Estimated Tax, Do you need to pay?

Posted by Bruce Mc on Jul 22, 2011 in Estimated Tax, Information, Tax Preparation | 0 comments

What Is Estimated Tax?

Estimated tax is the method used to pay tax on income that is not subject to withholding, such as self-employment income, interest, dividends, rents, alimony, etc. In addition, if you do not elect voluntary withholding, you should make estimated payments on other taxable income, such as unemployment income and the taxable portion of Social Security benefits.

Who Needs to Pay Estimated Tax?

In most cases, you must make estimated payments if you expect to owe at least $1,000 in tax in 2011 and you expect your withholding and credits to be less than the smaller of:

1. 90% of the tax shown on your 2011 tax return, or
2. 100% of the tax shown on your 2010 tax return. Note that exceptions apply for higher income taxpayers (see below). Further, if you did not file a 2010 tax return or if your 2010 return did not cover the full 12 months, the 100% rule does not apply.

Higher Income Taxpayers.

If your adjusted gross income for 2010 was more than $150,000 ($75,000 if your filing status for 2010 is married filing separately), substitute 110% for 100% in Rule 2. This rule does not apply to farmers or fishermen.

Farmers and Fishermen.

If at least two-thirds of your gross income for 2010 or 2011 is from farming or fishing, your required annual payment is the smaller of:

• 66% (.6667) of your total tax for 2011, or

• 100% of the total tax shown on your 2010 return. (Your 2010 tax return must cover all 12 months.)

Don’t hesitate to contact us if you’re not sure whether you need to pay estimated tax. We’ll evaluate your situation and let you know.

Itemizing deductions – Schedule A

Posted by Bruce Mc on Jan 4, 2010 in | 0 comments

Getting the Most out of Itemizing your deductions.

Itemizing deductions is an incredibly easy theory to understand, yet the strategies behind it all can be intricate and countless.

Free Quicken Online automatically categorizes your expenses.

The rule for when to itemize is simple = you do it if the total of your itemized deductions is greater than your standard deduction.

First of all, your tax is based on your “taxable income.” That’s your total income after you’ve subtracted above-the-line deductions like your Individual Retirement Account (IRA) or other qualified retirement-plan contributions, moving expenses or alimony payments, plus your personal exemption and either :

Your standard deduction or, Your itemized deductions.

Your itemized deductions are sometimes referred to as “below-the-line” deductions. (“adjusted gross income” -aka AGI- is “the line.”) Clearly, the more you can deduct, the less in tax you’ll owe.

Here are the standard deductions that apply to 2011 taxes:

Some taxpayers must itemize, even if their deductions are less than the standard deduction. You must itemize your deductions if:

• You are married, filing separately, and your spouse itemizes.
• You are a U.S. citizen who can exclude income from U.S. possessions.
• You are a nonresident or dual-status alien.
• You file a short-period return because of a change in your accounting period.
  • There are eight sections  On Schedule A. Seven of which are itemized expenses that you can deduct on your taxes:

Medical and Dental expenses.

Taxes. These include state and local income taxes, property taxes on real estate, intangible taxes (on the value of stocks and bonds you own) and on personal property taxes on such things as cars. 

Interest expenses. For most people, these are limited to home mortgage interest, points (interest that’s prepaid to buy a home), and some interest on investments and education expenses. For most taxpayers, the mortgage deduction is what lets them itemize. If you take out a 30-year, $140,000 mortgage at 6%, you will generate about $8,350 in deductible interest in the first year.

Charitable contributions.

• See also my Fair Market Value Guide. (recently updated for 2010 filing)

Casualty – Theft losses

Job & Misc. Expenses

Other Misc. Deductions

Total Deductions

The key, then, is to maximize the value of your itemized deductions. Here’s where planning can put dollars in your pocket. Ask your Tax preparer a list of deductions to see What You Can Itemize.

Dealing with the floors

Some itemized deductions — including medical expenses or miscellaneous deductions such as investment expenses, safe deposit fees, professional education, employee job-hunting expenses and tax-preparation fees — are not allowed until they exceed a certain “floor” amount.

The toughest floor to exceed is medical expenses. No medical expenses are allowed as itemized deductions except for the amount that exceeds 7.5% of your adjusted gross income. That means if you have an adjusted gross income of $100,000, the first $7,500 of your medical expenses doesn’t count. But sometimes, elective medical expenses can be accelerated or even deferred. Orthodontia payments for you or your dependents can often be extended. They always can be accelerated. These expenses are deducted in the year they are paid, not necessarily in the year the service is rendered.

If you can already pass the 7.5% test for allowable expenses or these expenses would put you over the minimum hurdle, you should consider accelerating them. If you lack the cash, consider charging the expenses.

On credit card charges, you are allowed the deduction in the year of the charge, not in the year that the charge is paid off.

Don’t automatically accelerate if it puts you over the 7.5% floor. Remember, your total itemized deductions must exceed your standard deduction before you get any real additional benefit from any of them. Allowable medical expenses are just one component of the package.

If you don’t exceed the 7.5% floor or your total itemized deductions don’t exceed your standard deduction this year, you should consider deferring your payments or any elective medical procedures. You get the use of the money — and any investment returns. In any case, you may be able to use the deductions in the subsequent year when you revisit the itemization question.

Miscellaneous itemized expenses are also deductible only after they exceed a minimum floor. In this case, it’s 2% of your adjusted gross income. So, with an adjusted gross income of $100,000, your first $2,000 of miscellaneous itemized deductions won’t count.

But here again, many of these deductions can be either accelerated or deferred. Miscellaneous itemized deductions such as those mentioned above often can be paid in the year of your choice. Many of my clients send my tax-preparation fees to me on Dec. 31 in order to get the deduction in the year the check was mailed. I don’t get the income until I receive the check — in the new year.

The rule here is the same as with medical expenses. First, qualify the expenses to be included in the deductible pot. Then, only if you expect to itemize, accelerate. If not, defer.

Interest and tax payments

Some interest and tax payments can be handled in the same way.

Let’s look at the interest you are paying. Your January payment on your mortgage includes the interest you accrued for December of the previous year.

Example: By making your January 2012 payment on Dec. 31, 2011, you have accelerated a full month’s interest deduction into 2011.

In the 25% bracket for 2011 on a $1,000 interest payment, that saves you an immediate $250 on April 15, 2012. By doing that each year, you have created an interest-free loan of that $250 in perpetuity or at least until the loan is paid off.

Unfortunately, you can’t prepay two or three months in advance because the interest deduction must relate to the year the money was used. But your Dec. 31, 2011 payment will be for the use of the money during December 2011.

You can accelerate some tax payments as well. If you don’t pay your real-estate tax in your mortgage, you have the opportunity to accelerate your real-estate tax payments. I am billed in the 4^th quarter of my real-estate taxes January of the following year. But I actually make my payment on Dec. 31 of the previous year. The technique is the same with estimated state income tax payments. I make my estimated state income tax payment, due in January in December.

Any voluntary expenditure can be accelerated or deferred. Your gifts to charity are the best example. Whether your $1,000 pledge to your church or synagogue is sent on Dec. 31, 2011 or Jan. 1, 2012 makes little difference to the charity receiving the money. However, in the 25% bracket for 2011, it can make a $250 difference to your tax bill — but again, only if your total itemized deductions exceed your standard deduction.

Personally, if I can qualify for itemizing my taxes, I want to accelerate my tax savings.

And my favorite quotes fits here:

“Not everything that counts can be counted, and not everything that can be counted counts”. – Albert Einstein

A brief overview of the alternative minimum tax (AMT).

Posted by Bruce Mc on Nov 17, 2009 in AMT, History, Opinions, Things forgotten | 0 comments

          The Alternative Minimum Tax (or AMT) is an extra tax some people have to pay on top of their regular income tax. Okay that sounds pretty messed up, doesn’t it?

          In recent years, the AMT has been under increased attention. Why? Well, put simply, because the AMT is not cataloged or set up for inflation, thus because of recent tax cuts, an increasing number of middle-income taxpayers have been finding themselves subject to this tax. Until recently, the AMT affected less than 1% of all individual taxpayers. However, since the year 2000, the AMT has steadily grown, hitting roughly 3% of all taxpayers in 2005.  Moreover, if left unchanged, the AMT will penalize nearly 20% of taxpayers by 2010. Almost 95% of all married filing joint couples. 

          The number of taxpayers affected by the Alternative Minimum Tax (AMT) is expected to exceed 30 million in 2010. Now that is really messed up. 

          So, lets back up a bit further. The original idea behind the AMT was to prevent people with very high incomes from using special tax benefits to pay little or no tax. The name comes from the way the tax works. The AMT provides an alternative set of rules for calculating your income tax. In theory, these rules determine a minimum amount of tax that someone with your income should be required to pay. If you’re already paying at least that much because of the “regular” income tax, you don’t have to bother with the AMT. Sadly on the other side of this issue, if your regular tax falls below this “minimum”, you have to make up the difference by paying an alternative minimum tax.

Okay, it is still messed up.

Some History

          The AMT was introduced by the Tax Reform Act of 1969 and became operative in 1970. Why Was the AMT Enacted? Well, Congress enacted the AMT in 1969 following testimony by the Secretary of the Treasury that 155 people with adjusted gross income above $200,000 during tax year 1967 (In inflation-adjusted terms, their (the 155 people) 1967 incomes would be roughly $1.5 to 2 million in today’s dollars.), had paid zero federal income tax on their 1967 tax returns.

           This tax avoidance by these “few” high-income taxpayers was widely perceived as unfair. Rather than directly addressing the problem by eliminating their deductions and credits in the tax code that were leading to the tax avoidance in the first place, Congress laid an additional layer of complexity over the regular income tax in the form of the AMT. 

Again, It was intended to target 155 high-income households.

           The Tax Equity and Fiscal Responsibility Act of 1982 holds the foundation for the present day individual alternative minimum tax, somewhat. Enough anyway for this article.

          The alternative minimum tax operates in effect as a parallel tax system, with its own definition of taxable income, exemptions, and tax rates. Taxpayers compute tax owed under the “regular” and AMT systems and are liable for whichever is higher. The AMT system has in general a broader definition of taxable income, a larger exemption, and lower tax rates than the regular system.

         In 1969 the minimum tax was a 10 percent flat rate. Over the years the AMT has evolved and increased in complexity. As of the latest revision, there is a two tier system: 26 percent and 28 percent for individuals.

          There is an AMT for those who owe personal income tax, and another for corporations owing corporate income tax. Only the AMT for those owing personal income tax is described here.

History of the Alternative Minimum Tax  

• Tax Reform Act of 1969 – Introduced the “add-on” minimum income tax of 10% in excess of an exemption of $30,000.
• Excise, Estate, and Gift Tax Adjustment Act of 1970 – Allowed deduction of the “unused regular tax carryover” from the base for the minimum tax.
• Revenue Act of 1971 – Imposed minor provisions regarding foreign income.
• Tax Reform Act of 1976 – Raised rate of minimum income tax to 15% and lowered exemption to $10,000 or half of regular taxes.
• Tax Reduction and Simplification Act of 1977 – Reduced minimum tax preference for intangible costs of drilling oil and gas wells.
• Revenue Act of 1978 – Introduced AMT alongside minimum income tax and moved certain itemized deductions and capital gains to AMT. AMT had graduated rates of 10%, 20%, and 25%, and an exemption of $20,000.
• Economic Recovery Tax Act of 1981 – Lowered AMT rates to correspond with reductions in rates of regular income tax.
• Tax Equity and Fiscal Responsibility Act of 1982 – Repealed “add-on” minimum tax. Made AMT rate a flat 20% of AMT income after exemptions of $30,000 for individuals and $40,000 for joint returns.
• Deficit Reduction Act of 1984 – Made minor changes concerning investment tax credit, intangible drilling costs, and other items.
• Tax Reform Act of 1986 – Raised AMT rate to 21%. Made high-income taxpayers subject to phase-out of exemptions. Increased number of tax preferences. Allowed an income tax credit for prior year AMT liability.
• Revenue Act of 1987 – Made technical corrections related to Tax Reform Act of 1986.
• Technical and Miscellaneous Revenue Act of 1988 – Made technical corrections related to Tax Reform Act of 1986.
• Omnibus Budget Reconciliation Act of 1989 – Made further technical amendments.
• Omnibus Budget Reconciliation Act of 1990 -  Raised AMT rate to 24%.
• Energy Policy Act of 1992 – Changes regarding intangible costs of drilling oil and gas wells.
• Omnibus Reconciliation Act of 1993 – Introduced graduated AMT rates of 26% and 28%. Increased exemption to $33,750 for individuals and $45,000 for joint returns. Changed rules about gains on stock of small businesses.
• Taxpayer Relief Act of 1997 – Changes regarding depreciation and farmers’ installment sales.
• Tax Technical Corrections Act of 1998 – Adjusted AMT for new capital gains rates.
• Tax Relief Extension Act of 1999 – Changed rules about nonrefundable credits.

My next post, I hope to cover a bit more of, how to know if you need to bother with this AMT thing, and go over a little bit about how it works.

“See ya’”

Six End of Year Tax Tips

Posted by Bruce Mc on Dec 22, 2008 in Deductions, Form 1040 Information, Opinions, Tax Preparation, Taxes | 0 comments

          Since the New Year starts at the end of next week, you’ve got just a couple more days to take some steps to reduce your 2008 taxes. These tactics will lower your realized income so that you can reduce your overall tax bill come spring. Not all of these steps are going to work for all people, but in general, here are the 6 big end-of-the-year tax trimming ideas:

Give to Charity. If you have a favorite charity, giving money (backed by a receipt or canceled check) is considered a deductible item to reduce your taxable income. You can also deduct the fair market value of donated items you own, such as a used car or stuff around the house.

Maximize Your Retirement Account. If you can afford it, there’s no better way to reduce your tax bill than by contributing as much as you can into your retirement account. Yes I reaze the market is crazy, this is still a good idea for your taxes.

Sell Your Losers. If you own stocks and have ridden the highs and lows of the stock market, selling your losers and donating your winners can help offset some of Uncle Sam’s bite. If your once high-soaring stock decided to head south for the winter, consider selling it now to qualify for capital losses (you can always purchase it back, but not before 30 days). With this method, you can deduct up to $3,000 in losses from your gross income.

Donate Your Winners. With losers come some winners; that’s the hope at least. If you’re so fortunate, you can donate a portion of your appreciated assets to charity. You would avoid capital gains and be able to deduct the full amount of the donation. If you purchased stock worth $1,000 and it’s now priced at $1,500, you can avoid the capital gains of $500 (if you chose to sell it) and deduct the entire $1,500 from your income. By avoiding taxes and maximizing your tax deduction, it’s almost like the government is matching your donation – well, almost.

Leverage Your Home. If you’re a homeowner, you have several options to make additional deductions. If you have a property tax bill due in early 2009, consider paying it in 2008 to increase your deductions. You can also pay your January ‘09 mortgage, with the interest paid counting toward beefing up your deductions.

Get Organized. Knowing your options means knowing how much you’ve spent, donated, and earned. Mint.com or some sort of software like Quicken products (what I recommend most Quicken Online – Web-based Money Management) can help you organize your transactions and simplify your end of year tax planning. You can also view reports by category for the entire year.

Reducing your taxes is all about being smart with what you do with your money. Knowing where you stand is the first step in determining where you’re going.

Be sure to catch my entry at The Carnival of Personal Finance #184:  this is my first PF carnival. 

           Also please be sure to catch my guest post tomorrow over at Living Almost Large.

           Later this week I’ll also have a guest post over at $aving to Invest.

 This is the last “tax” post until after the holidays. I’ll have a Holiday post later this week.

Top tax savers

Posted by Bruce Mc on Nov 10, 2008 in Deductions, Form 1040 Information, Tax Preparation, Taxes | 3 comments

Still searching for that last-minute eureka on your 1040? Perhaps you’ll find it here. Trim your taxable income with these strategies, and don’t miss frequently overlooked deductions.

Look for losses. If you took a hit in the market in 2007 or even if you switched investments within a fund family at a loss, you can spin the pain into tax gold. First you must use losses to offset capital gains. Then you can deduct another $3,000 worth against ordinary income. What’s left carries over to later tax years. So make sure you don’t have any leftover losses from, say, a bad bet on GM in 2005.

Pad your retirement. You can fund an IRA for 2007 until April 15 (the max is $4,000; $5,000 if you were 50 as of Jan. 1). And don’t assume you earn too much to write it off. Even if you and your spouse have retirement plans at work, you can deduct part of your contribution if your modified adjusted gross income (AGI) is below $103,000. For a full deduction, your modified AGI must be $83,000 or less.

Itemize. Some 63% of taxpayers don’t itemize – at their financial peril. A 2002 Government Accountability Office report found that filers who should have itemized but didn’t paid $438 extra on average.

Are you stuck paying the AMT?

Honest answer? Probably not. Designed to ensure that the super-wealthy don’t get away with paying nothing, this parallel tax system increasingly snags middle- and upper-middle-income families because Congress never indexed the AMT to inflation; as incomes rise over time, so does the number of people stuck paying tax under the AMT.

Late last year Congress passed a “patch” that exempts more income from the AMT, but the levy will still trap some 3.5 million filers this year, according to the Tax Policy Center. If you use tax software, click yes on the window that pops up asking if you want an update. That will make sure you have the correct AMT rules.

While the AMT snare is hard to escape, a very tiny portion of affluent AMT payers might be able to avoid the tax by electing to take smaller deductions where it’s allowed. If you take the smaller standard deduction instead of itemizing or if you deduct state sales taxes instead of higher state income taxes, you may simultaneously raise your ordinary tax bill and lower your AMT enough to tip the balance in favor of regular taxes. This complicated strategy, though, is best done by an accountant.

Chances are there’s nothing you can do for 2007, but consider making an appointment with a pro to see if you can skirt the AMT at least every other year.

How to avoid an audit 

Find a four-leaf clover and steer clear of black cats: To some extent, being hit with an audit is just bad luck. Even if you don’t do anything to raise an IRS computer’s eyebrows, you could end up being plucked at random. Nobody outside the IRS knows for sure how the nonrandom returns are identified – and the agency isn’t telling. But most tax experts agree that having outsize deductions is one red flag.

Martin Kaplan, author of “What the IRS Doesn’t Want You to Know” and a C.P.A. with 35 years of experience handling audits, says that writing off more than 25% of your income would likely get your return marked for review. And while the IRS used to look hard at the home-office deduction, the emphasis these days seems to be on people reporting small business losses on Schedule C, says Frederick Daily, author of Stand Up to the IRS.

That said, as long as you have backup, you should claim what you are due, even if doing so might raise the likelihood of your being audited. While tax evasion is bad, tax avoidance is perfectly legal. An audit certainly won’t be pleasant, but it should be bearable and affordable if you have the proper paperwork to make your case.

Don’t want to hear from the IRS at all? Go back and check your numbers. Even TurboTax and Tax Cut can’t stop you from keying in the wrong digits. These simple mistakes won’t lead to an audit, but they could trigger an “assessment notice” – in other words, a bill.

What if you can’t file on time?

Good news: You can have a six-month extension. Bad news: You still have to pay your taxes by April 15. File Form 4868 (download a copy from irs.gov or your tax prep program will provide one), and use last year’s return to estimate what you owe or let your tax software do it for you. It’s better to overestimate and get a refund later; if you’re under by more than 10%, you’ll owe interest of 7% on the amount you underpaid by, plus a penalty of up to 25% of the underpayment.  

Can’t pay what you owe?

First make sure you’ve done everything you can to lower your tax bill. If that doesn’t help, you’ll have to pay up.

You can raise the dough any number of ways, including shaking down your first cousin or selling your least-favorite yacht. You can also qualify for an installment plan if you can prove to the IRS that you don’t have sufficient assets or income to pay now. You’ll be charged a $105 setup fee ($52 if you okay a direct transfer from your bank) and a variable interest rate on the balance (7% now).

Otherwise, use the lowest-rate loan you can. Tapping a home-equity line of credit may be the best deal. But you also have the option of paying by credit card through Officialpayments.com or Pay1040.com. Both hit you with a “convenience fee” equal to 2.49% of your tax bill, and then you’ll have to eat the interest charges. Wherever you get the money, pay off the debt as quickly as you can.

Be smarter about taxes next year.

Stop missing out on easy money Label a folder “2009 taxes,” and throughout the year file receipts for anything that might qualify as a deduction.

Bring home more cash If you got a refund this year, you lent money to the government interest-free. Better to owe a bit. Adjust your withholding so less of your paycheck goes to the IRS. (Go to irs.gov and search for “withholding calculator” to figure out the right number of exemptions.) Then arrange to have that bump in take-home pay go directly into a money-market fund. That way the interest earned is yours, not the IRS’.

Look up your tax bracket Knowing what you pay on every extra dollar you earn can make you a more tax-savvy investor. After you file, find the tax-rate tables at irs.gov (search for “tax rate” and pick the first result) and see what bracket your taxable income (line 43 of your 1040) puts you in. Armed with that, you can judge whether you’re better off investing in tax-free municipal bonds or taxable bonds. To do the math, divide the muni yield by 1 minus your bracket, expressed as a decimal (or 0.72 if you’re in the 28% bracket). The recent triple-A-rated five-year muni yield of 3.1%, for example, is the same as earning a taxable 4.3% if you’re in the 28% bracket. Compared with five-year Treasury yields of 2.9%, it’s a clear winner. 

A compromise. . .

Posted by Bruce Mc on Aug 22, 2008 in Opinions | 0 comments

“A compromise is the art of dividing a cake in such a way that everyone believes that he has got the biggest piece.”

- Dr. Ludwig Erhard

            I recently read the above and gave a great deal of thought to this.

With the study recently done by the Government Accountability Office, in any given year at least 60% of U.S. corporations surveyed paid no federal income tax, for the years of the study, 1998 to 2005. This reported by TAXGIRL in her post More Than Half of US Companies Pay No Income Tax. This is very interesting.

            The nation has been screaming for a fair tax system throughout history. (Remember the Boston tea Party?) Sooner or later there will be a revolt again, and studies like this are going to help incite such a thing.

            Where am I going with this? No where really. It just seems that more of us should think about what is going on. Our cost on, everything have gone up, we work and we pay our taxes. There is a system in place that mandates that corporations pay income tax. They have their rules and then there are rules that govern us, the working people of this country.

            Any business has the ability that if it has a good year, it can offset its taxable income from losses it faced in a bad year. NOL allows a company to deduct losses generated in previous years, in a current year. However, an individual is not allowed to carry forward federal income tax losses. In other words, if an individual has a bad year, the loss is wiped clean.

            I’m not suggesting a revolt by any means but how is this fair? If you earn income pay your taxes. A big advertising scheme by a lot of different folks is one announcing the complexity of the IRC (Internal Revenue Code). Does it really need to be so complex? I think not. However I don’t agree with the flat rate tax either. Too much goes on in life.

            I have clients that still rent. If they decide to buy a home (and they are planning for such) it would be imposable if there was a flat tax. So there needs to be cuts for this and that. Relief for different situations. If one entity is allowed to do something, so should we all.

            One of the biggest reasons I got into tax preparation was my desire to level the playing field somewhat. What I mean by this, is everyone deserves a fair share but not everyone knows how to get there. Corporate America (and around the world) gets breaks that would just make a person tax payer want to picket, something. There are a lot of rules and slides on rules that can help with your preparation and lower your tax bill. But with politics dictating that middle America pays the majority of the taxes then I say we need to change things.

            Corporate America has the biggest piece of the cake, we should have ours, you should have yours.