Tips for Converting your Appreciated Home into a Rental

You can exclude up to $250,000 ($500,000 if married) of gain from taxation when you sell your home.  Your home, for this exclusion, is the place where you reside for a 2 year period out of the last 5 years.

Problems arise when you move out of your appreciated home and convert it to a rental.  If you rent it for more than 3 years after moving out, then you no longer meet the 2-out-of-5 rule and will now need to pay tax on all of the price appreciation that your home has enjoyed since the day you bought it.

How can you preserve this valuable exclusion and convert it to a long-term rental?

Form an S Corporation and sell the home to the S Corporation within 3 years of moving out of the home.  The sale triggers the gain to be recognized, and since you would meet the 2-out-of-5 rule, you can exclude the gain.  You then have your S Corporation rent the property for whatever duration is necessary.

If You’re Self-Employed, Hire Your Child in your Business

You can hire your child and compensate them for their labor.  If your child is under age 18, and your business is not a C Corp or an S Corp, then the wage payments to the child are not subject to employment taxes.  When you pay the child, you will be deducting the payment at your higher tax rate (assuming 33% Federal and 4.3% Indiana) and the child will be taxed on the payment at their lower tax rate (which likely will be 0% for Federal and 4.3% Indiana).

Suppose it is time for the child’s first car which costs $6,000.  You employ your child, pay him $6,000, and deduct it.  Child then pays close to $0 tax on the $6,000 of wage income and uses the money to buy a car.  You have effectively deducted the cost of your child’s car – a personal expense – in your business.

If the child does not need to spend the money, then the money can be put into the child’s ROTH IRA to grow tax free for a very long time.  You have essentially created a deductible ROTH IRA contribution.  $5,000 put into a ROTH IRA when the child is 18 will be worth $212,000 when the child turns age 65 if growing at 8% per annum.

Are you age 70+…Try This

The US Government allows a taxpayer who is over age 70 1/2 (don’t ask me why it can’t just be age 70) to donate up to $100,000 from his IRA to charity.

Why is this a good thing?

A taxpayer who is over age 70 1/2 is required to take money from his IRA and include it in his taxable income.  If that same taxpayer makes a donation to a charity and doesn’t itemize, then he doesn’t get to enjoy a deduction for that donation.  Thus, he would have income with no offsetting deduction.

This provision allows that same taxpayer to send the money directly from his IRA to the charity and avoid putting the IRA income on his tax return (because he never touched the money – it went directly from his IRA to the charity)  In effect, the amount that goes from his IRA to the charity is deducted from his income, as if he had itemized.

In addition, when the money goes directly from the IRA to the charity, it potentially could allow the taxpayer to pay less tax on their social security earnings, and well as enjoy other positive tax effect.

…something worth considering if you are over age 70 1/2.

 

Six Tips for Year-End Gifts to Charity

If you’re thinking about making a charitable donation during the holiday season this year and want to claim a tax deduction for your gifts, you must itemize your deductions. This is just one of several tax rules that you should know about before you give. Here’s what else you need to know:

1. Qualified charities. You can only deduct gifts you give to qualified charities. Call the office if you’re not sure if the group you give to is a qualified organization. Remember that you can deduct donations you give to churches, synagogues, temples, mosques and government agencies.

2. Monetary donations. Gifts of money include those made in cash or by check, electronic funds transfer, credit card and payroll deduction. You must have a bank record or a written statement from the charity to deduct any gift of money on your tax return. This is true regardless of the amount of the gift. The statement must show the name of the charity and the date and amount of the contribution. Bank records include canceled checks, or bank, credit union, and credit card statements.

If you donate through payroll deductions, you should retain a pay stub, a Form W-2 wage statement or another document from your employer. It must show the total amount withheld for charity, along with the pledge card showing the name of the charity.

3. Household goods. Household items include furniture, furnishings, electronics, appliances and linens. If you donate clothing and household items to charity they generally must be in at least good used condition to claim a tax deduction. If you claim a deduction of over $500 for an item it doesn’t have to meet this standard if you include a qualified appraisal of the item with your tax return.

4. Records required. You must get an acknowledgment from a charity for each deductible donation (either money or property) of $250 or more. Additional rules apply to the statement for gifts of that amount. This statement is in addition to the records required for deducting cash gifts. However, one statement with all of the required information may meet both requirements.

5. Year-end gifts. You can deduct contributions in the year you make them. If you charge your gift to a credit card before the end of the year it will count for 2015. This is true even if you don’t pay the credit card bill until 2016. Also, a check will count for 2015 as long as you mail it in 2015.

6. Special rules. Special rules apply if you give a car, boat or airplane to charity. For more information about this and other questions about charitable giving, please contact the office.

Document Your Business Activities

You may not need to pay a 3.8 percent Medicare tax on your business income if you participate in the business enough that you are not considered a passive investor. Participation includes any work performed as an owner, manager, or employee as long as it is not investor activity. Document your hours with your calendar, appointment books, and emails.

Deduct 100% of Meals Instead of the Usual 50%

As a general rule, most businesses can only deduct 50% of business meals.  There are several exceptions to this rule.  One exception is the “Convenience of Employer” rule.

How it works:

To achieve the 100% deduction, you have to serve the meal on your businesses premises, and you have to have provided the meal for “your business convenience”.

Examples:

  • Meals are served to make employees available for emergency calls
  • Meals are furnished so that the employee can work through their lunch-break
  • There are insufficient eating facilities in the vicinity and you want to keep your employees working instead of driving around looking for food
  • Meals are furnished for some other substantial non-compensatory business reason (you are furnishing the meals for a business reason and not simply to give the employee a “bonus”

Tax Extenders Bill Passed

The Senate Finance Committee passed a tax extenders bill with a bipartisan vote of 23 to 3 that extends over 50 tax breaks for two years.

 

The bill would extend dozens of tax breaks that expired at the end of last year. Last December, Congress only managed to extend the tax breaks for an extra two weeks through the end of the year and retroactively for the rest of 2014, allowing tax season to proceed this past tax season without new forms needing to be created by the IRS.

The bipartisan tax extenders package includes provisions to assist families, individuals and small businesses. Among the more popular provisions are the $250 above-the-line tax deduction for teachers and other school professionals for expenses paid or incurred for books and supplies, mortgage debt relief, the deduction for mortgage insurance premiums, the deduction for state and local general sales taxes, the above-the-line deduction for higher education expenses, tax-free distributions from individual retirement plan for charitable purposes, and the research and experimentation tax credit.

Deduct Mission Trip Travel Expenses

Do you plan to travel while doing charity work this summer? Some travel expenses may help lower your taxes if you itemize deductions when you file next year. Here are five tax tips the IRS wants you to know about travel while serving a charity.

  1. You must volunteer to work for a qualified organization. Ask the charity about its tax-exempt status. You can also visit IRS.gov and use the Select Check tool to see if the group is qualified.
  2. You may be able to deduct unreimbursed travel expenses you pay while serving as a volunteer. You can’t deduct the value of your time or services.
  3. The deduction qualifies only if there is no significant element of personal pleasure, recreation or vacation in the travel. However, the deduction will qualify even if you enjoy the trip.
  4. You can deduct your travel expenses if your work is real and substantial throughout the trip. You can’t deduct expenses if you only have nominal duties or do not have any duties for significant parts of the trip.
  5. Deductible travel expenses may include:
    • Air, rail and bus transportation
    • Car expenses (i.e. Mileage to and from the airport)
    • Lodging costs
    • The cost of meals
    • Baggage fees, luggage expenses, passport fees, etc.

To learn more see Publication 526, Charitable Contributions. The booklet is available at IRS.gov

How long should I retain my tax records?

Are you doing some spring cleaning and wondering when you can throw out those old tax documents?  Keep in mind, it is the burden of the taxpayer to provide sufficient proof and support for any tax position taken on a tax return.  Tax rules offer guidance as to minimum document retention periods. Below are some things to consider when determining whether or not to toss out those tax documents.

  • The statute of limitations for most tax returns is 3 years from the date you filed the return.
  • There is no period of limitations to assess tax when a return is fraudulent.
  • When your income is under reported by more than 25%, the time to assess additional taxes is 6 years from the time the return is filed.
  • To file a claim for credit or refund, the period to make the claim is 3 years from the date the original return was filed or 2 years from the date the tax was paid, whichever is later.

You may need to save documents for other legal reasons, such as, insurance claims or transfer of assets in the case of a passing family member.  Some documents should be kept indefinitely, such as, the  actual tax return, W-2s, life insurance policies, birth certificates, death certificates, Wills, Trust documents, residence or investment property documents.

When in doubt, preserve the documents indefinitely.

Turn Your Vacation into a Tax Deduction

Tim, who owns his own business, decided he wanted to take a two-week trip around the US. So he did–and was able to legally deduct every dime that he spent on his vacation. Here’s how he did it.

1. Make all your business appointments before you leave for your trip.
Most people believe that they can go on vacation and simply hand out their business cards in order to make the trip deductible.

Wrong.

You must have at least one business appointment before you leave in order to establish the “prior set business purpose” required by the IRS. Keeping this in mind, before he left for his trip, Tim set up appointments with business colleagues in the various cities that he planned to visit.

Let’s say Tim is a manufacturer of green office products and is looking to expand his business and distribute more of his products. One possible way to establish business contacts–if he doesn’t already have them–is to place advertisements looking for distributors in newspapers in each location he plans to visit. He could then interview those who respond when he gets to the business destination.

Example: Tim wants to vacation in Hawaii. If he places several advertisements for distributors, or contacts some of his downline distributors to perform a presentation, then the IRS would accept his trip for business.

Tip: It would be vital for Tim to document this business purpose by keeping a copy of the advertisement and all correspondence along with noting what appointments he will have in his diary.

2. Make Sure your Trip is All “Business Travel.”
In order to deduct all of your on-the-road business expenses, you must be traveling on business. The IRS states that travel expenses are 100 percent deductible as long as your trip is business related and you are traveling away from your regular place of business longer than an ordinary day’s work and you need to sleep or rest to meet the demands of your work while away from home.

Example: Tim wanted to go to a regional meeting in Boston, which is only a one-hour drive from his home. If he were to sleep in the hotel where the meeting will be held (in order to avoid possible automobile and traffic problems), his overnight stay qualifies as business travel in the eyes of the IRS.

Tip: Remember: You don’t need to live far away to be on business travel. If you have a good reason for sleeping at your destination, you could live a couple of miles away and still be on travel status.

3. Be sure to deduct all of your on-the-road-expenses for each day you’re away.
For every day you are on business travel, you can deduct 100 percent of lodging, tips, car rentals, and 50 percent of your food. Tim spends three days meeting with potential distributors. If he spends $50 a day for food, he can deduct 50 percent of this amount, or $25.

Tip: The IRS doesn’t require receipts for travel expense under $75 per expense–except for lodging.

Example: If Tim pays $6 for drinks on the plane, $6.95 for breakfast, $12 for lunch, $50 for dinner, he does not need receipts for anything since each item was under $75.

Tip: He would, however, need to document these items in your diary. A good tax diary is essential in order to audit-proof your records. Adequate documentation includes amount, date, place of meeting, and business reason for the expense.

Example: If, however, Tim stays in the Bates Motel and spends $22 on lodging, will he need a receipt? The answer is yes. You need receipts for all paid lodging.

Tip: Not only are your on-the-road expenses deductible from your trip, but also all laundry, shoe shines, manicures, and dry-cleaning costs for clothes worn on the trip. Thus, your first dry cleaning bill that you incur when you get home will be fully deductible. Make sure that you keep the dry cleaning receipt and have your clothing dry cleaned within a day or two of getting home.

4. Sandwich weekends between business days.
If you have a business day on Friday and another one on Monday, you can deduct all on-the-road expenses during the weekend.

Example: Tim makes business appointments in Florida on Friday and one on the following Monday. Even though he has no business on Saturday and Sunday, he may deduct on-the-road business expenses incurred during the weekend.

5. Make the majority of your trip days count as business days.
The IRS says that you can deduct transportation expenses if business is the primary purpose of the trip. A majority of days in the trip must be for business activities; otherwise, you cannot make any transportation deductions.

Example: Tim spends six days in San Diego. He leaves early on Thursday morning. He had a seminar on Friday and meets with distributors on Monday and flies home on Tuesday, taking the last flight of the day home after playing a complete round of golf. How many days are considered business days?

All of them. Thursday is a business day since it includes traveling – even if the rest of the day is spent at the beach. Friday is a business day because he had a seminar. Monday is a business day because he met with prospects and distributors in pre-arranged appointments. Saturday and Sunday are sandwiched between business days, so they count, and Tuesday is a travel day.

Since Tim accrued six business days, he could spend another five days having fun and still deduct all his transportation to San Diego. The reason is that the majority of the days were business days (six out of eleven). However, he can only deduct six days’ worth of lodging, dry cleaning, shoe shines, and tips. The important point is that Tim would be spending money on lodging, airfare, and food, but now most of his expenses will become deductible.

To make sure that you can legally deduct your vacation when you combine it with business, call the office before you plan your trip.

Estate Plan – Everyone Should Have One

An Estate Plan includes several elements. Most common are a will, assignment of a power of attorney, and a living will.  Take an inventory of your assets.  This would include items such as investments, real estate, business interests, retirement savings, and insurance policies.  Determine who you want to inherit your assets, who you want handling your financial affairs if you are unable, and who do you want making medical decisions for you if you become unable to make them yourself.

There are several tools to help minimize the tax on your estate and to your heirs.  For some, a trust may be a great tool.  There are options for gift giving to individuals and charities.

Regardless of your net worth, make sure you have an estate plan in place.

The Affordable Care Act and Tax Filing

Due to the Affordable Care Act, you will see some changes to your tax return.  This is the first year that you will be asked to answer basic questions regarding your health insurance.  A majority of taxpayers, approximately 75%, will only need to check a box indicating that they had health coverage in 2014.  The remaining taxpayers have health coverage through the health insurance marketplaces or decided not to enroll for coverage.

Those with coverage through the marketplace will receive a Form 1095-A which will be used to reconcile their premium cost and the financial assistance they received. Any adjustments will be reflected on their tax returns.  Individuals that can afford health insurance and chose not to will pay a fee.  Others that can’t afford coverage or meet other conditions, can receive an exemption.

Job-related Education Expenses

Job-related education expenses may be able to be deducted as an itemized deduction on your individual return. The expenses must be for education that maintains or improves your job skills or is required by your employer or by law to keep your salary, status, or job.

The education cannot qualify you for a new trade or business or be taken to meet the minimal educational requirements of your current trade or business.  Undergraduate degree costs do not qualify because they are usually incurred to meet the minimum educational requirements. Costs of obtaining a graduate degree usually qualify if the education area is related to your current job.

Expenses that can be deducted include tuition, books, supplies, lab fees, and transportation and travel costs.

Indiana’s Identity Confirmation Quiz

No, this is NOT a scam. There has been a tremendous increase in the number of victims affected by identity theft and tax fraud.  Most taxpayers do not know they are a victim until they submit a tax return and discover that someone else has already submitted a return using their name and social security number. In an effort to fight identity theft, the Indiana Department of Revenue has implemented a new identity protection program. This program went into effect during the 2014 tax season and will continue through the next season.

Taxpayers that have irregularities in their information will be asked to confirm their identities through the Identity Confirmation Quiz. At this time, only 5 percent of Indiana taxpayers have been selected. Selected taxpayers will receive an official letter from the Department of Revenue with instructions for completing the quiz.  The quiz is 4 questions and can be taken on a secure website in 2 minutes or less.