$400K a year is the new 'rich'! - American Taxpayer Relief Act of 2012

$400K a year is the new 'rich'! - American Taxpayer Relief Act of 2012

ATRA 2012 permanently extends a number of tax provisions that had already expired at the end of 2011 and 2012, revises tax rates on ordinary and capital gain income, modifies the estate tax, and extends unemployment benefits, Medicare payments and farm subsidies. Some tax provisions, however, are extended only temporarily.

The following is a very brief summary of the tax provisions impacting individuals.

Individual Income Tax Rates
ATRA permanently retains the 10%, 15%, 25%, 28%, and 33% income tax brackets. The 35% tax bracket ends at $400,000 for single filers. Above this threshold, there's a new 39.6% tax bracket. Thresholds for the new 39.6% bracket for 2013 will be

MFJ or Surviving Spouse	$450,000
Head of Household	$425,000
Unmarried Individual	$400,000
Married Filing Separately	$225,000
Estate or Trust	$11,950

ATRA permanently retains the 0% and 15% tax rates on qualified dividends and long-term capital gains, and adds a new 20% tax rate that would apply to taxpayers who fall within the new 39.6% tax bracket. Which capital gains tax rate will apply depends on what tax bracket a person is in. The new capital gains tax rates for 2013 and future years will be

Tax Bracket	Capital Gains Rate
10% and 15%	-0-%
25%, 28%, 33% or 35%	15%
39.6%	20%
Net Investment income:  MfJ                > $250K Unmarried     > $200K MfS               > $125K Additional Medicare Tax Wages & S/E income: MfJ                > $250K Unmarried     > $200K MfS               > $125K (withheld by employer)	3.8%  Medicare surtax 0.9% Medicare surtax

Alternative Minimum Tax
ATRA provides the following AMT exemption amounts for 2013, and provides that these amounts will be indexed for inflation annually: 

MFJ or Surviving Spouse	$78,750
Head of Household	$50,600
Unmarried Individual	$50,600
Married Filing Separately	$39,375
Estate or Trust	$23,100

Estate Tax Rates
ATRA permanently extends the $5 million exclusion, indexed to inflation, and unified exemption amount with portability. The new top tax rate for estates is 40%.

Limitations on Deductions
Itemized deductions will be limited. The total amount of itemized deductions that are allowable as a deduction will be reduced by the lesser of 3% of the taxpayer's adjusted gross income (AGI) over the threshold amount or by 80% of otherwise allowable itemized deductions. The threshold amounts at which itemized deductions would start to be reduced are:

MFJ or Surviving Spouse	$300,000
Head of Household	$275,000
Unmarried Individual	$250,000
Married Filing Separately	$150,000

These threshold amounts would be indexed for inflation for years after 2013.

Similarly, personal exemptions will be limited. Taxpayers would see their total personal exemptions reduced by two percent for each $2,500 (or fraction thereof) by which adjusted gross income (AGI) exceeds the threshold. The threshold amounts at which personal exemptions would start to be reduced are the same as for itemized deductions, namely:

MFJ or Surviving Spouse	$300,000
Head of Household	$275,000
Unmarried Individual	$250,000
Married Filing Separately	$150,000

These threshold amounts would be indexed for inflation for years after 2013.

Other Individual Tax Deductions
• The student loan interest deduction is permanently extended. ATRA eliminates the rule that the deduction can be claimed only during the first 60 months of repayment.
• The classroom expenses deduction of up to $250 is temporarily extended through the end of 2013.
• Mortgage insurance premiums will continue to be deductible as part of the mortgage interest deduction through the end of 2013.
• The sales taxes deduction, in lieu of a deduction for state income taxes, is temporarily extended through the end of 2013.
• The charitable deduction for contributing real property for qualified conservation purposes is temporarily extended through the end of 2013.
• The above-the-line tuition and fees deduction is temporarily extended through the end of 2013.

Various Individual Tax Credits
• The child tax credit remains unchanged and is permanently extended. The maximum amount of the child tax credit is $1,000, and the credit is partially refundable. However, the provision the reduces the earnings threshold for the refundable portion of the child tax credit to $3,000 will expire at the end of 2017.
• The dependent care tax credit remains unchanged and is permanently extended. Daycare expenses up to $3,000 for one child and $6,000 for two or more children qualify for the tax credit, and these amounts are not indexed for inflation.
• The adoption credit is permanently extended. The credit is worth up to $10,000 (indexed for inflation).
• Permanently extended is the earned income tax credit for families with three or more dependents.
• The American opportunity tax credit is extended temporarily through the end of 2017.

Tax-Advantaged Savings Accounts
• ATRA permanently extends the $2,000 annual contribution limit to Coverdell Education Savings Accounts.
• The tax-free charitable distribution from IRAs of up to $100,000 per year is temporarily extended through the end of 2013. ATRA provides rules for handling IRA distributions made in December 2012 and January 2013 so as to enable IRA beneficiaries to make charitable distributions for the 2012 tax year.

Employee Benefits
• Employer provided educational assistance is permanently extended. Employers are permitted to reimburse employees for undergraduate and graduate level courses.
• Mass transit and parking benefits set at maximum of $240 per month, which is temporarily extended through the end of 2013. The amount set for tax-free reimbursement of mass transit and parking benefits is set at $240 per month for the year 2012, up from $230 a month in 2011.

Exclusions from Income
• National Health Service Corps Scholarship program and F. Edward Hebert Armed Forces Health Professions Scholarship and Financial Assistance Program are granted permanent tax-free status for recipients.
• Alaska Native Settlement Trusts are permitted to tax income to the Trust and not to the beneficiaries, a provision made permanent by ATRA.
• Federal tax refunds are now permanently disregarded in determining income and asset eligibility factors for federal assistance programs.
• The tax-free exclusion for cancellation of debt income relating to a principal residence is temporarily extended through the end of 2013.

This list of tax changes in the American Taxpayer Relief Act is not comprehensive. There are further provisions covering business deductions, business credits, and energy tax incentives.

Resources:
H.R. 8 on Thomas
H.R. 8 (pdf) from GPO
Fact Sheet from the White House
Statement by the President on the Tax Agreement
Joint Committee on Taxation: Estimated Revenue Effects (JCX-1-13)
Congressional Budget Office: Estimate of the Budgetary Effects of H.R. 8 (pdf)
C-SPAN: House Debate on Rule and General Debate on HR 8
Tax Policy Center: Congress Kicks the Fiscal Can off the Front Stoop
Tax Foundation: Modeling the Economic and Distributional Effects of the Senate Tax Bill
Dan Shaviro: The Fiscal Cliff Deal
Paul Caron: CBO on Fiscal Cliff Deal: $1 in Spending Cuts ($15 Billion) for Every $41 in Tax Increases ($620 Billion)
Ezra Klein: Everything You Need to Know about the Fiscal Cliff Deal
Journal of Accountancy: Congress Passes Fiscal Cliff Act

The Internal Revenue Service has updated various tax parameters for the year 2013 in IR-2013-4 and Revenue Procedure 2013-15.

Courtesy: William Perez, your Guide to Taxes

UGMA - Saving in a Child's Name

UGMA - Saving in a Child's Name
Should Savings be in the Child's Name or Not?

This is one of the most frequently asked, and one of the most frequently misunderstood questions in all of taxes. That's because it involves three separate decision-making areas: income tax decisions, estate tax decisions, and financial control choices.

First, let's review ways you can save on behalf of a minor.

There are three main ways: 

1) In a custodial account for the minor;
2) In a trust, or 
3) In your name. 

Each has its own advantages and disadvantages. However, they all share a common denominator which is the attempt to shift income and assets in a most favorable way for income tax and estate tax purposes. How old the child is, how much savings is at stake, how long the savings plan will be in effect, and how much you trust the minor when the age of majority is reached are critical factors in deciding how title should be set up.

Using a Custodial Account
In order to have the savings legally in a minor's name so you do not have any income tax consequences of your own, it can be done through the Uniform Gifts To Minors Act (UGMA), or the latest version, the Uniform Transfer To Minors Act (UTMA). Basically, these two methods involve gifting over money to the child, and appointing a custodian to manage the funds (the custodian can be any adult including yourself). These accounts are easy to set up with any bank, brokerage company, money manager, or the like. The child's social security number must be used since the money is legally the child's the minute it goes into the account, and taxable to the child.

There are a few differences between the UGMA and the UTMA that should be noted. A UGMA account automatically gives control of the funds to the child at the age of 18 while a UTMA account can delay this until age 21, or in some states even age 25. The UTMA has more savings options in that the custodian can buy real estate, and royalty producing investments to name a few.

However, not all states allow the newer UTMA's, although the trend is moving toward it. As of 1992, there were 27 states allowing this more liberal custodial account:
Alabama, Arkansas, Colorado, California, Florida, Hawaii, Illinois, Idaho, Iowa, Kentucky, Kansas, Louisiana, Massachusetts, Minnesota, Missouri, Montana, New Hampshire, Nevada, New Jersey, North Dakota, North Carolina, Oklahoma, Oregon, Rhode Island, South Dakota, West Virginia, and Wyoming.

ADVANTAGES OF USING A CUSTODIAL ACCOUNT
If donors appoint someone other than themselves as custodian, the funds may escape any of the donor's potential estate taxes and/or any lawsuits. The income generated by these savings is taxable in the minor's name, which can result in significant savings if the bracket for the donor is higher than the child's bracket. This is usually the case, except when the "Kiddie tax" kicks in at certain ages (we will discuss this shortly). Another positive is that it is very easy to set up, with no fees, no lawyers required. The yearly tax return required is a regular income tax return so tax filing can be quite simple and inexpensive.

DISADVANTAGES OF USING A CUSTODIAL ACCOUNT
One of the main complications from an income tax standpoint is the "Kiddie tax" problem. This was part of the 1986 TEFRA (Tax Reform Act). In effect, it said that the tax rate a child would pay on taxable "unearned income" from savings depended on two things: the age of the child, and the amount of the taxable income.  Under IRS rules, if the child is under age 18, and this taxable income is over $1,900 in round numbers, the child pays a tax at a rate the same as the parents' on all the income exceeding this $1,900 figure. 

Originally this rule applied to children under 14 years of age, and it became known as the "Kiddie tax". Congress moved the age limit up to 18 as of 2006, and beginning in 2008 it can apply to students until they reach age 24, making the term "Kiddie tax" something of a misnomer. In effect, the "Kiddie tax" law makes some custodial accounts much less attractive since there now exist situations where there is no longer any tax savings from parent to child above these levels compared to the old laws. It makes planning much more difficult as well because one must be able to project out the yearly taxable income and coordinate it with the child's age in order to maximize the tax savings.

The game plan now is to have $1,900 or less in unearned income until the child reaches 18 to minimize taxes, then do an about face – maximize the taxable income after that age (when the "Kiddie tax" rules no longer apply). As you can see, much more attention must be placed on the type of investments used, the projected yields, the child's age, and the tax bracket differentials between parents and child because of this set of tax laws.

Another disadvantage to custodial accounts is that the money is legally the child's from the time you gift it; when the child reaches the age of majority, the child can do whatever is wished with it – even buy a Harley Davidson – and there is nothing you can do legally to stop this. So you should have a good sense of trust in the child's future judgment when you set up a custodial account.

Trusts
There are several trusts you can set up, but the most common for this purpose would be the 2503(c) trust, nicknamed the "minors' trust." This is complicated to set up, and can be expensive, usually requiring a lawyer. The yearly tax return that must be filed (Form 1041) can be quite involved, and expensive to have prepared.

However, it may have certain advantages. First, the trustee can control the money much better–and longer if it is handled right. In effect, it can be structured so that the trust can continue long after the child reaches age 21, thus keeping control of the principal on behalf of the donor. Second, under the revised tax codes, the tax rates may be more predictable on the first $7,500 of taxable income from the trust regardless of the child's age–unlike a UGMA or UTMA account, so it is easier to plan the tax consequences and types of investments. Third, the money in the trust can be shielded from the donor's creditors in event of a lawsuit. Finally, it allows for more sophisticated estate tax planning avenues.

Your Own Name
Saving in your own name is a viable choice as well. Although the tax savings may be less if your tax bracket is higher than your child's, you retain full control of the funds. When the time comes to use the money for the child–usually for education–you can gift over the money in time payments. As long as you make sure the annual gift amount is $14,000 (adjusted annually for inflation) or less per person (a husband and wife can jointly give $28,000), you have no gift/estate taxes to worry about.  You can make direct payment to the educational facility (instead of giving it to the child) without any dollar amount restrictions for gift tax laws.

The disadvantages are twofold. First, the money is considered part of your estate, so at death, it may be subject to estate taxes. Second, since the probability is that your tax bracket is higher than your child's you may pay more taxes (especially after the child reaches age 14) with the same type of investments if they are in your name vs a trust or custodial account.

Of course, a way to get around the higher tax problem is to use investments that don't produce ordinary taxable income. Naturally, you should go over these possibilities with an investment or financial advisor. Some of these alternate investments are: growth-type investments that appreciate in value instead of paying interest or dividends (stocks, real estate, etc.); tax exempt bonds; tax deferred bonds like Series EE Savings Bonds; certain tax deferred annuities; and company sponsored pre-tax savings plans.

In effect, you can minimize–or optimize–your income tax bracket yet still retain control and ownership of the investments.

Bottom Line
Using a trust makes sense if the investment in question will be generating a relatively large enough amount of taxable income before the minor is age 14 to justify the extra costs of setting it up, and doing the yearly Fiduciary Income Tax Returns. The spread between the parents' tax bracket and the trust's must be sufficient enough to justify it as well. But if you are a typically average parent saving a typically average amount for your child, the probability is that this 2503(c) trust would not be the first choice from an income tax saving standpoint.

As you can see, each option carries with it strengths and weaknesses. However, the more you feel you can trust your children, the higher your tax bracket, and the better you can predict the taxable yields on the investments used, the more favorable a Custodial Account could be. But if you cannot adequately guarantee they will use the money for its intended purpose when they reach the age of majority, think twice about using a Custodial Account!

Reference: Practice Enhancers, Able & Co.

Marriage Tax Tips

Marriage Tax Tips
Some Financial Issues to Consider for Married Couples

Being married can be such a complicated situation! There are so many varied issues to consider and to adjust. In the case of tax and financial matters, there are four major areas to review to make sure they coordinate with your marital status. This is an overview of these areas with the purpose of making you think and react as soon as possible.

Remember: This will serve as a starting point for you. Reams of paper could be used on each area; all we are trying to do is to "kick start" the process for you. It is not meant to replace or substitute the various professional experts that may come into play. Rather, use it as a guidesheet to get the ball rolling.

Adjust Your W-4 Form for Withholding
Because of the progressive nature of our tax code, under old law, there was a "marriage tax penalty" in situations when both spouses work. Various temporary tax provisions enacted as part of EGTRRA2001 were made permanent by ATRA2012. One of these includes "Marriage penalty relief" [i.e. the 15% rate bracket was essentially doubled in size (IRC §1(f)(8)].  Therefore, marginal tax rates will not be higher on a joint basis than when you file as single taxpayers.  When combined incomes exceed certain levels, some itemized deductions and personal exemption write-offs may be lost due to "phaseouts" in the federal tax code.  A married couple should still review their income situation, and adjust their W-4 forms accordingly.

Remember, if you have recently married, that, for tax purposes, you are treated as being married for the entire year, even if you marry on the last day of the year. There is no pro-ration here - it’s all or none.

Legal Name Changes
This can be a concern, especially for new marrieds. Is one spouse planning to take the other’s name? If so, it is your immediate obligation to notify the proper authorities and financial institutions.

The Social Security Administration must be notified. This will serve as official notification for the IRS as well. If you fail to do this, it could result in the delay of the receipt of any potential refunds from a joint tax return. Your legal name must match your social security number. To do this, simply call your local office, or use the Social Security Administration free 1-800-772-1213 to have the forms sent to you to handle the name change.  You can use the automated telephone services to get recorded information and conduct some business 24 hours a day. Change a name on a Social Security card

Any financial accounts such as bank, brokerage, or credit union accounts need to be reviewed as to how title should be held. Insurance policies, pension plans and especially annuities, may need to be notified as well as to how beneficiaries should be designated.

Ownership & Estate Tax Issues
Should you put all your various savings, investments, and real estate holdings in joint names? It really depends on what goals you are trying to achieve. If you are trying to simplify and speed up the Probate process in event of the demise of one of the partners, putting everything into Joint tenancy with right of survivorship will do that. However, it may be a disadvantage from the standpoint of paying Estate or capital gains taxes down the road.

Under Joint tenancy with right of survivorship (JTWROS), it means the surviving spouse becomes sole owner of the asset upon death of the other; with some exceptions, it also means the right to transact business with this property is immediate without standard delays under normal Probate process. Additionally, this property under JTWROS supersedes any instructions under a Will. All these can be advantages. Or they can also be disadvantages depending on one’s overall financial net worth.

As an example, if the combined net worth of husband and wife exceeds $5,120,000 (indexed for inflation)  then the use of JTWROS may create federal estate tax disadvantages sometime down the road. Remember, although JTWROS can circumvent Probate, it cannot avoid Estate taxes. These are two separate issues. Under current federal law, no estate taxes are charged on taxable estates of less than $5,120,000 (indexed for inflation) for each person. Above that amount, estate taxes kick in, and they can be very high, up to 40% of the taxable estate. However, a "Marital deduction" provision exists which allows a spouse to leave to the qualified surviving spouse an unlimited amount without estate taxes (so here’s a good reason to get married).

But, when the surviving spouse dies, the estate tax calculations come into play. Without getting into tremendous detail, a way to cut down on some of these heavy estate taxes when your combined taxable net worth is over $5,120,000 involves having separate title and ownership to part of the assets, and using a bypass trust to lock in your individual $5,120,000 exclusion. The savings can be enormous!

Secondly, using JTWROS in which appreciated property (such as a house, or stocks) is involved can create heavy capital gains taxes if the surviving spouse sells this property after the death of the other spouse. That’s because the laws of JTWROS assume that each spouse owned 50% of the asset.

Now, normally when one inherits property from the deceased, it is inherited at what is called a "stepped up basis". That is, the fair market value at date of death becomes the new tax (cost) basis for the recipient. This is not normally the case under JTWROS. Only 50% of the property gets the stepped up basis. The other 50% keeps the original cost basis. Thus, using JTWROS title can create a larger capital gains tax under certain scenarios.

In summary, whether you should have your assets under joint ownership or not involves a number of complicated financial issues to consider, and it involves weighing the Probate process against the Estate tax process. This is especially critical when the total value of the assets exceed $5,120,000 and/or there are assets that have appreciated a great deal from the original cost.

Special Note if Both of You Owned Residences Prior to Marriage
Under current tax law, if you own a residence that appreciates over time, you can avoid paying capital gains tax on the first $250,000 of profits when you sell. For married couples, this increases to $500,000.

The moral of the story? When it comes to ownership issues involving a married couple, some detailed advice may be needed. While this may not be very romantic, it sure can be very profitable in the long run.

Wills, Beneficiaries, & the Like
Many people get married and completely forget that this legal process must be coordinated with their Will, and other Beneficiary related issues. This can prove to be disastrous if one of the spouses dies before making these changes.

For instance, if you get married, but forget to change the beneficiaries on a life insurance policy, or a pension, your surviving spouse may be out of luck. Even if you have a Will naming the surviving spouse as sole heir, it will not help. That’s because a designated beneficiary on a life insurance policy, a pension, IRA, Keogh, SEP, annuity, etc. usually has precedence over instructions in a Will. So it is imperative that you make these changes immediately after marriage. The same rules apply to accounts with joint ownership.

If you had a Will when you were single, obviously it must be changed after marriage. Do you want your spouse to be the executor now? How about the way the assets are to be passed on now that you’re married compared to being single? If you are planning to have children, or already have children, this Will planning becomes critical. Don’t assume that if you die without a proper Will your surviving spouse will have full authority and rights. It doesn’t work that way. The courts may have to step in and create enormous headaches for your surviving spouse and children.

Finally, you and your spouse should discuss having Living Wills to make clear how you want to be treated medically in the event life support systems are involved. How about burial instructions? Don’t leave these decisions to a surviving spouse if you have strong feelings about them. The time to handle these issues is immediately after marriage. It makes great conversation on your honeymoon, don’t you think?

Conclusion
Statistics show that these above-mentioned issues are frequently overlooked by married couples. But most of these overlooked areas can be handled quite easily and inexpensively. If done in time, it can make a huge difference in terms of taxes saved, and rights preserved for your surviving loved ones. Make this a priority in your marriage right now.

Reference: Practice Enhancers, Able & Co.

2013 Tax Rates and Brackets

Courtesy: 
Table: Tax Foundation

Table: 2013 Tax Rates and Brackets
Filing Status	Taxable Income	Rate
Single	$0 to $8,925:	10%
	$8,925 to $36,250:	15%
	$36,250 to $87,850:	25%
	$87,850 to $183,250:	28%
	$183,250 to $398,350:	33%
	$398,350 to $400,000:	35%
	$400,000+:	39.6%
Joint	$0 to $17,850:	10%
	$17,850 to $72,500:	15%
	$72,500 to $146,400:	25%
	$146,400 to $223,050:	28%
	$223,050 to $398,350:	33%
	$398,350 to $450,000:	35%
	$450,000+:	39.6%
Head of Household	$0 to $12,750:	10%
	$12,750 to $48,600:	15%
	$48,600 to $125,450:	25%
	$125,450 to $203,150:	28%
	$203,150 to $398,350:	33%
	$398,350 to $425,000:	35%
	$425,000+:	39.6%

AMT exemption levels
Congress set the 2012 AMT exemption level at $50,600 for single filers and $78,750 for joint filers and adjusts these amounts for inflation thereafter.  In 2013, inflation adjustments will result in an AMT exemption level of $51,900 for single filers and $80,800 for joint filers.

Clarifying the 2013 Capital Gains Rates

Clarifying the 2013 Capital Gains Rates
It has been universally reported that under the newly passed American Taxpayer Relief Act of 2012, net capital gain tax rates have risen to 20% for taxpayers with taxable income greater than $400,000 for single filers and $450,000 for joint filers. To clarify this broad statement, under IRC §102 of the new law, the higher capital gains rate applies only to the gain that, when added to other taxable income, exceeds the threshold amounts. Taxpayers below the 39.6% taxable income threshold before capital gains are taken into account will have their capital gains taxed at 15% up to the taxable income threshold and 20% on the excess. The following two examples illustrate how the net capital gain tax rate is calculated:

In Example 1, joint taxpayers earn $400,000 of ordinary income and another $200,000 in net capital gains. Under the new law, the first $50,000 of net capital gains is taxed at the lower rate, with the remaining $150,000 taxed at the higher rate. The effective rate of 18.75% reflects the blending of the 15% and 20% rates.

In Example 2, joint taxpayers now earn $200,000 of ordinary income and another $400,000 in net capital gains. Because a greater portion of the taxpayers’ taxable income has shifted from ordinary income to net capital gain, the effective net capital gain rate is lower than the previous example because a greater portion of the taxpayer’s below-the-threshold income is taxed at the 15% rate, leaving a smaller remainder subject to the 20% tax.

The above examples do not take into account the new 3.8 % medicare surtax on capital gains (and other net investment income) imposed by section 1411 of the Internal Revenue Code. Because the income threshold under that section is lower than the 39.6% tax rate threshold ($200,000 for single filers and $250,000 for joint filers), the surtax would apply to the entire net capital gain amounts in both examples, resulting in an effective rate of 22.55% and 20.68% respectively.

courtesy: Posted January 2, 2013 by Phil Karter, TaxBlawg.net

***

2013 Federal Capital Gain Tax Rates

Single Taxpayer Married Filing Jointly Capital Gain Tax Rate IRC §1411 Medicare Surtax Combined Tax Rate $0 - $36,250 $0 - $72,500 0% 0% 0% $36,250 - $200,000 $72,500 - $250,000 15% 0% 15% $200,000 - $400,000 $250,000 - $450,000 15% 3.8% 18.8% $400,001+ $450,001+ 20% 3.8% 23.8%

Starting in 2013, the tax rate on long-term capital gains will be 20% for filers making income over $400K(single)/$450K (MfJ). Starting in 2013, the distinction between ordinary and qualified dividends will disappear, and all dividends will be subject to the ordinary tax rates. 

• 20 PERCENT CAPITAL GAIN TAX IN 2013

The Tax Relief, Unemployment Insurance Reauthorization and Jobs Creation Act of 2010 extends the Bush-era tax cuts until the end of 2012.  Beginning January 1, 2013, the tax rate will revert from the current 15% rate back to the former 20% capital gain tax rate that was in effect prior to 2003.

Beginning in 2013, capital gain income will be subject to an additional 3.8% Medicare tax.  The net effect of both capital gain tax increases is a new 23.8 percent tax rate for higher earners—the highest rate for long-term capital gains since 1997. The Joint Committee on Taxation estimates the new Medicare tax on investments will cost taxpayers over $30 billion annually.

Higher-income taxpayers could see the capital gains tax go from the existing 15% to 23.8% in 2013.  Top investment earners next year could face a 43.4% tax on dividends: 39.6% maximum income tax rate plus the 3.8% health care surtax.

Reference: foxbusiness.com

IRS Audit - Will your Tax Return be Audited?

IRS Audit - Will your Tax Return be Audited?

Few things are more unnerving than having your tax return selected for an IRS audit. The IRS uses that "audit anxiety" to help keep taxpayers honest. Audit anxiety is an important part of our voluntary compliance system.

• TCMP Audit

What determines whose returns will be picked for audit?  A certain number of unlucky taxpayers will be picked simply to help the IRS gather statistics. The "TCMP" audit (Taxpayer Compliance Measurement Program) is probably the most exacting audit. These are sometimes referred to as the “audits from hell.” The taxpayer is required to substantiate every number on his or her tax return. The results from these audits are used by the IRS to compile statistical information that can be used for other audit purposes. These statistical audits have been suspended until further notice, but they could be reinstated at any time.

• DIF Scores Count

Apart from the TCMP program, your return will be evaluated based on your "DIF" score, a set of IRS formulas known as the "Discriminate Function System." About three-quarters of all returns audited are selected by the DIF computer, which compares deductions, credits, and exemptions with the norms (established in part by TCMP audits) for taxpayers in each income bracket.

While these formulas are kept very secret by the IRS, you can count on having a higher audit probability if you fall into certain categories or report certain things on your tax return.

• Smart Solution for Individual Taxpayers & Small Business Owners
The IRS has become embroiled in controversy in recent years.  As a result of this controversy, the IRS has modified their approach to auditing taxpayers.  Although there have been fewer audits overall, some taxpayers are still at higher risk than others.  Audits of not only self-employed taxpayers; but also, uncomplicated returns are occurring.  It was not too long ago that the 'Washington Reporter' advised "the Internal Revenue Service is no longer auditing tax returns, they are auditing taxpayers."  The IRS' new 2008 National Research Program (NRP), replaces the IRS' Taxpayer Compliance Measurement Program (TCMP), which used taxpayer DIF scores to evaluate potential upward adjustments.  NRP deals with IRS examiners having a wider variety of third party information at their disposal.  This information is then verified by examining the tax return.  This new kind of audit is referred to as an "Economic Reality Audit."  In short, is your lifestyle reflected in the income reported on your tax return?

• What interests the IRS?

Some higher risk areas are –

1. Tax shelters. Though most new tax shelter write-offs have been eliminated by tax reform, old shelter deductions will continue to interest the IRS. Returns with passive income and losses are certain to be scrutinized.

2. Tax protests. Both the IRS and tax courts are getting fed up with what they consider frivolous tax protests. If you file a return stating that you owe no tax because the dollar is worthless or make some other such protest, you'll probably be audited.

3. High income. Because auditing higher-income taxpayers is likely to produce more additional tax revenue than auditing lower-income taxpayers, this category is targeted by the IRS.

4. Certain occupations. Taxpayers whose occupations produce cash income, such as taxi drivers and waiters, run a higher risk of being audited. Self-employed individuals, particularly independent contractors, are IRS targets for the same reason; they are more likely to have unreported cash income.

5. No preparer or a problem preparer. If you have a complex return and prepared it yourself or if your return was prepared by someone on the IRS's problem preparer list, you are more likely to be audited.

6. Certain deductions. The IRS has found it profitable to audit returns that claim office-in-the-home deductions, travel and entertainment deductions, and certain other write-offs where they feel taxpayers stretch the truth.

7. Related party transactions. Taxpayers who involve family members in their financial operations are more likely to be scrutinized by the IRS. Paying wages to your children, lending money to relatives, splitting income among family members, or running a family business will make the IRS more interested in your returns.

What other information is collected but not used at this time?

1. Cash Transactions reports (Form 8300 filed with IRS) are posted to your personal tax record.  These are the reports of cash transactions of more than $10,000.

If your transaction is legal don't worry about this! It is a crime if you structure transactions to avoid the report. If you receive money from overseas, you must file a special report. This will be important to dual nationals or individuals who immigrated to the United States.

2. When a passport is issued, a note is made in your personal tax record.

• Your Best Audit Defense

Between one and two percent of all individual tax returns filed in any year will be selected for audit. Higher-income taxpayers and those in target categories face a slightly higher audit risk than lower-income taxpayers.

Absent fraud or substantial understatement of income, the IRS has three years from the due date of your return to initiate an audit. Typically, most returns are selected within two years of their filing date.

The best defense in an audit is a two-part strategy:

(1) Have supporting documentation for all deductions and credits, and

(2) See your accountant immediately upon notification that you're being audited.

A tax professional can put your mind at ease, find the information that the IRS wants more quickly than you can, and very likely will save you money in the long run by getting a faster and more favorable conclusion to the audit.

Reference: Practice Enhancers, Able & Co.

Steps When a Loved One Dies

Steps When a Loved One Dies

When a Loved One Passes Away

The experience of facing the loss of someone close is always sad, somewhat frightening, and quite confusing. For the person who must also deal with the financial and legal implications, it carries some heavy responsibilities as well. To assist in this area, here is an outline of what should be done from a tax and financial standpoint in order to settle the affairs of one who has passed away. While some of the issues are hard to face, it is for the good of all concerned to deal with them openly.

Overview of the Process

It's best to initially look at the whole picture. The first, and saddest decisions come early on at the hospital shortly after death. The attending doctor has the responsibility to sign the death certificate, and decide whether an autopsy is required. For most states, unless the death is due to violence, or suspicious, unexplained causes, no autopsy is performed. However, there may be instances where you would want an autopsy done in case the cause of death may relate to an hereditary issue. If so, your time to make this decision is limited. Similarly, if the deceased was an organ donor, time is of the essence.

Next, decisions must be made regarding funeral arrangements. It is important to find out if the deceased had any specific wishes in this regard, and to coordinate with family and friends. Following this, a number of financial and legal decisions will be required.

The estate of the deceased must be settled. That is, remaining net assets must be transferred to legal heirs.  This is called the probate process. In conjunction with this, various federal and state tax returns may be required to be filed on behalf of the deceased.

Succession ("Inheritance") Tax Returns may be required as well as a final Individual Income Tax Return.  If the deceased has an estate that is yielding income while it is still being probated, a Fiduciary Income Tax Return may also be required.

Lastly, a so-called Final Accounting is done at the end to verify with the legal authorities that all the net assets have been distributed properly after all allowable expenses have been paid.

Within some of these steps are important issues that should be discussed in detail. Since the courts hold the executor of the estate responsible for proper and timely filing of various documents, it is essential to have a good, working knowledge of these various aspects, and due dates involved. Included at the end of this text are several checklists that identify in detail what should be done, and what steps must be taken in sequential order for tax purposes.

Get Copies of Death Certificate

You will need to submit copies of death certificates to various places, so make sure you have a number of copies. These are provided at either the hospital, or, more commonly, by the funeral home. The cost for extra copies averages $2-8 dollars each. To claim insurance benefits, employer benefits, transfer of assets, etc., requires furnishing a copy of a death certificate.

Find the Will and Safe Deposit Box

Assuming you know that a Will was made out, it is important to find it as soon as you can since it may provide many important guidelines. It may contain burial and funeral instructions; it certainly identifies the person who will serve as the executor–the one who handles all the legal and financial matters after death. It also may list locations of other important papers such as life insurance policies, and safe deposit boxes. Conversely (and this is a mistake many people make) the Will may be inside the safe deposit box, so you will need legal authority to open the box. If you can't find the safe deposit box, you can do a local search of the banks with the help of a lawyer, and you can also contact the American Safe Depository Association in Indiana. They have lists for all participating banks.

What if you can't readily find the Will? Try asking friends or relatives if they knew which lawyer was used by the deceased. Also, look through address books, file cabinets, checkbooks, or storage facilities to search for clues.

How about someone who dies without a Will? This makes things more complicated. Unfortunately, approximately 60% of all Americans don't leave a Will, according to today's statistics. In effect, they die "Intestate." If this is the case, the courts will handle the matter based on the individual state law.  They will appoint an executor, and all net assets from the estate will be distributed according to state laws, not necessarily the way the deceased may have wished.

Contact Professional Advisors

Getting a lawyer to handle the probate and estate process is an early priority. Most people use the same lawyer who handled the setting up of the Will. But you are allowed to use any attorney with whom you feel comfortable.

You should also contact the professional who will handle the filing of the various tax returns. A mistake most people make is assuming the lawyer handles everything in the estate process. This is rare. While most lawyers will handle filing the Succession Tax Returns, they do not usually handle the Income Tax Returns, or the Fiduciary Tax Returns. These must be filed on a timely basis. So the tax accountant should be contacted early on in order that a coordinated effort can be made with the attorney.

Begin the Probate Process: Gathering Information

This is the complicated job of recording all assets and debts of the deceased, and all the pertinent financial records to comply with the Will, the tax laws, and the courts.

The first step is to locate all assets and debts. As we mentioned, sometimes the Will contains most of this information. But, even if it is listed, don't assume it is up to date. If the Will had been made out years ago, many changes may have occurred to increase or decrease the assets and debts of the deceased. You must make a reasonable effort to do a preliminary inventory of the estate within specified time periods in accordance with state laws. Finding this information can be tedious. The information you will need comes from many sources, including life insurance policies, bank accounts, brokerage accounts, safe deposit boxes, stock certificates, bonds, real estate contracts, vehicle registrations, and old tax returns, to name a few. You should also check to see if there were any ties to various fraternal, military, or social organizations.

This information is gathered, and a preliminary inventory is made which is used to begin preparing the Succession Tax Returns, and to account to the Probate court. The lawyer and/or tax accountant can assist in organizing these items.

The second step is to arrange for the payment of various benefits that may be available upon death of a person. Life insurance benefits, Veteran's benefits, Social Security, IRA's, Keogh's, SEP's, and other employee-related benefits are the main ones. Proper tax planning when it comes to the distribution of these funds (especially IRA's) can be critical to the recipients so definitely get tax advice here before you make the payments.

It's important to be thorough here because these benefits are not automatic; you must apply for them by providing proof of death, and proof of the beneficiaries.

Life insurance is usually the first to handle since the benefits can be distributed to the heirs within 10 days of notification. Life insurance proceeds do not have to go through probate (although they are subject to Estate taxes). Some tips here: Check with the employer of the deceased for any group life insurance.  More than half of all life insurance comes from group plans. Life insurance policies could be in the safe deposit box.  Coverage may also come from associations, fraternal organizations, Veterans Administration, credit card supplemental insurance (from death related to travel or accident), bank SBLI insurance, mortgage insurance, some medical insurance policies, credit unions, and others. If in doubt, go through the deceased's checkbook for checks written out to life insurance companies or groups. You can also check with the American Council of Life Insurance in Washington DC to see if any participating companies are listed on behalf of the deceased.

Employee benefits play an important role. Did the person have any pension, profit sharing, stock options, or death benefits payouts available? Does worker's compensation figure in if the person died from work-related injuries? If in doubt, ask for assistance. Most companies have a person or department that can help you in this area. Call them right away.

Military benefits may be available for deceased veterans. These benefits can be in the form of life insurance, burial insurance, pension benefits to survivors, reimbursement for medical bills, or a lump sum death benefit. Your local VA office can help, but you'll need to provide information on the service record. Look for discharge papers to get this information.

Social security benefits can be sizable if the deceased left a spouse with minor children. There is also a small death benefit for funeral expenses. You can get help here from the local Social Security Administration office. If the deceased had been receiving social security or pension checks up until death, keep in mind that any retirement checks of this nature that continue after death may have to be returned. The Social Security Administration especially does not immediately know about a person's death, so there can be a significant lag. It's a good idea to contact them immediately to avoid this hassle.

Probate and Inheritance Process

There are two related issues with which to deal. First, you must probate the estate. That is, implement the transfer of assets from the title of the deceased to the heirs. This involves a series of steps designed to finalize this transfer. The death must be stated in an "open forum" which customarily means it is listed in the local papers, and, in some cases, sent to individuals directly (usually potential heirs and beneficiaries).

All known debts are paid out of the estate, and various legal documents (including a final accounting) are recorded with the courts to allow the assets from the estate to pass on to the beneficiaries. This process can take as little as one month, or many years depending on the size of the estate, if it is being challenged, if the deceased died without a Will, and the backlog in the Probate Court calendar.

Inheritance taxes are a separate function. While they share a common denominator in that the value of the deceased's estate must be established in order to institute the process, the similarities end here. The Inheritance, or Succession Tax function is designed to establish how much tax, if any, is owed to the federal and state governments.

The largest portion of potential estate taxes usually goes to the federal government. In effect, it is a graduated rate tax that is due on the net value of the estate. Due to various federal credits, if the taxable estate is less than $5,000,000 (indexed for inflation), ($10 million for family estates) there probably will be no federal tax. Nor is there usually any tax if the entire estate is left to a surviving spouse who is a U.S. citizen. Beyond that, however, there is a federal marginal tax rate which can reach as high as 40% of the estate.  Normally, this tax is due within nine months from date of death.  There are certain exceptions to this deadline and exemption amount if the deceased had a business, or owned certain types of realty.  State inheritance taxes can vary widely from the federal laws. Your lawyer/accountant team is usually retained to handle these aspects for you.

Winding-Up the Process

Once the Inheritance taxes have been paid, and the probate process has been completed, the task is done.  As you can see, it can be quite complicated. The more organized the estate is before death, the easier–and less expensive–the process becomes. Moral of the story: Get your own affairs in order before you die to save your surviving family and friends untold amounts of wasted time and frustration.

Steps to Take for Tax Purposes 

1. Contact the lawyer, tax accountant, and other appropriate financial advisors you will be using to help with the estate.

2. Begin the inventory process of recording assets, their values at date of death, and any debts/liabilities the deceased had.

3. Apply for federal and state tax identification numbers for the estate, if needed.

4. Prepare federal and state Succession/Inheritance tax returns.

5. Handle accounting reports for Probate.

6. Prepare outstanding Individual income tax returns for deceased.

7. Prepare Fiduciary income tax returns for estate.

8. Do final accounting to close estate.

 Summary of General Steps to Take

• Make necessary hospital decisions shortly after death. Autopsy or not, picking up personal belongings, donating organs, and getting copies of death certificate.

• Locate Will and safe deposit box, contact attorney and other appropriate financial advisors.

• Arrange for Funeral/Memorial, notify friends and family.

• Contact decedent's employer for details on death benefits.

• Locate life insurance policies, apply for proceeds.

• Arrange for continuation of payment of decedent's bills.

• Notify Social Security, Veteran's Administration, and other associations for possible benefits.

• If required, notify Post Office for address change.

• Contact various financial organizations of deceased: banks, mortgage holders, retirement plans such as IRA's, Keogh's, brokers, mutual funds, people who owed money to the deceased, insurance companies holding auto, fire, medical insurance policies, DMV, credit card companies.

• Arrange for miscellaneous change and/or shut off of service agreements:

Utility companies, oil companies, newspaper and periodical subscriptions, clubs, cable TV.

• Follow up on various tax matters as previously listed.

• Dispose of decedent's assets, and belongings according to Will. If donating clothing, furniture, etc. to "goodwill type" organization, provide a detailed list and get a receipt for tax deduction purposes.

• Re-evaluate your own situation regarding your Will, and information available to survivors in event of your sudden demise. Make it easier for your survivors than it was for you.

Reference: Practice Enhancers, Able & Co.