Archive for the ‘Back to Basics’ Category
Back to Basics – Part XXXVI – Form 9465 Installment Agreement
Filed under: Back to Basics, Tax Collections | Tags: 433-F, Form 3537, Form 9465, installment agreement, interest, offer in compromise, Penalties
Leave a comment Originally published in the Cedar Street Times
April 1, 2016
After more than a year, our Back to Basics series has come to an end. We covered the 1040, all the major Schedules (A, B, C, D, E, and F) and 27 of the most common forms. To access any articles from the past you can read them on my website atwww.tlongcpa.com/blog .
For our last article, we have some wonderful news! The IRS recently announced that starting next year, on a three-year trial basis, they are moving to a voluntary income tax system. You will be asked to pay what you feel is fair and what you can afford, but there will be no requirement to actually pay income tax.
If you haven’t picked up on the date of this publication yet, it is April Fool’s Day; this utopian ideal will have to sit on the shelf a little longer! But, if you do find yourself in a situation where you owe more than you can manage to part with by the due date of April 18th, there are some options for you. Remember that even if you file an extension, the tax is still due by April 18th this year.
The IRS says that if you can pay your balance due in full within four months of the April 18 due date you can simply call them at 800-829-1040 and advise them of this. You will still have to pay interest (currently 3 percent per annum) and penalties (0.5 percent of the unpaid balance per month – effectively another 6 percent per annum) until paid in full, but you will not have to setup an installment agreement…which is your next option.
If you think you will need more than four months to pay off the balance, then you need to set up an installment agreement to avoid letters threatening actions such as liens, asset seizure, and taking your first-born child. Well, maybe the first-born child part is a little overdramatic. Even the concept of seizing assets, although splashed across notices relatively early in the collection phase, is hardly ever a reality, and you would likely have to have a $100K or more tax bill before they would consider taking and selling off your assets. Wage garnishments and liens do happen more often, however.
An advantage to an installment agreement, is that it cuts the late payment penalty in half – from 0.5 percent per month to 0.25 percent per month. There is a $120 charge from the IRS to setup and installment agreement, but I recommend you have direct debit setup to take the payment directly out of your bank account each month. This reduces the fee from $120 down to $52. It also prevents you from accidentally missing a payment. If you fail to make a payment, you can be kicked out of the program, and have to reapply, and pay a new fee. Also, if you have a balance from an old year, and you need to add to it, you generally have to setup a new installment agreement as well.
You can file for an installment agreement using IRS Form 9465. This can be e-filed with your tax returns, or mailed by paper. Or, you can set it up online at http://www.irs.gov. If you owe less than $25,000, you will generally be approved without any hassle, as long as you have a good filing history. You can take the balance owed and divide by up to 72 months. I generally recommend that you keep the monthly commitment low so you know you will not fail to be able pay some month and then get kicked out – but go ahead and make extra payments whenever you can to pay it down faster. Even if you owe up to $50,000, you can still get automatic approval, but you will need to fill out page two of the 9465 that asks a few more financial questions.
If you owe over $50,000, then you also have to send in a 433-F Collection Information Statement. This has a lot more specific questions about your finances, and is pretty much like providing personal financial statements.
California has a similar installment agreement process, but the amounts and rules differ a bit. California generally only allows an automatic installment agreement if you have up to $10,000 of unpaid tax liability. You can go up to $25,000, but you have to show that you have a financial hardship (not by your definition, however!).
The late payment penalties are five percent of the total unpaid tax liability during the first month, and then 0.5 percent each month thereafter until paid in full (capping at 25 percent like the federal does.) The interest rate is currently the same as the federal three percent rate. The fee to apply is $34, and you must pay off the balance in less than three years. I typically recommend just paying the FTB off, if possible, and then only dealing with the IRS on one installment agreement.
The California installment agreement request is made on Form 3567. You can also fill it out online at ftb.ca.gov by choosing “Installment Agreement” under the “Pay” section. Your other option is to call the FTB at 800-689-4776.
Finally, there are also options for an offer in compromise, if you clearly will not be able to pay off your tax debts in the future based on your income and certain expenses. The process is fairly mechanical, and you generally will either qualify or you will not. It is not like you sit around and negotiate the amount.
Be wary of ads you see on TV or on the radio that talk about getting rid of your tax debts. A retired collection officer at the IRS of 30 years once told me that many of these groups charge you fees go through all the work to fill out the forms and gather the information whether or not you even have a remote chance of qualifying. Then you simply get rejected, and you are in a worse position than when you started. Instead, they could do some preliminary analysis, and not generate a lot of busy work for themselves.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041. This article is for educational purposes. Although believed to be accurate in most situations, it does not constitute professional advice or establish a client relationship.
Back to Basics Part XXXV – Form 8959 Additional Medicare Tax and Form 8960 – Net Investment Income Tax
Filed under: Back to Basics | Tags: 0.9%, 3.8%, 500 hours, Additional Medicare Tax, alimony, Capital Gains, capital gains distributions, compressed bracket, dividend income, estates, fiduciary expenses, Form 8814, Form 8959, Form 8960, interest income, investment advisory fees, Investment Interest Expense, material participation, Net Investment Income Tax, NIIT, real estate professional, retirement plan distributions, Social Security, state taxes, tax preparation fees, tax-exempt interest income, trusts, unemployment, wages
Leave a comment Originally published in the Cedar Street Times
March 25, 2016
Forms 8959 and 8960 are two relatively new forms that started with the 2014 tax year. These are two of quite a number of tax increases that are being used to help fund ObamaCare. Both of these forms affect people with income in excess of $200,000 for Single filers or 250,000 for Married Filing Jointly.
Form 8959 is the Additional Medicare Tax. It is an additional 0.9% Medicare Part A tax on combined W-2 and self-employment wages in excess of the above stated thresholds. Note that it is not based on W-2 box 1 taxable wages, but on Medicare wages which are often higher for most people. Pretax deductions such as contributions to retirement plans are included in Medicare wages, whereas they are not included in box 1 taxable wages.
Employers have to start collecting this additional tax once your wages hit the thresholds. However, if you changed jobs during the year, the second employer will not withhold until the wages your earn with that employer reaches the thresholds. This means that you could owe additional tax when you file your tax returns for the shortfall, since the new employer and old employer do not communicate to coordinate this tax. For self-employed people, you would of course be sending in quarterly estimates of your income and self-employment tax liability, and the calculation of this new tax would be made on your income tax returns at year-end.
The Form 8960 is the Net Investment Income Tax (NIIT). Once your income meets the thresholds previously discussed, you will also have an additional 3.8% tax on all investment related income. This would include income sources such as interest income, dividend income, annuities, rents, royalties, capital gains distributions from mutual funds and capital gains from the sale of investments such as stocks and bonds. Even real estate professionals would be subject to NIIT on their own rental real estate activities, unless they meet the material participation test specifically in rental real estate, which is a separate test from time spent in real estate sales activities, for instance.
If you own an interest in a business and you are not materially participating in the business, this income will also be subject to the net investment income tax. Material participation generally means 500 hours or more during the year. The sale of rental property and even second homes are also subject to NIIT. If you sell an interest in a partnership or s-corporation and do not materially participate in the business, you will also be subject to NIIT on any gains from those sales. Investment income from your children that are taxed on your returns through Form 8814 are also subject to NIIT.
Wages, unemployment compensation, alimony, Social Security benefits, tax-exempt interest income, income subject to self-employment taxes, and income from qualified retirement plan distributions are specifically excluded from the tax.
There are also some deductions that can be used to offset NIIT. These expenses included investment interest expense, investment advisory and brokerage fees, expenses related to rental and royalty income, tax preparation fees, fiduciary expenses (in the case of an estate or trust) and state and local income taxes.
Regarding trusts and estate, it is important to note that the thresholds for NIIT are much lower. Due to the compressed income tax bracket structure, NIIT kicks in when the trust or estate reaches the highest income tax bracket at only $12,300 of income (2015). This provides additional incentive for trustees to push income out to the beneficiaries since many trusts will be subject to NIIT, but the beneficiaries are often not subject due to the much higher thresholds for individuals.
Planning can be an important tool to lower the impact of NIIT.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041. This article is for educational purposes. Although believed to be accurate in most situations, it does not constitute professional advice or establish a client relationship.
Back to Basics Part XXXIV – Form 8938 – Statement of Specified Foreign Financial Assets
Filed under: Back to Basics, Foreign Reporting | Tags: FBAR, FinCen 114, foreign income, Form 8938, Statement of Specified Foreign Financial Assets, TD F 90-22.1
Leave a comment Originally published in the Cedar Street Times
March 4, 2016
For those of you living in the US (not just US citizens) with foreign bank accounts, foreign securities accounts, ownership interests in foreign corporations, partnerships, or other foreign potentially income generating assets, you may have a reporting requirement on Form 8938 – Statement of Specified Foreign Financial Assets. Failure to report on this form carries with it significant penalties, so you want to be sure you are in compliance if you have assets of this type.
You may have heard about the Report of Foreign Bank and Financial Accounts (FBAR) which is currently filed on a Form FinCen 114 with the US Treasury Department (a few years ago the form was called a TD F-90-22.1) each year. That form received a lot of press a few years ago as some of the large banks overseas cooperated with the US government to release the names of account holders living in the US, and is also tied to some of the amnesty programs you may have read about. This often conjures up images of mutli-millionaires hiding money overseas to avoid paying US taxes. Although this may be a component of it, I can assure you that it touches “normal” people as well that just happened to have foreign accounts, perhaps from living in a foreign country years ago, and still have the account, or maybe just living in the US for a few years and on a US work visa.
If you are reading this article, and thinking, “I have never heard of this before,” you likely have a relatively easy solution for the FBAR that will not result in huge monetary fines. This often consists of filing amended tax returns for the past three open tax years to report any income generated on these accounts, and filing FBARs for the past six years. But you must do this before the IRS discovers it – so do not bury your head in the sand.
Whereas the FBAR can attribute its roots in the Bank Secrecy Act passed by Congress in 1970 and is filed separately from your tax returns with the US Treasury Department, the Form 8938 has only been around since 2011, and is filed as a form with your tax returns. The Form 8938 has different reporting requirements as well. Whereas the FBAR is focused on foreign bank and securities accounts whose aggregate value of all accounts exceeds $10,000 at any point during the year, the Form 8938 is broader and includes more foreign income generating assets, and is only required if the aggregate value at year end is over $50,000 or if the maximum value at any point during the year is over $75,000 for single and married filing separate filers or $100,000 at year end/$150,000 maximum value if married filing jointly.
Since the US taxes people residing in the US on worldwide income, (and so does California), the IRS wanted a way to ensure that the income from foreign accounts was being properly included on the US tax returns. The FBAR does not do this, so the 8938 was created.
Parts I and II of the Form 8938 are a summary of the various types of specified foreign financial assets that you are reporting. Part III is a cross-reference to the forms and line numbers in the tax return where any income generated by these assets is included. Part IV is a cross-reference to foreign assets whose detail is not reported on the 8938 itself, but on other form specifically designed for those types of assets. Parts V and VI are the specific details of each account listed in parts I and II, and include things like account numbers, addresses, amounts, foreign currency conversions, etc.
You can easily download the instructions to the Form 8938 online if you would like to learn more about the reporting requirements. Even if you do not have a Form 8938 or FBAR filing requirement, you are still required to report on your US tax returns any foreign income earned by the accounts. With many countries there are also tax treaties in place to prevent double taxation.
Please keep in mind, there are complex issues involved with these reportings, and depending on the assets, you may require the assistance of an accountant or attorney.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041. This article is for educational purposes. Although believed to be accurate in most situations, it does not constitute professional advice or establish a client relationship.
Back to Basics Part XXXIII – Form 8889 – Health Savings Accounts (Cont.)
Filed under: Back to Basics, Healthcare Costs | Tags: beneficiary, custodian, death, directly paid, estate, Form 8889, health savings account, HSA, itemized deductions, medical expenses, nonqualified distribution, over 65, prohibited transactions, qualified distribution, reimbursement, Schedule A, Section 4975, self-dealing, separate HSA accounts, spouses
Leave a comment Originally published in the Cedar Street Times
February 19, 2016
Two weeks ago we started a discussion on Health Savings Accounts. We discussed why they are so valuable, how you qualify for an HSA, what type of an account it is, how you contribute to it, whether or not you can fund it with an IRA transfer, and what you can spend the money on and for whom. If you would like to read the article, you can find it on my website at www.tlongcpa.com/blog .
Do Expenses Have to Be Paid Directly From the HSA?
Another important tip is that technically you do not have to pay the medical expenses directly from the HSA account. You can reimburse yourself if needed. In fact, you can reimburse yourself at any point in the future from your HSA account for qualified expenses that were incurred at any point after you first established the HSA. It could be ten years later or more, and you can still reimburse yourself as long as you keep really good records, and can prove you did not deduct those expenses somewhere else, such as on Schedule A, or pay for them out of the HSA account in the past. Then you can reimburse yourself for them in the current year and treat the reimbursement as a qualified distribution, and not be subject to any tax or penalties.
This could come in very handy if some year you have a big expense, but do not have enough money in the account to cover it all. You could pay yourself back over a period of years. Remember, by paying the expenses out of this account, you have been able to use pretax dollars to pay for or reimburse yourself for medical expenses you incurred. That said, I would recommend always paying directly from the HSA account unless it is impossible to do so.
Should Spouses Have Separate HSA Accounts?
Here is an important pointer, if you have family coverage, you should consider setting up an HSA account for each spouse. You can only make the additional contribution for your 55 plus spouse if he has his own HSA account. There are a few other advantages to having separate accounts as well. As mentioned before, people over 65 can pay their health insurance and Medicare premiums out of their HSA, unlike people under 65. They can also pay these expenses for their spouse, or dependents, if each is over 65. However, if you were under 65 and were the only HSA account holder, and your spouse or dependent was over 65, you would not be able to pay the premiums. You would need your 65+ spouse to have an HSA account and have money in it in order to pay the premiums. You also cannot transfer money from one spouse’s HSA account to another. So you need to contribute over the years to each spouse’s account in order to prepare for this.
Another advantage of each spouse having an HSA account is for the payment of long-term care insurance. It is clear that if each spouse has an HSA, they can each pay their respective long-term care insurance subject to the normal caps. Without separate accounts, the instructions to the Form 8889 seem to imply you cannot take the deduction for a spouse.
What Happens When I Pass Away?
When you pass away, your spouse can take over the account and use it like his or her own. However, if it is left to a beneficiary other than a spouse, or is undesignated and goes to your estate, then it is considered an immediate distribution, and the entire balance is included in taxable income. It is not, however, subject to the 20 percent penalty tax. Whoever is the named beneficiary and receives the HSA money, pays the tax. If an estate receives it, it is taxable income on the decedent’s final 1040. If some other person receives it, then it is taxable to that person’s 1040. If any final medical expenses are paid from the account within one year of death, those would be qualified distributions and reduce the taxable portion.
Any Pitfalls?
Be alert to prohibited transactions covered by IRC Section 4975 – these are basically self-dealing transactions where you or someone or an entity related to you receives a special benefit in some way from the account. For instance, if you could borrow money from the account, that could be self-dealing. Fortunately, the custodian buffer will prevent you from doing a lot of things that might happen otherwise, but there are still some things you could do that would be considered self-dealing that the custodian would not know about. For instance, if you named your HSA as collateral for a personal loan. That would be a prohibited transaction, and the entire balance would be deemed distributed immediately, and it would trigger taxable income and a 20 percent penalty on the entire balance.
Form 8889
The Form 8889 itself is a fairly simple two page form. Part I deals with determining your current year deduction for contributing money to the HSA, and making sure you did not overcontribute. You add up the contributions from yourself, your employer, plus contributions to any MSAs which count toward the HSA cap, plus if you happen to do a once in a lifetime rollover from your IRA, that would get added in as well.
Part II deals with the distributions from the HSA. Here you essentially list the total distributions, and then subtract any rollovers to other HSA custodians, and subtract any qualified medical expenses. Anything left over would generally be a nonqualified distribution subject to the 20 percent penalty unless one of the exceptions applies – turning 65, becoming disabled, or passing away.
Part III calculates the penalty for overcontributing due to changes in your health insurance coverage status.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041. This article is for educational purposes. Although believed to be accurate in most situations, it does not constitute professional advice or establish a client relationship.
Back to Basics Part XXXII – Form 8889 – Health Savings Account
Filed under: Back to Basics, Healthcare Costs | Tags: 2015, COBRA insurance, contribution limit, custodial parent, dependent, disabled, distribution, divorce, earnings, exemption, health insurance, health savings account, high deductible health plan, HSA, IRA, long-term care, Medicare, penalty, rollover, Roth-IRA, Schedule A
Leave a comment Originally published in the Cedar Street Times
February 5, 2016
Why Would an HSA Be Valuable to Me?
A Health Savings Account, or HSA for short, is a fantastic vehicle to pay for out-of-pocket qualified medical expenses which insurance does not cover in-part or in-full. It effectively allows you to get a tax deduction for nearly all of your unreimbursed expenses whether or not you itemize deductions. It also works great for those who itemize, but do not have enough medical expenses to get over the 7.5 percent or 10 percent (depending on your age) of adjusted income threshold before those deductions are counted. Many people assume they are receiving a tax benefit for these expenses when they are not. Simply look at your Schedule A, line 4. If it says $0, or if you do not even have a Schedule A, you are not benefitting from your itemized medical deductions. Even if you have a number there, line three will show you how much you are getting zero benefit from due to the threshold.
How do I Qualify and What Kind of Account Is It?
In order to qualify for an HSA, you must have a “high deductible” health insurance plan. For 2015, this means you have to have a minimum annual deductible of $1,300 for self-only coverage, or $2,600 for family coverage (or approximately the cost of breathing the air in a hospital lobby). Your plan must also have a maximum annual out-of-pocket limit of $6,450 for self-only coverage or $12,900 for family coverage. If you meet these requirements, you are eligible to set up an HSA account for yourself.
An HSA account is kind of like having a checking account just for qualified medical expenses, but is shares characteristics with an IRA account. A lot of people think the accounts are married to the health insurance providers, but they are not. Lots of banks and investment companies offer them. The account is a custodial account held for your benefit, and you get to choose the company that is the custodian, and you can move the money from one custodian to another, just as you could move your IRA from Fidelity to Vanguard, for instance. You often get a checkbook and/or a debit card. The custodian follows certain rules laid out by the IRS, and reports to the IRS at the end of each year the total contributions to and distributions from your account. The custodian is not responsible, however, for verifying that your expenses are qualified medical expenses, as that responsibility falls to you.
If you have health insurance through an employer and the plan qualifies, often your employer and its health insurance representative are instrumental in getting this account established, and they will select an initial custodian. Many employers will even contribute a monthly amount to your HSA account since the high deductible aspect often saves the employer money on the premiums. But even if your employer does not set an HSA up, you can do it. And as long as your health insurance plan qualifies, you can contribute to it.
How Do I Put Money Into the HSA?
Anyone is actually allowed to contribute to your HSA account (if you should be so lucky!), but there is a total contribution limit of $3,350 per year for self-only plans, and $6,650 for family plans in 2015. And you get an above-the-line tax deduction for the amount put into the account each year. Unlike IRAs, there are not even any income phaseouts that would prevent you from getting the tax deduction if you are a high-income earner. If your employer does not contribute enough to max out the contribution limit, you can always write a check to the account for the difference. You even have until April 15 (18 this year) to make the contribution for the prior year (similar to an IRA). If you are over 55 years old (IRAs are 50), you can make an additional $1,000 contribution each year.
If you are enrolled in Medicare or are being claimed as a dependent on someone else’s return, you cannot contribute to an HSA. In years where you change from self-only coverage to family coverage, or if you get married, or go through a divorce, stop insurance, start insurance, etc. be aware that there are special rules and limitations on contributions during those years, and you could subject yourself to a penalty if handled incorrectly. If you find that you have overcontributed for any reason, you generally have until the extended due date of your tax returns to get the money out without penalty. You do have to take out any earnings it generated as well, and those would be taxable in the year you physically take the money out of the account.
Can I Transfer Money Into My HSA from an IRA?
If you are desperate to get some additional money into your HSA, you can make a once in a lifetime transfer from your Traditional or Roth IRA to the HSA via a trustee to trustee transfer. However, it is still limited to the annual contribution cap, and it would be reduced by any other contributions you made to the account during the year! So it has very limited usefulness. If you were going to do that, your first choice would almost inevitably be the traditional IRA since the Roth IRA is already a tax-free account.
What/Who Can I Spend the Money On?
All medical expenses that would normally qualify for a deduction on Schedule A, would be a qualified HSA distribution, except for insurance. Generally, you cannot pay your health, vision, dental premiums, etc. from your HSA. Exceptions to this which you could pay from your HSA include long-term care insurance for the HSA account holder (subject to normal limits on long-term care insurance deductions found in the Schedule A instructions), COBRA insurance premiums for you, your spouse, or your dependents, or health insurance paid while you, your spouse, or dependents are receiving federal or state unemployment compensation. Also, if you are 65 or older, you can pay your Medicare and other health insurance premiums (except supplemental Medicare policy premiums) from your HSA.
For the bulk of the qualified medical expenses, you can deduct them for yourself, your spouse, your dependents, or for someone you could have claimed as a dependent except that they were disqualified simply because they filed a joint return, had gross income over $4,000, or were married filing jointly and one of the spouses could have been claimed as a dependent. If you are divorced with children, you can also pay for your children’s medical expenses whether or not you are a custodial parent or claim a dependency exemption, as long as least one of you qualifies to claim the dependency exemption.
If you take money out of the account and do not use it for medical expenses, it will be taxable income, and you will hit a 20 percent tax penalty as well. When you reach age 65, however, you can take the money out and use it for any purpose with no penalty (as opposed to 59.5 for most IRA owners). So in a lot of ways, should you never use it for medical expenses, it acts like another IRA.
Also for people that become permanently disabled, they can escape the 20 percent penalty tax even if used for nonqualified expenses.
In two weeks we will conclude the discussion on HSA accounts and discuss topics such as whether or not you have to pay qualified medical expenses directly from your HSA, strategy for large bills that exceed your HSA balance, having separate accounts for spouses, what happens to the account when you pass away, pitfalls to avoid, and a discussion of the Form 8889 itself.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041.
Back to Basics Part XXXI – Form 8863 Education Credits
Filed under: Back to Basics, Education | Tags: 1098-T, American Opportunity Credit, dependent, education credits, fees, felony, Form 8863, Lifetime Learning Credit, Modified Adjusted Gross Income, Obama, refundable, student, tuition
Leave a comment Originally published in the Cedar Street Times
January 29, 2016
There are two main tax credits for qualified spending on degree seeking higher education: 1) the American Opportunity Credit (AOC), and 2) the Lifetime Learning Credit (LLC). The AOC is generally the more valuable of the two. It is a tax credit of up to $2,500 with $1,000 of that refundable to you even if you paid no tax and have no tax liability. You get 100 percent of the first $2,000 spent, and 25 percent of the next $2,000 spent. Whenever your hear “refundable credit,” think potential fraud. So it is not only an opportunity for college kids, but an opportunity for criminals to make up false returns and claim fake credits. Naturally increased scrutiny follows on behalf of the IRS. But I digress.
The AOC is available to you only during your first four years of college as defined by the educational institution – so a 5th or 6th year senior would still qualify, except that you are only allowed to take the credit for a total of four times no matter how long it takes you to get through school! With that in mind you may even choose to forgo claiming the credit in a particular year if for instance you were attending a community college and had less than the $4,000 of expenses to max out the credit, but knew you would be transferring to a more expensive school, and would still have the opportunity to claim the credit four times before graduating.
The AOC allows you to include tuition and required fees of the school, like athletic fees, and student activity fees (but not health fees or room and board) for the tax year at hand plus the first three months of the next year if paid in the current year, plus the cost of any books or school supplies whether or not bought from the school or any other seller. You have to be enrolled half time in at least one academic period such as a semester or quarter in the tax year, or during the first three months of the next year if the payment was made in the current year for the following year school.
If your modified adjusted gross income (for most people this is the same as their AGI) is between $160,000 and $180,000 for married filing jointly ($80,000 – $90,000 for other statuses), the credit phases out. If a parent is claiming you as a dependent, then you are not allowed to deduct it on your tax returns – only the parent would. Even if a third party paid the fees for a student’s benefit (such as a relative, or an institution), as long as the parent is still claiming the child as a dependent, then the parent is eligible to claim the credit as well. You would need a copy of the 1098-T to claim the credit (this is a new requirement signed into law by Obama in 2015 – all filers must have in their possession a 1098-T when filing their taxes to claim education credits). Another interesting tenant is that you cannot claim the credit if you have been convicted of a felony possession or distribution of a controlled substance.
The Lifetime Learning Credit (LLC) is a nonrefundable credit of 20 percent of the first $10,000 spent – capping out the credit at $2,000. The LLC is available to anyone in their life for an unlimited number of years for post secondary education – even if you just take one course at a time – so you don’t even have to be seeking a degree. You just can’t claim the LLC and AOC in the same year for the same person.
The LLC is eligible for the same expenses as the AOC, except that books and supplies that are not absolutely required to be bought from the school, do not count. The modified adjusted income phaseout is between $110,000 – $130,000 for married filing jointly and $55,000 – $65,000 for other statuses. Also, it is nice to know that you can still smoke crack and deal heroin and be eligible for the credit, as there are no denials of the credit for felony possession or distribution of controlled substances with the LLC!
The form used to claim the expenses, Form 8863 – Education Credits (American Opportunity and Lifetime Learning Credits), is a two page form. You start with the second page, which is basically a flow chart questionnaire determining what you are eligible for, and it also has you transfer some numbers to the first page. The AOC is handled in Part I of page one and the LLC is handled in part II of page one, and these walk you through the credit calculation and limitations.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041.
Back to Basics Part XXX – Form 8829 Expenses for Business Use of Your Home
Filed under: Back to Basics, Home Office | Tags: business use of home, depreciation, Form 8829, home daycare, home office, mortgage interest, Publication 587, real property taxes, Schedule C, simplified method, utilities
Leave a comment Originally published in the Cedar Street Times
December 25, 2015
Merry Christmas!
My vision of Santa’s workshop is that it is built into his home at the North Pole. Being that it is quite chilly there, why would you want to leave the warmth of one building to go to another? It is also highly unlikely that he would need a separate office “in-town” at the North Pole. Betting on the idea that it is built into his home, he would certainly seem eligible for a home office deduction.
Whether or not he would use the Form 8829 – Expenses for Business Use of Your Home would depend on his legal structure, however. Is he Santa Claus, sole proprietor? Is it Santa Claus, Inc. of which he is a greater than 2% shareholder employee? Or maybe it is Santa’s Workshop, LLC? If it is an LLC, it is possible it could be a Single Member LLC if the North Pole has community property laws. If that is the case, Santa and Mrs. Claus would be treated as one member and the entity disregarded for federal tax purposes. Well, I suppose that is for Santa and the IRS to worry about! Maybe we should focus on you instead…
If you use part of your home for business purposes, you may be able to claim a home office deduction using Form 8829 – Expenses for Business Use of Your Home. The space must be used exclusively and regularly for business purposes and it must be your principal business location – meaning that it must be the main place where managerial activities occur for your business, and you have no other space where substantial managerial activities occur.
You can claim this deduction as a sole proprietor, but also as an employee, if your employer expects you to maintain an office in your home and provides no other fixed location for you to work. It is best if this type of arrangement is spelled out in your employment agreement.
The Form 8829 is used specifically for sole proprietors filing a Schedule C. If you are an employee claiming a home office deduction, or a partner, or if you are filing in conjunction with a Schedule F for a farm, you must use the “Worksheet to Figure the Deduction for Business Use of Your Home” in Publication 587 to calculate the expenses instead. It essentially accomplishes the same purpose, except whereas the Form 8829 is filed with the returns, the worksheet is not.
The Form 8829 and the worksheet in Publication 587 focus on calculating a deduction based on actual expenses. There is a relatively new simplified method also. It allows you to deduct a flat $5 per square foot up to a maximum of $1,500 a year.
We will now spend some time focusing on the Form 8829 itself. If you would like to read a more in-depth analysis on the home office deduction discussed above, I wrote a three part series on this topic on July 26, August 9, and August 23 of 2013. You can find them on my website at:
https://blog.tlongcpa.com/2013/07/26/home-office-new-option-for-2013/
Part I of the Form 8829 determines the business percentage you will use to apply to the home office expenses you incur. You divide the business use square footage by the total square footage to determine the percentage that will be applied to the expenses.
Home daycare providers have special rules as they are allowed to use the space for both personal use and work use. They have an additional calculation in Part I where they divide the total hours for the year that the space was used for daycare services, by the total number of hours in the year. This percentage is then multiplied by the square footage percentage to finally arrive at the reduced percentage to apply to the expenses.
Part II of the Form 8829 is where you will list all your expenses of maintaining your home, such as property taxes, mortgage interest, insurance, utilities, repairs, etc. The direct column is for expenses that were 100 percent deductible and should not have the business use percentage applied. Perhaps you repainted your home office only. This would be an example of a direct expense. If you had painted the entire house, then you would list it under indirect expense. The business use percentage would then limit your deduction to the relative portion of the home used for business.
A home office deduction is generally not allowed to create a loss on your schedule C with the exception of the portion related to real property taxes and mortgage interest since they would have been deductible on Schedule A anyway. If the other operating expenses of your home office create a loss, that loss is suspended and carried over to future years. Part II has additional lines to handle any carried over losses from prior years as well. The amount of deduction from the bottom of Part II carries over to your Schedule C for deduction on that form.
Part III handles the depreciation expense on your home – basically its wear and tear over time. Depreciation is a use-it-or-lose-it concept, so you are better off taking it if eligible. Some tax preparers incorrectly advise people not to take depreciation expense on their home in order to avoid tax recapture problems when they sell. What they are failing to grasp is that recapture is based on depreciation that was “allowed or allowable.” So even if you do not take the depreciation expense when you were entitled to it, you have to treat it as if you did take it when you sell, and you would still be subject to any of the same recapture taxes. Part III is a feeder calculation back into the depreciation expense line in Part II.
Part IV is essentially the final summary of any carryovers available for the next year.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. Travis can be reached at 831-333-1041.
Back to Basics Part XXIX – Form 8822 Change of Address
Filed under: Back to Basics, General | Tags: Change of Address, Form 3533, Form 8822, FTB, IRS
Leave a comment Originally published in the Cedar Street Times
December 11, 2015
If you are like most people, whenever you change addresses you will almost certainly notify the United States Post Office so they can forward any mail that is still being delivered to the old address. Although you may have notified people and businesses prior to and just after your move, you will inevitably have those that are off your mental radar, and do not get notified.
Since people generally only file their taxes once a year, and it is sometimes an experience they want to forget (although never in my office, I am sure!), the IRS and any state taxing authorities often end up in the off-the-mental-radar list!
The fact that the USPS will forward your mail for up to a year after your move does assuage the need to update the taxing authorities since filing a new return with an updated address will also effect the same change. Plus it seems the IRS and FTB (here in California) have an uncanny ability to track you down anyway, if you owe them money!
All of this said, you may not want to risk your private tax information and Social Security number being delivered to the new people in your old house by mistake. Not to mention, you may have action items that require attention within 30 days of the letter date. Mail forwarding can sometimes take a good chunk of that time, or maybe it never makes it to you if accidentally delivered to the old address.
So what are your options? Well, you could call the taxing authorities, but be prepared to wait. These days I tell clients to find a time where they can put the phone on speaker, make some popcorn and watch a movie while they wait.
This is a sidebar discussion – but here is the reason for the long wait times…the IRS is considered a discretionary program in the US budget and it is funded by annual appropriations by Congress. The IRS budget has been cut by about $1.2 billion in total over the course of the past five years (approximately 10 percent) according to the GAO.
You may recall the IRS revealed in 2013 that its nonprofit audit department had been targeting certain political groups. Well, that did not help! This caused an uproar and Congress has been unwilling to increase the IRS budget. In fact it decreased it further since 2013. By examining the disproportionately large declines in taxpayer services according to statistics at the IRS, in relation to their ten percent budget cut, it is speculated that the IRS reaction to Congress has been to focus its internal funding cuts on taxpayer services (think phone support, etc.) in order to gain sympathy in the public eye for more funding. So taxpayers are caught in the middle of political chess.
Whenever I speak with the IRS representatives, I always try to be as courteous and supportive as possible while trying to get the information needed. Although you may be frustrated with such a long wait, it is not the fault of the representatives answering the phone, and they are probably feeling pressure and get tired of talking to upset people all day. Courtesy can go a long way sometimes.
Anyway, back to address changes – the easiest way is to mail a Form 8822 Change of Address to the IRS (FTB Form 3533 for California). The Form 8822 is a simple one-page form which you can download off the internet. You essentially list your name and Social Security number, your old address, and your new address. You sign and date it, and mail it in. California FTB Form 3533 is pretty much the same except they manage to stretch it into two pages in order to cover business entities as well.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.
Back to Basics Part XXVIII – Forms 8814 and 8615 – Reporting a Child’s Investment Income/Kiddie Tax
Filed under: Back to Basics, General | Tags: Form 8615, Form 8814, Kiddie Tax, Parents' Election to Report Child's Interest and Dividends, Tax for Certain Children Who Have Unearned Income, unearned income
Leave a comment Originally published in the Cedar Street Times
November 27, 2015
In order to prevent people in higher tax brackets than their children from shifting money into their children’s names in order to pay tax at a lower rate, “Kiddie Tax” rules were enacted. The government also allows you to simplify reporting in some cases where filing a separate return for children with a small amount of income is burdensome.
The quick summary is that if your child has less than $1,050 of unearned income (and assuming there is not enough earned income to trigger a filing requirement), there will be no tax paid on the unearned income, and nothing to file.
If there is over $1,050 and $2,100 of unearned income, the amount will be taxed at the child’s rate. In this case , the child can file his or her own tax return or the parent has the option of filing a Form 8814 – “Parent’s Election to Report Child’s Interest and Dividends” to avoid filing a separate return for the child, and just report the tax on the parents’ return.
If the child has over $2,100 of unearned income, the parent can still file either way, but the amount over $2,100 will be taxed at the parents’ rate. If the parents elect to file on their return using Form 8814, the calculation to tax at the parent’s rate for the income over $2,100 is included on that form. If a return is filed for the child, instead, then a Form 8615 – “Tax for Certain Children Who Have Unearned Income” will need to be filed with the child’s return to perform the additional tax calculations.
In order to qualify to File Form 8814, your dependent child would have to be under age 19 (or under age 24 if a full-time student during at least five months of the year) to qualify. A quirky rule to watch out for is if you have a child with a January 1 birthday. In this case, on December 31 of each year they are considered to be another year older. So if your child turned 18 on January 1, 2015, the child would be considered 19 at the end of the day on December 31 and thus not under age 19 for tax year 2015. (They are the only birthday that gets the short-end of the stick!)
Unearned income is defined as interest, tax-exempt interest, dividends, capital gains distributions from mutual funds, net capital gains from sales, rents, royalties, taxable Social Security or pension benefits, taxable scholarships, unemployment income, alimony, and the like. Note that capital gains distributions come from mutual funds, and they represent your share of the buying a selling inside the mutual fund which you have no control over. The short-term sales actually get reported as dividends, and the long-term sales get reported as capital gains distributions. Net capital gains would be the aggregate of your gains and losses from the direct sale of a particular stock or bond, or the mutual fund itself in your account.
As summarized earlier, if your child has over the $1,050 of unearned income, you may wish to simplify and not file a separate return for the child. The parents may elect to file (with the parents’ tax return) a Form 8814 – “Parents’ Election to Report Child’s Interest and Dividends” if the child’s only unearned income was from interest, dividends, and capital gains distributions (note that rents, scholarships, unemployment, etc. are not included) and his or her gross income is less than $10,500. Otherwise you have to file for the child. There are a few other requirements as well which you can read about in the instructions to the form. The first $1,050 will not be taxed, but the rate on the child’s income between $1,050 and $2,100 will be ten percent. The amount of tax is transferred from the bottom of the Form 8814 and added to the parent’s tax on Line 44 of Form 1040.
Keep in mind, that in some cases, you are better off still filing the child’s tax return even though you have the option to report it on your return, due to other tax incentives and credits the child may be eligible to receive.
If the child has over $2,100 of unearned income, the parents can still elect to file the child’s return with their return. If they decide to file a separate return for the child using Form 8615 – “Tax for Certain Children Who Have Unearned Income,” the form will take the parent’s taxable income and add to it the child’s taxable income. Using this combined amount the appropriate tax bracket is used to determine the additional tax related the child’s portion of the income. This amount is added to Form 1040 Line 44 of the child’s return as additional tax, and the Form 8615 is attached to the child’s tax return.
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.
Back to Basics Part XXVII – Schedule 8812 – Child Tax Credit
Filed under: Back to Basics | Tags: Additional Child Tax Credit, adoption, child tax credit, foster, income phase-out, Modified Adjusted Gross Income, Schedule 8812, Sesame Street, tax credits
Leave a comment Originally published in the Cedar Street Times
November 13, 2015
I believe the IRS was having an off-day when they created the “Schedule 8812 – Child Tax Credit.” First, why did they call it a “Schedule?” Anyone who grew up with Sesame Street during the past 40 years inevitably knew the song, “One of these things is not like the others…” and then you would have to pick out the one thing that was different on the TV screen. Okay, it’s time for you to play: Form 1045, Form 2106, Form 3903, Form 6251, Schedule 8812, Form 8829, Form 9465. Did you figure it out? In my tax software there are well over 100 four-digit forms to choose from, and I believe the 8812 is the only one called a “Schedule.” Schedules, on the other hand, all start with letters, such as Schedule A, Schedule B, Schedule C, etc.
The second reason I think the IRS was having an off-day, is that the name of the form – “Child Tax Credit,” is somewhat of a misnomer. There are two related, but distinct credits, the “Child Tax Credit,” and the “Additional Child Tax Credit.” For the vast majority of people the Child Tax Credit is determined on the Child Tax Credit worksheets in Publication 972. The Additional Child Tax Credit is the one generally figured on the double poorly named, “Schedule 8812 – Child Tax Credit.”
So what are these credits and how can you get them? The child tax credit is a nonrefundable tax credit up to $1,000 per child, and the Additional Child Tax Credit is a refundable tax credit that may be available if you qualified for the child tax credit but could not use some or any of the credit because you did not owe much or any tax. Whenever you hear of a refundable tax credit, think fraudulent returns – because lots of them are filed whenever scammers figure they can get something for nothing. Also remember, that tax credits are much more valuable than tax deductions. Credits are a dollar-for dollar reduction of tax, whereas deductions just reduce the income upon which the tax is calculated. So credits could be three to ten times more valuable than deductions depending on your tax bracket.
I know many of you are thinking, “What a deal! At an annual $1,000 a pop, where can I get more kids?” Well, you can certainly birth them, adopt them, or foster them (through a court or qualified agency). You could also get one or both of your parents to have another child and give it to you, or you could even have a step-parent give you his or her children to raise, or any of the decedents of these two categories. The reverse is also true…parents, you can sweet talk your kids into having their own children to give to you, or if you are already a grandparent, just keep the grandkids the next time they are dropped off and don’t give them back! There are so many wonderful options! Please make sure the children are under 17; make sure they are U.S. citizens, U.S. nationals or U.S. resident aliens; and make sure that you meet all the tests to claim them as dependents as well.
You also cannot make too much money in order to qualify for the credit. If you are Married Filing Joint you start to lose the $1,000 per child tax credit when your combined incomes hit $110,000. By $130,000 it has been ratably phased-out. If you are filing head of household, your phase-out range for the credit is $75,000 – $95,000 of modified adjusted gross income.
As mentioned earlier, if you qualify for the child tax credit, but you have more credit than tax owed to offset, you may be able to pick this difference up through the Additional Child Tax Credit and actually get a refund for money you never paid in to begin with. In order to qualify for the Additional Tax Credit you do need to work. The calculations are such that you need to have at least $3,000 of earned income (not investment or retirement income) to get anything. You need to have about $10,000 of earned income to max out the credit if you have one child, and approximately an additional $7,000 for each additional child in order to max out the $1,000 per child credit.
There are lots of nuances to these rules depending on your circumstances, but they are fairly well addressed in the worksheets and the instructions when you actually go to fill them out. Again, Publication 972 houses the Child Tax Credit worksheets (about 5-6 pages of worksheets) to see if you qualify for the Child Tax Credit. Then, if you cannot utilize all of the credit for which you qualify due to income tax liability limitations, then you go to Schedule 8812 Child Tax Credit to see if you can qualify for the refundable Additional Child Tax Credit.
The Schedule 8812 is only 1-1/2 pages long. Part I of the schedule is only used if your children do not have Social Security Numbers, and have ITINs instead. Part II is the section where most people will go to calculate the Additional Child Tax Credit. Part III is a special section for super humans that have three or more qualifying children.
In the meantime, I will be eagerly awaiting to see if a reader can enlighten me on some history that might explain the anomaly naming convention of Schedule 8812 – Child Tax Credit!
If you have questions about other schedules or forms in your tax returns, prior articles in our Back to Basics series on personal tax returns are republished on my website at www.tlongcpa.com/blog .
Travis H. Long, CPA, Inc. is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.
Travis H. Long, CPA, Inc. Blog 