Tax Audit Red Flags
April 1, 2013
by Michael W. Blitstein, CPA
The IRS audits only slightly more than 1% of all individual tax returns annually. So why do they pick some returns to investigate and ignore others? Although there’s no sure way to avoid an IRS audit, you should be aware of the following red flags that could increase your chances of drawing unwanted attention from the IRS.
You Have Foreign Assets…
Stashing money overseas? Then you’re probably well aware that the IRS has been ramping up its efforts to rein in offshore accounts. Launched in 2009, the agency’s voluntary disclosure program has already raked in more than $5 billion in back taxes, interest and penalties for illegally hiding assets in offshore accounts.
Taxpayers are asked to check a box on Schedule B if they have an ownership interest in foreign accounts. If they then fail to provide information about those assets, it will undoubtedly trigger an audit.
Indicating on your return that you do business in foreign countries or take many trips abroad for work could also raise eyebrows if no foreign assets are reported.
Your Return Has Too Many Zeroes…
While rounding numbers on your tax return to the nearest dollar is okay, rounding to the nearest thousand is not – especially when itemizing deductions like business expenses, unreimbursed employee expenses and job hunting costs. If you submit figures like $5,000 in auto costs, $2,000 in gas mileage and $4,000 in lodging, it may look like you pulled those numbers out of thin air or inflated them by rounding – since it’s unlikely that every single expense was a perfect multiple of $1,000.
You Have a Home Office…
Just because you do some work on your couch while watching TV doesn’t mean it counts as a home office.
After years of watching people abuse the home office deduction, the IRS is on the look out. In order to avoid being scrutinized, make sure you only claim reasonable expenses – and only those that directly apply to the part of the home used as an office. Remember, the credit can only be claimed if the home office is your primary place of business and is used exclusively for work. People get into trouble when the IRS suspects they are mixing personal costs with their business costs.
You Forgot Some Income…
For people who earn money from various places, remembering to report every single cent can be difficult. But ‘I forgot’ isn’t a good enough excuse for the IRS. For any miscellaneous income over $600 you received throughout the year, the company you worked for should send you a Form 1099. If you don’t receive it for some reason – it was mistakenly sent to a previous address, for instance – you can be sure that the IRS will still get it. You can either request the missing form from the employer or simply report the income without the form. This is why it helps to track your income throughout the year.
Of course, some people earn money that may not get reported on. Even if the IRS doesn’t know about it, you must report this income as well or you risk the agency finding out.
You Exaggerate Donations…
Even good deeds can spark suspicion at the IRS. If you report extremely high charitable contributions – especially relative to your income – make sure you have the proof to back it up. Receipts for cash donations of more than $250 are required in the event the IRS comes knocking. Donating items gets a little trickier, because it’s common for people to think the items are worth a lot more than someone will actually pay for them. So it’s important to be reasonable with your valuations.
You Own a Money Losing Business…
If you own a business that is reporting losses year after year, the IRS may grow suspicious that it’s actually a hobby. There’s a rule-of-thumb saying you must have a profit in two [out] of five years – if you don’t have a profit they’re going to look at it as a hobby. To fend off the IRS, make sure to keep diligent financial records and do little things like have business cards and company letterhead.
You Have a Shady Tax Preparer...
If your tax preparer tries to convince you to claim deductions that sound too good to be true or to report income that doesn’t line up with what you would have reported, watch out. You want a preparer that will get you the best refund possible – but not if it means breaking the law.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
IRS Increases Standard Mileage Rate for 2013
January 7, 2013
by Michael W. Blitstein, CPA
Optional standard mileage rates for use of a vehicle will go up by 1 cent per mile for 2013. Taxpayers can use the optional standard mileage rates to calculate the deductible costs of operating an automobile.
For business use of a car, van, pickup truck, or panel truck, the 2013 rate will be 56.5 cents per mile. Driving for medical or moving purposes may be deducted at 24 cents per mile. Both rates are 1 cent higher than for 2012.
The rate for service to a charitable organization is unchanged, set by statute at 14 cents a mile.
The portion of the business standard mileage rate that is treated as depreciation will be 23 cents per mile for 2013, unchanged from 2012.
For purposes of computing the allowance under a fixed and variable rate (FAVR) plan, the maximum standard automobile cost for 2013 is $28,100 for automobiles or $29,900 for trucks and vans, increases of $100 and $600, respectively, from 2012. Under an FAVR plan, a standard amount is deemed substantiated for an employer’s reimbursement to employees for expenses they incur in driving their vehicle in performing services as an employee for the employer.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
2013 Business Standard Mileage Rate Increases
November 30, 2012
by Michael W. Blitstein, CPA
The IRS has announced increases in both the optional business standard mileage reimbursement rate and the standard mileage rate for medical and moving expenses for 2013. All increased by one cent, to 56.5 cents and 24 cents per mile, respectively. Also showing a slight increase in 2013 is the maximum standard automobile cost that may be used in computing the allowance under a fixed and variable rate (FAVR) plan. The depreciation component of the business standard mileage rate, however, remains as it has been in 2012.
The standard mileage rate adjustment for 2013 reflects increases in maintenance and fuel costs. In recent years, the IRS made mid-year adjustments in the business and medical/moving standard mileage rates (except for the charitable rate which is set by statute) because of spikes in fuel costs. There was no mid-year adjustment in 2012.
The IRS works with an independent contractor to establish the business, medical and moving expense standard rates. The IRS and the independent contractor take into account the fixed and variable costs of operating an automobile, such as fuel costs and maintenance expenses.
The charitable mileage rate, in contrast, is set by statute at a flat 14 cents per mile without inflation adjustment each year. Congress could increase the charitable mileage rate in year-end legislation but that prospect does not seem likely at this time.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
Tax Policies of the Major Presidential Candidates
October 30, 2012
by Michael W. Blitstein, CPA
On November 6, 2012, Americans will elect the occupant of the White House for the next four years. As President of the United States, the winner will play a major role shaping tax policy and possibly reforming the entire Tax Code. This briefing describes the tax policies of President Obama and former Governor Mitt Romney, with analysis of the potential impact of their tax positions both for the immediate future and for 2014 and beyond.
Impact
Under current law, the Bush-era tax cuts (reduced income tax rates, reduced capital gains/dividends tax rates, and much more) are scheduled to expire after December 31, 2012. Effective January 1, 2013, sequestration under the Budget Control Act of 2011 is scheduled to take effect, with the goal of reducing the Federal budget deficit by nearly $1 trillion over 10 years. In addition, after 2011, a host of so-called tax extenders expired, and after 2012, numerous additional temporary incentives are scheduled to sunset. Moreover, the 2012 payroll tax holiday, which reduced the employee-share of OASDI taxes by two percentage points, is also slated to expire after December 31, 2012. The combination of all these events has many commentators referring to 2013 as “taxmageddon” or the “fiscal cliff.”
The balance between Democrats and Republicans in the House and the Senate may also change on election day. However, whether either party acquires sufficient political capital, let alone a mandate, on taxes to address short-term issues such as sunsetting provisions and long-term issues like tax reform, remains to be seen.
Caution
Between the date of publication and election day, the positions of the candidates may change. CJBS has based this briefing on what we consider accurate, nonpartisan and unbiased information at the time of publication.
| SELECTED POSITIONS | |||
| Obama —Individual taxes | Romney – Individual taxes | ||
| 2013 rates higher for higher-income taxpayers only | 2013 rates same as 2012 for all taxpayers | ||
| Unspecified future date: lower rates for middle/lower income brackets | Unspecified future date: 20% income tax rate reduction for all taxpayers | ||
| Higher capital gains/dividend rate for higher-income taxpayers | Eliminate tax on investment income for AGI below $200,000 | ||
| $3.5 million estate tax exemption/45% rate | Abolish the estate tax | ||
| Replace AMT with “Buffett rule” | Repeal the AMT | ||
| Obama – Corporate Taxes | Romney—Corporate Taxes | ||
| Reduce maximum corporate tax rate to 28% (25% for manufacturing) | Reduce maximum corporate rate to 25% | ||
| Maintain worldwide system but with reforms | Implement territorial system of international tax | ||
| SELECTED CHANGES IN FEDERAL TAXES: 2012-2013 IF CONGRESS FAILS TO ACT | |||
| 2012 | 2013 | ||
| Top individual tax rate | 35% | 39.6% | |
| Capital Gains | 15%* | 20% | |
| Dividends | 15%* | Taxed at ordinary income rates | |
| Top estate tax rate | 35% | 55% | |
| Child tax credit | $1,000 | $500 | |
| AOTC | Up to $2,500 | Unavailable | |
| Code Sec. 179 dollar limit | $139,000** | $25,000 | |
| WOTC for veterans | Up to $9,600 | Unavailable | |
| Research tax credit | Unavailable | Unavailable | |
| Wind energy PTC | Available | Unavailable | |
| *Zero percent for taxpayers in the 10 and 15 percent brackets | |||
| **As adjusted for inflation | |||
Individuals: 2014 and Beyond
The basic goal for tax reform on the individual tax level expressed by both candidates is to broaden the tax base and lower tax rates. The candidates agree that tax reform should be revenue neutral. Each candidate also forecasts an improved economy from the savings of a simplified tax system and lower overall rates.
Businesses: 2014 and Beyond
Corporate tax reform, and business tax reform in general, has been raised by several Congressional committees and both candidates over the past year as a necessary long range step in making businesses more innovative and competitive. Based upon the multilayered considerations involved, however, concrete changes are not anticipated until 2014 or later. Specific issues include:
- Corporate Tax Rates
- International Proposals
- Other Business Reforms
Note: A more comprehensive PDF version of this brief can be seen on the CJBS website at: http://www.cjbs.com/Email/October2012/CJBS_long.pdf
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
Illinois Small Business Jobs Creation Tax Credit Program
July 18, 2012
by Michael W. Blitstein, CPA
To help move the Illinois economy to a sustainable recovery, the Small Business Jobs Creation Tax Credit has been extended by Governor Quinn and the General Assembly with some new components.
Effective July 1, 2012, new, full-time jobs created beginning July 1, 2012 to June 30, 2016 will be eligible for tax credits. The program will either run until June 30, 2016 or it will immediately come to a close if $50 million in tax credits are issued prior to that 2016 date.
Overall, not a lot has changed from the pilot program to this extended program. Eligible businesses (and not-for-profit businesses) are still those with 50 or fewer full-time employees. Eligible jobs are those that pay at least $10/hour or $18,200/annually and the position must be sustained for one full year from the hire date.
One important thing to note: You do not have to keep the same individual in the position the entire year, but you will need to make sure the position is filled with any number of employees for at least one year from the actual hire date.
A new piece to this program is that PEO’s (Professional Employer Organizations) would be able to receive a tax credit based on their working relationship with an eligible business. If a PEO has been contracted by an eligible business to issue W-2s and make payment of withholding taxes, then they could enter their information and be eligible to receive a tax credit.
After creating one (or more) new, full-time positions that meet the eligibility requirements, employers are eligible to receive a $2,500 per job tax credit. Theoretically, this will provide an extra boost for employers, enabling them to grow their businesses in Illinois.
To register a position or to learn more about the program please visit http://www.jobstaxcredit.illinois.gov.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
IRS Issues Guidance on Expanded Work Opportunity Tax Credit
March 30, 2012
by Michael W. Blitstein, CPA
The IRS has released guidance and posted online Frequently Asked Questions (FAQs) for employers planning to claim the enhanced Work Opportunity Tax Credit (“WOTC”) for hiring qualified military veterans. The guidance contains transition relief, describes electronic submission of the form used to claim the credit and describes the procedures for tax-exempt organizations to claim the credit.
The WOTC was enhanced as part of the VOW to Hire Heroes Act, passed by Congress at the end of November 2011. Employers who hire members of targeted groups, and who obtain a certification from an appropriate state agency as to each employee’s status as a member of the targeted group, are entitled to a tax credit.
For military veterans, the VOW to Hire Heroes Act expanded the WOTC, which rewards employers with a tax credit for hiring individuals from targeted groups. The “Returning Heroes Tax Credit” and the “Wounded Warriors Tax Credit” are intended to encourage employers to hire unemployed military veterans.
Employers that hire veterans who have been looking for employment for more than six months may be eligible for a maximum $5,600 credit per employee (Returning Heroes Tax Credit); employers that hire veterans who have been looking for employment for less than six months may be eligible for a credit of up to $2,400 per employee. Employers that hire veterans with service-connected disabilities who have been looking for employment for more than six months may be eligible for a credit of up to $9,600 per employee (Wounded Warriors Tax Credit).
Form 8850, Pre-Screening Notice and Certification Request for the Work Opportunity Credit, must be submitted to the state agency within 28 days of the employee beginning work for the employer. The credit applies in the case of qualified veterans who begin work prior to 2013.
The IRS guidance contains transition relief, providing that employers of veterans hired on or after November 22, 2011, and before May 22, 2012, have until June 19, 2012, to complete and submit the newly revised form to the state agency. The 28-day rule will apply to veterans hired after May 21, 2012. This transition relief also applies to qualified exempt organizations claiming the credit. Qualified tax-exempt organizations that employ veterans who are members of a targeted group also may take advantage of the credit.
The FAQs on the IRS website address topics such as how employers claim the enhanced WOTC for hiring qualified veterans, how a non-profit organization can claim the credit, and more.
In the case of exempt organizations, the credit is allowed against the employer’s Federal Insurance Contribution Act (FICA) tax obligation on wages paid to the veteran within one year of hiring. However, the liability on the organization’s employment tax return is not reduced by the credit; rather, the credit is processed separately and the amount properly claimed is refunded to the exempt organization. This is likely to occur after the filing of the return, so organizations are cautioned not to reduce their FICA obligation on their returns in anticipation of the refund.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
by Michael W. Blitstein, CPA
The Eighth Circuit Court of Appeals has affirmed a Federal district court decision holding that a portion of the dividends paid to an employee-owner of professional services firm was compensation for services. As a result, the taxpayer earned additional wages and owed additional Social Security taxes.
Taxpayers and the IRS frequently spar over the amount of compensation, and, subsequently, the amount of FICA (Social Security) taxes owed, by a closely-held corporation where the same person owns the company and is its employee. Unlike a partnership, where a general partner’s share of profits is subject to self-employment taxes, distributions to an S corporation stockholder are not subject to FICA taxes.
Background
The taxpayer was working for his own professional corporation (“P.C.”). The P.C. owned 25 percent of a professional services firm that was an S corporation. His P.C. entered into an employment agreement with the S corporation, and he exclusively worked for the firm.
The P.C. paid the taxpayer $24,000 a year as compensation and paid Social Security taxes on that amount. The P.C. received substantial distributions from the firm, which had gross earnings of $2–3 million each year. After the P.C. paid the taxpayer’s salary and other expenses, it distributed the remaining cash to the taxpayer as dividends, amounting to $203,000 in year one and $175,000 in year two.
The IRS determined that the P.C. underpaid employment taxes. A Federal district court agreed, determining (based on the testimony of IRS’s expert) that the taxpayer’s compensation should have been $91,000 a year.
Substance Over Form
To determine the appropriate amount of FICA taxes, the court found that the inquiry was whether payments at issue were remuneration for services performed. Because the corporation was controlled by the employees to whom the compensation was paid, the court gave special scrutiny to the salary amount, since there was a lack of arm’s-length bargaining.
A reasonable compensation determination is usually appropriate to determine the amount of an income tax deduction, but it also applies to FICA tax cases. In an old regulation ruling, the IRS concluded that it could recharacterize S corporation dividend payments because the dividends were paid to stockholders in lieu of reasonable compensation. Courts looking at the FICA issue have also evaluated the economic substance of a transaction.
Reasonable Compensation
The Eighth Circuit agreed with the district court’s conclusion that the value of the taxpayer’s services was $91,000 and that the P.C. owed additional FICA taxes. The P.C.’s purported intent to pay $24,000 as compensation was not relevant, the court concluded. Even if intent mattered, it was not credible that the P.C. intended to pay a mere $24,000 in compensation.
The appeals court said that it was appropriate to determine whether the taxpayer’s compensation was reasonable. Based on the following factors, the appeals court concluded that the district court properly determined the fair market value of the taxpayer’s services: the taxpayer was a qualified professional; the taxpayer worked 35 to 45 hours per week as a primary earner of the firm; the $24,000 supposedly paid was unreasonably low compared to similar professionals; the firm had substantial gross earnings; and the firm made substantial distributions to the taxpayer, especially when compared to the claimed salary.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
IRS Issues 2012 Vehicle Depreciation Dollar Limits
March 22, 2012
by Michael W. Blitstein, CPA
The IRS has issued limitations on depreciation deductions for owners of passenger automobiles, light trucks, and vans first placed in service during calendar year 2012. Generally, depreciation deduction limits for calendar year 2012 are $100 more than the limits for calendar year 2011. For 2012, the depreciation dollar limits also reflect 50 percent bonus depreciation under the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010.
The Internal Revenue Code (“The Code”) imposes dollar limitations on the depreciation deduction for the year the taxpayer places the passenger automobile in service within its business and for each succeeding year. The IRS adjusts the amounts allowable as depreciation deductions for inflation.
The 2010 Tax Relief Act generally extended the 50 percent additional first year depreciation deduction to qualified property acquired and placed in service before January 1, 2013. The Code increases the first year depreciation allowed for vehicles subject to the luxury vehicle limits, unless the taxpayer elects out, by $8,000, to which the additional first year depreciation deduction applies. The $8,000 amount is not adjusted for inflation.
Passenger Automobiles
The maximum depreciation limits for passenger automobiles first placed in service by the taxpayer during the 2012 calendar year are:
- $11,160 for the first tax year ($3,160 if bonus depreciation is not taken);
- $5,100 for the second tax year;
- $3,050 for the third tax year; and
- $1,875 for each tax year thereafter.
Trucks and Vans
The maximum depreciation limits for trucks and vans first placed in service during the 2012 calendar year are:
- $11,360 for the first tax year ($3,360 if bonus depreciation is not taken);
- $5,300 for the second tax year;
- $3,150 for the third tax year; and
- $1,875 for each tax year thereafter.
Sport utility vehicles and pickup trucks with a gross vehicle weight rating (GVWR) in excess of 6,000 pounds are exempt from the luxury vehicle depreciation caps.
Leases
Lease payments for vehicles used for business or investment purposes are deductible in proportion to the vehicle’s business use. However, lessees must include a certain amount in income during the year the vehicle is leased to partially offset the amounts by which lease payments exceed the luxury automobile limits.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
Winning The Lottery Is Just The Beginning…
March 20, 2012
by Michael W. Blitstein, CPA
Many individuals play the lottery every week with the fantasy of having that winning ticket. Oh, all the things the prize would provide if we just had the lucky numbers. However, most do not think of the necessary tax planning that surrounds acquiring the wealth.
A recent Tax Court case summarizes the experience of one family. The taxpayer learned she held a winning lottery ticket. The taxpayer’s father contacted an attorney who prepared incorporation papers for an S corporation. The taxpayer and several family members were the stockholders. The taxpayer subsequently transferred the ticket to the S corporation.
Before the taxpayer could claim her winnings, she had to defend her prize against a competing claim by her co-workers. A state trial court sided with the co-workers but the state highest court reversed that decision.
The IRS determined that the taxpayer had made a gift as a result of her transfer of the ticket to the S corporation. The IRS issued a deficiency notice for $771,000 for gift tax owed (income tax liability was not a part of this case). The taxpayer appealed to the Tax Court for relief.
The court first found that the Code generally imposes a tax irrespective of whether the gift is direct or indirect. Under regulations, a transfer of property to a corporation for less than adequate consideration represents gifts to the other individual stockholders of the corporation to the extent of their proportionate interests.
The court rejected the taxpayer’s argument that there was no gift because a family contract required transfer of the ticket. The court found that there was no pooling of money. There were no predetermined sharing percentages. At most, the family had an unenforceable “agreement to agree.”
The court further found that no partnership existed among the taxpayer and her family members. All of the decisions about the ticket were made by the taxpayer’s father; not jointly by all the family members as had been argued. The court concluded that the transfer was a gift, discounted only to account for the competing claims by co-workers at the time of the gift.
So… what’s the moral of this story? As you daydream about what winning the lottery can mean to you, you may want to include getting some real tax advice before you cash in the ticket as part of your fantasy.
CJBS, LLC is a Chicago based firm that assists its clients with a wide range of accounting and financial issues, protecting and expanding the value of mid-size companies. E-mail me at michael@cjbs.com if you have any questions about this posting or if I may be of assistance in any way.
IRS Releases New Deductible Mileage Rates
December 13, 2011
Matt Bergman, CPA
by Matthew Bergman, CPA
The IRS has released the 2012 optional standard mileage rates that employees, self-employed individuals, and other taxpayers can use to compute deductible costs of operating automobiles (including vans, pickups and panel trucks) for business, medical, moving and charitable purposes.
The 2012 standard mileage rate remains at 55.5 cents per mile for business uses, is reduced to 23 cents per mile for medical and moving uses, and remains at 14 cents per mile for charitable uses. For purposes of computing the allowance under an FAVR plan, the standard automobile cost may not exceed $28,200 ($29,300 for trucks and vans). The updated rates are effective for deductible transportation expenses paid or incurred on or after January 1, 2012, and for mileage allowances or reimbursements paid to, or transportation expenses paid or incurred by, an employee or a charitable volunteer on or after January 1, 2012.
