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TAX PLANNING PART I – CINCINNATI ESTATE TAX EXEMPTION

Home Buyer Tax Credits

The National Association of Home Builders has set up a website to find answers to your questions about the $8,000 tax credit for first time home buyers and $6,500 tax credit for qualified repeat home buyers.

The “new” tax credit is available for qualified purchases with a binding sales contract in place on or before 4/30/2010 and closed by 6/30/2010.  For qualified military, Foreign Service or employees of the intelligence community, these dates are extended one year.

For sales occurring after November 6, 2009, the new law establishes higher income limits for the $8,000 tax credit of $125,000 for single taxpayers and $225,000 for married couples filing joint returns.

Dependency Exemption for Divorced or Separated Parents

If a taxpayer is a noncustodial parent and wants to claim a child as a dependent  then he or she must be sure to attach IRS Form 8332, Release/Revocation of Release of Claim to  Exemption for Child by Custodial Parent. This new rule is effective for  all divorce decrees entered into after July 2, 2008.  This new IRS regulation is first effective for 2009 tax returns and was not required in 2008 and prior years.  In 2008 and prior years non-custodial parents could attach relevant pages of the divorce decree to their tax return to claim a dependency exemption.

There is an exception to the new rule.  If the divorce decree was executed prior to July 2, 2008 and the decree constitutes a statement  substantially similar to Form 8832 under the requirements in effect at the time the decree was executed, then the non-custodial parent can attach relevant pages of the divorce decree to their tax return to qualify for the dependency exemption.

The IRS statute identifies three requirements to be met in order for the non-custodial parent to claim the dependency exemption.

The divorce decree must provide:

1. The exemption is available without regard to any conditions, such as payment of support.

2. The custodial parent will not claim the exemption and

3. The years in which the non-custodial parent can claim the deduction.

If the years are not identified in the decree, or if the decree requires the non custodial parent to pay child support to claim the exemption, then the exemption is not available to the non-custodial parent.

TAX PLANNING PART II

Higher Education Costs

The deduction for higher education costs expires at the end of 2009.  In addition the American Opportunity Credit replaces the Hope Credit with an increase in the maximum tax credit from $1,800 to $2,500 for 2009 and 2010.  Income phase-out levels are raised to $160,000 of adjusted gross income (AGI) for joint filers and $80,000 of AGI for single filers.  Also new is the change to make 40% of the tax credit refundable which should enable lower income taxpayers to get a tax refund for 2009 and 2010.

Depreciation Limits

Business owners need to review whether to accelerate into 2009 the purchase equipment that under Sec. 179 was planned to be purchased in 2010. The 50% bonus depreciation and higher limits under Sec. 179 to expense equipment purchased up to $250,000 will expire at the end of 2009.

Sales Tax Deduction for Purchased Vehicles

The deduction for sales tax paid on a new vehicle purchased (up to $49,500) will expire at the end of 2009. Taxpayers may elect to take the deduction as an addition to the standard deduction, as an additional itemized deduction along with the deduction for state and local taxes or as part of the deduction for state and local taxes.  The rules need to be reviewed carefully so that there is no double deduction and to determine whether the vehicle sales tax is deductible for Alternative Minimum Tax (AMT) purposes.  The deduction is phased out for taxpayers whose modified AGI is $135,000 or more for single filers and $260,000 or more for joint filers.

Making Work Pay Refundable Tax Credit

This provision provides a refundable tax credit of up to $400 for working individuals and up to $800 for married taxpayers filing joint returns in 2009 and 2010.  Through automated withholding changes that began this spring, most individuals with earned income that is subject to withholding received an increase in their paychecks.  Pensioners do not qualify for this credit unless they have earned income.  However, the new withholding tables apply to all taxpayers, including pensioners. Pensioners and other taxpayers (including those who have more than one job and whose earnings in those jobs are subject to withholding) need to determine if enough tax is being withheld.  If necessary, adjustments to withholding can be made by filing FORM W-4P, Withholding Certificate for Pension or Annuity Payments.  More information on this credit can be found in News Release 2009-13 and Publication 15-T.

Roth IRA  New Rules for 2010

The conversion of a traditional IRA to a Roth IRA, previously only available to those with modified adjusted gross income of less than $100,000, will be available in 2010.They are enabling anyone to make the rollover, and they’re allowing you to pay tax on the rollover in two installments. If you do the rollover in January 2010, you can pay the tax in 2012 and 2013 (on the 2011 and 2012 returns). The government determined that when you convert, it means they get more tax revenue.  Since most people don’t like to pay up front, the government gives a tax break to encourage taxpayers to do it.  The decision to do it or not will be a major question for CPAs to deal with this coming tax season.  Upper-income taxpayers should consider making nondeductible IRA contributions for 2009 up to April 15, 2010, and that way the client can convert the funds from a nondeductible traditional IRA to a Roth IRA. It’s a way to put them in line to take greater advantage of the Roth IRA.

Health Savings Accounts

The HSA is a tax-deductible savings account that may be funded by employees, employers or both.  It must be coupled with a Health Insurance Plan that requires the insured to first pay a deductible (the amount of money which the insured party must pay) before the insurance company’s coverage begins.  This is called a “High Deductible or Catastrophic” Health Plan.  The policy can be in the form of a HMO, PPO or indemnity plan, as long as it meets the HDHP requirements.  The deductible amount has a minimum and maximum which is determined by the Internal Revenue Service (IRS) each year. The 2009 amounts are $3,050 for single and $6,150 for family coverage. The beauty of the HSA is that unused funds may be rolled over year after year and employers may offer HSAs as an alternative to traditional health plans by paying into the accounts as well.  Everyone may participate in an HSA, including people who have no earned income.  There is no age limit for withdrawals from the account, as compared to the Traditional IRA which requires minimum distributions at age 70½.

The established HSA account can be funded as often as the holder desires, up to the maximum annual amount allowed by law.  It is most effective if the holder contributes a regular amount into the account and then uses it to pay for doctor visits, prescriptions and other medical care.  These accounts may have a nominal monthly cost and earn interest.  The preferred tax treatment of the HSA comes with some conditions.  There are forms to be filed with the tax returns and employers with plans will include information on the employee W-2s.  As long as the account is held and used for medical costs, it is not taxable to the account holder.  Use for nonmedical reasons prior to age 65 may be subject to penalties.  Taxpayers should retain all receipts as proof that spending is approved healthcare costs. Other restrictions may apply.

NOL – 5 Year Carry Back for Business – Extended 1 Year (2008 – 2009)

The new NOL carryback provision benefits businesses experiencing financial difficulty by expanding their ability to use net operating losses attributable to 2008 or 2009.  Taxpayers can elect to carry back a 2008 or 2009 NOL for three, four, or five years, instead of the normal two years.  The tax advantage of the extended carryback period is tempered by a limitation of the NOL amount that can offset income from the fifth tax year proceeding the loss year. Under the new law, the amount of any NOL that can be carried back to that fifth out year cannot exceed 50 percent of the taxpayer’s taxable income for such a fifth year. Taxpayers can make the election under the new law for only one year, either for 2008 NOLs or 2009 NOLs, but not for both.  Qualifying small businesses (those with $15 million or less in gross receipts) that  have elected the five-year carryback for 2008 NOLs under the 2009 Recovery Act, under which no 50 percent limitation is imposed for the fifth carryback year, are allowed to elect a five-year carryback of their 2009 NOLs under the new law as well.

Taxpayers that qualify for the extended carryback period for applicable NOLs must make an affirmative election to use the longer carryback period. An election to use a four or five-year carryback period for an applicable loss from operations must be made by the due date, including extensions, for filing the return for the taxpayer’s last tax year beginning in 2009. Once an election is made, it cannot be revoked.

Standard Mileage  Rates

2009                        2010

Business miles driven                                 55 cents                  50 cents

Medical or moving miles                            24 cents                  16.5 cents

Charitable miles                                          14 cents                  14 cents

Maximize Retirement Plan Contributions for 2009

Maximizing your retirement plan contribution is the easiest way to defer income. Maximum contribution for 2009 are $16,500 for 401(k), $11,500 for SIMPLE plan if you are under age 50 by December 31, 2009.  If your will be 50 years old by the end of 2009 tax minimum limits are increased by $2,500 for SIMPLE  and $5,500 for each of the §401(k), §403(b), and §457 government plan.  If you attain age 70½  in 2009, you are not required to take the minimum distribution by April 1, 2010 for IRAs or defined contribution plans §401(k), §403 (a) and (b) annuity plans, and §457(b) plan.  This will help keep your AGI low as your taxable income will not have to absorb a distribution from your retirement account.

No Repeal of Federal Estate Tax for 2010

Congress has extended the $3,500,000 lifetime exclusion for estate purposes for one year, through 12/31/2010.  The federal estate tax which had been scheduled to be  repealed effective 1/1/2010 has been reinstated for 2010 at the same rates and exemptions currently in place for 2009.

TAX RULES RELATING TO DEBT DISCHARGED IN CONNECTION WITH YOUR HOME – CINCINNATI ESTATE

Cincinnati Estate Tax Rules Relating to Debt Discharged in Connection With Your Personal Residence

The Mortgage Forgiveness Debt Relief Act of 2007 and subsequent amendments allow taxpayers to exclude up to $2 million of income from the discharge of indebtedness as a result of debt discharge on their principal residence. This applies to debt forgiven in calendar years 2007 through 2012. This applies to foreclosures as well as short sales, so it is not required that the taxpayers stay in the home until the foreclosure.

The amount of cancellation of debt income on recourse loans is the amount of debt immediately prior to the cancellation minus the fair market value of the property (there is never any cancellation of debt on non-recourse loans). The cancellation of debt income is excluded from gross income by filing Form 982 with the taxpayer’s tax return for the year of discharge.

If the taxpayers stay in the same principal residence as part of a loan modification, they must reduce their basis in the home (but not below zero) by the amount of cancellation of debt income excluded. If the taxpayers no longer own the residence there are no basis adjustments required.

There may also be a gain on the foreclosure. The gain is the excess of the fair market value of the residence over the taxpayer’s basis (purchase price plus cost of major improvements) in the residence. If the property was owned and used as a personal residence for any two of the last five years prior to the date of foreclosure the taxpayers may exclude up to $500,000 ($250,000 if filing separate)of the gain from income. Any loss on the foreclosure of a personal residence is not deducted.

In conclusion The Mortgage Forgiveness Debt Relief Act of 2007 provides that taxpayers will not have to include any cancellation of debt income unless the amount of debt forgiven is over $2 million.

TAX SAVINGS TIPS – CINCINNATI CAPITAL GAINS TAX

  • Pay itemized deductions before December 31, 2010 to save 2010 taxes:
    1. 2010 income taxes
    2. 2010 real estate taxes
    3. January, 2011 mortgage payment
    4. Charitable donations – donate appreciated stock to your charities and deduct the fair market value of the stock and no tax is due on the appreciation of the stock
  • If you are in the 10% or 15% tax brackets consider selling stocks with long term capital gain.  The gains are tax-free up to your 25% tax bracket.  The 25% tax bracket begins at $68,000 for married joint returns and $34,000 for single filers.
  • If you will owe Alternative Minimum Tax for 2010, then defer paying taxes owed at year end to 2011 as well as most miscellaneous deductions.

 

  • Business owners using the cash method of accounting for tax purposes can shift income and expenses between 2010 and 2011 by delaying or accelerating receipt of income or payment of expenses.

 

  • If a business owner needs to purchase a car or equipment within the next 6-12 months, then the purchase should be completed by December 31, 2010 to claim the IRS Section 179 expensing deduction and new asset purchases qualify for the special 50% bonus depreciation deduction.  Certain limitations apply.

TOP 10 MISTAKES THAT MAY DEVASTATE YOUR FAMILY

Top 10 mistakes that may devastate your family & their financial security when you become sick or die…

1. Failure to make sure you have enough life/disability insurance to provide for your family if you become sick or die.

2. Failure to execute a Health Care Power of Attorney, a Living Will, and a Financial Power of Attorney thereby resulting in your family needing to go through probate court to be appointed your guardian in order to avoid what Terri Schiavo had to do for 10 years—being kept alive on life support with a feeding tube.

3. Failure to use a trust in your estate plan to insure that your spouse and children do not recklessly deplete their inheritance and insure the assets pass to your heirs upon their deaths

4. Failure to designate a person who will raise your children if both parents die without a Last Will and Testament.

5. Failure to have a Last Will and Testament if you are a Kentucky resident will result in your spouse only receiving half of your property while your children receive the other half.

6. Failure to use a trust or transfer on death provisions for your assets resulting in your estate needing to go through probate.

7. Failure to designate beneficiaries of your IRAs, 401(k) and other retirement plans resulting in negative tax consequence to your heirs.

8. Failure to pre-plan your funeral causing stress on your family.

9. Failure to organize your records resulting in family members having a lot of stress trying to find all of your important papers.

10. Failure to plan your business successor to avoid resulting chaos and possibly causing your business to fail or be sold at a bargain price.

2012 EXPIRING INCENTIVES

2012 began with great uncertainty over federal tax policy and now, with the end of the year approaching, that uncertainty appears to be far from any long-term resolution. A host of reduced tax rates, credits, deductions, and other incentives (collectively called the “Bush-era” tax cuts) are scheduled to expire after December 31, 2012. To further complicate planning, over 50 tax extenders are up for renewal, either having expired at the end of 2011 or scheduled to expire after 2012. At the same time, the federal government will be under sequestration, which imposes across-the-board spending cuts after 2012. The combination of all these events has many referring to 2013 as “Taxmeggedon.”

EXPIRING TAX INCENTIVES

Effective January 1, 2013, the individual income tax rates, without further Congressional action, are scheduled to increase across-the-board, with the highest rate jumping from 35 percent to 39.6 percent. The current 10 percent rate will expire and marriage penalty relief will sunset. Additionally, the current tax-favorable capital gains and dividends tax rates (15 percent for taxpayers in the 25 percent bracket rate and above and zero percent for all other taxpayers) are scheduled to expire.

Higher income taxpayers will also be subject to revived limitations on itemized deductions and their personal exemptions. The child tax credit, one of the most popular incentives in the Tax Code, will be cut in half. Millions of taxpayers would be liable for the alternative minimum tax (AMT) because of expiration of the AMT “patch.” Countless other incentives for individuals would either disappear or be substantially reduced after 2012. While a divided Congress may indeed act to prevent some or all of these tax increases, a year-end planning strategy that protects against “worst-case” situations may be especially wise to consider this year.

WHY TRUSTS AREN’T JUST FOR THE RICH

TRUST FUND BABIES AREN’T JUST BORN TO MILLIONAIRES AND BILLIONAIRES. THEY’RE ALSO SONS AND DAUGHTER OF EVERYDAY PEOPLE WITH A SOLID FINANCIAL PLAN.

A trust enables ordinary people with ordinary money to be prudent with their property. People too often assume that their modest assets wouldn’t warrant the need for a trust. “But if you buy enough life insurance to provide for your spouse and kids, you’ve created an estate,” says Bill Hesch, CPA, Esq., “The trust would be used to hold the life insurance.”

DELAYING FUNDING OF PENSION CONTRIBUTIONS WILL SAVE TAXES

On January 1, 2011 nearly all of the Bush era tax cuts will expire. Thus taxes will automatically increase in 2011 without any action being required by congress. All of the marginal tax rates will be increased, with the highest income tax bracket going from being taxed at a marginal rate of 35% to a rate of 39.6%.

Knowing this, there are significant planning opportunities to save taxes by deferring certain deductions which could be taken in 2010 into 2011. One major deduction which can be shifted into future years is the deduction for pension contributions.

Deductions for contributions to qualified pension plans are generally allowed for the tax year in which the contributions are paid.  A special rule allows an employer to treat a contribution made on or before the due date of the employer’s tax return, including extensions as being made on the last day of the tax year for which the return is being filed. For example, an employer can extend his 2010 tax return and have until September 15, 2011 to fund the pension contribution and still be able to take the deduction on the 2010 tax return.

In the case of tax year 2010, the employer will save taxes by simply filing the return before the pension contribution is made. Thus, the employer can defer the deduction into year 2011 when tax rates will be higher and therefore the benefit of the deduction will be greater.

Assume that the employer is an S Corporation with one shareholder who is in the highest income tax bracket and that the employers required pension contribution for the tax year 2010 is $100,000. If the owner were to extend the corporation’s tax return and pay in the pension contribution on or before September 15, 2011 the contribution can be deducted on the corporations 2010 return and the sole shareholder would receive a tax benefit of $35,000 ($100,000 x 35% highest marginal tax rate for 2010). If on the other hand the corporation did not extend the tax return, the pension contribution would still be due by September 15, 2011. However the corporation would take the deduction on its 2011 tax return. The sole shareholder would receive a $43,400 tax benefit ($100,000 x 43.4% the total of the 39.6% highest marginal tax rate in 2011 plus the 3.8% Medicare tax on high income individuals).

Simply by filing the corporations tax return before paying in the pension contribution the shareholder has deferred the deduction into a year in which he will have a higher tax rate and received a 8.9% greater tax benefit. It should be noted that the 2010 pension contribution will be due no later than September 15, 2011 regardless of which year the deduction is taken and this strategy will not affect the amount of your required pension contribution for 2011 or later years.

Many employers fund their pension plan contributions currently by making monthly payments or a large contribution at year end. These employers need to stop making pension contributions until after the due date of the 2010 tax return. If the tax return is filed before the due date, the due date is not deemed to have been extended for purposes of defining when the pension contribution is made.

DELAYING FUNDING OF PENSION CONTRIBUTIONS WILL SAVE TAXES

On January 1, 2011 nearly all of the Bush era tax cuts will expire. Thus taxes will automatically increase in 2011 without any action being required by congress. All of the marginal tax rates will be increased, with the highest income tax bracket going from being taxed at a marginal rate of 35% to a rate of 39.6%.

Knowing this, there are significant planning opportunities to save taxes by deferring certain deductions which could be taken in 2010 into 2011. One major deduction which can be shifted into future years is the deduction for pension contributions.

Deductions for contributions to qualified pension plans are generally allowed for the tax year in which the contributions are paid.  A special rule allows an employer to treat a contribution made on or before the due date of the employer’s tax return, including extensions as being made on the last day of the tax year for which the return is being filed. For example, an employer can extend his 2010 tax return and have until September 15, 2011 to fund the pension contribution and still be able to take the deduction on the 2010 tax return.

In the case of tax year 2010, the employer will save taxes by simply filing the return before the pension contribution is made. Thus, the employer can defer the deduction into year 2011 when tax rates will be higher and therefore the benefit of the deduction will be greater.

Assume that the employer is an S Corporation with one shareholder who is in the highest income tax bracket and that the employers required pension contribution for the tax year 2010 is $100,000. If the owner were to extend the corporation’s tax return and pay in the pension contribution on or before September 15, 2011 the contribution can be deducted on the corporations 2010 return and the sole shareholder would receive a tax benefit of $35,000 ($100,000 x 35% highest marginal tax rate for 2010). If on the other hand the corporation did not extend the tax return, the pension contribution would still be due by September 15, 2011. However the corporation would take the deduction on its 2011 tax return. The sole shareholder would receive a $43,400 tax benefit ($100,000 x 43.4% the total of the 39.6% highest marginal tax rate in 2011 plus the 3.8% Medicare tax on high income individuals).

Simply by filing the corporations tax return before paying in the pension contribution the shareholder has deferred the deduction into a year in which he will have a higher tax rate and received a 8.9% greater tax benefit. It should be noted that the 2010 pension contribution will be due no later than September 15, 2011 regardless of which year the deduction is taken and this strategy will not affect the amount of your required pension contribution for 2011 or later years.

Many employers fund their pension plan contributions currently by making monthly payments or a large contribution at year end. These employers need to stop making pension contributions until after the due date of the 2010 tax return. If the tax return is filed before the due date, the due date is not deemed to have been extended for purposes of defining when the pension contribution is made.

PROPER PLANNING OF INVESTMENTS IN START-UP BUSINESSES MAY ELIMINATE TAX ON GAINS – CINCINNATI CAPITAL GAINS TAX

Proper Planning of Investments In Start-Up Businesses May Eliminate Tax on Gains.

Investors in new start-up businesses should consider the benefits of a provision in the Small Business Jobs act of 2010 which eliminates the tax on gains on the sale of Qualified Small Business (QSB) stock issued between September 27, 2010 and December 31, 2010 and held for more than 5 years.

The act modifies Section 1202, which is a tax provision intended to stimulate cash flow into new start-up companies by reducing the taxes on future gains. The provision was originally enacted in 1993 and excluded 50% of gains on Qualified Small business Stock. The exclusion was increased to 75% for stock acquired after February 17, 2009 and was increased to 100% for stock issued between September 27, 2010 and December 31, 2010.

Qualified Small Business Stock Defined

Qualified Small Business Stock is common or preferred stock which meets the following requirements:

  • Is stock in a domestic C corporation.
  • Is acquired by the investor at original issue. The original issuance requirement is designed to encourage inflows of new capital into businesses. The stock may be acquired through the exercise of an option, warrant, or conversion of convertible debt.
  • Is acquired in exchange for money, property (except stock) or services.
  • The corporation has aggregate gross assets of less than $50 million or less at all times prior to date of issue.
  • At least 80% of the value of the corporation’s assets is used in the active conduct of one or more qualified trades or businesses.

A Qualified Trade or Business means any business other than:

  • Any trade or business involving the performance of services in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of one or more employees.
  • Banking, insurance, financing, leasing, investing or similar business.
  • Any farming business (including raising or harvesting trees).
  • Any mining or mineral extraction business.
  • Any business of operating a hotel, motel, restaurant or similar business.

The amount of gain that can be excluded from gross income under Section 1202 for any particular corporation over a taxpayer’s lifetime is limited to the greater of $10,000,000 or 10 times the adjusted basis of the stock.

In order to take full advantage of this provision investors should acquire the shares in a QSB before December 31, 2010. On January 1, 2011the exclusion percentage goes down to 75%. Likewise holders of convertible debt or vested options in a QSB should consider exercising before year end.

In addition entrepreneurs seeking financing prior to January 1, 2011 should consider operating as a C corporation in order that investors may take advantage of this provision.