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IRS
Bumps Up Mileage Deductions
In response to
rocketing gas prices, IRS just increased deductions for business
driving. The rate of 50.5 cents for each business mile was
pushed all the way up to 58.5 cents beginning July 1, 2008.
Normally the rate is set in December for the coming year. The
increase will help, but force you to keep track of business driving
for each half of the year.
This is a valuable
deduction. Income is taxed in $50 steps. The new rate save
a step each 85 miles. Business owners and landlords may count
every mile driven for "bona fide and non-trivial" business
trips. Employees must itemize deductions to get a benefit. They
also must combine all work-related deductions, and only benefit to the
extent the total exceeds 2% of income.
IRS auditors
suspect we claim more deductions than we should. Please keep
clear records of your driving. The deductions are more valuable
than ever, but we might need to defend them.
Economic
Stimulus - Got Your Check?
No doubt about it -
this has been the hottest topic of conversation for the past few
months. By now, most of you entitled to a rebate have received
the money. Congress wanted you to spend it to help jumpstart a
sluggish economy. Lots of us spent it at the gas pump!
IRS Time
Loss.
Congress passed
this law in February - easily the busiest time of year at IRS.
Income tax brings in over $1 trillion. Now IRS was told to give
about 10% of this back! As quickly as possible. IRS
devised procedures, software, and notices. They were ready just
weeks after April 15.
Then the problems
popped up. Easiest way to send you the money - do the same as
for your tax refund. Whoops! Some folks had the refund
sent to an IRA account. And that's where the rebate went.
Some folks had moved, or changed banks, or even passed away.
Folks who got "Rapid Refunds" saw their rebates sent to the
company that made the "loan" for the refund. IRS solved the
problems, but all this takes time.
These might sound
like unusual problems. Consider this. Americans file just
over 130 million tax returns. Even a
"one-in-a-million" problem popped up about 130 times!
IRS has done a
remarkable job of handling the program. But, at what cost?
Figures aren't in yet, but we can apply a little arithmetic to this.
Suppose IRS spent an average of just 10 seconds dealing with each
return. Multiply this by 130 million returns. Translate
this into 40-hour workweeks for IRS employees. It works out to
be full-time for May, June, and July for 750 IRS workers!
That's just IRS.
You spent time asking and learning. I spent
time on careful study to learn how it works, then more time explaining
it to you.
Rebate
Facts
I'm still getting
questions, so let's review the basics of the rebates.
Rebate. The payments are a non-taxable "rebate" or "refund" of some of your tax. The maximum rebate any filer could receive is $600. If your tax bill was smaller, you got your tax back. If your tax was less than $300 you could qualify for the "minimum" rebate of $300. Couples could get a $1,200 on a joint return (two filers). Any dependent who had not reached age 17 by yearend added $300 to the possible rebate. Folks with high income - $75,000 for single filers, $150,000 for couples - face a phase-out that can reduce or eliminate the rebate. IRS will review all returns filed by October 15 to issue rebates. 2008 Return. The rebate is really a tax credit for your 2008 tax return. Congress wanted the money to go out as soon as possible and told IRS to base payments on your 2007 return. We need to address this on your 2008 return. If you already got the maximum, good. If you got less, you can claim the rest if you qualify. If you got more than your 2008 return would allow, you may keep the excess.
Please Keep
Track
of what you received. IRS will probably send reminders in January.
Your 2008 tax return will require that we show what was received in
2008.
Changes
Coming - But When?
The need for change
is taking a back seat to politics. Upcoming national elections
will decide a new President and perhaps shift the power balance in
Congress. Some areas of tax law are in dire need of change, but
this rarely happens in an election year.
There are other
challenges, too - activity in the Mid-East, spiraling oil prices, a
weak economy, and more.
2008 is more than
half gone, and some important tax issues have not yet been settled.
Alternative
Minimum Tax.
This calculation
was invented in 1981 to prevent wealthy taxpayers from using
specialized deductions and credits to reduce their tax. The
deductions and credits are largely gone, but the tax lingers on.
Large numbers of middleclass Americans now have incomes that are
"high" by 1981 standards. The law is not indexed for
inflation, and Congress has not revised it in years. They have
used short-term "band-aids" since 2001. We expect
another for 2008. Without it, the Treasury Department says 24
million new filers will face the tax.
Estate Tax.
Most governments
collect a "transfer tax" after a death. An estate tax
is collected before the assets can be passed on to the heirs. A major
2001 tax law revised this for years through 2009. This law
allows the tax to expire for the single year 2010, and then restores
it to 2001 levels with some adjustments for inflation. At issue is the
year 2010, when there is not scheduled to be any form of estate tax.
When the law was passed, it was clear this is ridiculous. It was
understood as a "mandate" for a future Congress to revisit
the issues. We're still waiting. Meanwhile, estate
planning is very hazardous. The laws are certain to change - but
what will they be? We'll need to wait until 2009 to find out.
Extender
Issues.
Several items
expired after 2008. Congress they favor extending them. So
far, just talk. Energy Credits helped homeowners make homes more
energy efficient - they expired, but energy concerns are more urgent
than ever. Older folks had an incentive to contribute to charity
directly from IRA accounts - expired. Folks in states without an
income tax were allowed to deduct state sales taxes instead - expired.
Teachers could deduct modest amounts of classroom supplies without the
need to itemize deductions - expired. We have only a promise -
and the campaigns!
Home
Foreclosure - Thorny Tax Issues
Mortgage
Bankers Association Says 1 Million U.S. Homes Are In Foreclosure.
Tax Laws Don't
Offer Encouragement or Clear Answers.
Sub-prime loans,
weak economy, downward spiral of home prices. Place the blame
where you like - it remains a real and very serious problem. I
wish I could tell you the tax implications are simple - they are not.
Homeowners
Only. The
rules for homeowners are discussed here. You'll need to call me if you
risk the loss of a rental, or a business or investment property.
$250,000 In
Loans, But Value of $200,000. I'll
use these numbers for this discussion.
If A
Property is Lost there
are two different tax issues to consider. Whether lender
forecloses, or you agree to "deed back" the property, or
your realtor finds a buyer and lender agrees to accept a "short
sale", we still have:
1)
Disposition (or sale). The
home is no longer yours. You have a "sale" or
"disposition" to report on your tax return. But, the
"sale price" depends on the type of loan. Tax law
divides loans into "non-recourse" and "recourse".
If your loan is non-recourse your lender has recourse only to the
property, and tax law says you report the sale as if you sold for the
loan balance of $250,000. On the other hand, if the loan is
considered a recourse loan, the sale is reported at $200,000, the true
sale value. How can you know which it is? There's the rub.
Often we're not sure. Some states consider your original loan to
buy the property to be non-recourse. For other states or other
loans the answer is not clear. Many real estate attorneys
hesitate to answer, saying "I don't do tax work."
Fortunately, tax on the sale is rarely an issue. Loss on your
home is not deductible, and gain is excluded in most cases. The
real problem lies with the possibility that you now have:
2) Income
From Relief Of Debt. If
we report a "sale" for $200,000, what about the missing
$50,000? Lender often does not pursue the money, and cancels the
debt. This may be TAXABLE INCOME! You owed the money fair
and square. Now you don't. That's income. You've lost the
home, and face extra income tax! With very low income, there
might not be tax. Beyond this, there are only 3 ways to escape tax on
debt relief income:
a)
Bankruptcy. Filing for bankruptcy is a serious step.
Nonetheless, any debt forgiven in a bankruptcy is not taxed.
Seek counsel from someone else here.
b)
Insolvency. We must calculate your "net
worth". You are insolvent by $50,000 on the loan in question.
We must look at everything else. If your liabilities exceed
assets in other areas by, say $35,000, you may exclude $35,000 of
the debt relief. The calculation looks at ALL assets and
liabilities. Everything you own, including retirement accounts,
insurance, personal possessions - all must be counted! This is a
tough job.
c) New
Law. For 2007, 2008, and 2009 you may exclude income
from debt relief on any loan(s) considered to be "Acquisition
Indebtedness". That's a loan you used to "buy, build
or substantially improve" your primary residence. If that
$250,000 loan is the "original " loan, we're home free. But,
if you re-financed (or took a second mortgage, or home equity loan) we
must know the balance of the original loan at the time, plus the
amount of any extra borrowing that went directly for more
improvements. Suppose the original loan was at $215,000, and
none of the new borrowing was spent for the home. The
$50,000 that was canceled is $15,000 of the original loan, plus
$35,000. Only $15,000 may be excluded, and you will owe tax on
the other $35,000.
Mandatory
Pension Withdrawals
There are two cases
in which you are forced to make withdrawals of retirement money each
year. This includes all pensions, IRAs (except a Roth IRA), and
self-employed plans. You must take minimum annual amounts:
1. From your
own accounts starting the year you reach 70 1/2.
2. From any
inherited account starting the year after the account owner's death.
Your Own
Account - age 70 1/2. Your
custodian (bank or broker) tells you the figure early each year.
He divides your account balance at the end of the prior year
by a factor from the table below using your age at the end of the current
year:
Age
Divisor
70
27.4
71
26.5
72
25.6
73
24.7
74
23.8
75
22.9
76
22.0
77
21.2
78
20.3
79
19.5
80
18.7
81
17.9
82
17.1
83
16.3
84
15.5
85
14.8
86
14.1
87
13.4
88
12.7
89
12.0
90
11.4
91
10.8
92
10.2
93
9.6
94
9.1
95
8.6
96
8.1
97
7.6
98
7.1
99
6.7
100
6.3
The table goes to
age 115, but you get the idea. You may take more out, but you
must take at least this much. Take less and IRS charges a
penalty of 50% of the shortfall. Then you still have to take the
rest out! If you have multiple accounts, you may combine the
balances and take from whichever you choose. But, be warned -
the other custodian will send multiple warnings. After all, he
does not want to be held responsible if IRS should penalize you.
Inherited
Account - Year Following Death. Suppose
Aunt Mary passes away and you inherit her IRA. If she died in
2007, you have mandatory withdrawals each year starting in 2008.
This situation uses a different table than the one above.
However, the calculation works the same way, and so do the penalties.
Contact me if you need help with the calculations or other details.
IRS
Audits Mortgages Over $1 Million
Not many folks have
mortgages over $1 million. For those who do, there is a limit on
their interest deductions. IRS is beginning to enforce those
limits.
The Rule.
Until
1987 we had no limits on home mortgage interest. Today you may
deduct mortgage interest on loans to buy or improve your main home and
on a second personal-use residence. But, there is a
"cap" on the size of the loans. Interest on
loans over $1 million is NOT deductible. The only exception
allows "equity" borrowing of up to an additional $100,000.
However, the "cap" never allows loans totaling more
than $1.1 million. There are other rules, but look how easy it
is for IRS to spot this one.
IRS
Enforcement. Until
the past year or so, IRS paid little attention to mortgage deductions.
When the "caps" were invented in 1987 very few Americans had
loans of this size. Today, homes costing over $1 million are not
so rare. Consider the IRS viewpoint. These loans are easy to
spot. The money collected at the audit can be large. So
--- let's conduct some audits!
Deciding who to
audit is easy. If mortgage interest rates are generally in the
range of 5% to 7%, all we need do is calculate the interest on $1
million. It works out to $50,000 - $70,000 annually.
Suppose IRS spots a tax return with $100,000 of mortgage interest.
It's a sure bet they'll gain some tax revenue. This taxpayer is
deducting $30,000 - $50,000 too much interest. The tax on this
"adjustment" depends upon tax brackets, but this is not
likely to be a low-income filer!
IRS is currently
auditing returns for 2006. However, when they find an adjustment that
might be a repetitive error, they invoke the Statute of Limitations.
This allows them to review the 3 most recent returns for the same
error. A nice piece of change for a couple of hours' work!
Tax
Breaks For Education
Each year at
"back to school" time I am bombarded with questions on
schooling and taxes.
Generally speaking,
education is not deductible. There are, however, some exceptions.
Pre-School
& Day Care.
Your child's education
gives no tax breaks. Care of the child qualifies
if the care allows you to work. For a couple, both spouses must
be employed (unless one is handicapped). Once kindergarten
begins, only after-school care, and summer care programs qualify.
Once the child reaches age 13 all this ends.
Grade
School & High School.
Generally there are
no tax breaks allowed for basic education.
College
& Beyond.
There are special
credits here. Only tuition and fees are counted. Costs of
books, travel, lodging, and so on are ignored. Your savings
decline as your income rises. The credits begin to phase out at
income of $47,000 for singles, and $94,000 for a couple. Through
2007 there was a special deduction of up to $4,000. We were
allowed to calculate the credit and the deduction and claim the larger
benefit. The deduction has expired, but Congress talks of
reinstating it. Wait and see.
Job Skills
Improvement.
You may be able to
claim an itemized deduction for the costs. Here you include all
costs, not simply tuitions. If the education or training would
qualify you for a new occupation, however, no deduction is allowed.
Tax-Favored
Savings Programs.
Two programs give
limited benefits. No deductions are allowed, but the savings
grow tax-free, and then the growth is fully tax-free, if it is spent
for the proper educational expenses. The Coverdell Education
Savings Account (ESA) allows up to $2,000 to be set aside each year.
The money may be spent on education from grade school and higher.
The Qualified Tuition Programs (often called "Section 529
Plans") allow much larger accounts, but may only be used for
college and above.
Tips
For You
Youngster
Had A Summer Job? If
yours had that first summer job you may have some questions.
Will this change my own taxes? Will my youngster be taxed, too?
Some facts, plus a couple of suggestions.
If the child won't
reach age 19 in 2008 you still have a dependent. The youngster
may be taxed, but the tax is likely zero. The first $5,450 of
"earned" income is tax-free. The youngster needs to
file a return if there is withholding, and it is likely there will be
a refund.
Think about that
refund. Why not try some financial training with your youngster!
A refund is always appealing, but suggest the youngster open a Roth
IRA. Not a large account, say $200 or so taken from the refund.
You just might start a valuable savings habit!
Moving
MIGHT Be Deductible.
Most folks think
you may deduct costs whenever you move. Not so simple.
Your move needs to be connected to your work. The tax system
looks at you as a producer, not a person. The
rules look at the situation where you work.
Step 1. You
must change jobs, take a new job, or be transferred by employer.
Step 2. The
new place of work must be at least 50 miles farther from the
old home than the old job. See the logic? The new work
makes for a longer commute. Effectively, you were forced
to move.
Step 3. The
new work must be more or less "permanent". We test this by
asking if you worked in the new location for at least 39 weeks during
the first 52 weeks after your move. A transfer by employer is an
exception to this test. If you're self-employed, you must
maintain the business for 1 1/2 years during the 2 years following the
move.
Expenses.
If
you pass the tests, you may deduct the entire cost of moving you, your
family, and all possessions to the new location. Include any
costs to pack and prepare materials, special shipping costs,
insurance, truck rentals, and the like. You may also claim costs
for temporary storage at the time of the move.
Medical
Expense Tune-Up.
First, I hope you never
do have sufficient medical expenses to get tax deductions.
If you do have large expenses, though, I want you to get full value
from the deductions. You must itemize deductions to claim
medical expenses, and your costs count only to the extent they exceed
7.5% of your income. Again, I hope it never happens in your
family.
Medical costs
include all care of mind and body. We think of doctors,
certainly. Add to the list all dental care, eye care, even
psychological counseling. Count the cost of tests and diagnostic
procedures. Any costs of a hospital stay count.
You may include the
cost of any health insurance. This also includes smaller
policies for eye or dental care, or that little cancer policy.
With drugs, only
prescriptions count. Self-prescribed items, or food supplements
do not. Usually "over-the-counter" items won't
qualify.
Non-traditional
care depends on whether your state requires a license for the
practitioner. Acupressure, acupuncture, therapeutic massage and
physical therapy require licenses in most states.
The list goes on
and on. Call me if you have other expenses. I can help decide
whether they count.
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