When to retire under the social security system.

Experienced Small Business Accountant – Some people dream of retiring early. Others prefer to continue working and saving money until they are age 65, or even past age 65. Although other issues—such as benefits available from an employer—factor into a decision about when to retire, a worker has three options under the social security system:

·         (1)  Retire before full social security retirement age, with a reduced benefit.

·         (2)  Retire with a full benefit at full social security retirement age.

·         (3)  Continue working past full social security retirement age and earn additional benefits for each year of work until reaching age 70.

Although most people think of 65 as the “magic” age for retirement—the age at which a worker can stop working and receive a full social security benefit—this was true only if the worker reached age 65 before 2003. If born in 1938 or later, a worker is not eligible to retire with full benefits until he reaches the age indicated in the following table:

                    Full Social Security

Year of Birth           Retirement Age

===========================================

1937 or earlier             65

1938                  65 and 2 months

1939                  65 and 4 months

1940                  65 and 6 months

1941                  65 and 8 months

1942                  65 and 10 months

1943-1954                   66

1955                  66 and 2 months

1956                  66 and 4 months

1957                  66 and 6 months

1958                  66 and 8 months

1959                  66 and 10 months

1960 and after              67

 Observation Year 2003 was the first year in which the phased-in increase to full social security retirement age applied to individuals electing to receive full social security retirement benefits, because individuals born in 1938 attained age 65 in 2003. Because individuals born in 1938 reached age 62 in 2000, an increased reduction in benefits imposed for persons electing to begin receiving benefits more than 36 months before reaching full social security retirement age first applied in 2000, when individuals born in 1938 first became eligible to elect to receive early social security retirement benefits.

 Observation Although full social security retirement age has increased for individuals born after 1937, the eligibility age for Medicare currently is not scheduled to increase above age 65.

 Recommendation Before making a decision to take social security benefits, it is important to have a good understanding of how much the benefit would be at different ages.

Coordinating retirement decisions with a spouse. The decision of when to retire and start receiving social security benefits can be more complicated for married couples. For example, a decision to retire and take a reduced benefit at age 62 that may seem appropriate for a single beneficiary may not be financially sound for a married beneficiary with shortened life expectations, since this decision could serve as a cap on the surviving spouse's payout.

When both spouses are eligible social security benefits, financial advisors have suggested a variety of methods for maximize benefits over their lifetimes, strategies that depend on their respective ages and earnings records. For example, one strategy would be for a spouse with the lower earnings record (usually the wife) to claim benefits at age 62 and for the other spouse (usually the husband) to delay filing until almost 70. Another strategy would be for the wife to file for her reduced benefit before age 66 and for the husband, at age 66, to file for just a spousal benefit based on his wife's earnings. Then, at age 70, the husband files for full benefits (with the delayed retirement credit) on his earnings history.

If you have any questions on this topic or would like to discuss some planning strategies with me, please call. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/EYJdQtbPZAI

Amare Berhie, Senior Tax Accountant

ABA Tax Accounting

info@abataxaccounting.com

(651) 621-5777

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Tax breaks for travelers who mix some pleasure with their business travel

Virtual CFO Services - Although video conferencing has made inroads in the ranks of business travelers, there still are situations where it's necessary to travel away-from-home overnight for face-to-face meetings with staff, management, or customers. In the current vacation season, businesspeople or professionals who must travel for work reasons should keep in mind that they may be able to qualify for a travel bargain by piggybacking a short vacation onto an out-of-town business trip. The traveler gets to deduct his vacation airfare if the trip is set up the right way. And if the travel is undertaken for an employer, a properly set up reimbursement arrangement for the business portion of the trip will be income- and payroll-tax-free.

Overview. Travel that takes the taxpayer outside of the U. S. is treated the same way as travel within the U.S., (covered in detail at Weekly Alert ¶  5  07/09/2015) if:

(1)  the trip is undertaken solely for business reasons (50% of meals, and 100% of other costs, are deductible, or are treated as tax-free to a reimbursed traveler if the accountable plan rules are met); or

(2)  the trip is undertaken primarily for personal reasons, but there is some business done during the trip (only business-related lodging, and 50% of business-related meals, are deductible as travel expenses, or are treated as tax-free to a reimbursed traveler if the accountable plan rules are met). (Reg. § 1.162-2(b); Reg. § 1.274-4(a))

The foreign business travel rules diverge from those for domestic business travel when the taxpayer undertakes a trip primarily for business reasons, but also takes some personal days while abroad. In this situation, the transportation expenses are fully deductible—despite the personal days—if one of four tests, explained below, are met. If none of the four tests are met, transportation expenses must be allocated under special rules between (deductible) business and (nondeductible) personal activities.

AB Tax Accounting observation: The allocation rules for foreign business travel apply only to transportation expenses—the cost of getting there and back. The other costs are subject to the usual rules: lodging expenses and 50% of meals while on business status are deductible (and are tax-free to a traveling employee if the accountable-plan rules are met). Purely personal expenses are nondeductible by a self-employed taxpayer or an unreimbursed employee, may be deductible as compensation by an employer that reimburses the expenses, and are taxed to a reimbursed traveler.

Fully deductible foreign transportation costs. When an individual goes on a foreign business trip, the full cost of the round-trip transportation is treated the same way as for a domestic business trip as long as the travel meets any of the following four tests.

AB Tax Accounting observation: This means that the entire cost of the round-trip transportation is deductible (and tax-free to an employee if the accountable plan rules are met) even if some vacation time is taken at the foreign destination.

Test #1—no substantial control over arranging trip. To meet this test, the traveler must have no substantial control over arranging the trip outside the U.S., considering all the facts and circumstances. (Reg. § 1.274-4(f)(5)(i)) An employee who travels outside the U.S. for his employer under a reimbursement or other expense allowance arrangement is considered not to have substantial control over arranging the trip if he isn't a managing executive of the employer (someone who can make his own travel plans and doesn't need someone else's OK), or related to the employer (within the meaning of Code Sec. 267(b), but using a 10% test). Just because a person can control the timing of the trip doesn't mean he has substantial control. (Reg. § 1.274-4(f)(5)(i))

A self-employed person generally can't meet the “no substantial control” test. (IRS Publication 463, 2014, pg. 7)

Test #2—away one week or less. This test is met if the traveler is outside the U.S. for a week (seven consecutive days) or less. For purposes of this test, the day of departure from the U.S. isn't counted, but the day of arrival back in the U.S. is counted. (Reg. § 1.274-4(b)(2); Reg. § 1.274-4(c))

When figuring the 1-week period, any travel between U.S. points is not counted. (Reg. § 1.274-4(e)) For this purpose, the “U.S.” is defined as the 50 States and the District of Columbia. (Reg. § 1.274-4(a))

AB Tax Accounting illustration Bob lives and works in Denver and takes a business trip to Paris. Bob leaves Denver on Tuesday and flies to New York. On Wednesday, he flies nonstop from New York to Paris, arriving the next morning. He has business meetings on Thursday, Friday, and Saturday and sightsees from Sunday until Tuesday. He flies back to New York, arriving Wednesday afternoon. On Thursday, he flies to Denver. Result: the cost of the round trip from Denver to Paris is deductible. Bob was away from Denver for more than a week. But because the day of departure doesn't count, and because the travel between U.S. points doesn't count, Bob was outside the U.S. for exactly seven days.

Test #3—less than 25% on personal matters. Even if the foreign trip lasts longer than one week, there's no allocation of round-trip transportation costs if less than 25% of the time outside the U.S. was spent on personal matters. (Reg. § 1.274-4(b); Reg. § 1.274-4(d)(1) ) Here, the travel days—both the day of departure from the U.S. and the day of return to the U.S.—are counted. (Reg. § 1.274-4(c); IRS Publication 463, 2014, pg. 7)

When applying this test, any travel between U.S. points is not counted. (Reg. § 1.274-4(e)) Similar to the above, for this purpose, the “U.S.” is defined as the 50 States and the District of Columbia. (Reg. § 1.274-4(a))

Test #4—vacation not a major consideration. Even if one of the three other tests doesn't apply, a full deduction for foreign transportation cost is still available if the taxpayer can show that vacationing was not a major consideration in making the trip, even if the traveler has substantial control over arranging the trip. (Reg. § 1.274-4(f)(5)(ii); IRS Publication 463, 2014, pg. 7 )

AB Tax Accounting illustration John, chief executive officer of International Co., Inc., must fly to Frankfurt to meet with German regulators. He spends a week on business, plus four days on vacation. His round-trip transportation costs, plus meals (at 50%) and lodging during the business days, may be deductible.

Partially deductible foreign transportation costs. If foreign travel doesn't meet one of the four full-deductibility tests, above, the nondeductible portion of the transportation expenses—the cost of getting there and back—generally is determined by using a day-to-day allocation formula. Under this formula, total travel expenses are multiplied by the ratio of the total number of non-business days spent outside the U.S. to the total number of days spent outside the U.S. (Reg. § 1.274-4(f)(1)) For purposes of this allocation, the days of departure from, and return to, the U.S. generally are treated as business days spent outside the U.S. (Reg. § 1.274-4(d)(2)(i))

AB Tax Accounting illustration Ruth, a partner in an international law firm based in New York, takes a business trip to Zurich. She spends seven days on business and seven days skiing, and her round-trip air-fare cost is $1,600. Test #3 doesn't apply because she spends more than 25% of her time on personal matters. If Ruth isn't protected by either Test #1, Test #2, or Test #4, she determines the nondeductible part of her transportation cost as follows: 7 personal days ÷ 14 total days × $1,600 = $800. The cost of the 7-day business stay (lodging, 50% of meals) is deductible; the cost of the personal stay is not.

While the nondeductible part of foreign travel costs is generally determined under the above formula, the regs allow taxpayers to use other allocation formulas if they more clearly reflect the period of foreign travel attributable to personal matters. (Reg. § 1.274-4(d)(2))

Special rules apply where the pleasure part of a trip is not located at or near the foreign location where business is transacted. If the pleasure part of the trip takes place beyond the business destination, then the airfare to be allocated in part to business travel and in part to personal travel is figured on the basis of a round trip from the U.S. location to the business location. (Reg. § 1.274-4(f)(2))

AB Tax Accounting illustration Henry, a 20% shareholder-employee of U.S. Co., Inc., schedules a 5-day business trip to London from New York. From London, he proceeds to Paris for a 13-day vacation. U.S. Co. reimburses him for the entire trip after he accounts in full for the expenses. The round-trip cost from New York to London is $1,000.

Roughly $278 of the New York-to-London air fare (5/18ths of $1,000) is tax free. So is the cost of 50% of his meals and all of his lodging while in London. The balance of the airfare, and the cost of his meals and lodging in Paris, are taxable to him as compensation income. U.S. Co. treats the business part of the air fare ($278) and the London meals (at 50%) and lodging costs as deductible business expenses. The balance of the corporation's cost is deductible as compensation (assuming the executive's total compensation package is “reasonable”).

If the pleasure part of the trip takes place en route to or from the business destination, then the allocation of the nondeductible airfare is figured on the round trip from the U.S. departure point to the non-business destination. (Reg. § 1.274-4(f)(3))

Illustration Alice, a New Yorker, flies to Paris on August 4 to attend a business conference that begins on August 5. The conference ends at noon on August 14. That evening she flies to Dublin where she visits with friends until the afternoon of August 21, when Alice flies directly home to New York. The primary purpose for the trip is to attend the conference. If Alice did not stop in Dublin, she would arrive home the evening of August 14. She doesn't qualify for any of the exceptions that would allow her to consider her travel entirely for business.

August 4 through 14 (11 days) are business days and August 15 through 21 (7 days) are nonbusiness days. Alice can deduct the cost of her meals (subject to the 50% limit), lodging, and other business-related travel expenses while in Paris, but can't deduct her expenses while in Dublin. She also cannot deduct 7/18 of what it would cost her to travel round-trip between New York and Dublin. Alice pays $750 to fly from New York to Paris, $400 to fly from Paris to Dublin, and $700 to fly from Dublin back to New York. Round-trip air-fare from New York to Dublin would be $1,250. She figures the deductible part of her air travel expenses by subtracting 7/18 of the round-trip fare and other expenses she would have had in traveling directly between New York and Dublin ($1,250 × 7/18 = $486) from her total expenses in traveling from New York to Paris to Dublin and back to New York ($750 + $400 + $700 = $1,850). Her deductible air travel expense is $1,364 ($1,850 − $486). (IRS Publication 463, 2014, pg. 8)

Non-business days may be treated as business days. If allocation of foreign travel costs is required because of non-business activities, every day the traveler is treated as having spent on business increases the deduction for transportation costs.

There are five instances where a “non-business” day is treated as a “business” day for expense allocation purposes. (Reg. § 1.274-4(d)(2))

(1)  Generally, the departure date and return date are considered business days. So if a traveler leaves the U.S. on a Wednesday night and returns early on a Friday morning, both days count as full business days. There are exceptions for indirect routes or substantial nonbusiness diversions along the way.

(2)  The taxpayer's presence is required at a particular place for a specific and bona fide business purpose. If an employer requires an employee to be present at a particular date and place for business reasons, the day is a business day even though, because of the scheduled length of the meeting, the employee spends more time on nonbusiness activity (e.g., sightseeing) than on business.

(3)  As long as an individual does business during working hours, other personal activities, like an evening out on the town, won't turn the business day into a personal day.

(4)  Days when doing business is prevented due to circumstances beyond the individual's control (for example, bad weather, or a client cancels a business meeting) are business days.

(5)  Weekend days and reasonably necessary standby days between business meetings are treated as business days, no matter what the individual does with his or her time.

AB Tax Accounting illustration Tina is sent by her employer to Mexico City on business. She is scheduled to participate in business conferences on Wednesday, Friday, and Monday. Thursday, Saturday, and Sunday are business days, not personal days, no matter what she does with her time. But if there had been no business meeting scheduled in Mexico City after Friday, then Saturday and Sunday would count as personal days.

Please call me if you have any questions about these rules. Together we can make sure that you'll get all the deductions to which you're entitled come next filing deadline. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/EYJdQtbPZAI

Amare Berhie

Online Tax Services

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396

Reasonable Compensation for S Corporation Shareholder-Employees

Accounting Services For Small Businesses - S corporations must ensure that their shareholder-employees are receiving reasonable compensation based on the surrounding facts and circumstances.

S corporations have tax savings reasons to underpay shareholder-employees. While all of an S corporation's earnings are subject to federal income tax, only wages are subject to federal employment taxes. S corporations save FICA and FUTA taxes to the extent that they do not pay wages to shareholder-employees. The reasonable compensation issue for S corporations is the flip side of the compensation issue for C corporation shareholder-employees. C corporations want to pay large salaries to shareholder-employees to mitigate or eliminate the double income tax issue for the corporation and its owners. S corporations want to pay low salaries to save or eliminate employment taxes.

Who is required to receive reasonable compensation?

In Rev. Rul. 74-44, the IRS tried to prevent S corporation attempts to avoid employment taxes by underpaying (not reasonably compensating) the shareholder-employee. In the ruling, the IRS held that an S corporation that paid dividends but no compensation to two shareholders who provided services to the corporation was required to pay reasonable salaries to those shareholders.

Both FICA and FUTA impose taxes on employers based on the wages they pay to individual employees.  The Acts define “wages,” with some exceptions, as “all remuneration for employment....”  Employment is “any service of whatever nature, performed...by an employee for the person employing him....”  Employee is defined by FICA as:

(1) Any officer of a corporation, or

(2) Any individual who, under the usual common law rules applicable in determining the employer-employee relationship, has the status of an employee.

Employee under FUTA, with some exceptions, has the same meaning as in Section 3121(d) of FICA. 10 Reg. 31.3121(d)-1(b) restates the general rule that an officer of a corporation is an employee of that corporation. The regulation also specifies an exception for an “officer of a corporation who as such does not perform any services or performs only minor services....” The FUTA and FICA regulations are virtually identical.

Despite these statutory and regulatory provisions, there is a long line of cases in which shareholder-employees asserted that they were either not employees, and thus not required to receive reasonable compensation, or that the distributions that they received were for something other than compensation.

Many factors must be considered when determining reasonable compensation for an S corporation shareholder-employee. The complexity of identifying and taking into account all of these factors is lessened when the taxpayer seeks and uses collected and analyzed comparable industry data to establish the compensation paid to the shareholder-employee. If such data are not used, factors on which compensation is reasonably based must be considered. Owners should obtain the data, file it, and follow it in paying shareholder-employee compensation. These actions will be helpful in thwarting IRS efforts to refute the compensation paid to the shareholder-employee. These actions also should serve to mitigate or eliminate interest and penalties, avoid the time and costs of dealing with the IRS and, for S corporations with two or more owners, reduce the risk of loss of the S election.

Please call me if you have any questions about these rules. Together we can make sure that you'll get all the deductions to which you're entitled come next filing deadline. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/EYJdQtbPZAI

Amare Berhie

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396

Tax benefits from hiring children to work in the family business

Although the unemployment figures have improved, it can still be difficult in the current job market for some college students and recent graduates to find seasonal or permanent jobs. The family business may be the only place for some kids to find work or to find their first job. Employing a child may generate tax savings regardless of how the family business is organized.

Income shifting. Regardless of how a business is organized, its owners may be able to turn some of their high-taxed income into tax-free or low-taxed income by employing their children. The work done by the children must be legitimate, and the amount that the enterprise pays them must be reasonable for the wages to be deductible.

Checkmark AB Tax Accounting illustration - A business person in the 33% tax bracket for 2015 hires her 17-year-old son to help with office work full-time during the summer and part-time into the fall. He earns $6,300 during the year (and doesn't have earnings from other sources). If that $6,300 otherwise would be paid to the parent, she saves $2,079 (33% of $6,300) in income taxes at no tax cost to her son, who can use his $6,300 standard deduction for 2015 to completely shelter his earnings.

Family taxes are cut even if the child's earnings exceed his or her standard deduction. That's because the unsheltered earnings will be taxed to the child beginning at a rate of 10%, instead of being taxed at the parent's higher rate.

Kiddie tax implications. The kiddie tax applies to the child if he or she does not file a joint return for the tax year and (1) hasn't reached age 18 before the close of the tax year or, (2) his or her earned income doesn't exceed one-half of his support and the child is age 18 or is a full time student age 19-23. (Code Sec. 1(g)(2)) Thus, employing a child age 18 or a full-time student age 19-23 could cause his or her earned income to exceed more than half of his or her support. This, in turn, could help to avoid the kiddie tax on the child's unearned income (there is no earned income escape hatch from the kiddie tax for children under age 18).

Even if the kiddie tax applies, it only causes a child's investment income in excess of $2,100 (for 2015) to be taxed at the parent's marginal rate. It has no impact, however, on the child's wages and other earned income, which can be sheltered by the child's standard deduction.

Retirement plan savings. Additional savings are possible if the child is paid more (or works part-time past the summer), and deposits the extra earnings into a traditional IRA. For 2015, the child can make a tax-deductible contribution of up to $5,500 to his or her own IRA. The business also may be able to provide the child with retirement plan benefits, depending on the type of plan it uses and its terms, the child's age, and the number of hours worked.

AB Tax Accounting observation: Thus, between the child's standard deduction and IRA contribution, a child can earn up to $11,800 in 2015 without paying any income taxes.

Tax savings via education credits. Additional intra-family tax savings in the form of education credits may be available.

For 2015, taxpayers may claim an American opportunity tax credit (AOTC; formerly known as the Hope credit) equal to 100% of up to $2,000 of qualified higher-education tuition and related expenses plus 25% of the next $2,000 of expenses paid for education furnished to an eligible student in an academic period. Thus, the maximum AOTC is $2,500 a year for each eligible student. (Code Sec. 25A(a)(1), Code Sec. 25A(i)(1)) For 2015, the availability of the credit phases out ratably for taxpayers with modified AGI of $80,000 to $90,000 ($160,000 to $180,000 for joint filers).

The AOTC may be elected for a student's expenses for four tax years, and only for students who have not completed the first four years of post-secondary education as of the beginning of the tax year. (Code Sec. 25A(b)(2), Code Sec. 25A(i)(2))

Subject to an exception, 40% of a taxpayer's otherwise allowable AOTC is refundable. No portion of the credit is refundable if the taxpayer claiming the credit is a child subject to the kiddie tax under Code Sec. 1(g) (Code Sec. 25A(i)(5)) or a resident of a U.S. possession (who instead claims the credit where he resides). (Conf Rept No. 111-16 (PL 111-5) p. 13)

Taxpayers may elect a Lifetime Learning credit equal to 20% of up to $10,000 of qualified tuition and related expenses paid during the tax year. The maximum credit for any taxpayer for a tax year is $2,000, regardless of the number of students for whom he has paid qualified amounts. (Code Sec. 25A(a)(2), Code Sec. 25A(c)(1)) For 2015, the credit is phased out ratably for taxpayers with modified AGI from $55,000 to $65,000 ($110,000 to $130,000 for marrieds filing jointly).

Where a parent pays the college education expenses of a child whom he claims as a dependent, only the parent may claim the education credits (if otherwise eligible). However, if a parent is eligible to but does not claim a student as a dependent, the student may claim the education credit for qualified expenses paid by him or the parent. (Reg. § 1.25A-1(f)(2), Example 2, IRS Pub. 970 (2014), p. 18, p. 27)

AB Tax Accounting recommendation: It may pay for a parent not to claim the student as a dependent if (1) the parent can't claim education credits because of high modified AGI, and (2) the student pays, or is deemed to pay under Reg. § 1.25A-1(f)(2), Example 2 the expense, and has sufficient tax liability (e.g., from summer or part-time employment) to claim the credit.

Checkmark AB Tax Accounting illustration- A married couple has AGI of $250,000 and is in the 33% bracket. For 2015, claiming their 19-year-old college-freshman son as a dependent would save $1,320 in taxes (33% of $4,000 dependency exemption for the son). The parents spend $24,000 on the son's AOTC-eligible qualified tuition. The son has $15,000 of taxable income from his salary working for the family business and has no other earned income. The parents can't claim an education credit for their child because of their high income and would be better off not claiming their son as a dependent. If they don't claim the son as a dependent, the son may use the education credit to completely eliminate his $1,788.75 tax liability (10% of $9,225 taxable income, plus 15% of the $5,775 balance). However, note that under Code Sec. 25A(i)(5), the son would not be able to claim a refundable AOTC because he is subject to the kiddie tax under Code Sec. 1(g) (he is a full time student age 19-23 and his earned income doesn't exceed one-half of his support).

AB Tax Accounting caution: If a parent is eligible to claim a child as a dependent but doesn't, the child still cannot claim an exemption for himself.

AB Tax Accounting observation: The case for not claiming the child as a dependent would be even more compelling if the parent's personal exemptions would be reduced by the personal exemption phaseout (PEP). For 2015, for example, the exemption phaseout for joint filers and surviving spouses begins at $309,900 of AGI and ends at $434,400 of AGI.

Income tax withholding. Regardless of how the family business is organized, it probably will have to withhold federal income taxes on the child's wages. Usually, an employee who had no federal income tax liability for the prior year, and expects to have none for the current year, can claim exempt status. However, exemption from withholding can't be claimed if (1) the employee's income exceeds $1,050 and includes more than $350 of unearned income (such as dividends), and (2) the employee may be claimed as a dependent on someone else's return (whether or not he actually is claimed). (Instructions to Form W-4 for 2015) Keep in mind that the child probably will get a refund for part or all of the withheld tax when he or she files a return for the year.

FICA and FUTA. Employment for FICA tax purposes doesn't include services performed by a child under the age of 18 while employed by a parent. (Code Sec. 3121(b)(3)(A)) This can generate some savings for a parent who runs an unincorporated business, including an entity disregarded as separate from its owner for tax purposes. (Reg. § 31.3121(b)(3)-1T)

AB Tax Accounting illustration - A sole proprietor who usually takes $120,000 of earnings from the business pays $5,000 to her 17-year-old child in 2015. The sole proprietor's self-employment income would be reduced by $5,000, saving her $145 (i.e., the 2.9% HI portion of the self-employment tax she would have paid on the $5,000 shifted to her child). (However, this savings doesn't take into account a sole proprietor's income tax deduction for one-half of her own social security taxes.) That's on top of the $382.50 (.0765 × $5,000) in employee FICA that the child saves by working for a parent instead of someone else.

A similar but more liberal exemption applies for FUTA, which exempts earnings paid to a child under age 21 while employed by his or her parent. The FICA and FUTA exemptions also apply if a child is employed by a partnership consisting solely of his parents.

However, there is no FICA or FUTA exemption for employing a child in an incorporated business or in a partnership that includes non-parent partners. The children are subject to the same rules that apply to all other employees.

Please call me if you have any questions about these rules. Together we can make sure that you'll get all the deductions to which you're entitled come next filing deadline. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/EYJdQtbPZAI

Amare Berhie

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396

Is your worker an independent contractor or employee?

Payroll Service For Small Businesses - The question of whether a worker is an independent contractor or employee for federal income and employment tax purposes is a complex one. It is intensely factual, and the stakes can be very high. If a worker is an employee, the company must withhold federal income and payroll taxes, pay the employer's share of FICA taxes on the wages plus FUTA tax, and often provide the worker with fringe benefits it makes available to other employees. There may be state tax obligations as well. These obligations don't apply for a worker who is an independent contractor. The business sends the independent contractor a Form 1099-MISC for the year showing what he or she was paid (if it amounts to $600 or more), and that's it.

Who is an “employee?” There is no uniform definition of the term.

Under the common-law rules (so-called because they originate from court cases rather than from a statute), an individual generally is an employee if the enterprise he works for has the right to control and direct him regarding the job he is to do and how he is to do it. Otherwise, he is an independent contractor.

Some employers that have misclassified workers as independent contractors are relieved from employment tax liabilities under Section 530 of the 1978 Revenue Act (not the Internal Revenue Code). In brief, Section 530 protection applies only if the employer: filed all federal returns consistent with its treatment of a worker as an independent contractor; treated all similarly situated workers as independent contractors; and had a “reasonable basis” for not treating the worker as an employee. For example, a “reasonable basis” exists if a significant segment of the employer's industry has traditionally treated similar workers as independent contractors. Section 530 doesn't apply to certain types of technical services workers.

Individuals who are “statutory employees,” (that is, specifically identified by the Internal Revenue Code as being employees) are treated as employees for social security tax purposes even if they aren't subject to an employer's direction and control (that is, even if the individuals wouldn't be treated as employees under the common-law rules). These individuals are agent drivers and commission drivers, life insurance salespeople, home workers, and full-time traveling or city salespeople who meet a number of tests. Statutory employees may or may not be employees for non-FICA purposes. Corporate officers are statutory employees for all purposes.

Individuals who are statutory independent contractors (that is, specifically identified by the Internal Revenue Code as being non-employees) aren't employees for purposes of wage withholding, FICA, or FUTA and the income tax rules in general. These individuals are qualified real estate agents and certain direct sellers.

Some categories of individuals are subject to special rules because of their occupations or identities. For example, corporate directors aren't employees of a corporation in their capacity as directors, and partners of an enterprise organized as a partnership are treated as self-employed persons.

Under certain circumstances, you can ask IRS (on Form SS-8) to rule on whether a worker is an independent contractor or employee.

If you'd like to discuss with me how these complex rules apply to your business, to make sure that none of your workers are misclassified, please call my office to arrange for an appointment.

Please call if you would like to explore any of these issues more fully. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/EYJdQtbPZAI

Amare Berhie

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396

Limits on a partner's loss deductions

Virtual CFO Services - As you are probably aware, one of the advantages of doing business as a partnership (or S corporation), as opposed to as a regular corporation, is that the business losses “pass through” to the partners and can be deducted by them on their individual tax returns. Many taxpayers are not aware, however, that limitations apply on how much of a partner's loss can be deducted.

The rule is you cannot take a loss on your individual tax return greater than the basis you have in your partnership interest. The loss is considered to occur on the last day of the partnership tax year, so the key figure is your basis in your interest as of that date. If you are aware of this limitation and of your basis, you may be able to do some planning to increase your allowable loss.

Your basis in your partnership interest starts out as the amount of cash you contribute, the basis you had in any property you contributed, and your share of partnership debt. (If you contribute property subject to debt, the rules get more complex.) After that, your basis is increased by your share of partnership income or gains and any later contributions you make to the partnership. Conversely, it is decreased by cash distributions you receive, by the basis of property distributed to you, and by your share of losses you are able to deduct.

Under these rules, if your share of partnership loss is $10,000 but your basis in your partnership interest is only $6,000, you will only be able to deduct $6,000 of the loss. (The rest is carried forward into future years where it can be deducted as your basis increases sufficiently to cover it.)

If you anticipate being allocated a partnership loss that you will not be able to deduct, consider the following moves to increase your basis before the end of the partnership tax year.

1. Accelerate planned contributions to the partnership. If you are planning to contribute cash or property to the partnership at some point, make the contribution before year end. As noted above, contributions increase your basis in your interest by the amount of cash and the basis of property contributed. In this fashion, you may be able to, in effect, “buy” deductible losses.

2. Defer distributions from the partnership. If you expect a distribution from the partnership, consider having it deferred until after the end of the partnership year. Since a distribution reduces your basis, deferring it will leave you more basis to allow larger loss deductions. (Keep in mind, however, that cash distributions in excess of basis result in taxable gain. Ideally, therefore, the distribution, if of cash, could be deferred until your basis has increased sufficiently to avoid gain on it.)

3. Accelerate partnership borrowings. If the partnership is planning on increasing its borrowings, consider having the new loans taken out by the partnership before its year end. Since the increased partnership loans increase each partner's basis by his share of the debt, partners would be able to deduct more losses.

4. Change allocation of partnership liabilities. You may increase your basis by increasing the portion of the liabilities allocated to you. The rules for allocating liabilities are complex and depend on whether the liabilities are recourse or nonrecourse. However, the rules have some flexibility and it may be possible for you to be allocated a greater portion of the partnership's liabilities without incurring a significant risk of loss if the partnership becomes insolvent.

If you would like my help in implementing any of the above planning moves or would like to discuss this topic further, please give me a call. Click this link to view our YouTube video http://youtu.be/KfO0_kmz7qc

Amare Berhie

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396

Opportunities for Nonfilers to re-enter the system

Nonfilers to re-enter the system - If anyone you know has failed to file tax returns when due, it's important that they be aware of the ways to resolve such a problem. Many nonfilers missed a year for one reason or another, and now are afraid to re-enter the tax system. But in fact, taxpayers who file overdue returns on their own are often treated reasonably well, much better than those who are caught.

For taxpayers who can't pay their entire tax bill at once, there's an installment payment option. IRS will also consider an offer-in-compromise on any of the following grounds: (1) where a taxpayer is unable to pay the tax, (2) where there is doubt as to the taxpayer's liability for the tax, (3) where collection of the full amount would cause economic hardship for the taxpayer, or (4) where compelling public policy or equity considerations exist that provide a sufficient basis for compromise.

An offer to compromise hasn't been rejected until IRS issues a written notice to the taxpayer or his representative, advising of the rejection, the reason(s) for the rejection, and the taxpayer's right to an appeal of the rejection. IRS can't notify a taxpayer or taxpayer's representative of the rejection of an offer to compromise until an independent administrative review of the proposed rejection is completed. The taxpayer may administratively appeal a rejection of an offer to compromise to the IRS Office of Appeals if, within the 30-day period commencing the day after the date on the letter of rejection, the taxpayer requests such an administrative review in the manner provided by IRS.

A streamlined offer-in-compromise program is available for taxpayers with annual incomes up to $100,000. In addition, participants must have tax liability of less than $50,000.

IRS has an independent procedure to review its own proposed rejection of requests for an installment agreement. This internal IRS review must occur before IRS notifies the taxpayer of actual rejection of the installment agreement request. IRS also has a procedure to allow taxpayers to appeal—to the IRS Office of Appeals—IRS's rejection of any request for an installment agreement.

A $5,000 penalty applies to any person who submits an application for a compromise or an installment agreement if any portion of the submission is either based on a position which IRS has identified as frivolous, or reflects a desire to delay or impede the administration of federal tax laws. However, this penalty is clearly aimed at those who abuse the process and should not deter taxpayers with legitimate applications from using the compromise or installment agreement processes.

Once a return is filed, IRS has three years in which to audit it. After that, the return is final. If no return is filed, there's no statute of limitations. IRS can come after the taxpayer at any time, even many years later.

Some nonfilers are actually entitled to refunds. A return claiming a refund can be filed at any time, but only the tax paid within the three years before the return was filed can be recovered. Tax withheld during a calendar year is considered paid on Apr. 15 of the next year. Estimated tax is considered paid on the return due date, which is generally also Apr. 15. Thus, a return filed more than three years late will likely be fruitless as a refund claim.

Our office can help nonfilers to file the necessary returns and take advantage of the available IRS programs. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/KfO0_kmz7qc

Amare Berhie

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396 

Lost money from investing in a fraudulent investment arrangement such as Madoff's Ponzi scheme

Experienced Tax Accountant – IRS has announced special relief for victims of Bernard Madoff's Ponzi scheme (and for investors in other similar fraudulent schemes). Because Madoff's scheme continued for years, many investors are faced not only with the loss of their original investments, but also with having paid taxes on “phantom income,” based on fraudulent statements sent by Madoff's firm to investors over a number of years.

The first question IRS answers—generally positively for investors—is exactly how the loss from the investment will be treated for tax purposes. If the loss was considered a capital loss, which is often the case when a taxpayer loses money on an investment in stocks or securities, individual taxpayers would be limited to offsetting the loss against their capital gains, plus an additional $3,000 allowed as a deduction against ordinary income. Although the excess loss can be carried forward indefinitely, it would do little for losses of the magnitude incurred by the typical Madoff investor. So it was good news for investors when IRS announced that investors can take an ordinary loss deduction and the deduction isn't subject to the 2% of adjusted gross income (AGI) limit on miscellaneous itemized deductions, the income-based limitation on itemized deductions, or the 10% of AGI limitation on the deduction for casualty losses.

When the deduction is taken. Taxpayers can deduct the loss in the year the theft was discovered, which was 2008 for Madoff investors. This deduction can be taken if the loss isn't covered by a claim for reimbursement or other recovery that has a reasonable chance of occurring. If there is a reasonable chance of recovery, the taxpayer must either reduce the deduction by that amount or, alternatively, make a special election under a 2009 revenue procedure, which is discussed farther below. If, after reducing the deduction, the taxpayer actually recovers less than the reduction in a later year, he or she can take an additional deduction in the year the recovery amount is ascertained. And a taxpayer is required to include in income any amount recovered greater than the amount anticipated at the time of taking the deduction.

The amount of the deduction. According to IRS, the amount of the theft loss is determined by adding to the amount of the initial investment any additional investments and any amounts the taxpayer reported as income and reinvested, minus any amounts withdrawn over the years and any reimbursements or likely recovery.

Here's an example. Assume A invested $500,000 with Madoff's scheme in 2002, reported $40,000 of income on the investment each year in 2003, 2004, 2005, 2006, and 2007, all of which ($200,000) he reinvested. A made no withdrawals over the years, and has filed a claim for reimbursement with the Securities Investor Protection Corporation (SIPC). A is likely to recover $500,000, which is the most any investor can recover from SIPC (subject to a $100,000 cash maximum). His ordinary loss deduction for 2008 is $200,000.

There is an alternative way to calculate the loss under an elective provision, which is described below.

Net operating losses. Taxpayers with losses from Madoff's fraud may have loss deductions in excess of their income for 2008. Under the general rules for net operating losses (NOLs), the losses can be carried back two years and forward 20 years. For casualty or theft losses, the carryback is increased to three years. For 2008 and 2009 NOLs, most taxpayers could elect a three-, four- or five-year carryback period (instead of two years). In addition, a special increased carryback period election was available for small businesses, but only for 2008 NOLs. The interaction of the NOL rules with the rules for other deductions and credits is complex; if you had a potential NOL, you needed tax advice before choosing a carryback period.

Safe-harbor relief. Some investors will qualify for elective relief under Rev Proc 2009-20, 2009-14 IRB 735. The amount of the investment that qualifies for relief under the revenue procedure is the same as it is under the rules described above. But the amount to be deducted is 95% of the qualified investment if the investor doesn't pursue any potential third party recovery or 75% of the qualified investment if the investor is pursuing or intends to pursue a third party recovery. These amounts must be reduced by any actual recovery or potential SIPC recovery. The biggest advantage of this method is that the deduction isn't further reduced by a potential direct or third party recovery (although further deductions or income from losses or recoveries occurring in later years are covered by the rules above). The safe harbor can be elected only by investors who invested directly with Madoff (or in a similar fraudulent scheme).

To qualify for relief under Rev Proc 2009-20, investors must file Form 4684, Casualties and Thefts, marked “Revenue Procedure 2009-20,” with the tax return for the year in which the theft was discovered. Appendix A of Rev Proc 2009-20 contains a worksheet for calculating the amount of the theft loss and a statement that must be signed by the investor and submitted with Form 4684. We expect that this can be done on extension.

State tax treatment. Each state may treat these losses differently. New York, for example, has announced that it will recognize the safe harbor under Rev Proc 2009-20 for purposes of determining the amount of New York state itemized deductions for the theft loss. However, itemized deductions in New York are reduced for taxpayers with income in excess of certain thresholds (that is also the case for federal income tax purposes, but the IRS has explicitly excepted these losses from those reductions). And the NOL provisions permitted for federal purposes aren't permitted for New York because the state allows NOL deductions only for losses attributable to a business, trade, profession, or occupation carried on in New York. The losses from a Ponzi-like fraudulent investment arrangement generally won't qualify.

Please call me if you are interested in additional information on these issues. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/EYJdQtbPZAI

Amare Berhie

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396

How to open and fund myRAs, a US Treasury- administered Roth-IRA variant

Virtual CFO Services - On its website, the U.S. Department of the Treasury has provided more details on a retirement plan option it will administer directly for employees of private sector companies. It's called the myRA (my Retirement Account), it's a type of Roth IRA aimed at employees with no other retirement plan, and it's invested in a unique U.S. Treasury security.

AB Tax Accounting observation: Although Treasury materials consistently describe myRAs as a new type of Roth IRA, IRS hasn't issued guidance of any sort addressing this new variation. It appears as if Treasury will be the exclusive provider of information about this new retirement avenue.

Background on Roth IRAs. A Roth IRA is an individual retirement account (IRA) that is designated as a Roth IRA when it's established. (Code Sec. 408A(b)) It's treated as a traditional IRA except to the extent that special rules apply to it. (Code Sec. 408A(a))

An individual can make annual nondeductible contributions to a Roth IRA in amounts up to $5,500 (for 2015) (plus an additional $1,000 for those 50 and older), or 100% of compensation if less, reduced by the amount of contributions for the tax year made to all other IRAs. For 2015, the allowable contribution phases out ratably (in $10 increments) over the following levels of modified adjusted gross income (MAGI): for joint filers, $183,000 to $193,000; for married persons filing separately, $0 to $10,000; and for single taxpayers and heads of household, $116,000 to $131,000. (Code Sec. 408A(c))

Qualified distributions from Roth IRAs aren't included in income. These are distributions made after the five-tax-year period beginning with the first tax year for which the taxpayer or the taxpayer's spouse made a contribution to a Roth IRA established for the taxpayer, including a qualified rollover contribution from an IRA other than a Roth IRA, and that are made: (1) on or after attaining age 591/2; (2) at or after death (to a beneficiary or estate); (3) on account of disability; or (4) for a first-time home purchase expense up to $10,000.

Distributions that aren't qualified distributions are treated as made first from contributions to all of an individual's Roth IRAs and are nontaxable to that extent. Distributions in excess of contributions are taxable, and the amount includible in income is also subject to the 10% early withdrawal tax unless an exception applies. (Code Sec. 408A(d))

Background on myRAs. In his 2014 State of the Union address, President Obama promised that he would take executive action to create myRAs, a “starter” savings accounts that would be available through taxpayers' employers and backed by the U.S. government. MyRAs were described as being simple, safe, and affordable starter savings accounts to help low- and moderate-income taxpayers save for retirement. The President subsequently directed Treasury to effectuate this program (see Weekly Alert ¶  2  02/06/2014). Treasury issued some preliminary promotional materials on myRAs in May of 2014 (see Weekly Alert ¶  21  05/22/2014).

Now, Treasury has launched a multi-faceted website offering more detailed information, including how to actually sign up and get going on retirement savings through myRAs.

What is a myRA? In essence, a myRA is a government-administered Roth IRA authorized to hold only one type of investment, described as a “new United States Treasury security which safely earns interest at the same variable rate as investments in the government securities fund for federal employees.” The latter fund is described as having an average annual rate of 3.39% in the 2003—2013 period. The myRA holder pays no fees for maintenance of the account.

AB Tax Accounting observation: The reference to the government securities fund appears to be a reference to the G Fund, i.e., the Government Securities Investment Fund, which is one of the investment choices for federal employees' thrift savings plans. On the federal government's thrift savings plan (TSP) website (https://www.tsp.gov/investmentfunds/fundsheets/fundPerformance_G.shtml), the G Fund is described as investing exclusively in a nonmarketable short-term U.S. Treasury security that is specially issued to the TSP. The earnings consist entirely of interest income on the security. The payment of G Fund principal and interest is guaranteed by the U.S. government, and, as such, the G Fund investment is not subject to credit (default) risk. The G Fund interest rate calculation is based on the weighted average yield of all outstanding Treasury notes and bonds with 4 or more years to maturity. As a result, participants who invest in the G Fund are rewarded with a long-term rate on what is essentially a short-term security.

A myRA is subject to the same rules that apply to private Roth IRA, including the MAGI-based eligibility for contributions, maximum annual contributions, and tax treatment of distributions.

MyRAs belong to their owners and are not associated with any employer. This way savers can continue to use the same myRA account even if they move to a new job. They just need to set up direct deposit with the new employer. And if savers have more than one job, they can request contributions to be set up through each employer (although total contributions from multiple sources can't exceed the Roth IRA annual contribution limits).

Who can open a myRA? Currently, myRAs are available only individuals who work for an employer that offers direct deposit and is able to direct a portion of their paycheck to their myRA account. Treasury says that in the future it will open up the myRA to others (presumably to self-employeds and employees that don't work for a company that offers direct deposit).

How to open a myRA and contribute to it. The only way to open a myRA is on Treasury's website. The individual then starts funding the account by submitting a direct deposit authorization (provided by Treasury) to his or her employer. Contributions in the amount indicated by the employee are made each pay period and are direct-deposited into the employee's myRA. The funds are then invested in a new type of U.S. government security designed for myRAs.

Automatic myRA rollover to private Roth IRA. Participants can save up to $15,000, or for a maximum of 30 years, in their myRA account. When either of these limits is reached, the myRA will have to be rolled over to a private sector Roth IRA. A rollover to the private sector allows savers to continue to grow their savings past the maturity of their myRA starter savings account.

Treasury says savers also can choose to roll over their account balance into a private-sector Roth IRA at any time, and promises to release more information about rollover to the private sector in the future.

What's in it for an employer? Employers that don't offer any kind of retirement plan may want to look into promoting myRAs to employees. It's a retirement plan option that costs nothing for participating employers, since they don't administer employee myRA accounts, contribute to them, or match employee contributions. Each payday, a participating employer simply facilitates a payroll deduction from the employee's paycheck to the designated myRA account.

A separate section of Treasury's myRA website features an employer page that carries a variety of materials that companies can use to encourage employees' myRA participation. These include: a poster to hang in the workplace, a double-sided brochure that can be printed or shared electronically with employees, a web banner directing employes to myRA.treasury.gov, for use on a company intranet site or other internal communication channels, and FAQs that can be printed or emailed.

I hope you find this summary helpful. I look forward to hearing from you. Click this link to view our YouTube video http://youtu.be/EYJdQtbPZAI

Amare Berhie

AB Tax Accounting

info@abataxaccounting.com

(651) 621-5777, (952) 583-9108, (612) 224-2476, (763) 269-5396