Mark Begich, D-Alaska
  • Sen Richard Blumenthal, D-Conn.
  • Sen Tom Harkin, D-Iowa
  • Sen Patrick Leahy, D-Vt.
  • Sen Bernie Sanders, I-Vt.
  • Sen Chuck Schumer, D-N.Y.

It is very doubtful that this bill is going anywhere.

Here is another proposal. We can call it the Biden Rule:

            Politicians who stay in Washington more than 10 years pay a 100% tax rate.

Jan 31

The IRS issued a memorandum on January 20, 2012 liberalizing streamlined installment agreements. I am happy with this change.

As a refresher, the advantage of the “streamlined” is that one does not have to provide financial information to the IRS. If you have gone through this effort, you may remember IRS Form 433 – the financial information form. This is where you provide financial detail such as monthly deposits and expenses. You will also attach documentation, including copies of bank statements as well as copies of your mortgage or rent advice and certain other expenses. 

The IRS has standards for broad household expenses, such as mortgage and utilities, clothing and personal effects, medical expenses and vehicle payment and operating expenses. The IRS is inclined to use their numbers, although they will allow you to document higher or additional expenses. You then have to persuade them that your numbers are better than theirs and do not reflect a “lavish” lifestyle or incorporate”excessive” expenses. To give you an idea, the IRS does not allow for payments on your credit cards. I am not sure if they consider credit card payments to be “lavish” or “excessive.”

The “streamlined” allows you to fast-forward through this.

The liberalized streamlined rules apply only to an individual taxpayer. They do not apply to corporations and other types of businesses. You can now enter streamlined if your assessed balance (taxes, interest and penalties) is less than $50,000, an increase from the previous $25,000. In addition, you now have 72 months to pay, an increase of one year from the previous 60 months.

The IRS does charge a small fee (either $104 or $52, depending on whether you permit direct deposit) for the payment plan. Any streamlined over $25,000 must be on direct deposit.

To clarify, you do not have to enter streamlined, even if your assessed balance is less than $50,000. You can go the normal route, provide information and pursue a more favorable payment plan.  You would do that if you are pursuing a partial pay, for example. You would certainly have to go that route if you are pressing for an offer in compromise. For many people, however, the increase from $25,000 to $50,000 and an additional year to pay may make all the difference.

Why would someone hesitate to provide a 433? For one, it can be a pain to assemble and complete. Also, you have to disclose your bank accounts, including bank account numbers, on the 433. Some people believe this makes it easier for the IRS to levy your bank account. Whether correct or not, you have provided the IRS a roadmap to your finances.

Jan 28

I recently read a tax case I did not like. The IRS was pursuing action against a woman in Tennessee. My daughter presently goes to the University of Tennessee in Knoxville, so perhaps it was that geographical connection that made me look at the case.

The IRS wanted to garnish her paycheck and levy her car. The woman resisted and represented herself. She eventually took her case pro se before the Tax Court.  Read the following letter she wrote the Court and tell me that you do not feel some anger against the IRS.

To Whom It May Concern,

I don’t know what you want to know cause I don’t understand all the legal stuff you sent me. I can’t afford a lawyer. And the closest legal aid is in Knoxville 30 miles away. My poor car will not go that far. So I will start at the beginning of my story and see if you can help me.

I was in an unhealthy relationship for many years. During a great deal of that time my husband was doing alcohol and drugs. I had 2 children plus his 3 to take care of. I had been doing janitorial work at a strip mall * * *. It was the only place that I could work that I could take my [then] 3 year old daughter with me. I could not support my family and pay day care. * * * My husband took care of bills and such cause he demanded that I turn over my money. We even got a divorce during that time cause I was not obeying him.

Now I am not looking for sympathy just understanding. Do you know how hard it is to be a single parent? * * * I have a high school education and nothing else.

It was nearly five years before I was notified of a problem by the I.R.S. Danny [petitioner’s former spouse] was suppose to be doing taxes. He even made me sign a form that because he made more money he could claim my kids on his taxes cause we were no longer legally married.

I got all the W-2’s from the I.R.S. except 2005 that they still have not sent me. That is why they are not done. I did all those taxes and forfeited the refunds. I do not remember what that total came to.

But it was enough to pay I would say most of back taxes. The 2007 taxes were late and I don’t know why they didn’t arrive. I sent a second copy in as soon as my son gave me my copy. He had my copy for college financial aid and he lost them for a bit of time.

I am not a rich person. I work in a job so I can be home with my daughter. I left my husband in July after he threatened to beat my daughter with a baseball bat. Beating me is one thing but I could not have him beating my girl. So I am a single parent again. Right now we have not had much work in nearly a year. I have rent of 600 a mo. Utilities of 150 and get food stamps or I wouldn’t eat. I make about 700-800 [per] month. There are no better jobs in our town. My daughter is only 11 so its not like I can leave her alone at night or on weekends. D.H.S. says it’s not even legal. She is too young. There is no child care and I have no family here. I have pulmonary fibrosis that makes me sick all the time and the diagnosis says I have about 10 yrs to live. Right now I can work thank God.

I did my taxes this year [for 2008] and you are getting a little over $4,700. I’m not asking for much just a break. You can have my tax returns [refunds ?] I don’t care. Well I do that is a tremendous loss but oh well. I don’t have any money to send you on a monthly basis. Can we stop all the penalties. They are killing me. I will never be able to pay it off. * * * I let a relationship screw me up. I am truly sorry for that and am begging for a lifeline here. You can come to my home and see for yourself. I don’t have fancy t.v.’s or even cable except for internet. I can’t afford a phone. My clothes have holes in them. I even cut my own hair. If I could pay this off faster I would just to stop the nightmares it gives me.

The Tax Court told the IRS to stop it. I am not going to go through the tax back-and-forth, because this situation should never have gotten this far. The IRS was upset because this poor woman did not do everything perfectly, and rather than exercise common sense some government-idiot-with-a-pension had to press the point.

Were it up to me, I would find and fire that idiot.

Jan 26

I have a question for you: if you wanted to convince the IRS that you are unable to pay back taxes because of financial hardship, would you hesitate to send them copies of your bank statements?

Let’s take a look at another pro se case before the Tax Court: Terrance Clem Wright v Commissioner. This is also a good opportunity to review the sequence of possible IRS Collections actions against a taxpayer.

Terrance Wright (TCW) fell behind on his taxes for 1999, 2000, 2001, 2003, 2004, 2005, 2006, 2007, and 2008.

On March 18, 2010 the IRS sent him a notice advising him that a notice of federal tax lien (NFTL) had been filed because of his back taxes and that he could request a hearing with the Appeals Office.

On April 25, 2010 TCW filed a request for a Due Process Hearing. The intent of a CDP is to delay a hasty IRS collection action and allow the taxpayer to propose an alternative. He did not contest the tax liabilities but instead requested an installment agreement.

On November 19, 2010, the IRS sent TCW a letter scheduling a telephone conference on January 18, 2011.  The IRS requested TCW to provide financial information and a payment proposal. This would help the IRS Appeals Officer make a decision.

On January 18, 2011, TCW and the Appeals Officer had their telephone conference. TCW told the Appeals Officer that he could not currently afford to make any payments. The Appeals Officer told TCW that – while he had provided some financial information – he unfortunately had not provided bank statements. She needed the bank statements to review his situation and make her decision. Until then she did not have enough information to determine whether TCW should be placed in currently not collectible (CNC) status. She encouraged TCW to pursue CNC status when he obtained all of the necessary financial documents.

NOTE: CNC status means that the IRS will not pursue action for a period of time, very often a year. It does not mean that the tax debt is gone, only that the IRS is granting time for you to get your financial affairs back in order.

Once informed by the Appeals Officer of the alternative, TCW liked the idea of CNC. This does not appear to have occurred to him previously, which indicates – at least to me – that he was not represented by a tax professional.

On February 2, 2011, the IRS issued a notice telling TCW that he would not receive an installment agreement or CNC.

OBSERVATION: Notice the dates: January 18 and February 2. This is not a lot of time, especially by IRS standards. Remember that it took him seven months to get to Appeals. TCW needed to have burnished his case by or before the hearing, as time is short once you are in Appeals.

The Appeals Office, at least in Cincinnati and this part of the country, is undermanned and overworked. I was told recently, for example, that Chicago Appeals are being heard in Wisconsin. My general experience with Appeals has been satisfactory, but one has to be aware and sensitive that these people are pressed for time. I am certain that TCW’s Appeals Officer was frustrated with his lack of cooperation.  

TCW, in a pique, filed a petition with the Tax Court on March 1, 2011.  TCW did not contest the underlying tax debt or the denial of an installment agreement. Instead, TCW’s only argument was that he could not afford to pay. He wanted the IRS to suspend collection action on the basis of his economic hardship. He wanted a CNC, and he wanted the Tax Court to tell the IRS to let him have one.

Here is the Tax Court:

Suspension of collection activity is a “collection alternative” that the taxpayer may propose and that the Office of Appeals must take into consideration. The Internal Revenue Manual (IRM) makes provision for a taxpayer’s account to be declared “currently not collectible” in cases of “hardship.” To justify suspension of collection on the ground that the account should be deemed CNC, petitioner must show that he cannot afford to pay the liabilities; and to do so he must show his financial circumstances, including the money that is available to him and the expenses that he bears.

The Appeals officer requested that petitioner submit bank statements and other financial information so that collection alternatives could be considered. Petitioner submitted some of the requested information but failed to submit bank statements. Because petitioner failed to submit the requested bank statement information, the Appeals officer was unable to accurately ascertain petitioner’s financial circumstances and, consequently, determined that she could not calculate the appropriate installment agreement terms or grant petitioner CNC status. In the absence of the requested information, respondent’s Appeals officer did not abuse her discretion in denying petitioner’s request for collection alternatives.

My take? Send the bank statements. It really is that simple.