Tax Planning 2017

For those of you who read the title of this post and thought “Jay, it’s too early in the year to think about tax planning!”, my response is “some stores already have Christmas decorations out, and it’s not even Halloween yet…isn’t that too early?!”  As someone who plans out lunch and dinner while eating breakfast, I say it’s never too early to think about tax planning!

The reality is that you should’ve started thinking of 2017 tax planning at the same time that you filed your 2016 tax returns, in fact, there are instances when you can even plan for the following year, if there are circumstances that you know will be changing, such as a marriage.  I’m a big proponent in people knowing ahead of time what the tax consequences will be for certain things, rather than waiting until tax time (when it’s too late) and finding out that there’s a balance due of thousands of dollars.  So let’s take a look at a few things to consider, when planning out the rest of 2017.

Withholding and estimated taxes – did you have a large balance due or overpayment on your 2016 tax returns?  Did you sell a stock or mutual fund for a big gain?  Did you start a new business and are anticipating a big net income or net loss?  There are many other examples, but large balances due or large refunds are indications that you paid in too little or too much tax in the prior year.  If this is the case and you’d like to get closer to a break even this year, consider raising or lowering your withholding and/or estimated tax payments.  Similarly, large gains on securities sales or net income/loss from a new business can have effects on your taxable income, and could be reasons to increase or decrease your withholdings and/or estimates.  Think about your 2016 results and anything happening in 2017 that could have more than a minimal impact on your 2017 results, and adjust accordingly.

Alternative Minimum Tax – I could write an entire article just about Alternative Minimum Tax (AMT), but let me just say here that as taxable income rises, there’s a higher likelihood of winding up in the AMT, which could substantially increase your tax bill.  You can search for AMT worksheets to crunch your numbers to see if you’ll be there for 2017.

Marital Status – as I alluded to above, getting married (and on the flip side, getting divorced) will have an impact on your taxes.  Your tax filing status is determined by your marital status as of the last day of the tax year (Dec. 31), so if your marital status changed in 2017, think about how that will affect your taxes.  And if you plan to get married or divorced in 2018, you can start planning now for the changes next year.

Gifts – any taxpayer can make a gift of up to $14,000 per tax year to another taxpayer.  Property that is generating taxable income to you can incur less tax on that income when it’s gifted to somebody in a lower tax bracket, which is why parents will make gifts to their kids.  So consider making gifts to family members (or your favorite CPA, ha!)

Ordinary income vs capital gains – interest income (such as bank accounts, CDs, corporate bond funds) is taxed at your marginal income tax rate.  Based on current tax law, that rate can be as high as 39.6%.  If that same income was “qualified dividend” income, the tax rate on that income would be 15%, which is the same rate as long-term capital gains (for those in the 39.6% top ordinary tax bracket, the rate is 20%).  So for somebody in the top marginal tax bracket, converting ordinary interest income to qualified dividend income would halve the amount of tax charged (20% vs 39.6%).  Similarly, when considering selling appreciated securities, if the security is held a year or less (short-term), the tax will be at the marginal tax rate, while long-term gains (over a year) are taxed at the 15%/20% rate.  So if your holding period is nearing a year, think about holding it a few more days, to get the gain taxed at long-term rates.

These are just a few ideas to consider, when planning out the rest of the year’s taxes.  If you want to do some tax planning before the end of the year, but think it’s too complicated to do, remember to ask your favorite CPA (as in Jay the ___)  for help!

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Trumped on Taxes

One era ends and a new one begins, which is a happy or sad thing, depending on which side of the aisle you sit on.  Regardless of where you stand (or sit) on the prospect of Donald Trump becoming our next president on January 20th, one thing will be sure; he’s going to look to shake up the tax code.  Depending on how much he gets his way, your 2017 tax picture could look very different from your 2016 one.  Let’s take a quick look at some possibilities.

Tax Rates – whether it’s Mr Trump or Congress, the Republican majority will look to cut tax rates in some fashion.  Lower tax rates mean that any deductions you have will get less bang for the buck, in the form of income tax savings.  For example, if you’re in a 25% marginal tax bracket and have itemized deductions of $10,000, the deductions will save you $2,500 in federal tax (deduction amount times the tax rate).  If tax rates are reduced and you drop to a 20% marginal bracket (I’m just making up that rate), your same $10,000 of deductions will only save you $2,000 in tax.  The bottom line is that for those of you who claim itemized deductions for charity, state & local taxes, and mortgage interest, a reduction in tax rates means that you’ll save less in income tax.

Charitable contributions – because tax rates could go down (and your income tax savings for making charitable contributions could be reduced), you might want to consider accelerating any donations that you were going to put off to 2017, and make them before the end of 2016.  If you have any securities that have appreciated in value, making a donation of the appreciated securities is a great way to avoid the potential capital gain income on a sale, and get a deduction for the current value of the security.

State & local taxes – I’ve personally seen less people get a tax benefit for these, as more of my clients have wound up in the Alternative Minimum Tax (AMT).  In the AMT computation, state & local taxes are disregarded as a deduction.  If you’re not in the AMT, prepaying by December 31 any state estimated tax payment that you’d otherwise make by January 15 would save a few dollars in 2016, and with possible lower rates in 2017, you’d have lower income tax savings in 2017 anyway.

Capital gains – while Mr Trump’s plan would retain the current long-term capital gains rates of 0%, 15%, and 20%, the threshold for hitting the top rate would be reached a lot faster, which means that long-term gains would be taxed at 20% starting at about $225K of taxable income on a joint return (vs about $467K now) and $112K of taxable income on a single return (vs about $415K now).  This would seem to indicate that if you’re considering selling any investments at a long-term gain, and expect to have a pretty high taxable income, it would be better to sell before the end of 2016. But…the other consideration is the current 3.8% net investment income tax, which is a tax on interest and dividend income, and capital gains.  If adjusted gross income is above certain levels, this tax kicks in.  Mr Trump and Congress both want to eliminate the net investment income tax.  It then becomes an exercise of figuring out whether gains will net out a higher total of capital gain + net investment income taxes in 2016, or possibly only capital gain tax (potentially at a higher rate) in 2017.  You gotta admit, isn’t this fun stuff?!

These are just a few points to ponder, while you’re slugging it out and standing in line at the mall this holiday season.  As always, if you need some tax number crunching done, consult your favorite CPA!

Tax Planning 2016

The election’s over, we’ll have a new president come January, and there’s uncertainty at every turn.  You know what won’t change?  The need to do tax planning before the end of the year!  Certain deductions that were set to end in 2015 or prior were extended by The Protecting Americans from Tax Hikes Act of 2015 (or PATH Act…who comes up with these acronyms?!).  With the passage of the PATH Act, there are deductions that will still be in play for 2016, so let’s look at a few of them.

Teachers’ classroom expenses – elementary and secondary school teachers can take an “above the line” deduction of up to $250 for out-of-pocket classroom expenses.  The above the line aspect is important, because it can directly reduce adjusted gross/taxable income, even if a taxpayer does not itemize deductions.  The PATH Act expanded the deduction to allow “professional development” expenses, so the cost of any courses that the teacher takes (that relate to the curriculum that the teacher teaches) can be deducted.

Qualified tuition and fees – another above the line deduction is allowed for qualified tuition and fees paid for post-secondary education.  There is a maximum amount allowed as a deduction, and this is subject to an adjusted gross income phase-out.  The tax savings from this deduction should also be compared to the tax savings for taking an education credit, to see which yields the better benefit.

Mortgage insurance premiums – while this is an itemized deduction (and not an above the line deduction like the two above items) the tax savings for the ability to deduct mortgage insurance premiums (a/k/a PMI) as mortgage interest can help offset the cost of paying the premiums.  As an itemized deduction, it’s subject to its own adjusted gross income phase-out.

Cancellation of mortgage debt – for taxpayers who are underwater on their mortgages and are able to have some of that debt forgiven, the Act extended the ability to not have to reflect the cancelled debt as income on a tax return.  This provision is primarily geared toward mortgage debt on a taxpayer’s primary/principal residence, and there are limits on the amount that can be excluded.

Code Section 179 expensing – for businesses, the Section 179 expensing limit will remain at $500,000, which means that businesses will be able to deduct up to that amount for major capital purchases in year one, rather than have to depreciate those purchases over 5, 7 years or longer.

These are just a few things to consider before the end of the year.  As always, if you’re unsure of how to plan for your own taxes before 2016 ends, you should contact your favorite tax professional (like JayTheCPA!)

So You Want to Be Your Own Boss, eh?

Over the years I’ve had a lot of people come in for consultations about starting a new business.  Either they’ve already taken the plunge and want to understand what they’re getting themselves into from an accounting, recordkeeping, and tax perspective, or they’re currently an employee and are considering going out on their own.  And then there are the people who come to me at tax time (after the prior tax year has ended) because they need someone to prepare tax returns for their first year of small business activity.  Regardless of the reason for these people showing up at my office, many times the result of the meeting is them scratching their head wondering what they got themselves into, and whether having their own small biz is even worth it.  Having been a small biz person myself for about twenty years, my answer is “yes”, it’s definitely worth it.  Those who know me personally know that in some respects I march to the beat of my own drum, and I told somebody recently that at this point in my life/career, I couldn’t even picture myself being an employee of somebody else.  Being my own boss, I set my own hours and schedule from day to day and week to week, I don’t have to get permission to take a day off or a vacation, and I pretty much come and go as I please.  At the same time, all the responsibility falls on my shoulders.  I can’t blame somebody else if a client should complain, it’s up to me to get the work done for the clients, and it’s up to me to network or do whatever else is needed to obtain and retain clients.  And that’s just the way I like to lead my professional life!  For those of you who are considering going into business for yourself, there are some important things to consider when you’re thinking of taking the plunge into entrepreneurship (is that an actual word?  My autocorrect didn’t change it!)

Taxes: As a CPA, of course the very first thing I need to bring up is taxes, as that’s generally the main reason why prospective or new small biz owners consult with me.  From an income tax perspective, there’s generally no difference between how much you’re going to pay as an employee vs how much you’re going to pay as a sole proprietor small business.  What I mean is that $100K will be taxed to you the same way if that’s your W-2 income or that’s your net business income.  There are a couple of small intricacies that make it a bit different, but I don’t want to bog you down with tax-speak right now.  The big difference that a lot of people don’t expect or anticipate is what’s called self-employment tax.  As an employee, you have 7.65% withheld from your paycheck for “FICA”, which is Social Security and Medicare.  As a cost of having employees, your employer kicks in a matching 7.65% expense of their own, and 15.3% is paid in to the government on your behalf.  As a self-employed small biz owner, you’re responsible for both of those halves out of your own pocket, which is the self-employment tax.  So being in biz for yourself will cost you an additional 7.65% in FICA tax.  Again, I’m oversimplifying it a bit, but if your net biz income is $100K, you’re going to pay $7650 more in FICA than if you received that same $100K as an employee, which is a substantial chunk of dough.  The other point I want to make regarding taxes has to do with actually getting that tax paid in to the fed and state governments.  As an employee it’s very easy; your employer withholds FICA, fed, and state tax from your gross pay and you receive your net paycheck.  When you’re self-employed, you’re responsible for getting all that tax paid in yourself, via quarterly estimated tax payments.  There’s the actual physical payments that you need to remember to do, but even before you get to that, you need to be disciplined enough to set that money aside (and not spend it) so you’ll have it on hand to pay it in every quarter.  Between self-employment tax, federal income tax, and state income tax, I generally recommend to people that they set aside anywhere from 25 to 40% of what they receive from their clients, to cover their taxes.  Depending on how much one expects to make from their small biz, that amount could be even higher.

Insurance: I’ll keep this one brief, but as an employee, many times you have a whole “menu” of insurance options available through an employer, such as health, dental, vision, disability, and life.  As a self-employed person you’ll either have to get those items covered through your spouse (if offered at her/his work) or you’ll have to find those items yourself, and pay for them on your own.  Health insurance generally can be 100% deducted as a self-employed business owner, but, again, I won’t bog you down with the ins and outs of doing that.

Retirement: As with taxes and insurance, when it comes to saving money for retirement, it’s all on you.  You can set up your own SEP (simplified employee pension) or Solo 401K, but, again, it’s up to you to set it up and to fund it.  On the plus side, there’s the opportunity to sock away a lot more dough as a self-employed person than you can as an employee.

Liability: As an employee, liability for what happens between your employer and their clients is usually your employer’s issue, not yours (disclaimer…I’m not an attorney) but when it’s your business you need to insulate yourself from liability as best as possible, through business insurance and also by setting your business up as either a corporation or limited liability company (LLC).

As I said at the beginning, I wouldn’t trade being my own boss for being an employee.  I like the “thrill of the chase” when it comes to drumming up biz, and I like to be able to help people and have the fees wind up in my pocket at the end of the day.  I think you’ll find the same to be true for you, as long as you have some good information and understand what you’re getting yourself into.

Do you have any thoughts or interesting anecdotes about your own experiences with entrepreneurship?  Please share them.

Investing and Backdoor Taxes

It’s been a pretty good year so far for the stock market, and you may have locked in some nice capital gains on investment sales, and/or received some hefty dividends from mutual funds (or may yet receive year end fund distributions). While all of this is good stuff (more money in your pocket), the additional gains and income could put you in the position of paying even higher taxes than you may anticipate.

In my practice, this past tax season was a “perfect storm” for a bunch of my clients, who got hit with additional/higher taxes, as well as the loss of various deductions. Let me run down a few things from last year that are still lurking out there this year.

Net Investment Income Tax – this was a new tax in 2013, and is a 3.8% tax on income such as capital gains, dividends, interest, and a few other items. Once income goes above certain levels, this additional tax will kick in.

Personal Exemption Phaseout – while this isn’t an additional tax per se, the fact that personal exemptions (for self, spouse, dependents) can be reduced literally to zero if income is high enough, which has the effect of raising taxable income, obviously creating a higher tax.

Itemized Deduction Phaseout – this works similarly to the exemption phaseout, in that when income is high enough, itemized deductions will be reduced. And as with the exemption phaseout, this exposes more income to taxation.

Higher Long-Term Capital Gains Rate – for taxpayers in the top tax bracket, long-term capital gains will be taxed at 20% and not 15% for most other taxpayers.

Alternative Minimum Tax – I’ve covered this in previous articles, but it’s something that’s also still hanging around, and shouldn’t be forgotten.

From a tax planning perspective, if you feel some or all of these could be applicable to you in 2014, and you don’t want surprises at tax time, I recommend that you contact your favorite CPA (maybe one whose name starts with “Jay The…”?) to crunch some numbers and get some additional guidance on ways to reduce the sting of some of these stealth taxes.

Mistakes on Taxes? Avoid These

It’s tax season again, yee haw! Sure as the sun comes up in the morning, the IRS has its hand out from January to April 15th (and beyond) waiting for somewhere in the area of 150 million tax returns. In spite of ever more complicated tax laws, approximately one-third of those returns will be self-prepared. Based on their own research, my competitor (ha!), H&R Blockhead says that one of every five self-preparers forgo almost $500 in taxes (e.g. lower refunds or higher balances due) because of mistakes they’ve made on their own returns. These mistakes can lead to letters from IRS, possibly with penalties or other harsher actions resulting. As a licensed tax professional, my recommendation to all taxpayers is to avoid all preparers whose names start with either “H&R” or “Turbo”, and instead engage a qualified tax professional (preferably a CPA whose name starts with “Jay the”) who understands the tax laws, and stands a way better chance than you of preparing an error free return. But…I’m not naïve enough to think that people will actually listen to me (or read this), so for those of you who still insist on going it alone, and preparing your own tax returns, pay attention now, and don’t make these mistakes.

Claiming the wrong number of dependents-IRS has publications and pages and pages of information on who can and who can’t be claimed as a dependent on your tax return. Don’t think that just because somebody lives with you or is your kid that they can be claimed as a dependent.

Failing to itemize deductions-taxpayers automatically get a standard deduction, but don’t be so fast to leave it at that. Add up how much you paid in state/local tax, personal property tax, mortgage interest, charity, and other various items, and if that total exceeds the standard deduction, you can shave a few bucks off your tax bill by itemizing.

Overstating charitable contributions-yeah yeah, you put ten bucks in the Salvation Army kettle at Christmas time, or you put money in the basket when it’s passed around in church, but can you prove it? Like dependents, IRS has all sorts of information to read, that discusses the required substantiation for deducting charitable contributions. And they’ve been increasing their audits in this area, so make sure you’ve got the correct documentation, before you claim that deduction. Another mistake to avoid is forgetting about the United Way or CFC contributions that were deducted from your paycheck.

Deducting points on a refinance-while points paid on an original first mortgage are deductible when paid, you generally cannot do the same with points paid on a refinance. Instead, you must amortize that deduction over the life of that loan.

I could go on and on about mistakes you should avoid, but I think that’s enough free advice for one article. Remember rule number 1, which is to go to a qualified tax professional to have your tax return prepared. Rule number 1(a) is that the qualified tax professional should be me. Finally, rule number 2, if you’re gonna go it alone, make sure you review everything twice before you send the return out, and if you’re not sure about something, research and read!

Have you made any good (or bad) mistakes on tax returns, and are willing to tell about it? Leave a comment, and share it with others, so that they may learn.

The Supreme Court, the Defense Of Marriage Act, and Tax Planning

If you’ve either been living under a rock or on another planet in 2013, I want to let you know about a momentous event that happened about a half year ago. The U.S. Supreme Court held that Section 3 of the Defense of Marriage Act (DOMA), which required same-sex spouses to be treated as unmarried for purposes of federal law, was unconstitutional. Obviously there are many federal laws, and a lot that have been affected by this ruling, but I’ll try to lay out a few things to keep in mind, as they relate to tax laws and tax planning.

For Federal tax purposes, IRS will generally recognize as married, same-sex couples who were married in a state, the District of Columbia, a U.S. territory, or a foreign country that authorizes same-sex marriages. Note that the determining factor is where the couple marries, not where the couple is domiciled (generally, where they live). As an example, a same-sex couple lives in VA but gets married in DC. For federal tax purposes they will be considered married. On the flip side of this, IRS will not recognize as married, same-sex couples who have entered into a registered domestic partnership, civil union, or other similar formal relationship under state law “that is not denominated as a marriage under the laws of that state.”

O.K., you’re a same-sex couple, you’ve gotten married in a state that recognizes same-sex marriages, so for federal tax purposes, now what? Under this ruling, legally married same-sex couples will be treated as married for all Federal tax purposes, including income, gift, and estate taxes. Some of provisions that need to be considered are filing status, claiming personal and dependency exemptions, the standard deduction, contributing to an IRA, earned income tax credit, child tax credit, and many others.

I’m guessing that you’re now wondering when all of this goes into effect (did I guess correctly?). The answer is, it already did. IRS’s revenue ruling (2013-17) is generally effective on or after September 16, 2013. One thing that can be done immediately is to look back to any tax year for which the statute of limitations has not yet expired (generally three years) and determine whether amending tax returns will result in tax refunds. If it will, amended returns can be filed. Note that for 2012 or prior year “original” returns filed before 9/16/13, same-sex couples may choose (but are not required) to amend returns.

If a same-sex couple files an “original” 2012 or prior year return on or after 9/16/13, they must file the return as married filing jointly or as married filing separately. As with opposite sex couples, the date of the marriage will be the determining factor for what year married returns will start, and for which years single (or possibly head of household) would apply.

For the upcoming 2013 tax return filing season, legally married same-sex couples must file as married filing jointly or married filing separately. Single filing status does not apply, period.

Having said all of that, you now ask “what about the states”, right? The answer is, we’re not sure yet. Virginia recently issued a statement unequivocally saying that same-sex marriages are not recognized in the state. VA legally married same-sex couples (for Federal purposes) will have to file married returns for Federal purposes (joint or separate) and for VA purposes will have to file as single (or head of household, if applicable). This scenario will be the same for any state that doesn’t recognize same-sex marriages. Check your state’s laws to determine applicability.

I could go on for another 600 words, but I’ve barely scratched the surface of discussing planning points and opportunities. You should consult with your favorite tax professional (whose name hopefully starts with Jay and ends with Reiner) about details that you need to know as you move into the upcoming filing season and tax years beyond. Please send a link to this article to any friends, family, or associates who could benefit by it.