Daddy’s little tax benefit

Daddy's Little Tax Deduction Onesie
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Last week, my wife and I welcomed our second child to this world.  It was a wonderful experience and no less fascinating than the first time I bore witness to such an event.  Aside from all the good feelings and smiles, there are important tax implications of this birth that must be addressed.  We will explore the actual and potential impacts on our federal tax liability as a result of the arrival of our little angel.

Dependency Exemption:

Parents of a dependent child like us are entitled to take a dependency exemption on their tax return ($4,050 for 2017).  This is a direct reduction to taxable income.  Cha-ching!  However, this amount is subject to a phase-out for “high income” taxpayers (between $313,800 and $436,300 for Married Filing Joint).  To me and my wife, this translates to about $2,025 in tax savings (assuming a 25% bracket).

Child Tax Credit/Additional Child Tax Credit:

Subject to a 7-item test, many taxpayers can get up to $1,000 per child in the form of a tax credit.  Unfortunately, this credit is subject to a phase-out as well ($110,000 to $130,000).  In addition, the credit is refundable if you have sufficient earned income to cover any excess portion of the credit over your tax liability.  Many proud parents will get to knock a few dollars off of their tax bill.

Earned Income Tax Credit (EITC):

Certain “low income” taxpayers that had already been eligible may be able to take better advantage of the EITC by having an additional child.  There are different tiers for the credit for those that have from 0 to 3 or more children so your new arrival may put you into the next tier.  This will not benefit my family, but can be a significant boon for those that are eligible.

Child and Dependent Care Tax Credit/Flexible Spending Account:

Married taxpayers that both have earned income and have expenses paid to a care provider in excess of those paid by their employer for a dependent child can also receive a nonrefundable credit.  There are provisions in the credit that allow for spouse that is a student, seeking employment, and/or disabled to still be eligible to take the credit.  The amount of the credit is 20% to 35% of up to $3,000 (or $6,000 if you have 2 or more children) of the expenses paid, phased over $15,000 to $43,000 of income.  This sounds complicated, but bear with me – assuming we will hit the $3,000 cap for each child (and we will), this credit will be worth $1,200. It may not sound like much, but I’ll take any help I can get; the cost of daycare is painful.  Married taxpayers can also set aside up to $5,000 in pre-tax dollars to a flexible spending account.  It is important to note that those funds must be used on qualified expenses in the same year they are set aside or they are lost forever.

Aside from adjusting to sleepless nights and sibling rivalry, we also have to consider the tax ramifications of our fourth family member.  There are additional federal and state tax implications to consider, such as saving for college (hoping for scholarships… fingers crossed), student loan interest, and college tuition credits, but the latter two are down the road a ways.  For now, we will just have to recognize the advantages that are available to us to help us best plan for the future.  Please take this moment to appreciate the simple pleasure of sleeping through the night.


evan_2Evan Piccirillo, CPA is a Tax Supervisor in Raich Ende Malter & Co. LLP’s Long Island office. Evan specializes in high net worth individuals, as well as closely-held corporations, S-Corporations, and small businesses. Contact Evan at epiccirillo@rem-co.com or (516) 228-9000.

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Social security benefits: timing is everything

CLAIMING SOCIAL SECURITY BENEFITSI was talking to a client a few weeks back who said to me, “What do I care? I get a raise at 62 anyway.” He was referring to filing and receiving his social security benefits at age 62 instead of waiting until his full retirement age (FRA). I had to quickly run through a few different scenarios with him and discuss why taking the benefits now instead of waiting may have an adverse effect on his long-term goals. It really resonated with me and made me wonder how many people have the same mindset as that client.

The basics

If you’re employed or self-employed, you are most likely paying into your social security benefits. In order to qualify for benefits when you retire, you need to have worked and paid into the social security system for 40 quarters, or 10 years. Your benefit is calculated based on a ratio of your 35 highest years of earnings, using zeroes for any year in which you did not work. There are spousal and survival benefits available, and even if divorced, you may qualify for benefits based on a former spouse’s earnings (restrictions may apply).

Back to the example

Now that we know the basics, let’s jump back to the example I mentioned earlier about my client taking benefits at 62. We will have to make a few assumptions in order to paint a proper picture. Putting aside whether or not there will be a social security system still around when my client retires (that’s a different conversation), let’s assume his FRA is 67 (this is important) and that he will live until 90 (lucky guy!). His FRA benefit is expected to be $24,000 a year, and for the sake of simplicity, we’ll assume no annual cost of living adjustment (COLA). Is this unrealistic? Probably – but there have been three years since 2010 with no COLA. We will also assume he is single and NOT working during the time period discussed, as working while collecting social security benefits can decrease the amount of benefits received.

If he begins collecting at 62 with an FRA of 67, he will have a 30% permanent reduction from his social security benefits. If he takes his benefits at 67 there will be no reduction, and if he waits until 70, he will receive a 24% increase in his benefits.

Breakdown of his monthly benefits

Claiming SSN chart 1

Approximate total payments he would receive over the course of his lifetime

Claiming SSN chart 2

Summary of his break-even ages when comparing the different options

Claiming SSN chart 3

As you can see from the information above, the various break-even points are ages that need to be reached in order for my client to receive the advantage of holding off on receiving his benefits. If he lives until age 78, then it was the right choice for him to hold off his benefits from 62 to 67, and if he lives until 82, then it was the right choice for him to hold off his benefits from 67 to 70.

(I’m not sure I need a disclaimer for a blog post, but obviously the example above was for illustrative purposes and should not be relied upon as a guarantee of benefits. Changing any of the variables above can have a drastic effect on the outcome of the example.)

So what’s the right answer?

It depends. I know that seems like a cop-out answer, but in order to know the right answer there are a host of variables that must be discussed with your advisors. Your health, lifestyle, family situation, and need/desire for the income all become factors that must be discussed and prioritized in order to maximize the benefits that you can receive.

No one has a crystal ball. When it is time to start thinking about filing for social security, you should reach out to your accountant and other trusted advisors to weigh your options.


joe_6Joseph DeMartinis is a Tax Supervisor in the firm’s Long Island office. He specializes in taxation of small and medium size businesses, their owners, inpatriates, expatriates, and high net worth individuals.

 


Legal note: Contributors to The REM Cycle are certified public accountants (CPAs), but they’re not your CPAs and this blog does not create or constitute an accountant-client relationship. Contributors are licensed to practice public accountancy in New York State and have based the information presented on U.S. and, where applicable, state laws. All content provided on this blog is for informational purposes only, and should not be seen as accounting advice. Raich Ende Malter & Co. LLP (REM) makes no representations as to the accuracy or completeness of any information on this site or found by following any link on this site. REM will not be liable for any errors or omissions in this information, nor for the availability of this information. REM will not be liable for any losses, injuries, or damages from the display or use of this information. These terms and conditions of use are subject to change at any time and without notice. You should consult with a CPA before you rely on this information.

Regarding That Disregarded Entity…

The Treasury Department has clamped down on a key reporting exemption that was previously enjoyed by foreign-owned, single-member limited liability companies (SMLLCs).  This cDisregard second thoughthange has significant impacts on any foreign person or entity with holdings in U.S. SMLLCs that are disregarded for federal income tax purposes.  Previously, these entities were exempt from the comprehensive record maintenance and associated compliance requirements that applied to 25% foreign-owned domestic corporations.  Now, substantially any transaction between U.S. domestic disregarded entities and their foreign owners, including any of the owner’s related entities, may be reportable.

These regulations are part of a larger effort by the Treasury Department to increase financial transparency.  Entities subject to these regulations will continue to be treated as disregarded for other federal tax purposes.  The Treasury Department explained that there is a class of foreign-owned U.S. entity (typically SMLLCs) that has no obligation to report information to the IRS or even obtain a tax identification number.  According to the government, these “disregarded entities” could be used to shield the foreign owners of non-U.S. assets or bank accounts.  By treating domestic disregarded entities that are wholly owned by a foreign person as a domestic corporation separate from its owner (for these limited reporting and compliance requirements), the regulations enable the IRS to determine the existence and magnitude of any tax liability and share information with tax authorities in other countries.

Requirements
Previously, certain disregarded entities and their foreign owners may not have had an obligation to file a tax return or obtain an Employer Identification Number (EIN).  The final regulations require foreign owned domestic disregarded entities to:

  • Obtain EINs from the IRS
  • Annually file Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business
  • Identify “reportable transactions” between the LLC and any related parties, including the LLC’s foreign owner
  • Maintain supporting books and records

Regulations
These rules treat U.S. disregarded entities as stand-alone foreign-owned domestic corporations.  Therefore, they are now required to file Form 5472 with respect to reportable transactions between the entity and its foreign owner or other foreign related parties. Transactions are reportable as if the entity were a corporation for U.S. tax purposes. These entities also are required to maintain records sufficient to establish the accuracy of the information return and the proper U.S. tax treatment of such transactions.

Please see the regulations for examples of reportable transactions that require reporting, elimination of certain reporting exemptions, and overlap rules affecting controlled foreign corporations and foreign sales corporations.

Tax Year
The final regulations require the domestic reporting corporations to have the same tax year as their foreign owner if that foreign owner has an existing U.S. reporting obligation. If the foreign owner has no U.S. return filing obligation, then the domestic reporting corporation must report on a calendar year basis.

Effective Date
The final regulations are effective December 13, 2016, and apply to tax years beginning on or after January 1, 2017, and ending on or after December 13, 2017.


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Lisa S. Goldman, CPA is Partner-in-Charge of Wealth Management at Raich Ende Malter & Co. LLP, with more than 20 years’ experience serving Fortune 500 corporations and privately-owned companies in the real estate, manufacturing, and consumer products industries. She specializes in international taxation and in providing services for high-net-worth individuals and their businesses. Ms. Goldman is a trust and estate practitioner (TEP) under the auspices of STEP and is a member of the NYSSCPA’s International Taxation Committee and the AICPA Tax Division. She frequently writes and lectures on international tax topics. Reach Lisa at 212-944-4433 or lgoldman@rem-co.com.

You Need My WHAT Now? New York Among States Requiring Driver’s License for Electronic Filing

nys-dlNew York State is so demanding already in terms of personal information required to file your individual tax return.  They want your name, address, social security number, date of birth, your income, employer’s name and address… the list goes on and on.  Starting in 2016, we get to add another piece of sensitive data to that list: your driver’s license information.

In an effort to strengthen identity fraud protection, New York has added this required information as a new layer to identity verification within their electronic filing system.  Taxpayers must provide this information to their preparers to comply with the new rule.  New York accepts a valid driver’s license or state-issued ID to satisfy this requirement.  A third option exists: if you don’t have either (or are deceased, in which case you’re probably not reading tax blogs), then your preparer can “opt out” of providing the information.

New York is emphasizing that this is required for all taxpayers and is advising preparers that they must collect and enter this information to their tax software.  The “opt out” should only be used when the taxpayer doesn’t have such a document (or has passed on). New York State’s official FAQ publication posted on the Tax Department’s website regarding compliance states:

Q: If my client is known to have a valid driver license or state-issued ID, but chooses not to disclose it, can I check the No Applicable ID box without repercussion? Am I required to disclose this (similar to when a taxpayer refuses to e-file)?

A: As with any return data, you should submit the information as it’s provided by your client.

Interpret that answer at your own risk, but at an FAE conference in January of 2017, Nonnie Manion, the Executive Deputy Commissioner of the New York State Department of Taxation and Finance, advised preparers to “just check the “No Applicable ID” box for now” in cases where the taxpayer has an ID issued by any state other than New York.

I applaud New York’s effort to combat identity fraud, which is a real issue facing taxpayers everywhere, but putting even more sensitive identity data in a single place seems like it is begging identity thieves to increase their efforts to target tax preparers.  For taxpayers attempting to safeguard their information, sharing information is a major activity to avoid.  In a way, New York’s effort is in direct opposition of basic identity protection.

I just hope that in 2017, New York doesn’t require your first pet’s name and the street where you grew up as additional layers of electronic filing identity verification.  For now, New York taxpayers will have to provide to their preparers one of the three options New York State is willing to accept.


evan_2Evan Piccirillo is a Tax Supervisor in Raich Ende Malter & Co. LLP’s Long Island office. Evan specializes in high net worth individuals, as well as closely-held corporations, S-Corporations, and small businesses.
Contact Evan at
epiccirillo@rem-co.com or (516) 228-9000.

End of the AMT? Good riddance

amt-article-anti-amt2Guest Post by Gigi Boudreaux, CPA, MBA

The time for year-end tax planning is over and a tax season with new due dates looms. Hopefully you have accelerated deductions, because in 2016 that is perhaps more important than the previous years as President Trump’s tax proposal forecasts significant cuts to tax rates. So, what deductions can we accelerate? The Internal Revenue Code allows for only a handful of deductions for individual taxpayers, the largest of which are state and local income taxes, real estate taxes, and mortgage interest. In New York, we pay among the highest state income taxes AND some of the highest property taxes in the country. My clients would love to take advantage of these burdensome taxes and deduct them early, but the dreaded Alternative Minimum Tax (“AMT”) dashes their hopes. What the heck is the AMT anyway?!

The AMT is an antiquated tax originally enacted in 1969 to prevent tax avoidance by wealthy taxpayers. Unlike the regular income tax, the AMT parameters were not indexed for inflation. As a result, with economic growth and inflation over time, more and more middle-income taxpayers find themselves paying the AMT. What does this mean? It means that those ridiculously high New York state income AND property taxes are not deductible. That’s right – you are getting zero benefit for the largest tax deductions you pay each year.

This is how I explain the AMT to my clients: The AMT is an alternative taxing system that exists in the background to the regular taxing system. All taxpayers MUST pay the higher of the result of the two taxing systems. The regular taxing system, as we know, is a series of graduated rates (currently seven; Trump’s proposing only three) from as low as 10% to the highest of 39.6%. As your income increases, you pay a higher rate of tax. The AMT has only two rates (26% and 28%) and taxes a much broader income tax base. Both the regular tax and the AMT start in the same place by summing all sources of income. From there, the two systems differ. For regular tax, taxpayers can deduct dependency exemptions and itemized deductions, which include medical expenses, state and local income taxes, mortgage interest expense, charitable contributions, and, to a limited extent, miscellaneous deductions. For AMT, only charitable contributions and limited mortgage interest deduction are allowed. So for New York families whose largest deductions on their tax returns are personal and dependency exemptions and state and local taxes (including real estate taxes), will be paying AMT, a tax higher than their regular tax.

Here’s some good news. President Trump is proposing to eliminate the AMT. While Democrats and Republicans disagree on many of Trump’s proposals, I believe this is one that all Long Islanders can agree upon. According to tax estimates from the Tax Policy Center, last year approximately 27% of households nationwide with incomes between $200,000 and $500,000 were affected by the AMT. My estimation is that many of those households reside here in New York because those who are most vulnerable to the AMT are those taxpayers with large families (three or more children) living in high state and local tax states.

So, while experts agree that Trump’s proposed tax rate reduction will only help the wealthiest taxpayers, many New York taxpayers may see a reduction in tax if the AMT is repealed. Questions still remain on Trump’s proposal to limit itemized deductions, which may affect the tax savings on the elimination of the AMT. Other issues that may surface will be the AMT credit carryovers (the government attempt to ease the AMT burden) and the AMT interplay with net operating loss carryovers.

One thing remains certain: no one will be unhappy to see the AMT go away.


boudreaux_gigi-3Gigi Boudreaux, CPA, MBA is a Tax Partner in Raich Ende Malter & Co. LLP’s Long Island office. She primarily serves small business clients working in the real estate, distribution, manufacturing, and construction industries. She can be reached at gboudreaux@rem-co.com.

Worried About Your Undisclosed Foreign Assets? The Offshore Voluntary Disclosure Program May Offer a Solution

ovdp-article-globeAs I said before: Being a good tax citizen is important.  Sometimes it is difficult to navigate the stormy seas of compliance to achieve that end.  One such hazard is the difficulty of adhering to complex international reporting requirements.

I must pause here to note that if you do have significant international compliance issues, you should consult legal counsel in addition to a tax professional due to the many civil and criminal consequences imposed by the Department of Justice and Department of the Treasury.

Imagine a normal day in the life of a hard-working taxpayer.  She always files her tax return on time and doesn’t take any undue deductions.  One day she learns a wealthy relative left her interest in a profitable commercial property in Croatia.  How fortunate!  But wait, this wealthy relative left it to her a couple of years ago and it has been generating income this whole time.  Oh no!  There are full pages in the IRS instructions detailing penalties for the forms she didn’t file over that period that could amount in many thousands of dollars and even jail time.  What is our hard-working taxpayer to do?

The IRS, in an effort to provide a bridge to compliance, has enacted the 2012 Offshore Voluntary Disclosure Program (“OVDP”), modified effective July 1, 2014.  This program is designed to incentivize taxpayers (entities and individuals) to come to the IRS with undisclosed assets and accounts rather than the IRS having to hunt them down; it offers a reduction in penalties and potential elimination of the risk of criminal prosecution.  The penalties described in the Internal Revenue Code for failing to comply with foreign reporting are incredibly brutal; in some cases 100% of the highest value of an asset during a given year, plus other penalties, plus interest, plus criminal prosecution.  That, coupled with the increasing risk of being detected by the US Government by their new, more aggressive approach to treaties and policy, creates a very compelling argument for taxpayers to come forward.

This relief a taxpayer receives from this program is not completely painless.  Paying the offshore penalty of 27.5% plus the accuracy-related penalty of 20% is a hard pill to swallow, but when weighed against the alternative (potentially 100% and criminal prosecution), it should go down a little easier.

Eligibility for the OVDP is contingent upon coming forward before the IRS is aware of the unreported foreign assets; if they find you, OVDP is off the table.  In some cases, a taxpayer may have already amended and submitted reports, referred to as a “quiet disclosure.”  These taxpayers still run the risk of full penalties and criminal prosecution if they don’t apply to the OVDP.

In our example, the hard-working taxpayer has the ability to compile all information on the property and the unreported income and then submit an application via Forms 14454 and 14457 to the IRS OVDP.  If accepted, original and amended tax returns accounting for the foreign income and forms reporting the foreign transactions and activity must be prepared and submitted. In addition, the taxes, penalties, and interest due must be paid or arrangement to pay must be made.  All this just to be a good tax citizen!

The Offshore Voluntary Disclosure Program offers a bumpy path to compliance that is not without its difficulties.  It is important for someone considering this path to enlist the counsel of professionals in law and accounting.


evan_2Evan Piccirillo is a Tax Supervisor in Raich Ende Malter & Co. LLP’s Long Island office. Evan specializes in high net worth individuals, as well as closely-held corporations, S-Corporations, and small businesses.
Contact Evan at
epiccirillo@rem-co.com or (516) 228-9000.

Tax Treatment for Self-Rented Property Under the Passive Activity Rules

self-rental-imageLike many tax laws, there are exceptions to the passive activity rules.  Rental income or loss is generally a passive activity whether or not the taxpayer materially participates in the rental operations.  An exception to this rule applies to self-rental property.  Self-rental property is property owned by an individual, which is rented to an entity in which the individual materially participates.  If this is the case, the rental income is recharacterized as nonpassive income under IRC Sec. 469(I)(3) Reg. 1.469-2(f).  Rental losses remain passive.

Determination. To determine if this rule applies, you must first determine if you meet the material participation test. If any of the following tests are met, the taxpayer is deemed to materially participate in the activity.

  1. The taxpayer participates in an activity for more than 500 hours during the tax year.
  2. The taxpayer’s participation in the activity for the current year constitutes substantially all the participation of all individuals in the activity, including non-owners.
  3. The taxpayer participates in an activity for more than 100 hours during the tax year, and no other individual, including non-owners, participates more hours than the taxpayer.
  4. The activity is a “significant participation activity,” and the taxpayer’s total participation in all significant participation activities exceeds 500 hours. A significant participation activity is one in which (a) the taxpayer cannot be treated as materially participating under any of the other six tests, and (b) the taxpayer participates in the activity for more than 100 but fewer than 500 hours.
  5. The taxpayer materially participates in an activity for any five of the ten immediately preceding tax years.
  6. The taxpayer materially participates in a personal service activity for any three preceding tax years (consecutive or not).
  7. The individual participates on a regular, continuous, and substantial basis.

It is important to note, when applying the material participation rules, that participation by a taxpayer’s spouse is considered participation by the taxpayer regardless of whether the spouse has an ownership interest.

Why did the IRS enact this code?  The income recharacterization rules prevent a taxpayer from creating passive income to offset other passive losses.  Without these rules, a taxpayer with suspended passive loss carryover could inflate the gross rent of self-rented property as a strategy to create passive income.

Is this subject to the 3.8% net investment income tax?  No. In situations in which self-rental income is treated as nonpassive, the rental income is deemed to be derived in the ordinary course of business and therefore, exempt from the net investment income tax.


vicich_lisa-6Lisa Vicich is a Tax Manager in Raich Ende Malter & Co. LLP’s Long Island office. She’s a tax generalist, specializing in partnerships and the hospitality industry. Contact Lisa at lvicich@rem-co.com or (516) 228-9000, Ext. 3248.