Thursday, March 31, 2016

Does it matter whether you receive an income-tax refund?


It’s that time of the year when a lot of people are sitting on pins and needles wondering if they’re going to owe money when they file their income tax returns. Others know they will receive a sizable refund because they receive one every year.
What’s the right way? Should you minimize your income tax withholding and estimated tax payments to the government and owe a bunch of money when you file your tax returns or is it better to do the opposite and end up with a large refund? Does it matter at all?
Are you a lender?
Do you consistently receive sizable refunds when you file your income tax returns? If so, you’re unofficially in the business of lending, with Uncle Sam as your borrower.
Unless you incur no tax liability and receive refundable tax credits, such as the earned-income tax credit, your refund represents a return of your loan to Uncle Sam — without interest. The term of your loan begins on the day that you start advancing funds to the government in the form of withholding and/or estimated tax payments. Your loan ends when you receive your refund.
It’s all about planning
Generally speaking, there should be no surprises when you file your tax returns, provided that you’ve done income-tax planning. Speaking from personal experience, there have been very few significant differences between actual and planned results in the 35 years that I’ve been preparing income-tax returns for clients. Differences, when they have occurred, have generally been attributable to either unknown or forgotten items when we did tax planning.
The first step in income-tax planning is preparation of an income-tax projection. I recommend preparing a mid-year projection followed by an update in November or December in most situations. For all projections, you need to gather as much information as possible about year-to-date and projected income and deductions. Prior-year income-tax returns are a helpful starting point.
Your projection should generally include two or more cases. The first one should be a base-facts calculation of your projected income-tax liability and balance due or refund assuming that no changes are made in your tax situation between the time that your projection is prepared and the end of the year. “What if” cases should also be prepared to determine potential strategies that can be implemented to reduce current, and possibly, future years’ income tax liability.
State tax balance due may be a good thing
For those of you who pay state income taxes and itemize your deductions, one strategy that should be included in a “what if” case is an analysis of the timing of state income-tax payments. Assuming that you itemize your deductions, state income, local, real-estate, and personal-property tax payments are generally deductible.
There’s an exception, however, if you’re subject to the alternative minimum tax, or AMT. When AMT comes into play, a portion, or potentially all, of otherwise deductible tax payments lose their deductibility. In this situation, it may make sense to defer the payment of additional state income taxes and real-estate taxes to the following year, especially if you aren’t projected to be subject to AMT next year.
Plan for refund or balance due
The timing of payment of state income taxes is just one example of a strategy that can be evaluated when preparing an income-tax projection. Others should be analyzed to determine how current and future years’ income tax liabilities can be minimized.
Once you have optimized your projected income-tax liability, you should adjust your income-tax withholding and/or estimated tax payment amounts for the remainder of the year to approximate your projected liability. That is, unless you’re projected to be in an AMT situation, then it may behoove you to defer payment of additional state income tax to the following year.
Whether you owe tax or are due a refund, there should be no surprises when you file your tax returns -- provided you’ve done your tax planning.

Wednesday, March 30, 2016

To Minimize Tax Exposure Focus on These 10 Key Areas

Although clients (and even some advisors) tend to think exclusively about taxes in the few months leading up to April 15, tax planning—and minimizing clients’ tax exposure—should be on your radar throughout the year. But what areas should you focus on as you look for ways to reduce your clients’ tax bill? Here are my top 10.
1) Net Investment Income Tax
The 3.8-percent net investment income tax is applied to the lesser of net investment income or the excess of modified adjusted gross income (MAGI) over the applicable threshold:
  • $200,000 for single filers
  • $250,000 for married taxpayers filing jointly
  • $125,000 for married taxpayers filing separately

Let’s look at an example to see how this tax works:  
Will and Jean earned $175,000 in wages and $100,000 in investment income. Their total wages and investment earnings (MAGI) equal $275,000. As the 3.8-percent net investment income tax is applied to the lesser of net investment income ($100,000) or the excess of MAGI over the applicable threshold ($275,000 – $250,000 = $25,000), only $25,000 of their income will be subject to this tax.
Tip: Be sure you know what actually is considered net investment income; taxable interest, capital gains, dividends, nonqualified annuity distributions, royalties, and rental income are all considered net investment income. It also includes business income if the taxpayer is a passive participant and rental income not earned by a real estate professional.
2) Medicare Contribution Tax
This tax increases the employee share of the Medicare tax by an additional 0.9 percent of covered wages in excess of $200,000 for single filers, $250,000 for married taxpayers filing jointly, and $125,000 for married taxpayers filing separately. It is also applied to self-employment income in excess of these same threshold amounts.
Tip: Consider the Medicare tax when reviewing your client's current withholdings orestimated payment amounts.
3) Alternative Minimum Tax (AMT)
Now "permanently" patched, the AMT can be a liability for many high-net-worth clients.
Tip: Determine if there's a benefit in shifting AMT-triggering items from an AMT year to a different year in which the client is not expected to be subject to AMT liability.
4) Pease Limitation Phaseout
The American Taxpayer Relief Act restored the Pease limitation phaseout for itemized deductions. The threshold amounts for adjusted gross income are $259,400 for single taxpayers and $311,300 for married taxpayers filing jointly. Your clients’ allowable itemized deductions can be reduced by 3 percent of the amount exceeding these thresholds, although this reduction will be capped at 80 percent.
Tip: When considering the Pease limitation phaseout as part of your clients’ tax planning strategies, keep in mind the most common federal itemized deductions:
  • Mortgage interest
  • State income tax and property tax
  • Charitable donations
  • Medical expenses (10-percent floor)
  • Miscellaneous itemized deductions (2-percent floor)
  • Unreimbursed business expenses
  • Home office deductions
  • Investment management fees

5) Individual Income and Capital Gain Tax Rates
Individual income tax rates are 10, 15, 25, 33, 35, and 39.6 percent, and the top rate for capital gains is 20 percent. But how can you look for ways to avoid spikes in income and determine the best method to spread the recognition of income over future years?
Tip: Help your clients with a marginal tax rate analysis. This involves understanding the difference between your client's marginal tax rate and his or her effective tax rate. That is, if you know the rate at which your client's next dollar of income will be taxed, you may be able to identify a strategy that will prevent him or her from being pushed into a higher tax bracket unnecessarily. If a higher tax bracket does seem likely, certain strategies, such as deferring income and accelerating deductions, may allow your client to lower his or her federal income tax burden.
6) Tax Loss Harvesting
This traditional tax planning strategy can be used to offset current gains or to accumulate losses to offset future gains (which may potentially be taxed at a higher rate). Here, evaluate whether the investment qualifies for long- or short-term capital gain, and be sure to offset short-term gains with short-term losses and long-term gains with long-term losses.
Tip: Keep the wash sale rule in mind, as this prohibits a tax-deductible loss on a security if your client repurchases the same or substantially identical assets within 30 days of the sale.
7) Estate and Gift Taxes
In 2016, individual taxpayers can give up to $14,000 ($28,000 per married couple) to any individual gift tax-free. For taxpayers making noncharitable gifts, there is no limit to the number of individuals who can benefit from a gift under this annual exclusion. In addition, the federal estate tax exemption has increased to $5,450,000 for 2016.
Tip: State gift and estate tax laws may vary from the federal provisions and are playing a more important role in gift and estate tax planning. Be sure you understand how the state provisions may affect your clients' planning—and consult with a qualified tax advisor for guidance.
8) Charitable Giving From IRAs
The Protecting Americans from Tax Hikes (PATH) Act of 2015 made permanent a taxpayer's ability to make qualified charitable distributions from IRAs. This means that clients age 70½ or older may make tax-free distributions directly from an IRA or Roth IRA to a qualified charity, up to a maximum of $100,000 per person.
Tip: Excluding the IRA distribution from income will lower AGI and can help high-income clients eliminate or minimize the 3.8-percent net investment income tax and the phaseout of itemized deductions.
9) Convert Traditional IRAs to Roth IRAs
Roth IRA balances are not subject to required minimum distributions while the original owner is alive.
Tip: Converting a traditional IRA to a Roth IRA makes sense in years where income may be lower and if your client anticipates a higher tax rate in later years.
10) Life Events
It’s important to keep aware of various events that affect not only your clients’ personal lives but also their tax returns. These may include:
  • Birth of a child
  • Change in marital or filing status
  • Change in dependent status
  • Support payments, such as alimony or child support
  • Employment changes
  • Retirement
  • Bankruptcy
  • Inheritances
  • Changes to medical expenses

Tip: Any changes in personal circumstances should be reviewed on an ongoing basis to determine the impact on your client's tax return.
Staying Focused Throughout the Year
To help your clients stay ahead of the game, encourage them to conduct an annual review of their personal and business taxes with you and their tax advisor. By using these tips to help minimize taxes early—and keeping abreast of the latest in tax reform—your clients will see benefits throughout the tax year and avoid unnecessary scrambling at year’s end.

Tuesday, March 29, 2016

Time to review age-old debate over tax refunds

As you are going through tax season, you've probably started on your taxes or maybe even received your refund by now. You may have even "mentally spent" your refund on a vacation or debt pay-down, or targeted it for savings and retirement. With options such as these, why do financial pundits recommend avoiding refunds?
The traditional money-pro thinking is that by getting a large refund, you are giving the Department of Treasury an interest-free loan all year long. And does the Internal Revenue Service allow interest-free loans the other way for those who owe large amounts? Of course not. Penalties for underpayment can be applied if you don't have enough withheld or paid in during the year.
The traditional line of thinking remains that it's better to have those dollars working for you throughout the year instead of for the government.
I used to support getting a refund since from a behavioral economics standpoint, having extra dollars withheld through payroll without being able to access them is a forced way of savings.
With a little bit of discipline during tax season, those dollars can be targeted toward worthwhile financial goals. The key point is to take a disciplined approach toward one's refund, as it can be tempting to spend the dollars frivolously. Combined with today's low interest rate environment, the trade-off seemed worthwhile.
My world view has recently changed on the subject, but it's not due to the same rationale that financial pundits hold. It's due to the ever-growing threat of identity theft as it relates to the tax filings. Many of the same people who get large refunds are reliant upon those checks as they serve as a form of forced savings. Then the unexpected happens: They file their taxes and find out their return is being rejected because a 1040 has already been filed in their name. Now, that rightfully owed refund check has been put on hold.
According to TIGTA, which is the agency that provides independent oversight of the Department of Treasury and the IRS, the average wait for tax account identity theft to resolve — and get taxpayers their refund — is 278 days, or more than nine months! In addition to not getting an anticipated refund, there's a mess to clean up, all while Congress continues to slash the budget of the IRS, making assistance more difficult to receive.
Most likely, one's personal information was stolen through a data breach, phishing attempt or other scam. Thieves use the personal information to file a fake tax return with made-up income numbers to generate a 1040 and claim a fraudulent refund. They may also try to claim someone else's children as dependents. According to the Federal Trade Commission, 32.8 percent of all identity theft complaints in 2014 pertained to taxes or wages, no small amount. In addition, there's a whole black market for Social Security numbers, making identity theft with tax returns an easy target.
Phone scams continue to be a threat to taxpayers as well. The thought of a call from someone pretending to be an IRS agent is a scary proposition. The scammers also take a hard-line stance by demanding immediate payments. Know that the IRS won't call demanding immediate payment without first having mailed a bill, and giving you the opportunity to question or contest the amount. One defense tactic is to ask for the caller's name and tell them you will call right back at 800-829-1040.
Of course, owing at the end of the year won't protect you from tax-related identity theft, but it does mean that you aren't put on hold to get your hard-earned money. Please don't interpret this as a reason to have a big balance due either. As I mentioned before, there are potential penalties for not paying enough in throughout the year. The general rule is that you have to pay 90 percent of the current year's taxes in or 100 percent of the prior year's tax liability in to avoid an underpayment penalty. It goes up to 110 percent of the prior year's liability for those who have an adjusted gross income of $150,000 or more.
As we work to get through the tax season, take a few minutes to analyze your current withholdings. If necessary, use this IRS calculator to make an informed decision about
A few minutes of tax planning now can help you avoid a headache in the future.

Monday, March 28, 2016

2 tax strategies to help you keep more of what you earn

We're less than a month away from Tax Day. For those who have filed, we say "Congratulations!" To those who still have tax work ahead, our thoughts are with you.
Whether you're still finishing your return or if you've already filed and want to learn how to lower next year's tax bill, consider implementing these two strategies as part of your tax planning.
Bunching Your Deductions
If you have a lot of personal deductions, you may routinely opt to itemize your deductions if your deductions exceed the standard deduction. Rather than simply itemizing every year, a better strategy may be to "bunch" your deductions. By bunching, we mean itemizing as many deductions as you can in one year, then taking the standard deduction the next year.
To illustrate how beneficial this strategy can be, consider a couple filing jointly that pays $6,500 in state income and property taxes and donates another $6,500 to charity every year. If they itemize over a two-year period, they'd take $26,000 in deductions.
Now, let's imagine that this couple, fresh from a meeting with their tax adviser, implements a bunching strategy. Let's say that rather than paying $6,500 in taxes and charitable contributions this year, our hypothetical couple prepays an additional $2,500 in taxes ($9,000 total) and an additional $5,500 in charitable donations ($12,000 total) for a grand total of $21,000 in deductions this year. Next year, the married couple would simply claim the standard deduction. For the sake of simplicity, we'll assume that the standard deduction will remain constant next year at $12,600.
By bunching, this couple was able to deduct $33,600 over this two-year period—over $7,000 more than if they had itemized both years without bunching their deductions.
Utilizing Roth Conversions during Years with Lower Income
This time of year, many people are working diligently alongside their accountants in order to lower their tax bill. So it may sound a bit strange to elect to increase your taxable income—and, consequently, increase your tax bill—in a given tax year, but the discomfort of a higher tax bill this year can offer you some significant long-term benefits down the road. If you expect to have a reduction in income this year, then you may want to consider converting some of your tax-deferred income into a tax-advantaged Roth IRA. And while it's too late to increase this year's tax bill with a Roth conversion, it's not too early to begin thinking about lowering next year's tax bill.
Making Roth conversions during lower income years offers two big advantages. The first is that your tax-deferred money carries a tax bill that you or your beneficiaries will have to realize at some point. By proactively converting that tax-deferred income to a Roth IRA, you're able to better ensure that the tax-deferred money is taxed at a lower rate than if distributions are taken at some point in the future when your income may be higher.
The second benefit is that money in a Roth IRA is exempt from required minimum distributions. The RMDs require you to take distributions on your tax-deferred money every year once you reach age 70 1/2. If you have a large amount of tax-deferred money, your taxable income may surge in your 70s, even if you don't need the money. By making Roth conversions now, you're the one in control when it comes to deciding when to withdraw that money from your savings.
Outside of contributing to a health savings account or a traditional IRA, there isn't much you can do to reduce your 2015 tax bill. However, if you engage in year-round tax planning, you can put yourself in a much better position to avoid overpaying on your taxes next year.
This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax adviser.
Traditional IRA account owners should consider the tax ramifications, age and income restrictions in regards to executing a conversion from a traditional IRA to a Roth IRA. The converted amount is generally subject to income taxation.

Saturday, March 26, 2016

Mandatory payouts from Retirement plans may trigger new taxes.


Many baby boomers began turning 70 this year. If you’re among them, there are critical decisions to make about your retirement accounts and finances in general.
Why is 70 the magic number? U.S. tax law stipulates that you must take your first required minimum distribution (RMD) from your individual retirement account and 401(k) accounts in the year you turn 70½ (or up to April 1 of the following year) and pay income taxes on it. Those who don’t comply face a 50 percent penalty on that amount. “This is a major shift if you’re a boomer,” says retirement adviser Ed Slott, founder of “All this time you’ve been taught to build, save, invest, sacrifice. Suddenly the government at age 70½ says, ‘Now we’re sick and tired of waiting for you to drop dead. We want our money back.’ ”
The scale of distributions for boomers, who were born between 1946 and 1964, will put financial advisers in uncharted territory. “This year is the largest population of first-timers taking their minimum distributions we’ve ever seen,” says Maura Cassidy, director for retirement products at Fidelity Investments. “That’s over 90,000 clients. Withdrawing is a new concept for these people, and we want to make sure they do it right, because of the 50 percent penalty.” She says the average IRA balance for its 70-year-old clients is about $200,000.
The IRS has a worksheet to help you determine how much to withdraw each year. The RMD in 2016 starts at 3.6 percent of the yearend balance on your tax-deferred retirement accounts and grows each year: By age 80 you’re taking out 5.3 percent, and by age 90, 7.9 percent. Although the 50 percent penalty on missed or undersize withdrawals is steep, tax filers can ask the IRS to waive it. “File Form 5329 with your tax return and say you missed it because you were confused or had poor financial advice,” Slott says.
Managing your RMDs isn’t the only financial challenge awaiting those who turn 70. That’s also the age when an individual can begin collecting the maximum benefit for Social Security. Those who opt to receive benefits at the earliest age of 62 receive about 25 percent less per month than a 66-year-old retiree and 43 percent less than a 70-year-old one. Boomers who have the financial wherewithal should definitely hold off until 70.
Still, delaying the payouts can raise thorny tax issues. “Once you hit 70½, you’re really out of the sweet spot of tax planning, because you’re forced to take distributions and Social Security,” says Bob Morrison, a financial planner at Downing Street Wealth Management near Denver. Receiving too much money at once can knock you into a higher income tax bracket or deprive you of deductions. “Once your income exceeds $250,000, the IRS phases out your personal exemptions—$4,000 per individual—and then at about $300,000 your itemized deductions start phasing out,” he says. Those could include deductions for medical expenses and mortgage payments.
For this reason, Morrison recommends that clients start converting a portion of their traditional IRAs into Roth IRAs before age 70. Roth IRAs not only offer tax-free withdrawals but also have no RMDs. The IRS even lets you add money to a Roth account as long as you’re still working past 70. Roth conversions are taxable events themselves, but one could convert just enough each year prior to reaching 70 to keep from being bumped into a higher bracket.
Even this strategy has wrinkles, depending on where you live and where you plan to retire. “If you live in New York City and have a high income, you’re probably paying very high state and local income taxes,” says Matthew Kenigsberg, vice president for financial solutions at Fidelity Strategic Advisers. “But Florida has no income tax. So if you’re planning to retire there, it would make sense to wait till you’re in Florida to convert to a Roth to avoid paying those local New York taxes on the conversion.” On the flip side, someone living in a no-income-tax state like New Hampshire who plans to retire in a high-tax one such as California should convert to a Roth early to avoid the future taxation.
Perhaps the biggest decision many boomers will face upon reaching 70 is whether to retire. Steven Podnos, a financial planner with Wealth Care in Cocoa Beach, Fla., often counsels clients to keep working at least part time for psychological reasons, “because they have some anxiety over living off a pool of money,” he says. “We see that a lot.”
For the most diligent savers the psychological trauma of spending down assets may be the greatest challenge. “They’ve worked so hard to build their portfolio, they’re hesitant to take anything from it,” says financial planner Bronwyn Shone of BlueSky Wealth Advisors in Pleasanton, Calif. “In one case, I had to give clients permission to buy tennis rackets and hiking boots. ‘Please go buy them,’ I said. ‘You can definitely afford it.’ ”

Friday, March 25, 2016

IRS exposes 10 biggest busts as ID theft surges

In 2015 alone, the IRS was able to convict 774 different identity thieves ... and let me tell you, some of them were doozies. That's why the IRS released its list of "Top 10 Identity Theft Prosecutions" for 2015.
It should come as no surprise that all but one on this list involve tax return schemes, but another thing they all have in common is that they got caught.
See how much restitution had to be paid (the total might shock you) and add up the jail time. All in all, the recovered amount by the IRS hovers around, just by this list's totals:
  • Around $18 million was ordered to be paid restitution;
  • 48 masterminds and co-conspirators are behind bars;
  • and the total prison time dished out is 2,600 months - that's around 50 years.
Here is the IRS' list of its "Top 10 Identity Theft Prosecutions"
1. James Lee Cobb III and wife, Eneshia Carlyle, busted in Tampa. The pair pleaded guilty to conspiracy to commit mail fraud, wire fraud and aggravated identity theft. The pair had more than 7,000 victims, whose personal information, such as names and Social Security numbers, were stolen from medical records and used to file $3 million in fake tax returns.
Cobb was sentenced to 324 months (that's more than 27 years!) in prison and ordered to forfeit $1,820,759 in restitution. Carlyle was sentenced to 138 months in prison and three years of supervised release.
2. Nine busted in tax fraud ring in Georgia. The group ran a tax return scheme from 2011 to 2013 in which more than 9,000 fake income tax returns were filed through a fake tax prep business, claiming more than $24 million in fraudulent claims. The IRS paid out close to $10 million out of the $24 million claimed.
The group's leader, Keisha Lanier, was sentenced to 180 months in prison, three years of supervised release and ordered to forfeit more than $5 million.
3. Group in Miami busted, one accomplice on the run. This group of four men used stolen information to file fraudulent tax returns and were only caught when police found one of the men removing a box with stolen personal identifying information from a storage unit.
The leader, Eddie Blanchard, was sentenced to 204 months in prison, three years of supervised release and ordered to pay $568,625. Two other men were convicted while the fourth member remains on the run.
4. A family affair. Julio C. Concepcion, with the help of his two sons and three others, were able to file fraudulent tax returns using stolen information. Concepcion will serve 84 months in prison with three years of supervised release, and will pay $5,643,695 in restitution.
5. More than 1,100 fraudulent tax returns filed by four Georgia residents. Patrice Taylor and her husband Antonio Taylor were able to file 1,084 fraudulent tax returns, including using the names and personal information stolen from the hospital where Patrice worked. The Taylors also used identities of more than 500 16-year-olds to file the fake tax returns. She was sentenced to 84 months while Antonio was sentenced to 147 months in prison, and both were ordered to pay $1,107,802 in restitution to the IRS. Two other accomplices were sentenced to 20 and 12 months, and ordered to pay $94,959 and $6,256 in restitution.
6. Another scheme in Georgia. A group of 15 was busted and sentenced to a range of 126 to 18 months, as well as five years of probation, for their part in a tax fraud ring. Restitution combined for the group hovers around $84,940.
7. Alabama women busted in tax refund fraud. Tamaica Hoskins was the ringleader in a major tax fraud ring, running a fake tax return service in which they used more than 1,000 stolen identities to file more than $4 million in false claims from September 2011 to June 2014. Hoskins was ordered to pay more than $1 million in restitution and will see 145 months in prison with three years of supervised release.
One of Hoskins' co-conspirators, Lashelia Alexander, worked for a Wal-Mart check cashing center and accepted more than $100,000 in kickbacks for cashing the fake checks and was sentenced to pay the money back, as well as serve six months in prison with five years of probation.
8. Tampa woman sentenced for stolen identity refund fraud. Tiffani Pye Williams, also in Tampa, used various aliases to transfer nearly 1,000 victims' personal information and file fraudulent federal income tax returns to the tune of $5.3 million in refunds. She received close to $1.5 million. She now faces 13 months in prison and ordered to pay the United States Treasury $1,533,283 in restitution to for theft of government property and aggravated identity theft.
9. Three busted in Houston. Jason Maclaskey, Omar Butt and Heather Dale stole names, debit card numbers, birthdays and Social Security numbers from 371 individuals to file fake tax returns in 2009. They were able to get away with $300,000 of the $1.4 million they falsely claimed. They now will serve 120, 40 and 24 months in prison, respectively.
10. Unemployment scheme in Florida. Densom Beaucejour and Winzord Beaucejour filed a fake unemployment insurance claim in the name of a police officer. When searched by police, agents found personal information of more than 1,000 people, and guns, cash, credit cards and 365 fake tax returns, totaling nearly $1 million in claims, were tied to their residence as well. Each will serve 70 months in prison, pay $553,204 in restitution and have three years of supervised release.

Thursday, March 24, 2016

Dealing with an inherited IRA requires careful planning

If you own a traditional or Roth IRA, it's very important to designate beneficiaries with the official form maintained by the account's trustee. It's also important to update that form as needed whenever there is a relevant life-changing event, such as a divorce or death. Your will's provisions will not override the beneficiary designation maintained by your IRA trustee.
The IRS differentiates between IRAs inherited by spouses and those inherited by other parties. Accordingly, whether you are planning your estate, or expect to be the beneficiary of an inherited IRA, it is important to understand the differences.
If you are the beneficiary of an IRA inherited from a deceased spouse, you have more options than other beneficiaries:
--You may simply change the name on the account to your own. This makes sense if you are satisfied with the investment performance of the IRA and do not intend to change trustees.
--You may establish the account in a new IRA with a different trustee. Ask the new trustee for the paperwork necessary to transfer the account.
--You may roll over the IRA into an account you already have. This makes sense if you want to manage the new IRA in the same manner you are now managing your existing IRAs. (If you are inheriting a Roth IRA, you should only roll it over into an existing Roth account.) Ask your trustee for the paperwork to transfer the funds.
--If you are younger than 59 1/2 and would like to withdraw some funds, establish an "inherited IRA." Your name would be listed as a beneficiary. The account would include the name of the original owner and the date the original account holder died. This allows you to make withdrawals prior to age 59 1/2 and not pay a 10 percent penalty to the IRS. After you reach 59 1/2, re-title the IRA in your name to give you and your beneficiaries more options.
If you are younger than 59 1/2 and inherit a Roth IRA, there is no need to establish an inherited IRA. Try to avoid making any withdrawals from Roth IRAs that have not been established for five years. Otherwise there will be a 10 percent penalty. There is no income tax due or penalty for Roth IRA withdrawals that have been in place for five years.
All withdrawals from traditional IRAs will be taxed at ordinary income tax rates. Accordingly, you should try to "stretch out" withdrawals as long as possible to benefit from the tax-deferred advantage.
If you inherit an IRA but are not the spouse of the decedent, you may not roll the funds into your own IRA. However, you have other options.
--Even if you are younger than 59 1/2, you can withdraw some or all of the IRA assets. You will not have to pay a 10 percent penalty, but all of your withdrawals will be subject to ordinary income taxes.
--You may establish the account as an inherited IRA in your name. This option allows you to maintain the tax-deferred advantage (tax-free if the account is a Roth IRA) for a long while. Based on your age, you will be required to withdraw a percentage of the value of the IRA each year. The minimum amount of the required withdrawal will be based on your life expectancy (tables provided by the IRS) and the year-end value of the IRA. This option is very attractive, and unless you have an immediate need for funds, you should withdraw only the minimum amount required by the IRS.
It is very easy to make mistakes. Work closely with your trustees and knowledgeable financial planners. An excellent source is "The Retirement Savings Time Bomb ... and How to Defuse It," by Ed Slott.

Wednesday, March 23, 2016

How to Report Non-Business Bad Debt on a Tax Return


Someone wise once said that you should never lend money to anyone if you expect to be paid back. The Internal Revenue Service (IRS) is sympathetic toward those who lend money — expecting repayment — but subsequently get burned. You can write off bad debts when this happens, even if you're not a business, but it's important to know the rules that apply.


The Debt must have been a bona fide loan— you gave the money with every expectation of being repaid. If you charged interest, and the borrower signed a promissory note, this provides a good indication that you expected to get your money back.
Otherwise, the IRS might consider the exchange to be a gift, particularly if the borrower is a friend or a family member. And gifts aren't tax deductible.

The debt must be worthless

The unpaid debt must be 100% worthless before you can deduct it. There must be no chance that the borrower can or will ever pay you back the amount of the loan. It is important to make a documented effort to collect your money with:
  • Letters
  • Invoices
  • Phone calls
If the borrower files for bankruptcy, this is clear evidence you can’t be repaid.

How to report the loss

The actual task of reporting a bad debt is relatively simple. The steps are:
  • Complete Form 8949 Sales and Other Dispositions of Capital Assets
  • Enter the amount of the debt on line 1 in part 1, and write the name of the debtor in column (a)
  • Enter your basis in column (e) – the amount of money you loaned
  • In column (d), write 0 – the amount the borrower did not repay
The IRS also requires that you attach a bad-debt statement to your tax return, explaining the details of the loan you made. You must deduct a bad debt in the year it becomes worthless. If you realize you could have reported and taken a deduction for an unpaid debt years ago but didn't, you generally have only three years to amend your return in order to claim it on your tax return.

How to deduct bad-debt loss

You can't take a deduction for a bad debt from your regular income, at least not right away. It's a short-term capital loss, so you must first deduct it from any short-term capital gains you have before deducting it from long-term capital gains.
Finally, you can deduct up to $3,000 of any remaining balance from other income. If a balance still remains, you can carry it over to subsequent years.
For example, if you lent someone $10,000 that will not be paid back, the deduction might work out something like this:
  • $10,000 original debt - $2,000 from short-term gains = $8,000
  • $8,000 balance - $2,000 from long-term gains = $6,000
  • $6,000 balance - $3,000 from other income = $3,000
  • $3,000 balance carried over to the next year = $10,000 deduction you can claim.
It may take a few years, but eventually you'll be able to claim the entire loss incurred on your tax returns.

Tuesday, March 22, 2016

Take advantage of legal investment methods to reduce taxes


From July 20 to August 24 last year the Dow Jones Industrial Average and the NASDAQ Composite Index dropped 12.5 percent and 18 percent, respectively.
That monthlong slide left many investors feeling like a deer caught in headlights. There weren't many escape routes, and most investors, being long-term oriented, elected to simply ride out the reversal. Besides, what else could you do? While I believe in the wisdom of looking beyond temporary setbacks, they sometimes present opportunity in an unlikely area: taxes.
Since the market pummeled most stocks, especially tech and oil-related companies, investors had the opportunity to take capital losses by selling off certain stocks and mutual funds in their taxable accounts, then moving that money to similar stocks or funds. Those who applied this strategy remained in the market for the long run, but created tax losses that reduce current and future taxable gains or lower ordinary income.
For instance, if you purchased Chevron in late April at $112, you had a 36 percent loss by late August, as it dropped to $71. At the same time, Exxon dropped 24 percent from $89 to $68. So, an investor could have sold Chevron, claimed the loss, and bought Exxon at the same time. Thus, the investor remained in the market but reduced his current and, possibly, future taxable gains. After waiting 31 days to avoid a wash sale, the investor can buy Chevron back.
This technique is known as a “tax swap.” It can be as helpful now as it was 17 years ago, when I first introduced it as one of my “10 Do's and Don'ts of Investing:”
“Do take advantage of legal methods to reduce taxes.”
Let's test this sixth rule as we have already tested my first five to see how practice has met theory since 1999. This is what we have so far:
• Do diversify
• Don't procrastinate
• Don't try to time the market
• Don't chase past winners
• Do have an investment plan
 You need to consult with your accountant regarding any specific tax issues.
Incidentally, many people wait until the end of the year to do tax planning when they should think about it all year long. Keeping more of your hard-earned money in your account and away from the government will boost your overall rate of return. It's perfectly reasonable to use tax considerations as part of your approach to investing. To paraphrase one of the most respected federal judges of the last century, Judge Learned Hand, there is no obligation for a U.S. citizen to pay more in taxes than legally required.
So what are some of the more common ways to avoid or defer taxes? First, max out your contributions to your retirement plan if you can, because it reduces your annual taxable income. This is especially true with 401(k) plans that have an employer matching contributions. That's like free money! Consider contributions to your retirement as one of your most important monthly bills.
Second, consider tax-advantaged accounts like tax-sheltered annuities and variable life insurance policies. These offer market exposure without the headache of taxable gains or losses each year, as the funds are not subject to tax until withdrawn.
Similarly, although you forego the tax deduction today, contributing to a Roth IRA, if you are able, can savor years of growth without a tax burden. In addition, Roth IRA earnings can be withdrawn tax free after age 59½. That's right. You can, potentially, have investment earnings tax free.
Third, don't forget about tried and true tax-free municipal bonds. This is one area that has changed over the last 17 years. Back in 1999, I said “rates are now higher than they have been in several years.” Obviously this is no longer true. So be careful. With interest rates so low, any increase in rates could drop the value of your bond. Your risk is reduced if you plan to hold them to maturity.
Here's the take away: Be knowledgeable and open-minded about tax strategies the next time the market gets beaten up. Then, keep your wits about you and look for a chance to make lemonade out of lemons.

Monday, March 21, 2016

Business taxes filed, it's time for 2016's business taxes


Your business taxes are filed - -- the deadline was last week -- - and you and your preparer can get on with completing your household tax information. Or, if you're a tax DIYer, you can finish up your personal forms.

Of course, the need to manage and to the extent possible control your business' taxes never ends -- which is why I asked Greg Galla to offer some insights that could make the 2016 tax process easier. Galla is a CPA at GLM Inc., a Schaumburg accounting firm that focuses on small and medium-sized businesses, generally those with sales up to $10 million.

Among his observations:
• We're generally not so good at separating business and personal expenses. Perhaps surprisingly, Galla says "That's the biggest problem we see in small business tax materials. There's a lot of cocktail conversation, or chats with a neighbor, about 'Yeah, that's expensable.'
"But it's not."

• We know how to run our businesses, Galla says, but we don't know what we don't know about accounting and taxes. That creates preparation issues, especially "When it's February and (business owners) say 'Here's my stuff.' We often don't have time to fix a tax problem that was created in June."
Better, Galla says, is to make a phone call when issues that could impact taxes arise during the year.

• Better still, Galla says, is a series of regular reviews with your tax adviser during the year. Monthly, quarterly or semiannual conversations are better than what most of us do about in-year tax planning, which is nothing.
Most CPAs prefer monthly meetings, but many business owners don't want to spend the dollars. Yet tax issues not caught earlier cost time and money during preparation "when we have to spend time, and overtime, cleaning them up when preparation begins," Galla says.

It's true that most of us don't want to spend the time, and especially money, meeting with our accounting people during the year, even though such meetings can keep minor issues from becoming major headaches. It's also true that many accounting firms don't push the issue.
There's plenty of topics to discuss.

A article titled "A Dozen Deductions for Your Small Business" covers such possibilities as a home office, deductions for which can be dicey; furniture and other equipment; mileage, including a bit of a break if you have a home-based business; and what the article refers to as child labor. If your business structure qualifies, there are some nice breaks for hiring your kids. (, click deductions and go to the article.)

Articles aside, GLM's Tom Gosche, a business strategist with business development responsibilities, is an advocate of regular advisor-client meetings.

"One-on-one," Gosche says. "We can look together at where you're spending money -- and why. We'll look at revenues. Are they different from last year at the same time? Better or worse? Why?"