Taxation

Tax-smart options for your old retirement plan when you change jobs 10-10-2016

There’s a lot to think about when you change jobs, and it’s easy for a 401(k) or other employer-sponsored retirement plan to get lost in the shuffle. But to keep building tax-deferred savings, it’s important to make an informed decision about your old plan. First and foremost, don’t take a lump-sum distribution from your old employer’s retirement plan. It generally will be taxable and, if you’re under age 59½, subject to a 10% early-withdrawal penalty. Here are three tax-smart alternatives:

1. Stay put. You may be able to leave your money in your old plan. But if you’ll be participating in your new employer’s plan or you already have an IRA, keeping track of multiple plans can make managing your retirement assets more difficult. Also consider how well the old plan’s investment options meet your needs.

2. Roll over to your new employer’s plan. This may be beneficial if it leaves you with only one retirement plan to keep track of. But evaluate the new plan’s investment options.

3. Roll over to an IRA. If you participate in your new employer’s plan, this will require keeping track of two plans. But it may be the best alternative because IRAs offer nearly unlimited investment choices.

If you choose a rollover, request a direct rollover from your old plan to your new plan or IRA. If instead the funds are sent to you by check, you’ll need to make an indirect rollover (that is, deposit the funds into an IRA) within 60 days to avoid tax and potential penalties.

Also, be aware that the check you receive from your old plan will, unless an exception applies, be net of 20% federal income tax withholding. If you don’t roll over the gross amount (making up for the withheld amount with other funds), you’ll be subject to income tax — and potentially the 10% penalty — on the difference.

There are additional issues to consider when deciding what to do with your old retirement plan. We can help you make an informed decision — and avoid potential tax traps.  Contact us for more information – rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com.

© 2016

 

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Get 2 tax benefits from 1 donation: Give appreciated stock instead of cash 09-27-2016

If you’re charitably inclined, making donations is probably one of your key year-end tax planning strategies. But if you typically give cash, you may want to consider another option that provides not just one but two tax benefits: Donating long-term appreciated stock.

More tax savings

Appreciated publicly traded stock you’ve held more than one year is long-term capital gains property. If you donate it to a qualified charity, you can enjoy two benefits: 1) You can claim a charitable deduction equal to the stock’s fair market value, and 2) you can avoid the capital gains tax you’d pay if you sold the stock. This will be especially beneficial to taxpayers facing the 3.8% net investment income tax (NIIT) or the top 20% long-term capital gains rate this year.

Let’s say you donate $10,000 of stock that you paid $3,000 for, your ordinary-income tax rate is 39.6% and your long-term capital gains rate is 20%. If you sold the stock, you’d pay $1,400 in tax on the $7,000 gain. If you were also subject to the 3.8% NIIT, you’d pay another $266 in NIIT.

By instead donating the stock to charity, you save $5,626 in federal tax ($1,666 in capital gains tax and NIIT plus $3,960 from the $10,000 income tax deduction). If you donated $10,000 in cash, your federal tax savings would be only $3,960.

Tread carefully

Beware that donations of long-term capital gains property are subject to tighter deduction limits — 30% of your adjusted gross income for gifts to public charities, 20% for gifts to nonoperating private foundations (compared to 50% and 30%, respectively, for cash donations).

And don’t donate stock that’s worth less than your basis. Instead, sell the stock so you can deduct the loss and then donate the cash proceeds to charity.

If you own appreciated stock that you’d like to sell, but you’re concerned about the tax hit, donating it to charity might be right for you. For more details on this and other strategies to achieve your charitable giving and tax-saving goals, contact us rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com.

© 2016

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Prepaid tuition vs. college savings: Which type of 529 plan is better? 09-22-2016

Section 529 plans provide a tax-advantaged way to help pay for college expenses. Here are just a few of the benefits:

  • Although contributions aren’t deductible for federal purposes, plan assets can grow tax-deferred.
  • Some states offer tax incentives for contributing in the form of deductions or credits.
  • The plans usually offer high contribution limits, and there are no income limits for contributing.

Prepaid tuition plans

With this type of 529 plan, if your contract is for four years of tuition, tuition is guaranteed regardless of its cost at the time the beneficiary actually attends the school. This can provide substantial savings if you invest when the child is still very young.

One downside is that there’s uncertainty in how benefits will be applied if the beneficiary attends a different school. Another is that the plan doesn’t cover costs other than tuition, such as room and board.

Savings plan

This type of 529 plan can be used to pay a student’s expenses at most postsecondary educational institutions. Distributions used to pay qualified expenses (such as tuition, mandatory fees, books, supplies, computer equipment, software, Internet service and, generally, room and board) are income-tax-free for federal purposes and typically for state purposes as well, thus making the tax deferral a permanent savings.

The biggest downside may be that you don’t have direct control over investment decisions; you’re limited to the options the plan offers. Additionally, for funds already in the plan, you can make changes to your investment options only twice during the year or when you change beneficiaries.

But each time you make a new contribution to a 529 savings plan, you can select a different option for that contribution, regardless of how many times you contribute throughout the year. And every 12 months you can make a tax-free rollover to a different 529 plan for the same child.

As you can see, each 529 plan type has its pluses and minuses. Whether a prepaid tuition plan or a savings plan is better depends on your situation and goals. If you’d like help choosing, please contact us rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com.

© 2016

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Documentation is the key to business expense deductions 09-14-2016

If you have incomplete or missing records and get audited by the IRS, your business will likely lose out on valuable deductions. Here are two recent U.S. Tax Court cases that help illustrate the rules for documenting deductions.

Case 1: Insufficient records

In the first case, the court found that a taxpayer with a consulting business provided no proof to substantiate more than $52,000 in advertising expenses and $12,000 in travel expenses for the two years in question.

The business owner said the travel expenses were incurred ”caring for his business.“ That isn’t enough. ”The taxpayer bears the burden of proving that claimed business expenses were actually incurred and were ordinary and necessary,“ the court stated. In addition, businesses must keep and produce ”records sufficient to enable the IRS to determine the correct tax liability.“ (TC Memo 2016-158)

Case 2: Documents destroyed

In another case, a taxpayer was denied many of the deductions claimed for his company. He traveled frequently for the business, which developed machine parts. In addition to travel, meals and entertainment, he also claimed printing and consulting deductions.

The taxpayer recorded expenses in a spiral notebook and day planner and kept his records in a leased storage unit. While on a business trip to China, his documents were destroyed after the city where the storage unit was located acquired it by eminent domain.

There’s a way for taxpayers to claim expenses if substantiating documents are lost through circumstances beyond their control (for example, in a fire or flood). However, the court noted that a taxpayer still has to ”undertake a ‘reasonable reconstruction,’ which includes substantiation through secondary evidence.“

The court allowed 40% of the taxpayer’s travel, meals and entertainment expenses, but denied the remainder as well as the consulting and printing expenses. The reason? The taxpayer didn’t reconstruct those expenses through third-party sources or testimony from individuals whom he’d paid. (TC Memo 2016-135)

Be prepared

Keep detailed, accurate records to protect your business deductions. Record details about expenses as soon as possible after they’re incurred (for example, the date, place, business purpose, etc.). Keep more than just proof of payment. Also keep other documents, such as receipts, credit card slips and invoices. If you’re unsure of what you need, check with us.  Contact us rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com.

© 2016

 

 

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Tax impact of investor vs. trader status 09-07-2016

If you invest, whether you’re considered an investor or a trader can have a significant impact on your tax bill. Do you know the difference?

Investors

Most people who trade stocks are classified as investors for tax purposes. This means any net gains are treated as capital gains rather than ordinary income.

That’s good if your net gains are long-term (that is, you’ve held the investment more than a year) because you can enjoy the lower long-term capital gains rate. However, any investment-related expenses (such as margin interest, stock tracking software, etc.) are deductible only if you itemize and, in some cases, only if the total of the expenses exceeds 2% of your adjusted gross income.

Traders

Traders have it better in some situations. Their expenses reduce gross income even if they can’t itemize deductions and not just for regular tax purposes, but also for alternative minimum tax purposes.

Plus, in certain circumstances, if traders have a net loss for the year, they can claim it as an ordinary loss (so it can offset other ordinary income) rather than a capital loss. Capital losses are limited to a $3,000 ($1,500 if married filing separately) per year deduction once any capital gains have been offset.

Passing the trader test

What does it take to successfully meet the test for trader status? The answer is twofold:

1. The trading must be “substantial.” While there’s no bright line test, the courts have tended to view more than a thousand trades a year, spread over most of the available trading days, as substantial.

2. The trading must be designed to try to catch the swings in the daily market movements. In other words, you must be attempting to profit from these short-term changes rather than from the long-term holding of investments. So the average duration for holding any one position needs to be very short, generally only a day or two.

If you satisfy these conditions, the chances are good that you’d ultimately be able to prove trader vs. investor status. Of course, even if you don’t satisfy one of the tests, you might still prevail, but the odds against you are higher. If you have questions, please contact us rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com.

© 2016

 

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Combining business and vacation travel: What can you deduct? 08-17-2016

 If you go on a business trip within the United States and tack on some vacation days, you can deduct some of your expenses. But exactly what can you write off?

Transportation expenses

Transportation costs to and from the location of your business activity are 100% deductible as long as the primary reason for the trip is business rather than pleasure. On the other hand, if vacation is the primary reason for your travel, then generally none of your transportation expenses are deductible.

What costs can be included? Travel to and from your departure airport, airfare, baggage fees, tips, cabs, and so forth. Costs for rail travel or driving your personal car are also eligible.

Business days vs. pleasure days

The number of days spent on business vs. pleasure is the key factor in determining if the primary reason for domestic travel is business. Your travel days count as business days, as do weekends and holidays if they fall between days devoted to business, and it would be impractical to return home.

Standby days (days when your physical presence is required) also count as business days, even if you aren’t called upon to work those days. Any other day principally devoted to business activities during normal business hours also counts as a business day, and so are days when you intended to work, but couldn’t due to reasons beyond your control (such as local transportation difficulties).

You should be able to claim business was the primary reason for a domestic trip if business days exceed personal days. Be sure to accumulate proof and keep it with your tax records. For example, if your trip is made to attend client meetings, log everything on your daily planner and copy the pages for your tax file. If you attend a convention or training seminar, keep the program and take notes to show you attended the sessions.

Once at the destination, your out-of-pocket expenses for business days are fully deductible. These expenses include lodging, hotel tips, meals (subject to the 50% disallowance rule), seminar and convention fees, and cab fare. Expenses for personal days are nondeductible.

We can help

Questions? Contact us rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com if you want more information about business travel deductions.

© 2016

 

 

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3 strategies for tax-smart giving 08-10-2016

Giving away assets during your life will help reduce the size of your taxable estate, which is beneficial if you have a large estate that could be subject to estate taxes. For 2016, the lifetime gift and estate tax exemption is $5.45 million (twice that for married couples with proper estate planning strategies in place).

Even if your estate tax isn’t large enough for estate taxes to be a concern, there are income tax consequences to consider. Plus it’s possible the estate tax exemption could be reduced or your wealth could increase significantly in the future, and estate taxes could become a concern.

That’s why, no matter your current net worth, it’s important to choose gifts wisely. Consider both estate and income tax consequences and the economic aspects of any gifts you’d like to make.

Here are three strategies for tax-smart giving:

1. To minimize estate tax, gift property with the greatest future appreciation potential. You’ll remove that future appreciation from your taxable estate.

2. To minimize your beneficiary’s income tax, gift property that hasn’t appreciated significantly while you’ve owned it. The beneficiary can sell the property at a minimal income tax cost.

3. To minimize your own income tax, don’t gift property that’s declined in value. Instead, consider selling the property so you can take the tax loss. You can then gift the sale proceeds.

For more ideas on tax-smart giving strategies, contact us rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com

© 2016

 

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Should you make a “charitable IRA rollover” in 2016? 08-03-2016

Last year a break valued by many charitably inclined retirees was made permanent: the charitable IRA rollover. If you’re age 70½ or older, you can make direct contributions — up to $100,000 annually — from your IRA to qualified charitable organizations without owing any income tax on the distributions.

Satisfy your RMD

A charitable IRA rollover can be used to satisfy required minimum distributions (RMDs). You must begin to take annual RMDs from your traditional IRAs in the year in which you reach age 70½. If you don’t comply, you can owe a penalty equal to 50% of the amount you should have withdrawn but didn’t. (An RMD deferral is allowed for the initial year, but you’ll have to take two RMDs the next year.)

So if you don’t need the RMD for your living expenses, a charitable IRA rollover can be a great way to comply with the RMD requirement without triggering the tax liability that would occur if the RMD were paid out to you.

Additional benefits

You might be able to achieve a similar tax result from taking the RMD payout and then contributing that amount to charity. But it’s more complex because you must report the RMD as income and then take an itemized deduction for the donation. This has two more possible downsides:

  • The reported RMD income might increase your income to the point that you’re pushed into a higher tax bracket, certain additional taxes are triggered and/or the benefits of certain tax breaks are reduced or eliminated. It could even cause Social Security payments to become taxable or increase income-based Medicare premiums and prescription drug charges.

 

  • If your donation would equal a large portion of your income for the year, your deduction might be reduced due to the percentage-of-income limit. You generally can’t deduct cash donations that exceed 50% of your adjusted gross income for the year. (Lower limits apply to donations of long-term appreciated securities or made to private foundations.) You can carry forward the excess up to five years, but if you make large donations every year, that won’t help you.

A charitable IRA rollover avoids these potential negative tax consequences.

Have questions about charitable IRA rollovers or other giving strategies? Please contact us: rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com.

. We can help you create a giving plan that will meet your charitable goals and maximize your tax savings.

© 2016

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To deduct business losses, you may have to prove “material participation” 07-20-2016

You can only deduct losses from an S corporation, partnership or LLC if you “materially participate” in the business. If you don’t, your losses are generally “passive” and can only be used to offset income from other passive activities. Any excess passive loss is suspended and must be carried forward to future years.

Material participation is determined based on the time you spend in a business activity. For most business owners, the issue rarely arises — you probably spend more than 40 hours working on your enterprise. However, there are situations when the IRS questions participation.

Several tests

To materially participate, you must spend time on an activity on a regular, continuous and substantial basis.

You must also generally meet one of the tests for material participation. For example, a taxpayer must:

  1. Work 500 hours or more during the year in the activity,
  2. Participate in the activity for more than 100 hours during the year, with no one else working more than the taxpayer, or
  3. Materially participate in the activity for any five taxable years during the 10 tax years immediately preceding the taxable year. This can apply to a business owner in the early years of retirement.

There are other situations in which you can qualify for material participation. For example, you can qualify if the business is a personal service activity (such as medicine or law). There are also situations, such as rental businesses, where it is more difficult to claim material participation. In those trades or businesses, you must work more hours and meet additional tests.

Proving your involvement

In some cases, a taxpayer does materially participate, but can’t prove it to the IRS. That’s where good recordkeeping comes in. A good, contemporaneous diary or log can forestall an IRS challenge. Log visits to customers or vendors and trips to sites and banks, as well as time spent doing Internet research. Indicate the time spent. If you’re audited, it will generally occur several years from now. Without good records, you’ll have trouble remembering everything you did.

Passive activity losses are a complicated area of the tax code. Consult with your tax adviser for more information on your situation.  For more information contact us rsibley@abcpa.com, bbailey@abcpa.com, dchandler@abcpa.com, or cmozingo@abcpa.com.

© 2016

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FAQs about Social Security Retirement Benefits 07-18-2016

Applying for Social Security retirement benefits is a rite of passage. But many seniors are uncertain about their options, including when to start collecting benefits, how to apply, who qualifies for survivors benefits and whether benefits will be subject to income tax. Here are the answers to some common questions, along with insight into the long-term viability of the Social Security system. Continue reading