If you own a business, you may wonder if you’re eligible to take the qualified business income (QBI) deduction. Sometimes this is referred to as the pass-through deduction or the Section 199A deduction.

The QBI deduction is:

• Available to owners of sole proprietorships, single member limited liability companies (LLCs), partnerships, and S corporations, as well as trusts and estates.
• Intended to reduce the tax rate on QBI to a rate that’s closer to the corporate tax rate.
• Taken “below the line.” In other words, it reduces your taxable income but not your adjusted gross income.
• Available regardless of whether you itemize deductions or take the standard deduction.

Taxpayers other than corporations may be entitled to a deduction of up to 20% of their QBI. For 2022, if taxable income exceeds $170,050 for single taxpayers, or $340,100 for a married couple filing jointly, the QBI deduction may be limited based on different scenarios. For 2023, these amounts are $182,100 and $364,200, respectively.

The situations in which the QBI deduction may be limited include whether the taxpayer is engaged in a service-type of trade or business (such as law, accounting, health or consulting), the amount of W-2 wages paid by the trade or business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the trade or business. The limitations are phased in.

Year-end planning tip

Some taxpayers may be able to achieve significant savings with respect to this deduction (or be subject to a smaller phaseout of the deduction), by deferring income or accelerating deductions at year-end so that they come under the dollar thresholds for 2022. Depending on your business model, you also may be able to increase the deduction by increasing W-2 wages before year-end. The rules are quite complex, so contact us with questions and consult with us before taking the next steps.

If you’re thinking about selling stock shares at a loss to offset gains that you’ve realized during 2022, it’s important to watch out for the “wash sale” rule.

The loss could be disallowed
Under this rule, if you sell stock or securities for a loss and buy substantially identical stock or securities back within the 30-day period before or after the sale date, the loss can’t be claimed for tax purposes. The rule is designed to prevent taxpayers from using the tax benefit of a loss without parting with ownership in any significant way. Note that the rule applies to a 30-day period before or after the sale date to prevent “buying the stock back” before it’s even sold. (If you participate in any dividend reinvestment plans, it’s possible the wash sale rule may be inadvertently triggered when dividends are reinvested under the plan, if you’ve separately sold some of the same stock at a loss within the 30-day period.)

The wash sale rule even applies if you repurchase the security in a tax-advantaged retirement account, such as a traditional or Roth IRA.

Although a loss can’t be claimed on a wash sale, the disallowed amount is added to the cost of the new stock. So, the disallowed amount can be claimed when the new stock is finally disposed of in the future (other than in a wash sale).

Let’s look at an example
Say you bought 500 shares of ABC, Inc. for $10,000 and sold them on November 4 for $3,000. On November 29, you buy 500 shares of ABC again for $3,200. Since the shares were “bought back” within 30 days of the sale, the wash sale rule applies. Therefore, you can’t claim a $7,000 loss. Your basis in the new 500 shares is $10,200: the actual cost plus the $7,000 disallowed loss.

If only a portion of the stock sold is bought back, only that portion of the loss is disallowed. So, in the above example, if you’d only bought back 300 of the 500 shares (60%), you’d be able to claim 40% of the loss on the sale ($2,800). The remaining $4,200 loss that’s disallowed under the wash sale rule would be added to your cost of the 300 shares.

If you’ve cashed in some big gains in 2022, you may be looking for unrealized losses in your portfolio so you can sell those investments before year-end. By doing so, you can offset your gains with your losses and reduce your 2022 tax liability. But be careful of the wash sale rule. We can answer any questions you may have.

As you may know, you can’t keep funds in your traditional IRA indefinitely. You have to start taking withdrawals from a traditional IRA (including a SIMPLE IRA or SEP IRA) when you reach age 72.
The rules for taking required minimum distributions (RMDs) are complicated, so here are some answers to frequently
asked questions.

What if I want to take out money before retirement?
If you want to take money out of a traditional IRA before age 59½, distributions are taxable and you may be subject to a 10% penalty tax. However, there are several ways that the 10% penalty tax (but not the regular income tax) can be avoided, including to pay: qualified higher education expenses, up to $10,000 of expenses if you’re a first-time homebuyer and health insurance premiums while unemployed.

When do I take my first RMD?
For an IRA, you must take your first RMD by April 1 of the year following the year in which you turn 72, regardless of whether you’re still employed.

How do I calculate my RMD?
The RMD for any year is the account balance as of the end of the immediately preceding calendar year divided by a distribution period from the IRS’s “Uniform Lifetime Table.” A separate table is used if the sole beneficiary is the owner’s spouse who is 10 or more years younger than the owner.

How should I take my RMDs if I have multiple accounts?
If you have more than one IRA, you must calculate the RMD for each IRA separately each year. However, you may aggregate your RMD amounts for all of your IRAs and withdraw the total from one IRA or a portion from each of your IRAs. You don’t have to take a separate RMD from each IRA.

Can I withdraw more than the RMD?
Yes, you can always withdraw more than the RMD. But you can’t apply excess withdrawals toward future years’ RMDs.
In planning for RMDs, you should weigh your income needs against the ability to keep the tax shelter of the IRA going for as long as possible.

Can I take more than one withdrawal in a year to meet my RMD?
You may withdraw your annual RMD in any number of distributions throughout the year, as long as you withdraw the total annual minimum amount by December 31 (or April 1 if it is for your first RMD).

What happens if I don’t take an RMD?
If the distributions to you in any year are less than the RMD for that year, you’ll be subject to an additional tax equal to 50% of the amount that should have been paid out, but wasn’t.

Plan ahead wisely

Contact us to review your traditional IRAs and to analyze other aspects of your retirement planning. We can also discuss who you should name as beneficiaries and whether you could benefit from a Roth IRA. Roth IRAs are retirement savings vehicles that operate under a different set of rules than traditional IRAs. Contributions aren’t deductible but qualified distributions are generally tax-free.

If you’re launching a new business venture, you’re probably wondering which form of business is most suitable. Here is a summary of the major advantages and disadvantages of doing business as a C corporation.

A C corporation allows the business to be treated and taxed as a separate entity from you as the principal owner. A properly structured corporation can protect you from the debts of the business yet enable you to control both day-to-day operations and corporate acts such as redemptions, acquisitions and even liquidations. In addition, the corporate tax rate is currently 21%, which is lower than the highest noncorporate tax rate.


Following formalities

In order to ensure that a corporation is treated as a separate entity, it’s important to observe various formalities required by your state. These include:

• Filing articles of incorporation,
• Adopting bylaws,
• Electing a board of directors,
• Holding organizational meetings, and
• Keeping minutes of meetings.

Complying with these requirements and maintaining an adequate capital structure will ensure that you don’t inadvertently risk personal liability for the debts of the business.


Potential disadvantages

Since the corporation is taxed as a separate entity, all items of income, credit, loss and deduction are computed at the entity level in arriving at corporate taxable income or loss. One potential disadvantage to a C corporation for a new business is that losses are trapped at the entity level and thus generally cannot be deducted by the owners. However, if you expect to generate profits in year one, this might not be a problem.
Another potential drawback to a C corporation is that its earnings can be subject to double tax — once at the corporate level and again when distributed to you. However, since most of the corporate earnings will be attributable to your efforts as an employee, the risk of double taxation is minimal since the corporation can deduct all reasonable salary that it pays to you.


Providing benefits, raising capital

A C corporation can also be used to provide fringe benefits and fund qualified pension plans on a tax-favored basis. Subject to certain limits, the corporation can deduct the cost of a variety of benefits such as health insurance and group life insurance without adverse tax consequences to you. Similarly, contributions to qualified pension plans are usually deductible but aren’t currently taxable to you.

A C corporation also gives you considerable flexibility in raising capital from outside investors. A C corporation can have multiple classes of stock — each with different rights and preferences that can be tailored to fit your needs and those of potential investors. Also, if you decide to raise capital through debt, interest paid by the corporation is deductible.

Although the C corporation form of business might seem appropriate for you at this time, you may in the future be able to change from a C corporation to an S corporation, if S status is more appropriate at that time. This change will ordinarily be tax-free, except that built-in gain on the corporate assets may be subject to tax if the assets are disposed of by the corporation within 10 years of the change.


The optimum choice

This is only a brief overview. Contact us if you have questions or would like to explore the best choice of entity for your business.

Many people have savings bonds that were purchased many years ago. Perhaps they were given to your children as gifts or maybe you bought them yourself. You may wonder how the interest you earn is taxed. And if they reach final maturity, what action do you need to take to ensure there’s no loss of interest or unanticipated tax consequences?


Interest deferral

Series EE Bonds dated May 2005 and after earn a fixed rate of interest. Bonds purchased between May 1997 and April 30, 2005, earn a variable market-based rate of return.

Paper Series EE Bonds, issued between 1980 and 2012, are sold at half their face value. For example, you pay $25 for a $50 bond. The bond isn’t worth its face value until it matures. New electronic EE Bonds earn a fixed rate of interest that’s set before you buy the bond. They earn that rate for their first 20 years and the U.S.
Treasury may change the rate for the last 10 years of the bond’s 30-year life. Electronic EE bonds are sold at their face value. For example, you pay $100 for a $100 bond.

The minimum ownership term is one year, but a penalty is imposed if the bond is redeemed in the first five years.
Series EE bonds don’t pay interest currently. Instead, accrued interest is reflected in the redemption value of the bond. The U.S. Treasury issues tables showing redemption values. Series EE bond interest isn’t taxed as it accrues unless the owner elects to have it taxed annually. If the election is made, all previously accrued but untaxed interest is also reported in the election year. In most cases, the election isn’t made so that the benefit of tax deferral can be enjoyed. On the other hand, if the bond is owned by a taxpayer with little or no other current income, it may be beneficial to incur the income in low or no tax years to avoid future inclusion. This may be the case with bonds owned by children, although the “kiddie tax” may apply.

If the election isn’t made, all of the accrued interest is taxed when the bond is redeemed or otherwise disposed of (unless it was exchanged for a Series HH bond in an option available before September 1, 2004). The bond continues to accrue interest even after reaching its face value but at “final maturity” (after 30 years) interest stops accruing and must be reported (again, unless it was exchanged for an HH bond).

If you own EE bonds (paper or electronic), check the issue dates on your bonds. If they’re no longer earning interest, you probably want to redeem them and put the money into something more profitable.


Inflation-indexed bonds

Series I savings bonds are designed to offer a rate of return over and above inflation. The earnings rate is a combination of a fixed rate, which will apply for the life of the bond, and the inflation rate. Rates are announced each May 1 and November 1.

Series I bonds are issued at par (face amount). An owner of Series I bonds may either: Defer reporting the increase in the redemption (interest) to the year of final maturity, redemption, or other disposition, whichever is earlier, or Elect to report the increase each year as it accrues.
If 2 is elected, the election applies to all Series I bonds then owned by the taxpayer, those acquired later, and to any other obligations purchased on a discount basis, (for example, Series EE bonds). You can’t change to method 1 unless you follow a specific IRS procedure.


State and local taxes

Although the interest on EE and I bonds is taxable for federal income tax purposes, it’s exempt from state and local taxes. And using the money for higher education may keep you from paying federal income tax on the interest. Contact us if you have any questions about savings bond taxation.

Two tax benefits are available to offset the expenses of adopting a child. In 2022, adoptive parents may be able to claim a credit against their federal tax for up to $14,890 of “qualified adoption expenses” for each child. This will increase to $15,950 in 2023. That’s a dollar-for-dollar reduction of tax.

Also, adoptive parents may be able to exclude from gross income up to $14,890 in 2022 ($15,950 in 2023) of qualified expenses paid by an employer under an adoption assistance program. Both the credit and the exclusion are phased out if the parents’ income exceeds certain limits.
Parents can claim both a credit and an exclusion for expenses of adopting a child. But they can’t claim both a credit and an exclusion for the same expenses.


Qualified expenses

To qualify for the credit or the exclusion, the expenses must be “qualified adoption expenses.” These are the reasonable and necessary adoption fees, court costs, attorney fees, travel expenses (including meals and lodging), and other expenses directly related to the legal adoption of an “eligible child.”

Qualified expenses don’t include those
connected with the adoption of a child of a spouse, a surrogate parenting arrangement, expenses that violate state or federal law or expenses paid using funds received from a government program. Expenses reimbursed by an employer don’t qualify for the credit, but benefits provided by an employer under an adoption assistance program may qualify for the exclusion.

Expenses related to an unsuccessful attempt to adopt a child may qualify. Expenses connected with a foreign adoption (the child isn’t a U.S. citizen or resident) qualify only if the child is actually adopted.

Taxpayers who adopt a child with special needs are deemed to have qualified adoption expenses in the tax year in which the adoption becomes final, in an amount sufficient to bring their total aggregate expenses for the adoption up to $14,890 for 2022 ($15,950 for 2023). They can take the adoption credit or exclude employer adoption assistance up to that amount, whether or not they had those amounts of actual expenses.


Eligible child

An eligible child is under age 18 at the time a qualified expense is paid. A child who turns 18 during the year is eligible for the part of the year he or she is under age 18. A person who is physically or mentally incapable of caring for him- or herself is eligible, regardless of age.

A special needs child refers to one who the state has determined can’t or shouldn’t be returned to his or her parents and who can’t be reasonably placed with adoptive parents without assistance because of a specific factor or condition. Only a child who is a citizen or resident of the U.S. is included in this category.


Phase-out amounts

The credit allowed for 2022 is phased out for taxpayers with adjusted gross income (AGI) over $223,410 ($239,230 for 2023) and is eliminated when AGI reaches $263,410 ($279,230 for 2023).

Note: The adoption credit isn’t “refundable.” So, if the sum of your refundable credits (including any adoption credit) for the year exceeds your tax liability, the excess amount isn’t refunded to you. In other words, the credit can be claimed only up to your tax liability.


Get the full benefit

Contact us with any questions. We can help ensure you get the full benefit of the tax savings available to adoptive parents.

How much can you and your employees contribute to your 401(k)s next year — or other retirement plans? In Notice 2022-55, the IRS recently announced cost-of-living adjustments that apply to the dollar limitations for pensions, as well as other qualified retirement plans for 2023. The amounts increased more than they have in recent years due to inflation.

401(k) plans

The 2023 contribution limit for employees who participate in 401(k) plans will increase to $22,500 (up from $20,500 in 2022). This contribution amount also applies to 403(b) plans, most 457 plans and the federal government’s Thrift Savings Plan.

The catch-up contribution limit for employees age 50 and over who participate in 401(k) plans and the other plans mentioned above will increase to $7,500 (up from $6,500 in 2022). Therefore, participants in 401(k) plans (and the others listed above) who are 50 and older can contribute up to $30,000 in 2023.

SEP plans and defined contribution plans

The limitation for defined contribution plans, including a Simplified Employee Pension (SEP) plan, will increase from $61,000 to $66,000. To participate in a SEP, an eligible employee must receive at least a certain amount of compensation for the year. That amount will increase in 2023 to $750 (from $650 for 2022).

SIMPLE plans

Deferrals to a SIMPLE plan will increase to $15,500 in 2023 (up from $14,000 in 2022). The catch-up contribution limit for employees age 50 and over who participate in SIMPLE plans will increase to $3,500 in 2023, up from $3,000.

Other plan limits

The IRS also announced that in 2023:
 

• The limitation on the annual benefit under a defined benefit plan will increase from $245,000 to $265,000. For a participant who separated from service before January 1, 2023, the participant’s limitation under a defined benefit plan is computed by multiplying the participant’s compensation limitation, as adjusted through 2022, by 1.0833.
• The dollar limitation concerning the definition of “key employee” in a top-heavy plan will increase from $200,000 to $215,000.
• The dollar amount for determining the maximum account balance in an employee stock ownership plan subject to a five-year distribution period will increase from $1,230,000 to $1,330,000, while the dollar amount used to determine the lengthening of the five-year distribution period will increase from $245,000 to $265,000.
• The limitation used in the definition of “highly compensated employee” will increase from $135,000 to $150,000.

IRA contributions

The 2023 limit on annual contributions to an individual IRA will increase to $6,500 (up from $6,000 for 2022). The IRA catch-up contribution limit for individuals age 50 and older isn’t subject to an annual cost-of-living adjustment and will remain $1,000.

Plan ahead

Current high inflation rates will make it easier for you and your employees to save much more in your retirement plans in 2023. The contribution amounts will be a great deal higher next year than they’ve been in recent years. Contact us if you have questions about your tax-advantaged retirement plan or if you want to explore other retirement plan options.

11/1/22

You’ve probably heard of the “nanny tax.” But even if you don’t employ a nanny, it may apply to you. Hiring a house cleaner, gardener or other household employee (who isn’t an independent contractor) may make you liable for federal income and other taxes. You may also have state tax obligations.

If you employ a household worker, you aren’t required to withhold federal income taxes from pay. But you can choose to withhold if the worker requests it. In that case, ask the worker to fill out a Form W-4. However, you may be required to withhold Social Security and Medicare (FICA) taxes and to pay federal unemployment (FUTA) tax.


2022 and 2023 thresholds

In 2022, you must withhold and pay FICA taxes if your household worker earns cash wages of $2,400 or more (excluding the value of food and lodging). The Social Security Administration recently announced that this amount will increase to $2,600 in 2023. If you reach the threshold, all the wages (not just the excess) are subject to FICA.
However, if a nanny is under age 18 and childcare isn’t his or her principal occupation, you don’t have to withhold FICA taxes. So, if you have a part-time student babysitter, there’s no FICA tax liability.

Both an employer and a household worker may have FICA tax obligations. As an employer, you’re responsible for withholding your worker’s FICA share. In addition, you must pay a matching amount. FICA tax is divided between Social Security and Medicare. The Social Security tax rate is 6.2% for the employer and 6.2% for the worker (12.4% total). Medicare tax is 1.45% each for the employer and the worker (2.9% total).

If you want, you can pay your worker’s share of Social Security and Medicare taxes. If you do, your payments aren’t counted as additional cash wages for Social Security and Medicare purposes. However, your payments are treated as additional income to the worker for federal tax purposes, so you must include them as wages on the W-2 form that you must provide.

You also must pay FUTA tax if you pay $1,000 or more in cash wages (excluding food and lodging) to your worker in any calendar quarter. FUTA tax applies to the first $7,000 of wages paid and is only paid by the employer.


Making payments

You pay household worker obligations by increasing your quarterly estimated tax payments or increasing withholding from wages, rather than making an annual lump-sum payment.

As an employer of a household worker, you don’t have to file employment tax returns, even if you’re required to withhold or pay tax (unless you own your own business). Instead, employment taxes are reported on your tax return on Schedule H.

When you report the taxes on your return, include your employer identification number (not the same as your Social Security number). You must file Form SS-4 to get one.

However, if you own a business as a sole proprietor, you include the taxes for a household worker on the FUTA and FICA forms (940 and 941) that you file for the business. And you use your sole proprietorship EIN to report the taxes.


Keep careful records
Keep related tax records for at least four years from the later of the due date of the return or the date the tax was paid. Records should include the worker’s name, address, Social Security number, employment dates, dates and the amount of wages.

If you’re interested in investing in tax-free municipal bonds, you may wonder if they’re really free of taxes. While the investment generally provides tax-free interest on the federal (and possibly state) level, there may be tax consequences. Here’s how the rules work.


Purchasing a bond

If you buy a tax-exempt bond for its face amount, either on the initial offering or in the market, there are no immediate tax consequences. If you buy such a bond between interest payment dates, you’ll have to pay the seller any interest accrued since the last interest payment date. This amount is treated as a capital investment and is deducted from the next interest payment as a return of capital.


Interest excluded from income

In general, interest received on a tax-free municipal bond isn’t included in gross income although it may be includible for alternative minimum tax (AMT) purposes. While tax-free interest is attractive, keep in mind that a municipal bond may pay a lower interest rate than an otherwise equivalent taxable investment. The after-tax yield is what counts.

In the case of a tax-free bond, the after-tax yield is generally equal to the pre-tax yield. With a taxable bond, the after-tax yield is based on the amount of interest you have after taking into account the increase in your tax liability on account of annual interest payments. This depends on your effective tax bracket. In general, tax-free bonds are likely to be appealing to taxpayers in higher brackets since they receive a greater benefit from excluding interest from income. For lower-bracket taxpayers, the tax benefit from excluding interest from income may not be enough to make up for a lower interest rate.

Even though municipal bond interest isn’t taxable, it’s shown on a tax return. This is because tax-exempt interest is taken into account when determining the amount of Social Security benefits that are taxable as well as other tax breaks.


Another tax advantage

Tax-exempt bond interest is also exempt from the 3.8% net investment income tax (NIIT). The NIIT is imposed on the investment income of individuals whose adjusted gross income exceeds $250,000 for joint filers, $125,000 for married filing separate filers, and $200,000 for other taxpayers.


Tax-deferred retirement accounts

It generally doesn’t make sense to hold municipal bonds in your traditional IRA or 401(k) account. The income in these accounts isn’t taxed currently. But once you start taking distributions, the entire amount withdrawn is likely to be taxed. Thus, if you want to invest retirement funds in fixed income obligations, it’s generally advisable to invest in higher-yielding taxable securities.

We can help


These are only some of the tax consequences of investing in municipal bonds. As mentioned, there may be AMT implications. And if you receive Social Security benefits, investing in municipal bonds could increase the amount of tax you must pay with respect to the benefits. Contact us if you need assistance applying the tax rules to your situation or if you have any questions.

IRS audit rates are historically low, according to a recent Government Accountability Office (GAO) report , but that’s little consolation if your return is among those selected to be examined. Plus, the IRS recently received additional funding in the Inflation Reduction Act to improve customer service, upgrade technology and increase audits of high-income taxpayers. But with proper preparation and planning, you should fare well.

From tax years 2010 to 2019, audit rates of individual tax returns decreased for all income levels, according to the GAO. On average, the audit rate for all returns decreased from 0.9% to 0.25%. IRS officials attribute this to reduced staffing as a result of decreased funding. Businesses, large corporations and high-income individuals are more likely to be audited but, overall, all types of audits are being conducted less frequently than they were a decade ago.

There’s no 100% guarantee that you won’t be picked for an audit, because some tax returns are chosen randomly. However, the best way to survive an IRS audit is to prepare in advance. On an ongoing basis you should systematically maintain documentation — invoices, bills, cancelled checks, receipts, or other proof — for all items to be reported on your tax returns. Keep all records in one place.

Audit targets

It also helps to know what might catch the attention of the IRS. Certain types of tax-return entries are known to involve inaccuracies so they may lead to an audit. Here are a few examples:
 

• Significant inconsistencies between tax returns filed in the past and your most current return,
• Gross profit margin or expenses markedly different from those of other businesses in your industry, and
• Miscalculated or unusually high deductions.

Certain types of deductions may be questioned by the IRS because there are strict recordkeeping requirements for them — for example, auto and travel expense deductions. In addition, an owner-employee’s salary that’s much higher or lower than those at similar companies in his or her location may catch the IRS’s eye, especially if the business is structured as a corporation.

If you receive a letter

If you’re selected for an audit, you’ll be notified by letter. Generally, the IRS doesn’t make initial contact by phone. But if there’s no response to the letter, the agency may follow up with a call.

Many audits simply request that you mail in documentation to support certain deductions you’ve claimed. Only the strictest version, the field audit, requires meeting with one or more IRS auditors. (Note: Ignore unsolicited email or text messages about an audit. The IRS doesn’t contact people in this manner. These are scams.)

The tax agency doesn’t demand an immediate response to a mailed notice. You’ll be informed of the discrepancies in question and given time to prepare. Collect and organize all relevant income and expense records. If anything is missing, you’ll have to reconstruct the information as accurately as possible based on other documentation.

If you’re audited, our firm can help you:
 

• Understand what the IRS is disputing (it’s not always clear),
• Gather the specific documents and information needed, and
• Respond to the auditor’s inquiries in the most effective manner.

The IRS normally has three years within which to conduct an audit, and an audit probably won’t begin until a year or more after you file a return. Don’t panic if the IRS contacts you. Many audits are routine. By taking a meticulous, proactive approach to tracking, documenting and filing your company’s tax-related information, you’ll make an audit less painful and even decrease the chances you’ll be chosen in the first place.

10/11/22

If you have a child or grandchild who’s going to attend college in the future, you’ve probably heard about qualified tuition programs, also known as 529 plans. These plans, named for the Internal Revenue Code section that provides for them, allow prepayment of higher education costs on a tax-favored basis.

There are two types of programs: Prepaid plans, which allow you to buy tuition credits or certificates at present tuition rates, even though the beneficiary (child) won’t be starting college for some time; and Savings plans, which depend on the investment performance of the fund(s) you place your contributions in.

You don’t get a federal income tax deduction for a contribution, but the earnings on the account aren’t taxed while the funds are in the program.
(Contributors are eligible for state tax deductions in some states.) You can change the beneficiary or roll over the funds in the program to another plan for the same or a different beneficiary withoutincome tax consequences.


Distributions from the program are tax-free up to the amount of the student’s “qualified higher education expenses.” These include tuition (including up to $10,000 in tuition for an elementary or secondary public, private or religious school), fees, books, supplies and required equipment. Reasonable room and board is also a qualified expense if the student is enrolled at least half time.

Distributions from a 529 plan can also be used to make tax-free payments of principal or interest on a loan to pay qualified higher education expenses of the beneficiary or a sibling of the beneficiary.
What about distributions in excess of qualified expenses? They’re taxed to the beneficiary to the extent that they represent earnings on the account. A 10% penalty tax is also imposed.

Eligible schools include colleges, universities, vocational schools or other postsecondary schools eligible to participate in a student aid program of the U.S. Department of Education. This includes nearly all accredited public, nonprofit and for-profit postsecondary institutions.

However, “qualified higher education expenses” also include expenses for tuition in connection with enrollment or attendance at an elementary or secondary public, private or religious school.
A school should be able to tell you whether it qualifies.

The contributions you make to the qualified tuition program are treated as gifts to the student, but the contributions qualify for the gift tax exclusion amount ($16,000 for 2022, adjusted for inflation). If your contributions in a year exceed the exclusion amount, you can elect to take the contributions into account ratably over a five-year period starting with the year of the contributions. Thus, assuming you make no other gifts to that beneficiary, you could contribute up to $80,000 per beneficiary in 2022 without gift tax. (In that case, any additional contributions during the next four years would be subject to gift tax, except to the extent that the exclusion amount increases.) You and your spouse together could contribute $160,000 for 2022 per beneficiary, subject to any contribution limits imposed by the plan.

A distribution from a qualified tuition program isn’t subject to gift tax, but a change in beneficiary or rollover to the account of a new beneficiary may be. Contact us with questions about tax-saving ways to save and pay for college.

Does your business need real estate to conduct operations? Or does it otherwise hold property and put the title in the name of the business? You may want to rethink this approach. Any short-term benefits may be outweighed by the tax, liability and estate planning advantages of separating real estate ownership from the business.

Tax implications

Businesses that are formed as C corporations treat real estate assets as they do equipment, inventory and other business assets. Any expenses related to owning the assets appear as ordinary expenses on their income statements and are generally tax deductible in the year they’re incurred.

However, when the business sells the real estate, the profits are taxed twice — at the corporate level and at the owner’s individual level when a distribution is made. Double taxation is avoidable, though. If ownership of the real estate were transferred to a pass-through entity instead, the profit upon sale would be taxed only at the individual level.

Protecting assets

Separating your business ownership from its real estate also provides an effective way to protect it from creditors and other claimants. For example, if your business is sued and found liable, a plaintiff may go after all of its assets, including real estate held in its name. But plaintiffs can’t touch property owned by another entity.

The strategy also can pay off if your business is forced to file for bankruptcy. Creditors generally can’t recover real estate owned separately unless it’s been pledged as collateral for credit taken out by the business.

Estate planning options

Separating real estate from a business may give you some estate planning options, too. For example, if the company is a family business but some members of the next generation aren’t interested in actively participating, separating property gives you an extra asset to distribute. You could bequest the business to one heir and the real estate to another family member who doesn’t work in the business.

Handling the transaction

The business simply transfers ownership of the real estate and the transferee leases it back to the company. Who should own the real estate? One option: The business owner could purchase the real estate from the business and hold title in his or her name. One concern is that it’s not only the property that’ll transfer to the owner, but also any liabilities related to it.

Moreover, any liability related to the property itself could inadvertently put the business at risk. If, for example, a client suffers an injury on the property and a lawsuit ensues, the property owner's other assets (including the interest in the business) could be in jeopardy.

An alternative is to transfer the property to a separate legal entity formed to hold the title, typically a limited liability company (LLC) or limited liability partnership (LLP). With a pass-through structure, any expenses related to the real estate will flow through to your individual tax return and offset the rental income.

An LLC is more commonly used to transfer real estate. It’s simple to set up and requires only one member. LLPs require at least two partners and aren’t permitted in every state. Some states restrict them to certain types of businesses and impose other restrictions.

Proceed cautiously

Separating the ownership of a business’s real estate isn’t always advisable. If it’s worthwhile, the right approach will depend on your individual circumstances. Contact us to help determine the best approach to minimize your transfer costs and capital gains taxes while maximizing other potential benefits.

9/27/22

As a result of the current estate tax exemption amount ($12.06 million in 2022), many estates no longer need to be concerned with federal estate tax. Before 2011, a much smaller amount resulted in estate plans attempting to avoid it. But now, because many estates won’t be subject to estate tax, more planning can be devoted to saving income taxes for your heirs.

While saving both income and transfer taxes has always been a goal of estate planning, it was more difficult to succeed at both when the estate and gift tax exemption level was much lower. Here are three considerations.


Plan gifts that use the annual gift tax exclusion.

One of the benefits of using the gift tax annual exclusion to make transfers during life is to save estate tax. This is because both the transferred assets and any post-transfer appreciation generated by those assets are removed from the donor’s estate.

As mentioned, estate tax savings may not be an issue because of the large estate exemption amount. Further, making an annual exclusion transfer of appreciated property carries a potential income tax cost because the recipient receives the donor’s basis upon transfer. Thus, the recipient could face income tax, in the form of capital gains tax, on the sale of the gifted property in the future. If there’s no concern that an estate will be subject to estate tax, even if the gifted property grows in value, then the decision to make a gift should be based on other factors.
For example, gifts may be made to help a relative buy a home or start a business. But a donor shouldn’t gift appreciated property because of the capital gain that could be realized on a future sale by the recipient. If the appreciated property is held until the donor’s death, under current law, the heir will get a step-up in basis that will wipe out the capital gain tax on any pre-death appreciation in the property’s value.


Take spouses’ estates into account.

In the past, spouses often undertook complicated strategies to equalize their estates so that each could take advantage of the estate tax exemption amount. Generally, a two-trust plan was established to minimize estate tax. “Portability,” or the ability to apply the decedent’s unused exclusion amount to the surviving spouse’s transfers during life and at death, became effective for estates of decedents dying after 2010. As long as the election is made, portability allows the surviving spouse to apply the unused portion of a decedent’s applicable exclusion amount (the deceased spousal unused exclusion amount) as calculated in the year of the decedent’s death. The portability election gives married couples more flexibility in deciding how to use their exclusion amounts.


Be aware that some estate exclusion or valuation discount strategies to avoid inclusion of property in an estate may no longer be worth pursuing.

It may be better to have the property included in the estate or not qualify for valuation discounts so that the property receives a step-up in basis. For example, the special use valuation — the valuation of qualified real property used for farming or in a business on the basis of the property’s actual use, rather than on its highest and best use — may not save enough, or any, estate tax to justify giving up the step-up in basis that would otherwise occur for the property.
If you’d like to discuss these strategies and how they relate to your estate plan, contact us.

Here are some of the key tax-related deadlines affecting businesses and other employers during the fourth quarter of 2022. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.

Note: Certain tax-filing and tax-payment deadlines may be postponed for taxpayers who reside in or have businesses in federally declared disaster areas.

Monday, October 3
The last day you can initially set up a SIMPLE IRA plan, provided you (or any predecessor employer) didn’t previously maintain a SIMPLE IRA plan. If you’re a new employer that comes into existence after October 1 of the year, you can establish a SIMPLE IRA plan as soon as administratively feasible after your business comes into existence.

Monday, October 17

• If a calendar-year C corporation that filed an automatic six-month extension:
  • File a 2021 income tax return (Form 1120) and pay any tax, interest and penalties due.
  • Make contributions for 2021 to certain employer-sponsored retirement plans.

Monday, October 31

• Report income tax withholding and FICA taxes for third quarter 2022 (Form 941) and pay any tax due. (See exception below under “November 10.”)

Thursday, November 10

• Report income tax withholding and FICA taxes for third quarter 2022 (Form 941), if you deposited on time (and in full) all of the associated taxes due.

Thursday, December 15

• If a calendar-year C corporation, pay the fourth installment of 2022 estimated income taxes.

Contact us if you’d like more information about the filing requirements and to ensure you’re meeting all applicable deadlines.

9/20/22

In its latest report, the National Association of Realtors (NAR) announced that July 2022 existing home sales were down but prices were up nationwide, compared with last year. “The ongoing sales decline reflects the impact of the mortgage rate peak of 6% in early June,” said NAR Chief Economist Lawrence Yun. However, he added that “home sales may soon stabilize since mortgage rates have fallen to near 5%, thereby giving an additional boost of purchasing power to home buyers.”

If you’re buying a home, or you just bought one, you may wonder if you can deduct mortgage points paid on your behalf by the seller. The answer is “yes,” subject to some important limitations described below.


Basics of points

Points are upfront fees charged by a mortgage lender, expressed as a percentage of the loan principal. Points, which may be deductible if you itemize deductions, are normally the buyer’s obligation. But a seller will sometimes sweeten a deal by agreeing to pay the points on the buyer’s mortgage loan.
In most cases, points that a buyer pays are a deductible interest expense. And seller-paid points may also be deductible.
Suppose, for example, that you bought a home for $600,000. In connection with a $500,000 mortgage loan, your bank charged two points, or $10,000. The seller agreed to pay the points in order to close the sale.

You can deduct the $10,000 in the year of sale. The only disadvantage is that your tax basis is reduced to $590,000, which will mean more gain if — and when — you sell the home for more than that amount. But that may not happen until many years later, and the gain may not be taxable anyway. You may qualify for an exclusion for up to $250,000 ($500,000 for a married couple filing jointly) of gain on the sale of a principal residence.


Important limits

There are some important limitations on the rule allowing a deduction for seller-paid points. The rule doesn’t apply:
 

• To points that are allocated to the part of a mortgage above $750,000 ($375,000 for married filing separately) for tax years 2018 through 2025 (above $1 million for tax years before 2018 and after 2025);
• To points on a loan used to improve (rather than buy) a home;
• To points on a loan used to buy a vacation or second home, investment property or business property; and
• To points paid on a refinancing, home equity loan or line of credit.

Tax aspects of the transaction

We can review with you in more detail whether the points in your home purchase are deductible, as well as discuss other tax aspects of your transaction.

Now that Labor Day has passed, it’s a good time to think about making moves that may help lower your small business taxes for this year and next. The standard year-end approach of deferring income and accelerating deductions to minimize taxes will likely produce the best results for most businesses, as will bunching deductible expenses into this year or next to maximize their tax value.

If you expect to be in a higher tax bracket next year, opposite strategies may produce better results. For example, you could pull income into 2022 to be taxed at lower rates, and defer deductible expenses until 2023, when they can be claimed to offset higher-taxed income.

Here are some other ideas that may help you save tax dollars if you act before year-end.

QBI deduction

Taxpayers other than corporations may be entitled to a deduction of up to 20% of their qualified business income (QBI). For 2022, if taxable income exceeds $340,100 for married couples filing jointly (half that amount for others), the deduction may be limited based on: whether the taxpayer is engaged in a service-type business (such as law, health or consulting), the amount of W-2 wages paid by the business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the business. The limitations are phased in.

Taxpayers may be able to salvage some or all of the QBI deduction by deferring income or accelerating deductions to keep income under the dollar thresholds (or be subject to a smaller deduction phaseout). You also may be able increase the deduction by increasing W-2 wages before year-end. The rules are complex, so consult us before acting.

Cash vs. accrual accounting

More small businesses are able to use the cash (rather than the accrual) method of accounting for federal tax purposes than were allowed to do so in previous years. To qualify as a small business under current law, a taxpayer must (among other requirements) satisfy a gross receipts test. For 2022, it’s satisfied if, during a three-year testing period, average annual gross receipts don’t exceed $27 million. Not that long ago, it was only $5 million. Cash method taxpayers may find it easier to defer income by holding off billings until next year, paying bills early or making certain prepayments.

Section 179 deduction

Consider making expenditures that qualify for the Section 179 expensing option. For 2022, the expensing limit is $1.08 million, and the investment ceiling limit is $2.7 million. Expensing is generally available for most depreciable property (other than buildings) including equipment, off-the-shelf computer software, interior improvements to a building, HVAC and security systems.

The high dollar ceilings mean that many small- and medium-sized businesses will be able to currently deduct most or all of their outlays for machinery and equipment. What’s more, the deduction isn’t prorated for the time an asset is in service during the year. Just place eligible property in service by the last days of 2022 and you can claim a full deduction for the year.

Bonus depreciation

Businesses also can generally claim a 100% bonus first year depreciation deduction for qualified improvement property and machinery and equipment bought new or used, if purchased and placed in service this year. Again, the full write-off is available even if qualifying assets are in service for only a few days in 2022.

Consult with us for more ideas

These are just some year-end strategies that may help you save taxes. Contact us to tailor a plan that works for you.

9/13/22

High-income taxpayers face two special taxes — a 3.8% net investment income tax (NIIT) and a 0.9% additional Medicare tax on wage and self-employment income. Here’s an overview of the taxes and what they may mean for you.


3.8% NIIT

This tax applies, in addition to income tax, on your net investment income. The NIIT only affects taxpayers with adjusted gross income (AGI) exceeding $250,000 for joint filers, $200,000 for single taxpayers and heads of household, and $125,000 for married individuals filing separately.
If your AGI is above the threshold that applies ($250,000, $200,000 or $125,000), the NIIT applies to the lesser of 1) your net investment income for the tax year or 2) the excess of your AGI for the tax year over your threshold amount.

The “net investment income” that’s subject to the NIIT consists of interest, dividends, annuities, royalties, rents and net gains from property sales. Wage income and income from an active trade or business isn’t included. However, passive business income is subject to the NIIT.

Income that’s exempt from income tax, such as tax-exempt bond interest, is likewise exempt from the NIIT. Thus, switching some taxable investments to tax-exempt bonds can reduce your exposure. Of course, this should be done after taking your income needs and investment considerations into account.
How does the NIIT apply to home sales? If you sell your principal residence, you may be able to exclude up to $250,000 of gain ($500,000 for joint filers) when figuring your income tax. This excluded gain isn’t subject to the NIIT.

However, gain that exceeds the exclusion limit is subject to the tax. Gain from the sale of a vacation home or other second residence, which doesn’t qualify for the exclusion, is also subject to the NIIT.
Distributions from qualified retirement plans, such as pension plans and IRAs, aren’t subject to the NIIT. However, those distributions may push your AGI over the threshold that would cause other types of income to be subject to the tax.


Additional 0.9% Medicare tax

Some high-wage earners pay an extra 0.9% Medicare tax on part of their wage income, in addition to the 1.45% Medicare tax that all wage earners pay. The 0.9% tax applies to wages in excess of $250,000 for joint filers, $125,000 for a married individuals filing separately and $200,000 for all others. It applies only to employees, not to employers.

Once an employee’s wages reach $200,000 for the year, the employer must begin withholding the additional 0.9% tax. However, this withholding may prove insufficient if the employee has additional wage income from another job or if the employee’s spouse also has wage income. To avoid that result, an employee may request extra income tax withholding by filing a new Form W-4 with the employer.
An extra 0.9% Medicare tax also applies to self-employment income for the tax year in excess of the same amounts for wage earners. This is in addition to the regular 2.9% Medicare tax on all self-employment income. The $250,000, $125,000, and $200,000 thresholds are reduced by the taxpayer's wage income.


Reduce the impact

As you can see, these two taxes may have a significant effect on your tax bill. Contact us to discuss these taxes and how their impact could be reduced.

You may have heard that the Inflation Reduction Act (IRA) was signed into law recently. While experts have varying opinions about whether it will reduce inflation in the near future, it contains, extends and modifies many climate and energy-related tax credits that may be of interest to individuals.


Nonbusiness energy property

Before the IRA was enacted, you were allowed a personal tax credit for certain nonbusiness energy property expenses. The credit applied only to property placed in service before January 1, 2022. The credit is now extended for energy-efficient property placed in service before January 1, 2033.

The new law also increases the credit for a tax year to an amount equal to 30% of:
 

• The amount paid or incurred by you for qualified energy efficiency improvements installed during the year, and
• The amount of the residential energy property expenditures paid or incurred during that year.

The credit is further increased for amounts spent for a home energy audit (up to $150).

In addition, the IRA repeals the lifetime credit limitation, and instead limits the credit to $1,200 per taxpayer, per year. There are also annual limits of $600 for credits with respect to residential energy property expenditures, windows, and skylights, and $250 for any exterior door ($500 total for all exterior doors). A $2,000 annual limit applies with respect to amounts paid or incurred for specified heat pumps, heat pump water heaters and biomass stoves/boilers.


The residential clean-energy credit

Prior to the IRA being enacted, you were allowed a personal tax credit, known as the Residential Energy Efficient Property (REEP) Credit, for solar electric, solar hot water, fuel cell, small wind energy, geothermal heat pump and biomass fuel property installed in homes before 2024.

The new law makes the credit available for property installed before 2035. It also makes the credit available for qualified battery storage technology expenses.


New Clean Vehicle Credit

Before the enactment of the law, you could claim a credit for each new qualified plug-in electric drive motor vehicle placed in service during the tax year.
The law renames the credit the Clean Vehicle Credit and eliminates the limitation on the number of vehicles eligible for the credit. Also, final assembly of the vehicle must now take place in North America.

Beginning in 2023, there will be income limitations. No Clean Vehicle Credit is allowed if your modified adjusted gross income (MAGI) for the year of purchase or the preceding year exceeds $300,000 for a married couple filing jointly, $225,000 for a head of household, or $150,000 for others. In addition, no credit is allowed if the manufacturer’s suggested retail price for the vehicle is more than $55,000 ($80,000 for pickups, vans, or SUVs).
Finally, the way the credit is calculated is changing. The rules are complicated, but they place more emphasis on where the battery components (and critical minerals used in the battery) are sourced.
The IRS provides more information about the Clean Vehicle Credit here: https://bit.ly/3ATxEA9


Credit for used clean vehicles

A qualified buyer who acquires and places in service a previously owned clean vehicle after 2022 is allowed a tax credit equal to the lesser of $4,000 or 30% of the vehicle’s sale price. No credit is allowed if your MAGI for the year of purchase or the preceding year exceeds $150,000 for married couples filing jointly, $112,500 for a head of household, or $75,000 for others. In addition, the maximum price per vehicle is $25,000.


We can answer your questions

Contact us if you have questions about taking advantage of these new and revised tax credits.

The Inflation Reduction Act (IRA), signed into law by President Biden on August 16, contains many provisions related to climate, energy and taxes. There has been a lot of media coverage about the law’s impact on large corporations. For example, the IRA contains a new 15% alternative minimum tax on large, profitable corporations. And the law adds a 1% excise tax on stock buybacks of more than $1 million by publicly traded U.S. corporations.

But there are also provisions that provide tax relief for small businesses. Here are two:

A payroll tax credit for research

Under current law, qualified small businesses can elect to claim a portion of their research credit as a payroll tax credit against their employer Social Security tax liability, rather than against their income tax liability. This became effective for tax years that begin after December 31, 2015.

Qualified small businesses that elect to claim the research credit as a payroll tax credit do so on IRS Form 8974, “Qualified Small Business Payroll Tax Credit for Increasing Research Activities.” Currently, a qualified small business can claim up to $250,000 of its credit for increasing research activities as a payroll tax credit against the employer's share of Social Security tax.

The IRA makes changes to the credit, beginning next year. It allows for qualified small businesses to apply an additional $250,000 in qualifying research expenses as a payroll tax credit against the employer share of Medicare. The credit can’t exceed the tax imposed for any calendar quarter, with unused amounts of the credit carried forward. This provision will take effect for tax years beginning after December 31, 2022.

A qualified small business must meet certain requirements, including having gross receipts under a certain amount.

Extension of the limit on excess business losses of noncorporate taxpayers

Another provision in the new law extends the limit on excess business losses for noncorporate taxpayers. Under prior law, there was a cap set on business loss deductions by noncorporate taxpayers. For 2018 through 2025, the Tax Cuts and Jobs Act limited deductions for net business losses from sole proprietorships, partnerships and S corporations to $250,000 ($500,000 for joint filers). Losses in excess of those amounts (which are adjusted annually for inflation) may be carried forward to future tax years under the net operating loss rules.

Although another law (the CARES Act) suspended the limit for the 2018, 2019 and 2020 tax years, it’s now back in force and has been extended through 2028 by the IRA. Businesses with significant losses should consult with us to discuss the impact of this change on their tax planning strategies.

We can help

These are only two of the many provisions in the IRA. There may be other tax benefits to your small business if you’re buying electric vehicles or green energy products. Contact us if you have questions about the new law and your situation.

8/30/22

If you’re a business owner working from home or an entrepreneur with a home-based side gig, you may qualify for valuable home office deductions.
But not everyone who works from home gets the tax break. Employees who work remotely can’t deduct home office expenses under current federal tax law.

To qualify for a deduction, you must use at least part of your home regularly and exclusively as either:
 

• Your principal place of business, or
• A place to meet with customers, clients or patients in the normal course of business.

In addition, you may be able to claim deductions for maintaining a separate structure — such as a garage — where you store products or tools used solely for business purposes.

Notably, “regular and exclusive” use means you must consistently use a specific identifiable area in your home for business. However, incidental or occasional personal use won’t necessarily disqualify you.


Rules for employees

What if you work remotely from home as an employee for an organization? Previously, people who itemized deductions could claim home office deductions as a miscellaneous expense, if the arrangement was for their employer’s convenience.

But the Tax Cuts and Jobs Act suspended miscellaneous expense deductions for 2018 through 2025.

So, employees currently get no tax benefit if they work from home. On the other hand, self-employed individuals still may qualify if they meet the tax law requirements.


Direct and indirect expenses

If you qualify, you can write off the full amount of your direct expenses and a proportionate amount of your indirect expenses based on the percentage of business use of your home.
Indirect expenses include:
 

• Mortgage interest,
• Property taxes,
• Utilities (electric, gas and water),
• Insurance,
• Exterior repairs, maintenance, and
• Depreciation or rent under IRS tables.

Important: If you itemize deductions, mortgage interest and property taxes may already be deductible. If you claim a portion of these expenses as home office expenses, the remainder is deductible on your personal return. But you can’t deduct the same amount twice as a personal deduction and again as a home office expense.


Calculating your deduction

Typically, the percentage of business use is determined by the square footage of your home office. For instance, if you have a 3,000 square-foot home and use a room with 300 square feet as your office, the applicable percentage is 10%.

Alternatively, you may use any other reasonable method for determining this percentage, such as a percentage based on the number of comparably sized rooms in the home.


The simplified method

Keeping track of indirect expenses is time-consuming. Some taxpayers prefer to take advantage of a simplified method of deducting home office expenses. Instead of deducting actual expenses, you can claim a deduction equal to $5 per square foot for the area used as an office, up to a maximum of $1,500 for the year. Although this method takes less time than tracking actual expenses, it generally results in a significantly lower deduction.


When you sell

Keep in mind that if you claim home office deductions, you may be in for a tax surprise when you sell your home.
If you eventually sell your principal residence, you may qualify for a tax exclusion of up to $250,000 of gain for single filers ($500,000 for married couples who file jointly). But you must recapture the depreciation attributable to a home office for the period after May 6, 1997.

Contact us. We can address questions related to writing off home office expenses, the best way to compute deductions and the tax implications when you sell your home.

Do you own a successful small business with no employees and want to set up a retirement plan? Or do you want to upgrade from a SIMPLE IRA or Simplified Employee Pension (SEP) plan? Consider a solo 401(k) if you have healthy self-employment income and want to contribute substantial amounts to a retirement nest egg.

This strategy is geared toward self-employed individuals including sole proprietors, owners of single-member limited liability companies and other one-person businesses.

Go it alone

With a solo 401(k) plan, you can potentially make large annual deductible contributions to a retirement account.

For 2022, you can make an “elective deferral contribution” of up to $20,500 of your net self-employment (SE) income to a solo 401(k). The elective deferral contribution limit increases to $27,000 if you’ll be 50 or older as of December 31, 2022. The larger $27,000 figure includes an extra $6,500 catch-up contribution that’s allowed for these older owners.

On top of your elective deferral contribution, an additional contribution of up to 20% of your net SE income is permitted for solo 401(k)s. This is called an “employer contribution,” though there’s technically no employer when you’re self-employed. (The amount for employees is 25%.) For purposes of calculating the employer contribution, your net SE income isn’t reduced by your elective deferral contribution.

For the 2022 tax year, the combined elective deferral and employer contributions can’t exceed:
 

• $61,000 ($67,500 if you’ll be 50 or older as of December 31, 2022), or
• 100% of your net SE income.

Net SE income equals the net profit shown on Form 1040 Schedule C, E or F for the business minus the deduction for 50% of self-employment tax attributable to the business.

Pros and cons

Besides the ability to make large deductible contributions, another solo 401(k) advantage is that contributions are discretionary. If cash is tight, you can contribute a small amount or nothing.

In addition, you can borrow from your solo 401(k) account, assuming the plan document permits it. The maximum loan amount is 50% of the account balance or $50,000, whichever is less. Some other plan options, including SEPs, don’t allow loans.

The biggest downside to solo 401(k)s is their administrative complexity. Significant upfront paperwork and some ongoing administrative efforts are required, including adopting a written plan document and arranging how and when elective deferral contributions will be collected and paid into the owner’s account. Also, once your account balance exceeds $250,000, you must file Form 5500-EZ with the IRS annually.

If your business has one or more employees, you can’t have a solo 401(k). Instead, you must have a multi-participant 401(k) with all the resulting complications. The tax rules may require you to make contributions for those employees. However, there’s an important loophole: You can exclude employees who are under 21 and employees who haven’t worked at least 1,000 hours during any 12-month period from 401(k) plan coverage.

Bottom line: For a one-person business, a solo 401(k) can be a smart retirement plan choice if:
 

• You want to make large annual deductible contributions and have the money,
• You have substantial net SE income, and
• You’re 50 or older and can take advantage of the extra catch-up contribution.

Before you establish a solo 401(k), weigh the pros and cons of other retirement plans — especially if you’re 50 or older. Solo 401(k)s aren’t simple but they can allow you to make substantial and deductible contributions to a retirement nest egg. Contact us before signing up to determine what’s best for your situation.

8/23/22

When a married couple files a joint tax return, each spouse is “jointly and severally” liable for the full amount of tax on the couple’s combined income. Therefore, the IRS can come after either spouse to collect the entire tax — not just the part that’s attributed to one spouse or the other. This includes any tax deficiency that the IRS assesses after an audit, as well as any penalties and interest. (However, the civil fraud penalty can be imposed only on spouses who’ve actually committed fraud.)


Innocent spouse relief

In some cases, spouses are eligible for “innocent spouse relief.” This generally involves individuals who were unaware of a tax understatement that was attributable to the other spouse.
To qualify, you must show not only that you didn’t know about the understatement, but that there was nothing that should have made you suspicious. In addition, the circumstances must make it inequitable to hold you liable for the tax. This relief is available even if you’re still married and living with your spouse.

In addition, spouses may be able to limit liability for any tax deficiency on a joint return if they’re widowed, divorced, legally separated or have lived apart for at least one year.


Election to limit liability

If you make this election, the tax items that gave rise to the deficiency will be allocated between you and your spouse as if you’d filed separate returns. For example, you’d generally be liable for the tax on any unreported wage income only to the extent that you earned the wages.
The election won’t provide relief from your spouse’s tax items if the IRS proves that you knew about the items when you signed the return — unless you can show that you signed the return under duress. Also, the limitation on your liability is increased by the value of any assets that your spouse transferred to you in order to avoid the tax.


An “injured” spouse

In addition to innocent spouse relief, there’s also relief for “injured” spouses. What’s the difference? An injured spouse claim asks the IRS to allocate part of a joint refund to one spouse. In these cases, an injured spouse has all or part of a refund from a joint return applied against past-due federal tax, state tax, child or spousal support, or a federal nontax debt (such as a student loan) owed by the other spouse. If you’re an injured spouse, you may be entitled to recoup your share of the refund.

Whether, and to what extent, you can take advantage of the above relief depends on the facts of your situation. If you’re interested in trying to obtain relief, there’s paperwork that must be filed and deadlines that must be met. We can assist you with the details.

Also, keep “joint and several liability” in mind when filing future tax returns. Even if a joint return results in less tax, you may choose to file a separate return if you want to be certain of being responsible only for your own tax. Contact us with any questions

The business entity you choose can affect your taxes, your personal liability and other issues. A limited liability company (LLC) is somewhat of a hybrid entity in that it can be structured to resemble a corporation for owner liability purposes and a partnership for federal tax purposes. This duality may provide you with the best of both worlds.

Like the shareholders of a corporation, the owners of an LLC (called “members” rather than shareholders or partners) generally aren’t liable for business debts except to the extent of their investment. Thus, they can operate the business with the security of knowing that their personal assets are protected from the entity’s creditors. This protection is far greater than that afforded by partnerships. In a partnership, the general partners are personally liable for the debts of the business. Even limited partners, if they actively participate in managing the business, can have personal liability.

Check-the-box rules

LLC owners can elect under the check-the-box rules to have the entity treated as a partnership for federal tax purposes. This can provide a number of important benefits to them. For example, partnership earnings aren’t subject to an entity-level tax. Instead, they “flow through” to the owners, in proportion to the owners’ respective interests in profits, and are reported on the owners’ individual returns and are taxed only once. To the extent the income passed through to you is qualified business income, you’ll be eligible to take the Section 199A pass-through deduction, subject to various limitations.

In addition, since you’re actively managing the business, you can deduct on your individual tax return your ratable shares of any losses the business generates. This, in effect, allows you to shelter other income that you (and your spouse, if you’re married) may have.

An LLC that’s taxable as a partnership can provide special allocations of tax benefits to specific partners. This can be an important reason for using an LLC over an S corporation (a form of business that provides tax treatment that’s similar to a partnership). Another reason for using an LLC over an S corporation is that LLCs aren’t subject to the restrictions the federal tax code imposes on S corporations regarding the number of owners and the types of ownership interests that may be issued.

Explore the options

In summary, an LLC would give you corporate-like protection from creditors while providing you with the benefits of taxation as a partnership. Be aware that the LLC structure is allowed by state statute and states may use different regulations. Contact us to discuss in more detail how use of an LLC might benefit you and the other owners.

8/16/22

If you don’t have enough federal tax withheld from your paychecks and other payments, you may have to make estimated tax payments. This is the case if you receive interest, dividends, self-employment income, capital gains or other income. Here are the applicable rules for paying estimated tax without triggering the penalty for underpayment.


When are the payments due?

Individuals must pay 25% of a “required annual payment” by April 15, June 15, September 15, and January 15 of the following year, to avoid an underpayment penalty. If one of those dates falls on a weekend or holiday, the payment is due on the next business day.
So the third installment for 2022 is due on Wednesday, September 15. Payments are made using Form 1040-ES.


How much should you pay?

The required annual payment for most individuals is the lower of 90% of the tax shown on the current year’s return or 100% of the tax shown on the return for the previous year. However, if the adjusted gross income on your previous year’s return was more than $150,000 ($75,000 if you’re married filing separately), you must pay the lower of 90% of the tax shown on the current year’s return or 110% of the tax shown on the return for the previous year.
Most people who receive the bulk of their income in the form of wages satisfy these payment requirements through the tax withheld by their employers from their paychecks. Those who make estimated tax payments generally do so in four installments. After determining the required annual payment, divide that number by four and make four equal payments by the due dates.
But you may be able to use the annualized income method to make smaller payments. This method is useful to people whose income flow isn’t uniform over the year, perhaps because of a seasonal business. For example, if your income comes exclusively from a business operated in a resort area during June, July, and August, no estimated payment is required before September 15.


Who owes the penalty for underpaying?

If you don’t make the required payments, you may be subject to an underpayment penalty. The penalty equals the product of the interest rate charged by the IRS on deficiencies, times the amount of the underpayment for the period of the underpayment.

However, the underpayment penalty doesn’t apply to you if:

• The total tax shown on your return is less than $1,000 after subtracting withholding tax paid;
• You had no tax liability for the preceding year, you were a U.S. citizen or resident for that entire year, and that year was 12 months;
• For the fourth (January 15) installment, you file your return by that January 31 and pay your tax in full; or
• You are a farmer or fisherman and pay your entire estimated tax by January 15, or pay your entire estimated tax and file your tax return by March 1.

In addition, the IRS may waive the penalty if the failure was due to casualty, disaster or other unusual circumstances and it would be inequitable to impose the penalty. The penalty can also be waived for reasonable cause during the first two years after you retire (and reach age 62) or become disabled.


Do you have more questions?

Contact us if you think you may be eligible to determine your estimated tax payments under the annualized income method, or you have other questions about how the estimated tax rules apply to you.

As you’re aware, certain employers are required to report information related to their employees’ health coverage. Does your business have to comply, and if so, what must be done?

Basic rules

Certain employers with 50 or more full-time employees (called “applicable large employers” or ALEs) must use Forms 1094-C and 1095-C to report the information about offers of health coverage and enrollment in health coverage for their employees. Specifically, an ALE uses Form 1094-C to report summary information for each employee and to transmit Forms 1095-C to the IRS. A separate Form 1095-C is used to report information about each employee. In addition, Forms 1094-C and 1095-C are used to determine whether an employer owes payments under the employer shared responsibility provisions (sometimes referred to as the “employer mandate”).

Under the mandate, an employer can be subject to a penalty if it doesn’t offer affordable minimum essential coverage that provides minimum value to substantially all full-time employees and their dependents. Form 1095-C is also used in determining eligibility of employees for premium tax credits.

Information reported

On Form 1095-C, ALEs must report the following for each employee who was a full-time employee for any month of the calendar year:
 

• The employee’s name, Social Security number and address,
• The Employer Identification Number,
• An employer contact person’s name and phone number,
• A description of the offer of coverage (using a code provided in the instructions) and the months of coverage,
• Each full-time employee’s share of the coverage cost under the lowest-cost, minimum-value plan offered by the employer, by calendar month, and
• The applicable safe harbor (using one of the codes provided in the instructions) under the employer shared responsibility or employer mandate penalty.

If an ALE offers health coverage through an employer’s self-insured plan, the ALE also must report more information on Form 1095-C. For this purpose, a self-insured plan also includes one that offers some enrollment options as insured arrangements and other options as self-insured.

If an employer provides health coverage in another manner, such as through an insured health plan or a multiemployer health plan, the insurance issuer or the plan sponsor making the coverage available will provide the information about health coverage to enrolled employees. An employer that provides employer-sponsored self-insured health coverage but isn’t subject to the employer mandate, isn’t required to file Forms 1094-C and 1095-C and reports instead on Forms 1094-B and 1095-B for employees who enrolled in the employer-sponsored self-insured health coverage.

On Form 1094-C, an employer can also indicate whether any certifications of eligibility for relief from the employer mandate apply.

Be aware that these reporting requirements may be more complex if your business is a member of an aggregated ALE group or if the coverage is provided through a multiemployer plan.

W-2 reporting

Note: Employers also report certain information about health coverage on employees’ W-2 forms. But it’s not the same information as what’s reported on 1095-C. The information on either form doesn’t cause excludable employer-provided coverage to become taxable to employees. It’s for informational purposes only.

The above is a simplified explanation of the reporting requirements. Contact us with questions or for assistance in complying with the requirements.

8/9/22

These days, most businesses have websites. But surprisingly, the IRS hasn’t issued formal guidance on when website costs can be deducted.

Fortunately, established rules that generally apply to the deductibility of business costs provide business taxpayers launching a website with some guidance as to the proper treatment of the costs. Plus, businesses can turn to IRS guidance that applies to software costs.

Hardware versus software

Let’s start with the hardware you may need to operate a website. The costs fall under the standard rules for depreciable equipment. Specifically, once these assets are operating, you can deduct 100% of the cost in the first year they’re placed in service (before 2023). This favorable treatment is allowed under the 100% first-year bonus depreciation break. Note: The bonus depreciation rate will begin to be phased down for property placed in service after calendar year 2022.

In later years, you can probably deduct 100% of these costs in the year the assets are placed in service under the Section 179 first-year depreciation deduction privilege. However, Sec. 179 deductions are subject to several limitations.

For tax years beginning in 2022, the maximum Sec. 179 deduction is $1.08 million, subject to a phaseout rule. Under the rule, the deduction is phased out if more than a specified amount ($2.7 million for 2022) of qualified property is placed in service during the year.

There’s also a taxable income limit. Under it, your Sec. 179 deduction can’t exceed your business taxable income. In other words, Sec. 179 deductions can’t create or increase an overall tax loss. However, any Sec. 179 deduction amount that you can’t immediately deduct is carried forward and can be deducted in later years (to the extent permitted by the applicable limits).

Similar rules apply to purchased off-the-shelf software. However, software license fees are treated differently from purchased software costs for tax purposes. Payments for leased or licensed software used for your website are currently deductible as ordinary and necessary business expenses.

Software developed internally

If, instead of being purchased, the website is designed in-house by the taxpayer launching the website (or designed by a contractor who isn’t at risk if the software doesn’t perform), for tax years beginning before calendar year 2022, bonus depreciation applies to the extent described above. If bonus depreciation doesn’t apply, the taxpayer can either:

1. Deduct the development costs in the year paid or incurred, or
2. Choose one of several alternative amortization periods over which to deduct the costs.

For tax years beginning after calendar year 2021, generally the only allowable treatment will be to amortize the costs over the five-year period beginning with the midpoint of the tax year in which the expenditures are paid or incurred.

If your website is primarily for advertising, you can currently deduct internal website software development costs as ordinary and necessary business expenses.

Paying a third party

Some companies hire third parties to set up and run their websites. In general, payments to third parties are currently deductible as ordinary and necessary business expenses.

Before business begins

Start-up expenses can include website development costs. Up to $5,000 of otherwise deductible expenses that are incurred before your business commences can generally be deducted in the year business commences. However, if your start-up expenses exceed $50,000, the $5,000 current deduction limit starts to be chipped away. Above this amount, you must capitalize some, or all, of your start-up expenses and amortize them over 60 months, starting with the month that business commences.

We can help

We can determine the appropriate treatment of website costs. Contact us if you want more information.

8/2/22

When you take withdrawals from your traditional IRA, you probably know that they’re taxable. But there may be a penalty tax on early withdrawals depending on how old you are when you take them and what you do with the money.

Important: Once you reach a certain age, you must start taking required minimum distributions from your traditional IRAs to avoid a different tax penalty. Previously, the required beginning date (RBD) was April 1 of the year after the year in which you turn 70½. However, a 2019 law changed the RBD to 72 for individuals who reach age 70½ after 2019.

But what if you want to take an “early” withdrawal, defined as one taken before age 59½? You’ll be hit with a 10% penalty tax unless an exception applies. This 10% early withdrawal penalty tax is on top of the regular income tax you’ll owe on the distribution.


Exceptions to the general rule

Fortunately, there are several exceptions to the early withdrawal penalty tax if you use the money for certain things.

Common examples include:

• Paying for medical costs that exceed 7.5% of your adjusted gross income,
• Withdrawals up to the amount of qualified higher education expenses for you, your spouse, or the children or grandchildren of you or your spouse, and
• Withdrawals to buy or build a first home for a parent, grandparent, yourself, a spouse, or you or your spouse’s child or grandchild. This exception for first-time home purchases is subject to a lifetime limit of $10,000. A first-time homebuyer is someone who hasn’t had an ownership interest in a home in the last two years before buying a new home.

There’s also an exception to the early withdrawal penalty tax if you take annuity-like annual withdrawals under IRS guidelines. If distributions are made as part of a series of “substantially equal periodic payments” over your life expectancy or the life expectancies of you and your designated beneficiary, the tax doesn’t apply.


Be careful with rollovers

Be aware that the early withdrawal penalty may come into play if you’re moving funds out of an account. You can roll over funds from one IRA to another tax-free so long as you complete the rollover within 60 days. What if you miss the deadline? You may owe tax and the early withdrawal penalty if you’re younger than age 59½. (The IRS may waive the penalty if there are extenuating circumstances.)


We can help

We can tell you if you’re eligible for the exceptions described above or other exceptions to the 10% early withdrawal penalty tax. Be sure to keep good records so you can prove your eligibility.

Sometimes, bigger isn’t better: Your small- or medium-sized business may be eligible for some tax breaks that aren’t available to larger businesses. Here are some examples.

1. QBI deduction

For 2018 through 2025, the qualified business income (QBI) deduction is available to eligible individuals, trusts and estates. But it’s not available to C corporations or their shareholders.

The QBI deduction can be up to 20% of:
 

• QBI earned from a sole proprietorship or single-member limited liability company (LLC) that’s treated as a sole proprietorship for federal income tax purposes, plus
• QBI passed through from a pass-through business entity, meaning a partnership, LLC classified as a partnership for federal income tax purposes or S corporation.

Pass-through business entities report tax items to their owners, who then take them into account on their owner-level returns. The QBI deduction rules are complicated, and the deduction can be phased out at higher income levels.

2. Eligibility for cash-method accounting

Businesses that are eligible to use the cash method of accounting for tax purposes have the ability to fine-tune annual taxable income. This is accomplished by timing the year in which you recognize taxable income and claim deductions.

Under the cash method, you generally don’t have to recognize taxable income until you’re paid in cash. And you can generally write off deductible expenses when you pay them in cash or with a credit card.

Only “small” businesses are potentially eligible for the cash method. For this purpose under current law, a small business includes one that has no more than $25 million of average annual gross receipts, based on the preceding three tax years. This limit is adjusted annually for inflation. For tax years beginning in 2022, the limit is $27 million.

3. Section 179 deduction

The Sec. 179 first-year depreciation deduction potentially allows you to write off some (or all) of your qualified asset additions in the first year they’re placed in service. It's available for both new and used property.

For qualified property placed in service in tax years 2018 and beyond, the deduction rules are much more favorable than under prior law. Enhancements include:

Higher deduction. The Sec. 179 deduction has been permanently increased to $1 million with annual inflation adjustments. For qualified assets placed in service in 2022, the maximum is $1.08 million.

Liberalized phase-out. The threshold above which the maximum Sec. 179 deduction begins to be phased out is $2.5 million with annual inflation adjustments. For qualified assets placed in service in 2022, the phase-out begins at $2.7 million.

The phase-out rule kicks in only if your additions of assets that are eligible for the deduction for the year exceed the threshold for that year. If they exceed the threshold, your maximum deduction is reduced dollar-for-dollar by the excess. Sec. 179 deductions are also subject to other limitations.

Bonus depreciation

While Sec. 179 deductions may be limited, those limitations don’t apply to first-year bonus depreciation deductions. For qualified assets placed in service in 2022, 100% first-year bonus depreciation is available. After this year, the first-year bonus depreciation percentages are scheduled to start going down to 80% for qualified assets placed in service in 2023. They will continue to be reduced until they reach 0% for 2028 and later years.

Contact us to determine if you’re taking advantage of all available tax breaks, including those that are available to small and large businesses alike.

7/26/22

Many people wonder how they can save taxes by transferring assets into their children’s names. This tax strategy is called income shifting. It seeks to take income out of your higher tax bracket and place it in the lower tax brackets of your children.

While some tax savings are available through this approach, the “kiddie tax” rules impose substantial limitations if: The child hasn’t reached age 18 before the close of the tax year, or The child’s earned income doesn’t exceed half of his or her support and the child is age 18 or is a full-time student age 19 to 23.

The kiddie tax rules apply to your children who are under the cutoff age(s) described above, and who have more than a certain amount of unearned (investment) income for the tax year — $2,300 for 2022. While some tax savings on up to this amount can still be achieved by shifting income to children under the cutoff age, the savings aren’t substantial.

If the kiddie tax rules apply to your children and they have over the prescribed amount of unearned income for the tax year ($2,300 for 2022), they’ll be taxed on that excess amount at your (the parents’) tax rates if your rates are higher than the children’s tax rates. This kiddie tax is calculated by computing the “allocable parental tax” and special allocation rules apply if the parents have more than one child subject to the kiddie tax.

Note: Different rules applied for the 2018 and 2019 tax years, when the kiddie tax was computed based on the estates’ and trusts’ ordinary and capital gain rates, instead of the parents’ tax rates.
Be aware that, to transfer income to a child, you must transfer ownership of the asset producing the income. You can’t merely transfer the income itself. Property can be transferred to minor children using custodial accounts under state law.


Possible saving vehicles

The portion of investment income of a child that’s taxed under the kiddie tax rules may be reduced or eliminated if the child invests in vehicles that produce little or no current taxable income. These include:

• Securities and mutual funds oriented toward capital growth;
• Vacant land expected to appreciate in value;
• Stock in a closely held family business, expected to become more valuable as the business expands, but pays little or no cash dividends;
• Tax-exempt municipal bonds and bond funds;
• U.S. Series EE bonds, for which recognition of income can be deferred until the bonds mature, the bonds are cashed in or an election to recognize income annually is made.

Investments that produce no taxable income — and which therefore aren’t subject to the kiddie tax — also include tax-advantaged savings vehicles such as:

• Traditional and Roth IRAs, which can be established or contributed to if the child has earned income;
• Qualified tuition programs (also known as “529 plans”); and
• Coverdell education savings accounts.

A child’s earned income (as opposed to investment income) is taxed at the child’s regular tax rates, regardless of the amount. Therefore, to save taxes within the family, consider employing the child at your own business and paying reasonable compensation.

If the kiddie tax applies, it’s computed and reported on Form 8615, which is attached to the child’s tax return.


Two reporting options

Parents can elect to include the child’s income on their own return if certain requirements are satisfied. This is done on Form 8814 and avoids the need for a separate return for the child. Contact us if you have questions about the kiddie tax.

A business or individual might be able to dispose of appreciated real property without being taxed on the gain by exchanging it rather than selling it. You can defer tax on your gain through a “like-kind” or Section 1031 exchange.

A like-kind exchange is a swap of real property held for investment or for productive use in your trade or business for like-kind investment real property or business real property. For these purposes, “like-kind” is very broadly defined, and most real property is considered to be like-kind with other real property. However, neither the relinquished property nor the replacement property can be real property held primarily for sale. If you’re unsure whether the property involved in your exchange is eligible for a like-kind exchange, contact us to discuss the matter.

Here’s how the tax rules work

If it’s a straight asset-for-asset exchange, you won’t have to recognize any gain from the exchange. You’ll take the same “basis” (your cost for tax purposes) in the replacement property that you had in the relinquished property. Even if you don’t have to recognize any gain on the exchange, you still have to report the exchange on a form that is attached to your tax return.

However, the properties often aren’t equal in value, so some cash or other (non-like-kind) property is thrown into the deal. This cash or other property is known as “boot.” If boot is involved, you’ll have to recognize your gain, but only up to the amount of boot you receive in the exchange. In these situations, the basis you get in the like-kind replacement property you receive is equal to the basis you had in the relinquished property you gave up reduced by the amount of boot you received but increased by the amount of any gain recognized.

Here’s an example

Let’s say you exchange land (investment property) with a basis of $100,000 for a building (investment property) valued at $120,000 plus $15,000 in cash. Your realized gain on the exchange is $35,000: You received $135,000 in value for an asset with a basis of $100,000. However, since it’s a like-kind exchange, you only have to recognize $15,000 of your gain: the amount of cash (boot) you received. Your basis in the new building (the replacement property) will be $100,000, which is your original basis in the relinquished property you gave up ($100,000) plus the $15,000 gain recognized, minus the $15,000 boot received.

Note: No matter how much boot is received, you’ll never recognize more than your actual (“realized”) gain on the exchange.

If the property you’re exchanging is subject to debt from which you’re being relieved, the amount of the debt is treated as boot. The theory is that if someone takes over your debt, it’s equivalent to him or her giving you cash. Of course, if the replacement property is also subject to debt, then you’re only treated as receiving boot to the extent of your “net debt relief” (the amount by which the debt you become free of exceeds the debt you pick up).

Like-kind exchanges can be complex but they’re a good tax-deferred way to dispose of investment or trade or business assets. We can answer any additional questions you have or assist with the transaction.

7/19/22

Sales and registrations of electric vehicles (EVs) have increased dramatically in the U.S. in 2022, according to several sources. However, while they’re still a small percentage of the cars on the road today, they’re increasing in popularity all the time.

If you buy one, you may be eligible for a federal tax break. The tax code provides a credit to purchasers of qualifying plug-in electric drive motor vehicles including passenger vehicles and light trucks. The credit is equal to $2,500 plus an additional amount, based on battery capacity, that can’t exceed $5,000. Therefore, the maximum credit allowed for a qualifying EV is $7,500.

Be aware that not all EVs are eligible for the tax break, as we’ll describe below.


The EV definition

For purposes of the tax credit, a qualifying vehicle is defined as one with four wheels that’s propelled to a significant extent by an electric motor, which draws electricity from a battery. The battery must have a capacity of not less than four kilowatt hours and be capable of being recharged from an external source of electricity.
The credit may not be available because of a per-manufacturer cumulative sales limitation. Specifically, it phases out over six quarters beginning when a manufacturer has sold at least 200,000 qualifying vehicles for use in the United States (determined on a cumulative basis for sales after December 31, 2009). For example, Tesla and General Motors vehicles are no longer eligible for the tax credit. And Toyota is the latest auto manufacturer to sell enough plug-in EVs to trigger a gradual phase out of federal tax incentives for certain models sold in the U.S.

Several automakers are telling Congress to eliminate the limit. In a letter, GM, Ford, Chrysler and Toyota asked Congressional leaders to give all electric car and light truck buyers a tax credit of up to $7,500. The group says that lifting the limit would give buyers more choices, encourage greater EV adoption and provide stability to autoworkers.

The IRS provides a list of qualifying vehicles on its website and it recently added some eligible models. You can access the list here: https://bit.ly/2DJVArE .

Here are some additional points about the plug-in electric vehicle tax credit:

• It’s allowed in the year you place the vehicle in service.
• The vehicle must be new.
• An eligible vehicle must be used predominantly in the U.S. and have a gross weight of less than 14,000 pounds.

These are only the basic rules. There may be additional incentives provided by your state. If you want more information about the federal plug-in electric vehicle tax break, contact us.

Sadly, many businesses have been forced to shut down recently due to the pandemic and the economy. If this is your situation, we can assist you, including taking care of the various tax responsibilities that must be met.

Of course, a business must file a final income tax return and some other related forms for the year it closes its doors. The type of return to be filed depends on the type of business you have. Here’s a rundown of the basic requirements.

Sole proprietorships. You’ll need to file the usual Schedule C, “Profit or Loss from Business,” with your individual return for the year you close the business. You may also need to report self-employment tax.

Partnerships. A partnership must file Form 1065, “U.S. Return of Partnership Income,” for the year it closes. You also must report capital gains and losses on Schedule D. Indicate that this is the final return and do the same on Schedule K-1, “Partner’s Share of Income, Deductions, Credits, etc.”

All corporations. Form 966, “Corporate Dissolution or Liquidation,” must be filed if you adopt a resolution or plan to dissolve a corporation or liquidate any of its stock.

C corporations. File Form 1120, “U.S. Corporation Income Tax Return,” for the year you close. Report capital gains and losses on Schedule D. Indicate this is the final return.

S corporations. File Form 1120-S, “U.S. Income Tax Return for an S Corporation,” for the year of closing. Report capital gains and losses on Schedule D. The “final return” box must be checked on Schedule K-1.

All businesses. Other forms may need to be filed to report sales of business property and asset acquisitions if you sell your business.

Employees and contract workers

If you have employees, you must pay them final wages and compensation owed, make final federal tax deposits and report employment taxes. Failure to withhold or deposit employee income, Social Security and Medicare taxes can result in full personal liability for what’s known as the Trust Fund Recovery Penalty.

If you’ve paid any contractors at least $600 during the calendar year in which you close your business, you must report those payments on Form 1099-NEC, “Nonemployee Compensation.”

Other tax issues

If your business has a retirement plan for employees, you’ll want to terminate the plan and distribute benefits to participants. There are detailed notice, funding, timing and filing requirements that must be met by a terminating plan. There are also complex requirements related to flexible spending accounts, Health Savings Accounts, and other programs for your employees.

We can assist you with many other complicated tax issues related to closing your business, including debt cancellation, use of net operating losses, freeing up any remaining passive activity losses, depreciation recapture, and possible bankruptcy issues.

We can advise you on the length of time you need to keep business records. You also must cancel your Employer Identification Number (EIN) and close your IRS business account.

If your business is unable to pay all the taxes it owes, we can explain the available payment options to you. Contact us to discuss these issues and get answers to any questions.

7/12/22

If you’ve recently begun receiving disability income, you may wonder how it’s taxed. The answer is: It depends.

The key issue is: Who paid for the benefit? If the income is paid directly to you by your employer, it’s taxable to you just as your ordinary salary would be. (Taxable benefits are also subject to federal income tax withholding. However, depending on the employer’s disability plan, in some cases they aren’t subject to Social Security tax.)

Frequently, the payments aren’t made by an employer but by an insurance company under a policy providing disability coverage. In other cases, they’re made under an arrangement having the effect of accident or health insurance. In these cases, the tax treatment depends on who paid for the insurance coverage. If your employer paid for it, then the income is taxed to you just as if it was paid directly to you by the employer. On the other hand, if it’s a policy you paid for, the payments you receive under it aren’t taxable.

Even if your employer arranges for the coverage (in a policy made available to you at work), the benefits aren’t taxed to you if you (and not your employer) pay the premiums. For these purposes, if the premiums are paid by the employer but the amount paid is included as part of your taxable income from work, the premiums will be treated as paid by you. In these cases, the tax treatment of the benefits received depends on the tax treatment of the premiums paid.


Illustrative example

Let’s say Max’s salary is $1,000 a week ($52,000 a year). Additionally, under a disability insurance arrangement made available to him by his employer, $10 a week ($520 annually) is paid on his behalf by his employer to an insurance company. Max includes $52,520 in income as his wages for the year ($52,000 paid to him plus $520 in disability insurance premiums). Under these facts, the insurance is treated as paid for by Max. If he becomes disabled and receives benefits under the policy, the benefits aren’t taxable income to him.

Now assume that Max includes only $52,000 in income as his wages for the year because the amount paid for the insurance coverage qualifies as excludable under the rules for employer-provided health and accident plans. In this case, the insurance is treated as paid for by the employer. If Max becomes disabled and receives benefits under the policy, the benefits are taxable income to him.

There are special rules if there is a permanent loss (or loss of the use) of a member or function of the body or a permanent disfigurement. In these cases, employer disability payments aren’t taxed, as long as they aren’t computed based on amount of time lost from work.


Social Security disability benefits

This discussion doesn’t cover the tax treatment of Social Security disability benefits. They may be taxed to you under the rules that govern Social Security benefits.


Needed coverage

In deciding how much disability coverage you need to protect yourself and your family, take the tax treatment into consideration. If you’re buying the policy yourself, you only have to replace your “after tax” (take-home) income because your benefits won’t be taxed. On the other hand, if your employer is paying for the benefit, keep in mind that you’ll lose a percentage of it to taxes. If your current coverage is insufficient, you may want to supplement the employer benefit with a policy you take out on your own. Contact us if you’d like to discuss this issue.

Here are some of the key tax-related deadlines affecting businesses and other employers during the third quarter of 2022. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.

August 1

• Report income tax withholding and FICA taxes for second quarter 2022 (Form 941), and pay any tax due. (See the exception below, under “August 10.”)
• File a 2021 calendar-year retirement plan report (Form 5500 or Form 5500-EZ) or request an extension.

August 10

• Report income tax withholding and FICA taxes for second quarter 2022 (Form 941), if you deposited on time and in full all of the associated taxes due.

September 15

• If a calendar-year C corporation, pay the third installment of 2022 estimated income taxes.
• If a calendar-year S corporation or partnership that filed an automatic six-month extension:
  • File a 2021 income tax return (Form 1120S, Form 1065 or Form 1065-B) and pay any tax, interest and penalties due.
  • Make contributions for 2021 to certain employer-sponsored retirement plans.

6/28/22

Are you in the early stages of divorce? In addition to the tough personal issues that you’re dealing with, several tax concerns need to be addressed to ensure that taxes are kept to a minimum and that important tax-related decisions are properly made. Here are five issues to consider if you’re in the process of getting a divorce.

Alimony or support payments.
For alimony under divorce or separation agreements that are executed after 2018, there’s no deduction for alimony and separation support payments for the spouse making them. And the alimony payments aren’t included in the gross income of the spouse receiving them. (The rules are different for divorce or separation agreements executed before 2019.)

Child support. 
No matter when the divorce or separation instrument is executed, child support payments aren’t deductible by the paying spouse (or taxable to the recipient).

Personal residence.
In general, if a married couple sells their home in connection with a divorce or legal separation, they should be able to avoid tax on up to $500,000 of gain (as long as they’ve owned and used the residence as their principal residence for two of the previous five years). If one spouse continues to live in the home and the other moves out (but they both remain owners of the home), they may still be able to avoid gain on the future sale of the home (up to $250,000 each), but special language may have to be included in the divorce decree or separation agreement to protect this tax exclusion for the spouse who moves out.

If the couple doesn’t meet the two-year ownership and use tests, any gain from the sale may qualify for a reduced exclusion due to unforeseen circumstances.

Pension benefits.
A spouse’s pension benefits are often part of a divorce property settlement. In these cases, the commonly preferred method to handle the benefits is to get a “qualified domestic relations order” (QDRO). This gives one spouse the right to share in the pension benefits of the other and taxes the spouse who receives the benefits. Without a QDRO the spouse who earned the benefits will still be taxed on them even though they’re paid out to the other spouse.

Business interests.
If certain types of business interests are transferred in connection with divorce, care should be taken to make sure “tax attributes” aren’t forfeited. For example, interests in S corporations may result in “suspended” losses (losses that are carried into future years instead of being deducted in the year they’re incurred). When these interests change hands in a divorce, the suspended losses may be forfeited. If a partnership interest is transferred, a variety of more complex issues may arise involving partners’ shares of partnership debt, capital accounts, built-in gains on contributed property, and other complex issues.

A variety of other issues
These are just some of the issues you may have to deal with if you’re getting a divorce. In addition, you must decide how to file your tax return (single, married filing jointly, married filing separately or head of household). You may need to adjust your income tax withholding and you should notify the IRS of any new address or name change. There are also estate planning considerations. We can help you work through all of the financial issues involved in divorce.

Business owners are aware that the price of gas is historically high, which has made their vehicle costs soar. The average nationwide price of a gallon of unleaded regular gas on June 17 was $5, compared with $3.08 a year earlier, according to the AAA Gas Prices website. A gallon of diesel averaged $5.78 a gallon, compared with $3.21 a year earlier.

Fortunately, the IRS is providing some relief. The tax agency announced an increase in the optional standard mileage rate for the last six months of 2022. Taxpayers may use the optional cents-per-mile rate to calculate the deductible costs of operating a vehicle for business.

For the second half of 2022 (July 1–December 31), the standard mileage rate for business travel will be 62.5 cents per mile, up from 58.5 cents per mile for the first half of the year (January 1–June 30). There are different standard mileage rates for charitable and medical driving.

Special situation

Raising the standard mileage rate in the middle of the year is unusual. Normally, the IRS updates the mileage rates once a year at the end of the year for the next calendar year. However, the tax agency explained that “in recognition of recent gasoline price increases, the IRS made this special adjustment for the final months of 2022.” But while the move is uncommon, it’s not without precedent. The standard mileage rate was increased for the last six months of 2011 and 2008 after gas prices rose significantly.

While fuel costs are a significant factor in the mileage figure, the IRS notes that “other items enter into the calculation of mileage rates, such as depreciation and insurance and other fixed and variable costs.”

Two options

The optional standard mileage rate is one of two methods a business can use to compute the deductible costs of operating an automobile for business purposes. Taxpayers also have the option of calculating the actual costs of using their vehicles rather than using the standard mileage rate. This may include expenses such as gas, oil, tires, insurance, repairs, licenses, vehicle registration fees and a depreciation allowance for the vehicle.

From a tax standpoint, you may get a larger deduction by tracking the actual expense method than you would with the standard mileage rate. But many taxpayers don’t want to spend time tracking actual costs. Be aware that there are rules that may prevent you from using one method or the other. For example, if a business wants to use the standard mileage rate for a car it leases, the business must use this rate for the entire lease period. Consult with us about your particular circumstances to determine the best course of action.

6/21/22

As a result of the current estate tax exemption amount ($12.06 million in 2022), many people no longer need to be concerned with federal estate tax. Before 2011, a much smaller amount resulted in estate plans attempting to avoid it. Now, because many estates won’t be subject to estate tax, more planning can be devoted to saving income taxes for your heirs.

Note: The federal estate tax exclusion amount is scheduled to sunset at the end of 2025. Beginning on January 1, 2026, the amount is due to be reduced to $5 million, adjusted for inflation. Of course, Congress could act to extend the higher amount or institute a new amount.


Here are some strategies to consider in light of the current large exemption amount.

Gifts that use the annual exclusion
One of the benefits of using the gift tax annual exclusion to make transfers during life is to save estate tax. This is because both the transferred assets and any post-transfer appreciation generated by those assets are removed from the donor’s estate.

As mentioned, estate tax savings may not be an issue because of the large estate exemption amount. Further, making an annual exclusion transfer of appreciated property carries a potential income tax cost because the recipient receives the donor’s basis upon transfer. Thus, the recipient could face income tax, in the form of capital gains tax, on the sale of the gifted property in the future. If there’s no concern that an estate will be subject to estate tax, even if the gifted property grows in value, then the decision to make a gift should be based on other factors.
For example, gifts may be made to help a relative buy a home or start a business. But a donor shouldn’t gift appreciated property because of the capital gains that could be realized on a future sale by the recipient. If the appreciated property is held until the donor’s death, under current law, the heir will get a step-up in basis that will wipe out the capital gains tax on any pre-death appreciation in the property’s value.


Spouse’s estate
Years ago, spouses often undertook complicated strategies to equalize their estates so that each could take advantage of the estate tax exemption amount. Generally, a two-trust plan was established to minimize estate tax. “Portability,” or the ability to apply the decedent’s unused exclusion amount to the surviving spouse’s transfers during life and at death, became effective for estates of decedents dying after 2010. As long as the election is made, portability allows the surviving spouse to apply the unused portion of a decedent’s applicable exclusion amount (the deceased spousal unused exclusion amount) as calculated in the year of the decedent’s death. The portability election gives married couples more flexibility in deciding how to use their exclusion amounts.


Estate or valuation discounts
Be aware that some estate exclusion or valuation discount strategies to avoid inclusion of property in an estate may no longer be worth pursuing. It may be better to have the property included in the estate or not qualify for valuation discounts so that the property receives a step-up in basis. For example, the special use valuation — the valuation of qualified real property used for farming or in a business on the basis of the property’s actual use, rather than on its highest and best use — may not save enough, or any, estate tax to justify giving up the step-up in basis that would otherwise occur for the property.


Contact us if you want to discuss these strategies and how they relate to your estate plan.

There’s a valuable tax deduction available to a C corporation when it receives dividends. The “dividends-received deduction” is designed to reduce or eliminate an extra level of tax on dividends received by a corporation. As a result, a corporation will typically be taxed at a lower rate on dividends than on capital gains.

Ordinarily, the deduction is 50% of the dividend, with the result that only 50% of the dividend received is effectively subject to tax. For example, if your corporation receives a $1,000 dividend, it includes $1,000 in income, but after the $500 dividends-received deduction, its taxable income from the dividend is only $500.

The deductible percentage of a dividend will increase to 65% of the dividend if your corporation owns 20% or more (by vote and value) of the payor’s stock. If the payor is a member of an affiliated group (based on an 80% ownership test), dividends from another group member are 100% deductible. (If one or more members of the group is subject to foreign taxes, a special rule requiring consistency of the treatment of foreign taxes applies.) In applying the 20% and 80% ownership percentages, preferred stock isn’t counted if it’s limited and preferred as to dividends, doesn’t participate in corporate growth to a significant extent, isn’t convertible and has limited redemption and liquidation rights.

If a dividend on stock that hasn’t been held for more than two years is an “extraordinary dividend,” the basis of the stock on which the dividend is paid is reduced by the amount that effectively goes untaxed because of the dividends-received deduction. If the reduction exceeds the basis of the stock, gain is recognized. (A dividend paid on common stock will be an extraordinary dividend if it exceeds 10% of the stock’s basis, treating dividends with ex-dividend dates within the same 85-day period as one.)

Holding period requirement

The dividends-received deduction is only available if the recipient satisfies a minimum holding period requirement. In general, this requires the recipient to own the stock for at least 46 days during the 91-day period beginning 45 days before the ex-dividend date. For dividends on preferred stock attributable to a period of more than 366 days, the required holding period is extended to 91 days during the 181-day period beginning 90 days before the ex-dividend date. Under certain circumstances, periods during which the taxpayer has hedged its risk of loss on the stock are not counted.

Taxable income limitation

The dividends-received deduction is limited to a certain percentage of income. If your corporation owns less than 20% of the paying corporation, the deduction is limited to 50% of your corporation’s taxable income (modified to exclude certain items). However, if allowing the full (50%) dividends-received deduction without the taxable income limitation would result in (or increase) a net operating loss deduction for the year, the limitation doesn’t apply.

Illustrative example

Let’s say your corporation receives $50,000 in dividends from a less-than-20% owned corporation and has a $10,000 loss from its regular operations. If there were no loss, the dividends-received deduction would be $25,000 (50% of $50,000). However, since taxable income used in computing the dividends-received deduction is $40,000, the deduction is limited to $20,000 (50% of $40,000).

Other rules apply if the dividend payor is a foreign corporation. Contact us if you’d like to discuss how to take advantage of this deduction.

6/14/22

Some people who begin claiming Social Security benefits are surprised to find out they’re taxed by the federal government on the amounts they receive. If you’re wondering whether you’ll be taxed on your Social Security benefits, the answer is: It depends.

The taxation of Social Security benefits depends on your other income. If your income is high enough, between 50% and 85% of your benefits could be taxed. (This doesn’t mean you pay 85% of your benefits back to the federal government in taxes. It merely means that you’d include 85% of them in your income subject to your regular tax rates.)


Figuring your income

To determine how much of your benefits are taxed, first determine your other income, including certain items otherwise excluded for tax purposes (for example, tax-exempt interest). Add to that the income of your spouse if you file a joint tax return. To this, add half of the Social Security benefits you and your spouse received during the year. The figure you come up with is your total income plus half of your benefits. Now apply the following rules: If your income plus half your benefits isn’t above $32,000 ($25,000 for single taxpayers), none of your benefits are taxed. If your income plus half your benefits exceeds $32,000 but isn’t more than $44,000, you will be taxed on one half of the excess over $32,000, or one half of the benefits, whichever is lower.


An example to illustrate

Let’s say you and your spouse have $20,000 in taxable dividends, $2,400 of tax-exempt interest and combined Social Security benefits of $21,000. So, your income plus half your benefits is $32,900 ($20,000 + $2,400 +½ of $21,000). You must include $450 of the benefits in gross income (½ ($32,900 − $32,000)). (If your combined Social Security benefits were $5,000, and your income plus half your benefits were $40,000, you would include $2,500 of the benefits in income: ½ ($40,000 − $32,000) equals $4,000, but half the $5,000 of benefits ($2,500) is lower, and the lower figure is used.)

Note: If you aren’t paying tax on your Social Security benefits now because your income is below the floor, or you’re paying tax on only 50% of those benefits, an unplanned increase in your income can have a triple tax cost. You’ll have to pay tax on the additional income, you’ll have to pay tax on (or on more of) your Social Security benefits (since the higher your income the more of your Social Security benefits are taxed), and you may get pushed into a higher marginal tax bracket.
For example, this situation might arise if you receive a large distribution from an IRA during the year or you have large capital gains. Careful planning might avoid this negative tax result. You might be able to spread the additional income over more than one year, or liquidate assets other than an IRA account, such as stock showing only a small gain or stock with gain that can be offset by a capital loss on other shares.

If you know your Social Security benefits will be taxed, you can voluntarily arrange to have the tax withheld from the payments by filing a Form W-4V. Otherwise, you may have to make quarterly estimated tax payments. Keep in mind that most states do not tax Social Security benefits, but 12 states do tax them. Contact us for assistance or more information.

The downturn in the stock market may have caused the value of your retirement account to decrease. But if you have a traditional IRA, this decline may provide a valuable opportunity: It may allow you to convert your traditional IRA to a Roth IRA at a lower tax cost.



Traditional vs. Roth

Here’s what makes a traditional IRA different from a Roth IRA:

• Traditional IRA. 
  • Contributions to a traditional IRA may be deductible, depending on your modified adjusted gross income (MAGI) and whether you (or your spouse) participate in a qualified retirement plan, such as a 401(k). Funds in the account can grow tax deferred.
  • On the downside, you generally must pay income tax on withdrawals. In addition, you’ll face a penalty if you withdraw funds before age 59½ — unless you qualify for a handful of exceptions — and you’ll face an even larger penalty if you don’t take your required minimum distributions (RMDs) after age 72.
• Roth IRA. 
  • Roth IRA contributions are never deductible. But withdrawals — including earnings — are tax free as long as you’re age 59½ or older and the account has been open at least five years. In addition, you’re allowed to withdraw contributions at any time tax- and penalty-free. You also don’t have to begin taking RMDs after you reach age 72.
  • However, the ability to contribute to a Roth IRA is subject to limits based on your MAGI. Fortunately, no matter how high your income, you’re eligible to convert a traditional IRA to a Roth. The catch? You’ll have to pay income tax on the amount converted.

Your tax hit may be reduced

This is where the “benefit” of a stock market downturn comes in. If your traditional IRA has lost value, converting to a Roth now rather than later will minimize your tax hit. Plus, you’ll avoid tax on future appreciation when the market goes back up.

It’s important to think through the details before you convert. Here are some of the issues to consider when deciding whether to make a conversion:

• Having enough money to pay the tax bill. 
  • ​​​​​​​If you don’t have the cash on hand to cover the taxes owed on the conversion, you may have to dip into your retirement funds. This will erode your nest egg. The more money you convert and the higher your tax bracket, the bigger the tax hit.
• Your retirement plans. 
  • Your stage of life may also affect your decision. Typically, you wouldn’t convert a traditional IRA to a Roth IRA if you expect to retire soon and start drawing down on the account right away. Usually, the goal is to allow the funds to grow and compound over time without any tax erosion.

Keep in mind that converting a traditional IRA to a Roth isn’t an all-or-nothing deal. You can convert as much or as little of the money from your traditional IRA account as you like. So, you might decide to gradually convert your account to spread out the tax hit over several years.

There are also other issues that need to be considered before executing a Roth IRA conversion. If this sounds like something you’re interested in, contact us to discuss whether a conversion is right for you.

The next quarterly estimated tax payment deadline is June 15 for individuals and businesses so it’s a good time to review the rules for computing corporate federal estimated payments. You want your business to pay the minimum amount of estimated taxes without triggering the penalty for underpayment of estimated tax.

Four methods

The required installment of estimated tax that a corporation must pay to avoid a penalty is the lowest amount determined under each of the following four methods:

1. Under the current year method, a corporation can avoid the estimated tax underpayment penalty by paying 25% of the tax shown on the current tax year’s return (or, if no return is filed, 25% of the tax for the current year) by each of four installment due dates. The due dates are generally April 15, June 15, September 15 and January 15 of the following year.

2. Under the preceding year method, a corporation can avoid the estimated tax underpayment penalty by paying 25% of the tax shown on the return for the preceding tax year by each of four installment due dates. (Note, however, that for 2022, certain corporations can only use the preceding year method to determine their first required installment payment. This restriction is placed on a corporation with taxable income of $1 million or more in any of the last three tax years.) In addition, this method isn’t available to corporations with a tax return that was for less than 12 months or a corporation that didn’t file a preceding tax year return that showed some tax liability.

3. Under the annualized income method, a corporation can avoid the estimated tax underpayment penalty if it pays its “annualized tax” in quarterly installments. The annualized tax is computed on the basis of the corporation’s taxable income for the months in the tax year ending before the due date of the installment and assuming income will be received at the same rate over the full year.

4. Under the seasonal income method, corporations with recurring seasonal patterns of taxable income can annualize income by assuming income earned in the current year is earned in the same pattern as in preceding years. There’s a somewhat complicated mathematical test that corporations must pass in order to establish that their income is earned seasonally and that they therefore qualify to use this method. If you think your corporation might qualify for this method, don’t hesitate to ask for our assistance in determining if it does.

Also, note that a corporation can switch among the four methods during a given tax year.

We can examine whether your corporation’s estimated tax bill can be reduced. Contact us if you’d like to discuss this matter further.

5/31/22

Many people own Series E and Series EE bonds that were bought many years ago. They may rarely look at them or think about them except on occasional trips to a file cabinet or safe deposit box.
One of the main reasons for buying U.S. savings bonds (such as Series EE bonds) is the fact that interest can build up without the need to currently report or pay tax on it. The accrued interest is added to the redemption value of the bond and is paid when the bond is eventually cashed in. Unfortunately, the law doesn’t allow for this tax-free buildup to continue indefinitely. The difference between the bond’s purchase price and its redemption value is taxable interest.

Series EE bonds, which have a maturity period of 30 years, were first offered in January 1980. They replaced the earlier Series E bonds.

Currently, Series EE bonds are only issued electronically. They’re issued at face value, and the face value plus accrued interest is payable at maturity.

Before January 1, 2012, Series EE bonds could be purchased on paper. Those paper bonds were issued at a discount, and their face value is payable at maturity. Owners of paper Series EE bonds can convert them to electronic bonds, posted at their purchase price (with accrued interest).

Here’s an example of how Series EE bonds are taxed. Bonds issued in January 1990 reached final maturity after 30 years, in January of 2020. That means that not only have they stopped earning interest, but all of the accrued and as yet untaxed interest was taxable in 2020.

A $1,000 Series EE bond (paper) bought in January 1990 for $500 was worth about $2,073.60 in January of 2020. It won’t increase in value after that. The entire difference of $1,573.60 ($2,073.60 − $500) was taxable as interest in 2020. This interest is exempt from state and local income taxes.

Note: Using the money from EE bonds for higher education may keep you from paying federal income tax on the interest.
If you own bonds (paper or electronic) that are reaching final maturity this year, action is needed to assure that there’s no loss of interest or unanticipated current tax consequences. Check the issue dates on your bonds. One possible place to reinvest the money is in Series I savings bonds, which are currently attractive due to rising inflation resulting in a higher interest rate.

Are you a partner in a business? You may have come across a situation that’s puzzling. In a given year, you may be taxed on more partnership income than was distributed to you from the partnership in which you’re a partner.

Why does this happen? It’s due to the way partnerships and partners are taxed. Unlike C corporations, partnerships aren’t subject to income tax. Instead, each partner is taxed on the partnership’s earnings — whether or not they’re distributed. Similarly, if a partnership has a loss, the loss is passed through to the partners. (However, various rules may prevent a partner from currently using his or her share of a partnership’s loss to offset other income.)

Pass through your share

While a partnership isn’t subject to income tax, it’s treated as a separate entity for purposes of determining its income, gains, losses, deductions and credits. This makes it possible to pass through to partners their share of these items.

An information return must be filed by a partnership. On Schedule K of Form 1065, the partnership separately identifies income, deductions, credits and other items. This is so that each partner can properly treat items that are subject to limits or other rules that could affect their correct treatment at the partner’s level. Examples of such items include capital gains and losses, interest expense on investment debts and charitable contributions. Each partner gets a Schedule K-1 showing his or her share of partnership items.

Basis and distribution rules ensure that partners aren’t taxed twice. A partner’s initial basis in his or her partnership interest (the determination of which varies depending on how the interest was acquired) is increased by his or her share of partnership taxable income. When that income is paid out to partners in cash, they aren’t taxed on the cash if they have sufficient basis. Instead, partners just reduce their basis by the amount of the distribution. If a cash distribution exceeds a partner’s basis, then the excess is taxed to the partner as a gain, which often is a capital gain.

Illustrative example

Two people each contribute $10,000 to form a partnership. The partnership has $80,000 of taxable income in the first year, during which it makes no cash distributions to the two partners. Each of them reports $40,000 of taxable income from the partnership as shown on their K-1s. Each has a starting basis of $10,000, which is increased by $40,000 to $50,000. In the second year, the partnership breaks even (has zero taxable income) and distributes $40,000 to each of the two partners. The cash distributed to them is received tax-free. Each of them, however, must reduce the basis in his or her partnership interest from $50,000 to $10,000.

More rules and limits

The example and details above are an overview and, therefore, don’t cover all the rules. For example, many other events require basis adjustments and there are a host of special rules covering noncash distributions, distributions of securities, liquidating distributions and other matters. Contact us if you’d like to discuss how a partner is taxed.

5/24/22

Are you a charitably minded individual who is also taking distributions from a traditional IRA? You may want to consider the tax advantages of making a cash donation to an IRS-approved charity out of your IRA.


When distributions are taken directly out of traditional IRAs, federal income tax of up to 37% in 2022 will have to be paid. State income taxes may also be owed.


Qualified charitable distributions

One popular way to transfer IRA assets to charity is via a tax provision that allows IRA owners who are age 70½ or older to direct up to $100,000 per year of their IRA distributions to charity. These distributions are known as qualified charitable distributions (QCDs). The money given to charity counts toward your required minimum distributions (RMDs) but doesn’t increase your adjusted gross income (AGI) or generate a tax bill.
Keeping the donation out of your AGI may be important for several reasons. Here are some of them: It can help you qualify for other tax breaks. For example, having a lower AGI can reduce the threshold for deducting medical expenses, which are only deductible to the extent they exceed 7.5% of AGI. You can avoid rules that can cause some or all of your Social Security benefits to be taxed and some or all of your investment income to be hit with the 3.8% net investment income tax. It can help you avoid a high-income surcharge for Medicare Part B and Part D premiums, which kick in if AGI is over certain levels. The distributions going to the charity won’t be subject to federal estate tax and generally won’t be subject to state death taxes.

Important points: You can’t claim a charitable contribution deduction for a QCD not included in your income. Also keep in mind that the age after which you must begin taking RMDs is 72, but the age you can begin making QCDs is 70½.
To benefit from a QCD for 2022, you must arrange for a distribution to be paid directly from the IRA to a qualified charity by December 31, 2022. You can use QCDs to satisfy all or part of the amount of your RMDs from your IRA. For example, if your 2022 RMDs are $10,000, and you make a $5,000 QCD for 2022, you have to withdraw another $5,000 to satisfy your 2022 RMDs.

Other rules and limits may apply. Want more information? Contact us to see whether this strategy would be beneficial in your situation.

5/20/22

Businesses should be aware that they may be responsible for issuing more information reporting forms for 2022 because more workers may fall into the required range of income to be reported. Beginning this year, the threshold has dropped significantly for the filing of Form 1099-K, “Payment Card and Third-Party Network Transactions.” Businesses and workers in certain industries may receive more of these forms and some people may even get them based on personal transactions.

Background of the change

Banks and online payment networks — payment settlement entities (PSEs) or third-party settlement organizations (TPSOs) — must report payments in a trade or business to the IRS and recipients. This is done on Form 1099-K. These entities include Venmo and CashApp, as well as gig economy facilitators such as Uber and TaskRabbit.

A 2021 law dropped the minimum threshold for PSEs to file Form 1099-K for a taxpayer from $20,000 of reportable payments made to the taxpayer and 200 transactions to $600 (the same threshold applicable to other Forms 1099) starting in 2022. The lower threshold for filing 1099-K forms means many participants in the gig economy will be getting the forms for the first time.

Members of Congress have introduced bills to raise the threshold back to $20,000 and 200 transactions, but there’s no guarantee that they’ll pass. In addition, taxpayers should generally be reporting income from their side employment engagements, whether it’s reported to the IRS or not. For example, freelancers who make money creating products for an Etsy business or driving for Uber should have been paying taxes all along. However, Congress and the IRS have said this responsibility is often ignored. In some cases, taxpayers may not even be aware that income from these sources is taxable.

Some taxpayers may first notice this change when they receive their Forms 1099-K in January 2023. However, businesses should be preparing during 2022 to minimize the tax consequences of the gross amount of Form 1099-K reportable payments.

What to do now

Taxpayers should be reviewing gig and other reportable activities. Make sure payments are being recorded accurately. Payments received in a trade or business should be reported in full so that workers can withhold and pay taxes accordingly.

If you receive income from certain activities, you may want to increase your tax withholding or, if necessary, make estimated tax payments or larger payments to avoid penalties.

Separate personal payments and track deductions

Taxpayers should separate taxable gross receipts received through a PSE that are income from personal expenses, such as splitting the check at a restaurant or giving a gift. PSEs can’t necessarily distinguish between personal expenses and business payments, so taxpayers should maintain separate accounts for each type of payment.

Keep in mind that taxpayers who haven’t been reporting all income from gig work may not have been documenting all deductions. They should start doing so now to minimize the taxable income recognized due to the gross receipts reported on Form 1099-K. The IRS is likely to take the position that all of a taxpayer’s gross receipts reported on Form 1099-K are income and won’t allow deductions unless the taxpayer substantiates them. Deductions will vary based on the nature of the taxpayer’s work.

Contact us if you have questions about your Form 1099-K responsibilities.

5/17/22

Taking care of an elderly parent or grandparent may provide more than just personal satisfaction. You could also be eligible for tax breaks. Here’s a rundown of some of them.


1. Medical expenses.

 If the individual qualifies as your “medical dependent,” and you itemize deductions on your tax return, you can include any medical expenses you incur for the individual along with your own when determining your medical deduction. The test for determining whether an individual qualifies as your “medical dependent” is less stringent than that used to determine whether an individual is your “dependent,” which is discussed below. In general, an individual qualifies as a medical dependent if you provide over 50% of his or her support, including medical costs. However, bear in mind that medical expenses are deductible only to the extent they exceed 7.5% of your adjusted gross income (AGI).

The costs of qualified long-term care services required by a chronically ill individual and eligible long-term care insurance premiums are included in the definition of deductible medical expenses. There’s an annual cap on the amount of premiums that can be deducted. The cap is based on age, going as high as $5,640 for 2022 for an individual over 70.


2. Filing status.

 If you aren’t married, you may qualify for “head of household” status by virtue of the individual you’re caring for. You can claim this status if:
 

• The person you’re caring for lives in your household,
• You cover more than half the household costs,
• The person qualifies as your “dependent,” and
• The person is a relative.

If the person you’re caring for is your parent, the person doesn’t need to live with you, so long as you provide more than half of the person’s household costs and the person qualifies as your dependent. A head of household has a higher standard deduction and lower tax rates than a single filer.


3. Tests for determining whether your loved one is a “dependent.” 

Dependency exemptions are suspended (or disallowed) for 2018–2025. Even though the dependency exemption is currently suspended, the dependency tests still apply when it comes to determining whether a taxpayer is entitled to various other tax benefits, such as head-of-household filing status.
For an individual to qualify as your “dependent,” the following must be true for the tax year at issue:
 

• You must provide more than 50% of the individual’s support costs,
• The individual must either live with you or be related,
• The individual must not have gross income in excess of an inflation-adjusted exemption amount,
• The individual can’t file a joint return for the year, and
• The individual must be a U.S. citizen or a resident of the U.S., Canada or Mexico.

4. Dependent care credit.

If the cared-for individual qualifies as your dependent, lives with you, and physically or mentally can’t take care of him- or herself, you may qualify for the dependent care credit for costs you incur for the individual’s care to enable you and your spouse to go to work.


Contact us if you’d like to further discuss the tax aspects of financially supporting and caring for an elderly relative.

The IRS recently released guidance providing the 2023 inflation-adjusted amounts for Health Savings Accounts (HSAs). High inflation rates will result in next year’s amounts being increased more than they have been in recent years.

HSA basics

An HSA is a trust created or organized exclusively for the purpose of paying the “qualified medical expenses” of an “account beneficiary.” An HSA can only be established for the benefit of an “eligible individual” who is covered under a “high deductible health plan.” In addition, a participant can’t be enrolled in Medicare or have other health coverage (exceptions include dental, vision, long-term care, accident and specific disease insurance).

A high deductible health plan (HDHP) is generally a plan with an annual deductible that isn’t less than $1,000 for self-only coverage and $2,000 for family coverage. In addition, the sum of the annual deductible and other annual out-of-pocket expenses required to be paid under the plan for covered benefits (but not for premiums) can’t exceed $5,000 for self-only coverage, and $10,000 for family coverage.

Within specified dollar limits, an above-the-line tax deduction is allowed for an individual’s contribution to an HSA. This annual contribution limitation and the annual deductible and out-of-pocket expenses under the tax code are adjusted annually for inflation.

Inflation adjustments for next year

In Revenue Procedure 2022-24, the IRS released the 2023 inflation-adjusted figures for contributions to HSAs, which are as follows:

Annual contribution limitation. For calendar year 2023, the annual contribution limitation for an individual with self-only coverage under an HDHP will be $3,850. For an individual with family coverage, the amount will be $7,750. This is up from $3,650 and $7,300, respectively, for 2022.

In addition, for both 2022 and 2023, there’s a $1,000 catch-up contribution amount for those who are age 55 and older at the end of the tax year.

High deductible health plan defined. For calendar year 2023, an HDHP will be a health plan with an annual deductible that isn’t less than $1,500 for self-only coverage or $3,000 for family coverage (these amounts are $1,400 and $2,800 for 2022). In addition, annual out-of-pocket expenses (deductibles, co-payments, and other amounts, but not premiums) won’t be able to exceed $7,500 for self-only coverage or $15,000 for family coverage (up from $7,050 and $14,100, respectively, for 2022).

Reap the rewards

There are a variety of benefits to HSAs. Contributions to the accounts are made on a pre-tax basis. The money can accumulate tax free year after year and can be withdrawn tax free to pay for a variety of medical expenses such as doctor visits, prescriptions, chiropractic care and premiums for long-term care insurance. In addition, an HSA is “portable.” It stays with an account holder if he or she changes employers or leaves the workforce. If you have questions about HSAs at your business, contact your employee benefits and tax advisors.

5/10/22

If you donate valuable items to charity, you may be required to get an appraisal. The IRS requires donors and charitable organizations to supply certain information to prove their right to deduct charitable contributions. If you donate an item of property (or a group of similar items) worth more than $5,000, certain appraisal requirements apply.

You must:

• Get a “qualified appraisal,”
• Receive the qualified appraisal before your tax return is due,
• Attach an “appraisal summary” to the first tax return on which the deduction is claimed,
• Include other information with the return, and
• Maintain certain records.

Keep these definitions in mind. A qualified appraisal is a complex and detailed document. It must be prepared and signed by a qualified appraiser.

An appraisal summary is a summary of a qualified appraisal made on Form 8283 and attached to the donor’s return.
While courts have allowed taxpayers some latitude in meeting the “qualified appraisal” rules, you should aim for exact compliance.

The qualified appraisal isn’t submitted separately to the IRS in most cases. Instead, the appraisal summary, which is a separate statement prepared on an IRS form, is attached to the donor’s tax return. However, a copy of the appraisal must be attached for gifts of art valued at $20,000 or more and for all gifts of property valued at more than $500,000, other than inventory, publicly traded stock and intellectual property. If an item has been appraised at $50,000 or more, you can ask the IRS to issue a “Statement of Value” that can be used to substantiate the value.

Failure to comply with the requirements

The penalty for failing to get a qualified appraisal and attach an appraisal summary to the return is denial of the charitable deduction. The deduction may be lost even if the property was valued correctly. There may be relief if the failure was due to reasonable cause.

Exceptions to the requirement

A qualified appraisal isn’t required for contributions of:

• A car, boat or airplane for which the deduction is limited to the charity’s gross sales proceeds,
• stock in trade, inventory or property held primarily for sale to customers in the ordinary course of business,
• publicly traded securities for which market quotations are “readily available,” and
• qualified intellectual property, such as a patent.

Also, only a partially completed appraisal summary must be attached to the tax return for contributions of:

• Nonpublicly traded stock for which the claimed deduction is greater than $5,000 and doesn’t exceed $10,000, and
• Publicly traded securities for which market quotations aren’t “readily available.”

More than one gift

If you make gifts of two or more items during a tax year, even to multiple charitable organizations, the claimed values of all property of the same category or type (such as stamps, paintings, books, stock that isn’t publicly traded, land, jewelry, furniture or toys) are added together in determining whether the $5,000 or $10,000 limits are exceeded.

The bottom line is you must be careful to comply with the appraisal requirements or risk disallowance of your charitable deduction.

Contact us if you have any further questions or want to discuss your contribution planning.