Thursday, June 30, 2011

When is a Loss your Gain? When it’s NOL.

If you are starting a new business, you may want to pay attention to your income tax preparation, whether you do it yourself or not. Many new businesses incur losses in their formative years. Unlike personal losses, net business losses are deductible in either prior or future year tax returns.

Another twist to the situation is that many people are not aware that they are considered a business by the IRS. If you receive an IRS Form 1099-MISC with a nonzero entry in Box 7, the IRS considers you a business. Additionally, if there is a nonzero entry in Box 3 of the same form, you may still be considered a business. This article does not pertain to C-Corps. It’s geared towards individuals operating as Sole Proprietors, Partners, or who report their business income on IRS Form 1040, Schedule C. Also, I’ve simplified the discussion because I just want to make you aware of a potential tax benefit. For a more thorough discussion of NOL, refer to the IRS Pub 536.
NOL stands for Net Operating Loss; it occurs when your deductions exceed your income for the year.  In the easy version, after you correctly fill out your tax return using tax software your NOL (if any) appears on Form 1045 Schedule A, Line 25. If the number here is negative, you have an NOL.  Now comes the beneficially interesting part. What do you do with the NOL? An NOL can be used as an above-the-line deduction in prior and future tax years. If you’re unfamiliar with the term above-the-line, basically it’s the best kind of deduction you can have because it reduces your adjusted gross income (AGI). The carryover NOL is entered on IRS Form 1040, Line 21. Generally, you must carry the entire NOL amount to the 2 prior tax years. You start with the earliest tax year. You only use as much NOL as you need to reduce your taxable income to zero. You would have to amend the tax return or file Form 1045 Schedule A to claim the refund, but so what, you're going to get a refund. Your NOL is reduced by the amount you applied. If your still have NOL left, apply it to the next earliest tax year.

If you still have NOL left after going back 2 tax years, you can apply the remaining NOL in the next 20 tax years.  Also, you can carry NOL from multiple tax years. You just have to keep track of where it came from and how much is left.   
The IRS allows you to waive the NOL carryback.  If you choose this option you must notify the IRS with a statement attached to your original return filed by the due date.

So as it turns out, if you operate a business you can “spread out” a loss in one year over multiple profitable years.  This is a pretty good deal and can reduce your taxable income resulting in less tax paid. You just have to be vigilant about keeping track of the NOL and applying it at the right time and place.  Or, have your return prepared by a tax pro like an Enrolled Agent.

Brycast Financial Planning in Austin Texas --- We Can Help
Income Tax Preparation in Austin Texas
Enrolled Agent; Investment Advisor

Tuesday, June 28, 2011

Is Your College Graduate Child Still Your Dependent?

If you have a child that graduated or is graduating from college this year, you may be wondering if you can still claim them as a dependent on your income tax return.  If you are a single parent and only have one child, this question is even more important because it can change your filing status from Head of Household to the less desirable Single status.

The rules for claiming a dependent are actually lengthy. In order to keep this article short, I’m assuming that your child has qualified as your dependent in prior tax years, so the only year in question is this tax year.  There are 5 tests that must be passed to be a qualifying child, 1) relationship, 2) age, 3) residency, 4) support and 5) joint return.  I’ll review the tests that I think your child may not pass. If your child fails any of the tests, you may not claim them as a dependent. For a more thorough discussion of the rules for claiming a dependent, refer to IRS Pub 17. In this article, I’m assuming that your child passes the relationship test.

Age Test – Your child’s age is determined at the end of the tax year, and your child must be younger than you or your spouse (if married filing jointly). Your child must be under 19 or your child must be under 24 and a full-time student. To be a full-time student, your child must have been a student during some part of any 5 calender months of the year (the 5 months don't have to be consecutive). The definition of Full-time student depends on the particular college. But in many colleges, you must be enrolled for at least 12 hours during any semester.  So, even if your child graduated in May, he does not necessarily fail the age test. Also, your child passes the Age test if he or she is permanently and totally disabled at any time during the year, regardless of age.   

Residency Test – Your child must have lived with you more than half of the year.  The time that your child is away at college is considered a temporary absence, and still counts as time lived with you. So, if your child graduates in May, and comes home and lives with you until July 1st or later, he still passes the residency test.  However, if he graduates in May, then takes a job and does not live with you for the rest of the year, he fails the residency test.

Support Test – The child cannot provide more than half of his or her own support for the year. The good thing about this one is that if your child received a scholarship, it does not count towards his contribution to his own support. However, if your child works it’s possible that he could fail the support test.  

Joint Return Test – Your child cannot file a joint return for the tax year.  The exception to the rule is if your child and his spouse file a joint return merely to claim a refund. In other words, they weren’t required to file a return, but they filed because they had a refund coming to them.

As I said, your child must pass all 5 tests to be claimed as a dependent by you. To make this article shorter, I did not discuss a qualifying relative.  If your child is not your qualifying child, he or she may be your qualifying relative. The rules for each are different, and should be investigated if necessary.

If you have a tax question, just click on the email link below or leave a comment.
Brycast Financial Planning in Austin Texas --- We Can Help
Income Tax Preparation in Austin Texas

Enrolled Agent; Investment Advisor Representative

Monday, June 20, 2011

Electric Plug-In Car Credit

If you’ve been thinking about buying an electric car to replace your gas guzzler but have been holding back because of the cost, there may be some relief. Congress has decided to help pay for part of the cost of that electric plug-in. The following manufacturers have vehicles that may qualify for the maximum tax credit of $7500. The list of qualified vehicles has grown significantly since the inception of the program. 

Index to Manufacturers (Tax Year 2016)

Qualified Plug-in Electric Drive Motor Vehicles (IRC 30D)
AMP Electric Vehicles, Inc.
Audi of America, LLC
Azure Dynamics
BMW of North America
Boulder Electric Vehicles, Inc.
BYD Motors Inc
CODA Automotive
Electric Vehicles International
Electric Mobile Cars
FCA (Fiat Chrysler Automobiles) North America Holdings LLC
Fisker Automotive, Inc.
Ford Motor Company
General Motors Corporation
Kia Motors America, Inc.
Mercedes-Benz USA, LLC
Mitsubishi Motors North America, Inc.
Nissan North America
Porsche Cars North America, Inc.
Smart USA Distributor LLC
Toyota Motor Sales
VIA Motors, Inc.
Volkswagen Group of America
Volvo Cars of North America LLC
Wheego Electric Cars, Inc.
Zenith Motors, Inc.

The credit is available for cars purchased after 12/31/2009. The IRS last updated the page on 10/19/2016, so I’m assuming that this list is valid as of the date of this writing.  With so many choices, you probably can find a vehicle that's within your budget. 

In order to claim the credit, you must fill out IRS Form 8936. This credit is nonrefundable, meaning that it cannot generate a refund for you. It can only reduce your taxable income to zero. If you need help claiming the credit, consult a tax pro like an Enrolled Agent, or visit the IRS website. Happy Electric Motoring!

Brycast Financial Planning in Austin Texas --- We Can Help

Income Tax Preparation in Austin Texas

Enrolled Agent; Investment Advisor Representative

Sunday, June 19, 2011

Restricted Stock Units (RSU) -- Potential to be Double Taxed! – Part 2 of 2

In Part 1, I talked about the Same Day Sale option of RSUs. In other words, the day you become vested in the RSUs, you sell all of them. The other option is to sell only as many as you need to pay the estimated tax due.  This is known as Sell to Cover.

Remember, as soon as you become vested in the RSUs, your employer adds their value to your W-2 income and tax is due. So what happens if the value of the stock drops? Well, it’s too bad.  You’ve already paid taxes on the RSUs, and it doesn’t matter that their value has decreased. In fact, you can’t get any relief until you sell the stock. Then, you can enter a capital loss on your tax return. Although you can use capital losses to offset capital gains, you can only deduct $3000 of capital losses per year.
If the stock price increases, you are in good shape. If you wait more than a year to sell the stock, then you can report the stock sale as a long-term capital gain. Otherwise, it’s a short-term capital gain.
Brycast Financial Planning in Austin Texas --- We Can Help
Income Tax Preparation in Austin Texas

Enrolled Agent; Investment Advisor Representative

Tuesday, June 14, 2011

Restricted Stock Units (RSU) -- Potential to be Double Taxed! – Part 1 of 2

If your employer grants you RSUs (Restricted Stock Units), count your blessings. This is a method of rewarding employees for exceptional contributions, loyalty, or just wanting to say “thanks”. However, there are some things that you should know about the way RSUs are treated from an income tax perspective so that you will not be double taxed.

First of all, RSUs are taxed as ordinary income to you, not capital gains. This sometimes confuses people because most of the time stocks and capital gains go together.  When your employer grants RSUs to you, there is a restriction associated with them. Usually, the restriction is that you cannot sell the stock until a certain amount of time has passed, aka vesting period.  Typically, an employee will vest in a certain percentage of the granted RSUs every year. For example, it could be that your employer granted 400 RSUs to you that proportionally vest over a 4 year period. This means that you will be vested in 100 RSUs every year for the next 4 years. Every year, once the vesting period is passed, two things happen.  Your employer will add the value of the RSUs that vested to your income. And, you will be able to sell the vested RSUs.

Large employers usually relegate the RSU transactions to a broker.  Your employer might initially set up the account for you, and then you can see how many RSU you have, and when they will vest. Once you become vested in the RSUs, your employer will add the value of the RSUs to your income (assuming an 83(b) election was not made).  He’s also obligated to withhold taxes from the distribution, usually referred to as backup withholding. If your employer uses a broker to handle the RSUs, he’ll require that just enough of the vested RSUs be sold to potentially cover all income and social security taxes resulting from the vesting. This is known as Sell to Cover. However you can select another option to sell all of the vested RSUs. This is usually referred to as a Same Day Sale.  If you elect the Same Day Sale option, after deductions proceeds are deposited into your cash brokerage account.

Here is an example of how the double taxation can occur. Let’s say your employer granted 1000 RSUs to you last year. You become vested in 250 shares this year. On the day that you become vested, the stock value is $50. Also, let’s say that you setup the Same Day Sale option in the brokerage account.  On the day that you become vested, your broker will sell 250 shares of stock on your behalf.  The gross amount from the sale is $12,500 (250sh * $50/sh). However, your broker will probably withhold a fee, maybe $100, for executing the transaction. And, your broker will transfer some amount to your employer to help pay the taxes due. Assume it’s 28% of the sale, or $3500. Whatever is left over, $8900 in this case, is deposited into your cash account at the brokerage firm.

Your end-of-year W-2 will show that you received $12,500 of additional income, and it will also show the $3500 of additional tax paid. Also, you broker is going to issue a 1099-B to you, and therein lies the problem. In this example, your broker should report net proceeds of $12,400 ($12,500 - $100 commission). You must report this 1099-B transaction on your income tax.  How you handle it is very important. Your cost basis on the transaction is what the stocks sold for, $12,500. So this essentially turns out to be a short term capital loss on your Schedule D.  If you fail to report it, the IRS will assume that your cost basis is zero, and will want you to pay the additional income tax, plus interest and penalties.  I’ve seen some people report the transaction with zero cost basis because their employer gave them the stock! Ok, it was a gift, but the employer has already withheld a portion of the proceeds for taxes.

Next, I’ll discuss the Sell to Cover option, and how you can end up on the short end of the stick.

Brycast Financial Planning in Austin Texas --- We Can Help
Income Tax Preparation in Austin Texas

contact:  (512) 293-4170
Enrolled Agent; Investment Advisor Representative

Monday, June 13, 2011

Can You Deduct Nursing Home Expenses for an Elderly Parent? – Part 2 of 2

In Part 1, I went through the requirements for claiming your parent(s) as a dependent. This part continues with a discussion of deductible medical/dental expenses.

Nursing home care is discussed in IRS Pub 502, under Nursing Home & Nursing Services. Here are two quotes from the Pub. You can include in medical expenses the cost of medical care in a nursing home, home for the aged, or similar institution, for yourself, your spouse, or your dependents. This includes the cost of meals and lodging in the home if a principal reason for being there is to get medical care. And, “This includes services connected with caring for the patient’s condition, such as giving medication or changing dressings, as well as bathing and grooming the patient. These services can be provided in your home or another care facility.”

You don’t necessarily need to hire a nurse, but you have to hire a legitimate health care professional to provide the care. Or, the facility must be a licensed long term care facility or nursing home.

Although you cannot deduct medical/dental expenses until they exceed 10% (for 2013) of your AGI, the cost of long term care can be very expensive. So, it’s not that difficult to exceed the 10% limit. Additionally, among the many other medical/dental expenses, don’t forget to deduct the cost of prescription drugs, hearing aids, eyeglasses, etc.   

Brycast Financial Planning in Austin Texas --- We Can Help
Income Tax Preparation in Austin Texas
Enrolled Agent; Investment Advisor Representative

Thursday, June 9, 2011

Can You Deduct Nursing Home Expenses for an Elderly Parent? – Part 1 of 2

Before you can consider whether or not you can deduct nursing home expenses that you paid for your parent, you must first establish if your parent is your dependent.

A dependent for the purpose of an exemption is referred to as a qualifying relative. There are 4 tests that be satisfied for a person to be your qualifying relative.
      1)      Not a qualifying child
      2)      Member of household or related to you
      3)      Gross Income
      4)      Support

Okay, you PASS the first test if your parent is not your child.
For number 2, usually a qualifying relative has to live with you in your household. However, there is an exception to this for a parent.  So, even if your parent lives in a nursing home, you still PASS the test.

Number 3 refers to the gross income of your parent.  Your parent’s gross income must be less than $3900 (for 2013). Gross income is all income in the form of property that is not exempt from tax. Your parent might be receiving social security benefits. That’s ok; they are not taxable if that is the only income they have.  Let’s assume that the only income your parents have is from social security, so you PASS this test.

Number 4 is the support test.  Generally, you must provide over half of your parent’s support. But there are some twists. To make things a little easier, let’s assume that you are the only one providing support to your parent.  Whatever money your parent spends is counted as support, but not money that is saved. For example, your parent receives $5000 per year in social security benefits, and $150 in interest from a savings account.  Therefore, their annual income is $5150. If they spend $3000 for food and taxes, and save the remaining $2150, then they have spent $3000 towards their own support. So, if you spend more than $3000 on your parent, you pass the support test.

Consequently, you can claim your parent as a dependent. And, depending on your current filing status, this may place you in a more favorable filing status. If you had been previously filing Single, you can now file as Head of Household, with your parent as your qualifying relative for the new filing status. That raises your tax year 2013 standard deduction from $6100 to $8950.    
Refer to IRS Pub 17 for more info.
Next blog discusses nursing home expenses.

Brycast Financial Planning in Austin Texas --- We Can Help

Income Tax Preparation in Austin Texas
Enrolled Agent; Investment Advisor Representative

Tuesday, June 7, 2011

Leaving your employer…What to do with your 401(k)?

If you are leaving your employer with whom you have a 401(k), you may want to carefully consider what you want to do with the 401(k). I have done many tax returns where clients cashed out their 401(k) and ended up paying more income tax at the end of the year.  Here is generally what happens.

Cash Out:
You leave you employer, for whatever reason, and take a lump sum distribution of your 401(k). Let’s say the value is $100,000.  But, you receive a check for $80,000 because the plan administrator tells you that they are withholding 20% of the taxable distribution. What many people don’t realize is that $20,000 is just a payment towards your tax bill. Your tax bill is not necessarily paid in-full; it’s going to depend on your total income and deductions for the year.  
In many cases adding $100,000 to someone’s income is going to place them in a 28% to 33% tax bracket.  Remember, the plan administrator only withheld 20%, so you are probably going to have to write a check for the deficiency. 

If you are younger than 59 ½, then you may be subject to a 10% penalty on the distribution. There are exceptions to the penalty, so you should ask your plan administrator, or financial advisor if you qualify for any of the exceptions before you take the distribution.  In this example, $10,000 (10% * $100,000) would be added to you tax bill just for taking a cash distribution.

Leave it There:
Many plans allow you to leave you 401(k) with them, if its value is above a certain amount. If you have been happy with the funds’ performance, this may not be a bad option. Usually fees within a 401(k) are low.

Another option is to rollover the 401(k) into either a traditional IRA or a Roth IRA. If you use this option, consider using a “Trustee to Trustee” transfer. In other words, you first setup the IRA account then tell the two plan administrators that you want to rollover your 401(k) into an IRA. So, you never take the distribution. In this way you can avoid potentially making an unintended taxable distribution.    

Brycast Financial Planning in Austin Texas --- We Can Help
Income Tax Preparation in Austin Texas
Enrolled Agent; Investment Advisor