I’ve been thinking about marriage and relationships a lot lately.   I’m not entirely sure why, but I’m thinking it has something to do with me traveling and spending most of my days more than 2,000 miles away from my family and most of my friends.  The distance makes you not take your relationships for granted.  Also, in the last few months, I’ve had a few friends get married, engaged, and, yes, divorced.

Naturally, whenever I hear that someone is getting married—or divorced—I always think about how this affects their taxes.

OK, I am usually thinking about how virtually everything affects someone’s taxes.

I can’t—and don’t want to—help it. It’s a problem, and my clients pay good money for it.

Depending on your situation and income level, getting married before the end of 2013 could either save you money or it could cost you.  This is what people in my profession like to call the marriage penalty or, if you’re saving money, the marriage bonus.  The difference between the two depends on the income level of each spouse.  Usually there’s a bonus if one spouse has significantly less income than the other, but a penalty if they both have roughly the same amount of income.

First, some Excel tables that’ll help understand how I came up with the amounts below—and, because, you know, accountants like Excel.


Individual Taxpayers 2013

Married Filing Jointly 2013


Marriage Bonus

Let’s say Dan and Jessica get married in 2013.  Jessica will have taxable income of $140,000 in 2013 and Dan will have $25,000.  If they file  jointly, their total tax on a combined income of $165,000 is $33,665.50.

However, if they were unmarried and filed as single individuals, Dan’s tax would be $3,303.75, while Jessica’s tax would be $32,493.25 for a combined tax of $35,797.

Filing jointly would save them $2,131.50.

Marriage Penalty

Now, let’s look at how this would differ if they both had $140,000 in taxable income for a combined taxable income of $280,000.

If they were married and filed jointly, their combined tax would be $68,713.  However, if they were unmarried and filed as single individuals, then their combined tax would be $64,986.50, which saves them about $3,726.50.


In either of these situation, if they plan correctly, they could save enough to pay for their honeymoon or at least the flights to their destination.

Besides the tax itself, there are phaseout levels that should be considered as well.  For example, the new 3.8% medicare surtax applies to the lesser of net investment income or modified adjusted gross income over a threshold.  If you’re single, that threshold is $200,000.  However, if you’re married, that threshold increases to only $250,000.  Two single individuals would get a combined exclusion of $400,000—$150,000 more than their married counterpart.

There’s also the personal exemption that starts phasing out at different thresholds.  The exemption is reduced by 2% for every $2,500 of income over the threshold.  If you’re married, the exemption starts phasing out at $300,000, while single individuals will see phaseouts once their income exceeds $250,000.  This means that two single individuals will have a combined exclusion of $500,000, which is $200,000 more than married filers.

Chances are, if you’ve got a big wedding planned, it’s too late to change the date.  Also, the amount you’ll save may not matter to you and you’d rather just marry the love of your life sooner than later.  However, on the off-chance that you decide to change your wedding date because it will reduce your taxes, just don’t tell your fiancé that you heard any of this from me.

Oh, and before you ask, if you are married and not legally separated, then nope, you can’t file as single.  You can, however, file as married filing separately, but that could present a whole other set of problems.


8 Ways to Avoid the 3.8% Medicare Surtax

Tax planning is important every year, but with some tax provisions expiring and new ones taking effect this year, 2013 is an especially important year to examine your financial situation and plan accordingly. One of the new taxes that went into effect this year is the 3.8% medicare surtax.

Just what is the medicare surtax and what does it apply to?

The tax is a flat 3.8% and applies to the lesser of:
1. Net investment income, or
2. Modified adjusted gross income over a certain amount ($250,000 for married individuals filing jointly, $125,000 for those married but filing separately, and $200,000 for everyone else)

What exactly is net investment income and modified adjusted gross income?

This may be a bit much, but I promise my version is a lot simpler than the IRS’.

Net investment income is net income from… well, investments.  Specifically:

1. interest, dividends, royalties, annuities, and rent unless those items are ordinarily generated by a business that the medicare surtax doesn’t apply
2. a business that the medicare surtax does apply to (i.e., businesses that are either passive activities of a taxpayer or businesses that trade in financial instruments or commodities)
3. the disposition of property other than property held in a trade or business that the medicare surtax doesn’t apply

Got all of that?  Good.

Modified adjusted gross income (MAGI) is essentially your gross income minus certain deductions, such as alimony, student loan interest, moving expenses, HSA & IRA contributions, etc.  It’s important to note that for purposes of calculating your MAGI, if you took a deduction for income earned outside of the US, then that deduction would need to be added back.

MAGI includes both investment income (net investment income) and earned income (think wages, etc.).

Let’s say you sold land (investment income) for a profit of $82,000, earned interest of $10,000, and wages of $20,000.  Your net investment income would be $92,000 and your MAGI would be $112,000.  Also, it may be time to consider selling more land and quitting your day job (but, if your wife—or husband—asks, you didn’t get that idea from me).

OK.  Now tell me how I can avoid paying the surtax

Since the tax is charged on the lower of net investment income or MAGI over the threshold, any good strategy would involve either reducing investment income or lowering your MAGI—or income in general.

1. Lowering net investment income:

The most basic strategy would be to defer any additional income to the following years if at all possible.  Usually, an increase in investment income also increases your MAGI, while an increase in your MAGI may not increase your investment income.  Which means any increase in net investment income, if already subject to the surtax, also increases the surtax.  However, an increase in MAGI that doesn’t include investment income may not expose more income to the surtax.

Here’s an example to drive that last point home.

Let’s say Dan, a single guy, sold land for a profit of $10,000. Let’s also assume Dan makes a nice salary of $220,000. This year he wants to earn more money and can either work on a side project that could earn him an additional $30,000 in wages or he could try to sell another plot of land for a profit of $30,000. His MAGI is currently $230,000 ($220,000 in wages + $10,000 from the land sale). His net investment income is $10,000. Since the tax is charged on the lesser of net investment income or MAGI over the threshold—in this case $200,000 since he is single—he would be subject to a medicare surtax of $380 (3.8% on the lesser of $10,000 or $30,000).

Let’s assume he would really enjoy working on the side project and decides to do that instead of selling the additional plot of land. The additional $30,000 in wages would bring his MAGI to $260,000, while net investment income is still $10,000. This doesn’t affect the surtax since MAGI over the threshold is now $60,000, but his net investment income is still $10,000.  So, the surtax would still be charged on his $10,000 net investment income.

Now, what about if he sold the land instead of taking on the side project?  This would bring his MAGI to the same $260,000, however net investment income would now be $40,000. This means that the 3.8% tax would now be charged on $40,000 (lesser of $40,000 or $60,000). Increasing his surtax to $1,520.

In the above example, Dan may also want to pay attention to the capital gain rates and how that affects his taxes, but that’s another story for a different post.

2. Defer the sale of investment income to 2014:

If you don’t anticipate high MAGI or investment income for 2014, it may be wise to consider pushing the sale of land and other investment property such as homes or stocks to 2014 if at all feasible.  Doing this could either lower the surtax or avoid it altogether.

3. Use the installment method to spread out gain:

If you can’t completely defer a sale to next year, then instead of taking full payment upfront, consider structuring it as an installment sale.  Doing this will spread out the taxable gain on the sale, making part of the gain taxable in 2014, a year where you may not have as much net investment income or MAGI.

Let’s assume that Jane, a single individual, has MAGI of $150,000, which includes $50,000 of investment income. She has land that she could sell for a profit of $100,000. If she sold the land and collected all of the cash upfront, then that would increase her MAGI to $250,000, which would include $150,000 of net investment income. Making $50,000 subject to the surtax (lesser of $150,000 or $50,000).  However, since Jane isn’t a dealer, she could sell the land in an installment sale, collecting only 10% of the sale price upfront.  This means that she would claim only $10,000—10% of the profit—in 2013.  Doing this would give her net investment income of $60,000 and MAGI of $160,000, which means she wouldn’t be subject to the surtax at all.

4. Speed up recognition of losses:

If your net investment income is high and your total MAGI has passed the threshold for your filing status, it may be best to sell shares of stock at a loss (if you were planning on taking a loss on them anyway).  This has the added benefit of also reducing your capital gains tax as well.

5. Increase participation in passive income:

If you have a business that you don’t materially participate in, any gain from this business is likely to be considered net investment income. And it may be best to increase participation in the business to ensure that any income you earn from it isn’t considered net investment income.  While this will still be included in calculating your MAGI, if it’s relatively low, then it would be best to not expose another dollar of investment income to the tax.  This works just like #1 above where you wouldn’t want to increase investment income, but would prefer to increase your MAGI instead.

6. Consider the effects of a traditional or Roth IRA:

For purposes of the medicare surtax, the Roth IRA is more attractive for higher earners. This is because qualified distributions from Roth IRAs are tax-free and, therefore, won’t be included in the calculation of your MAGI.  Nor is it included in the calculation of net investment income. Distributions from traditional IRAs on the other hand, while still not considered net investment income, are mostly taxable, and is, therefore, included when calculating your MAGI and could potentially put you over the threshold for your filing status subjecting some of your income to the surtax.

7. Properly time conversions to a Roth IRA:

Conversions from a traditional IRA to a Roth IRA should be timed properly to keep MAGI low.  This year, the move could increase MAGI and potentially expose some of your income to the surtax. If possible, accelerate conversions this year if your income is relatively low, but will be high next year.  If your income is relatively high this year, but will be low next year, then do the reverse.

8. Consider the effects of required minimum distributions from retirement plans for those 70.5 and over

If you reached or will reach 70.5 in 2013 and are required to take minimum distributions from your IRA this year, you may want to consider making use of the 3-month delay and take your first distribution on April 1, 2014 if the minimum distributions will increase your MAGI to the point where it puts you over the threshold.  Deferring the required distribution to next year, a year when you may have lower MAGI, would make more sense.

Another option is to reduce this year’s taxable required minimum distributions and thereby reducing MAGI by making a qualified charitable distribution.

This list isn’t exhaustive, and, as is usually the case, changing one thing could affect not only the surtax, but could also affect other taxes such as self employment and the capital gains tax as well.  The point here is that it’s October, so there’s still plenty of time to take a look at your finances and make whatever changes you can to reduce your tax liability.


Apparently TurboTax and other Intuit products, such as Lacerte, Intuit online & ProSeries, have been having so many issues with Minnesota state returns that the Minnesota Dept. of Revenue issued a statement erging taxpayers not to file their state returns using any of Intuits products.

Some of the issues include things such as assigning political contributions to the wrong party, mishaps with education credits for multiple dependents, incorrectly calculating property tax refunds, and other calculation errors.

If you haven’t already prepared your return with any of Intuit’s products, the DoR suggests using another software to prepare your return or waiting until the problems have been fixed. If you’ve already filed, contact Intuit at 1-866-888-4609.

For more, read the MN Dept. of Revenue Statement here.


And So It Goes

Almost 2 years ago, I wrote a post emphatically stating that I was back (to paying attention to this blog, that is), then I promptly went away again. But for good reason: I’ve been extremely busy.

Actually, that’s a lie, but only partly.

With only so many hours in a day, and so many things to get done, I just simply didn’t have the time. I was drowning in information and other things that I felt absolutely needed to get done, while neglecting the things that were, well, actually important.

Lots have changed since I wrote that post—both personally and professionally. The only thing that hasn’t changed is my love for taxation.

Although I’ve already said this once before, I actually mean it this time: I’m back.


2012 Filing Deadline Extended

The IRS recently announced that, like last year, the 2012 deadline has been extended to April 17, 2012. I’d like to say it was because they just felt like being nice, but I’d be lying. They extended the deadline because April 15 happens to be a Sunday, and Washington DC observes Emancipation Day the very next day, on April 16.

If you plan on filing an extension, be careful. The due date for extended returns will be October 15, not 17.

While we’re at it, here’s another date for you: January 17. That’s the first day you can e-file your returns.

Now, at the risk of sounding like mother hen, there’s no reason you have to wait until any of these dates to actually prepare your return. And by all means, don’t wait until April 17 to call your tax accountant for an extension. It drives them crazy. Trust me on this.


You’ve heard of S Corporations. Your neighbor’s company is organized as an S corporation. And you’ve heard him go on an on about how awesome S corporations are. You’ve heard just about everyone (and their mother) tout S corporations as being the perfect entity. And they are—in certain situations.

You see, choosing an entity takes care and consideration and no entity qualifies as one-size-fits-all. So while an S corporation may be awesome for your neighbor (and his mom), the same may not be true for you.

When is organizing your company as an S corporation ideal? And just what makes them so awesome?

For starters, S corporations, unlike regular corporations, aren’t subject to double taxation. Regular corporations pay tax on income, and then you, as a shareholder, pay tax on the profits distributed to you (known as dividends). S corporations don’t pay income tax (though they may be subject to other taxes). The income is simply “passed through” to each individual shareholder, who then reports his share of income on his personal income tax return. The corporation can then distribute profits to each shareholder tax free (so long as there’s sufficient basis). Therefore, any amount distributed by the corporation to each shareholder is only subject to tax once.

This pass through nature of the S corporation is one of the reasons the entity can be ideal in some tax planning situations.

Here’s one situation where an S corporation may be ideal:

For some companies, particularly in the early years, the company may be operating at a loss. Each individual shareholder gets their share of this loss (assuming there is enough basis), which can then be deducted on their personal income tax return. This can be used to offset income that otherwise would’ve been taxable. And since S corporation owner-shareholders are supposed to pay themselves a reasonable salary, this loss can even be used to offset the wages paid to you by your company. Awesome, indeed.

There’s more… S corporations are eligible for Section 1244 treatment. So, let’s say this startup of yours is unsuccessful and the stock is later disposed of at a loss. This loss is allowed to be categorized as an ordinary loss, instead of what normally happens: treating the loss as a capital. Categorizing it as a capital loss means you can only net it against other capital gain or be limited to a $3,000 annual deduction. Being allowed to categorize the loss as ordinary means that the entire amount can be deducted at once.

Here’s another:

Quite the opposite of the above scenario, your company is very successful and actually has quite a bit of cash on hand. Your company’s future is looking pretty good. With a regular corporation, if you were going to distribute some of this wealth to shareholders, it would be ideal to be able to classify this as salary and not as dividends. Why? Because salaries, unlike dividends, are deductible to the corporation and they are taxable as ordinary income to the shareholder. The IRS, being the IRS and all, is obviously aware of this and is notorious for reclassifying unreasonably high compensation as dividends.

However, with S corporations, this isn’t necessarily an issue. And organizing as such minimizes any issues you’d have with unreasonable compensation. You either pay this as a salary (deductible by the corporation) or as distributions (not deductible by the corporation, but not taxable to the individual shareholder either).

The above situation is especially ideal when the corporation is a personal service corporation (PSC). PSCs are those companies that:

  1. At least 95% of the the time spent by the company’s employees is devoted to services in either the health (including veterinary), law, engineering, architecture, accounting, actuarial science, performing arts, or consulting, and
  2. At least 95% of the stock is held directly (or indirectly) by either the employees performing these services or retired employees who did perform these services or their estates, or any other person that in the two-year period starting with the date that such an employee died, acquired that individual’s stock because of his death.

That was a mouthful.

So, if my company was organized as a regular corporation, I’d be considered a PSC. So would my family physician, my dog’s vet, the architect that designed the building I live in, that ballet company… you get the idea.

This is important because PSCs are subject to a flat tax of 35%. That’s right, no graduated rates for PSCs. It would therefore be beneficial for the company to be organized as an S Corporation. Not only does the S Corporation get rid of that dreadful flat tax of 35%, it is free to distribute enough of the accumulated cash to each shareholder to pay the tax they’d be subject to (remember: income of the S corp. is passed through to each shareholder).

Let’s look at a few situations where you’d probably want to stay away from an S corporation.

As mentioned before, S corporations are pass-through entities, so the income is reported on each individual shareholder’s personal income tax return. Depending on the marginal tax rate, sometimes the tax can be cheaper when using the corporate tax rates than the individual. So it would make more sense to be organized as a regular corporation and have the corporation pay the tax.

Another situation is with fringe benefits. Fringe benefits of closely-held companies are normally taxable to an S corporation’s shareholder-employees. Again, another situation where you’d probably want to be a regular corporation.

Another reason you may want to stay away from S corporations is if you are looking for investors. Investors prefer regular corporations because S corporations aren’t allowed to have more than 100 shareholders, and they are limited to one class of stock, which means… no preferred stock.

Now, this obviously isn’t all inclusive. The point is, don’t just go out and form an S Corporation (or any entity for that matter) because someone told you to. The important thing to do before you create your entity is have some kind of understanding of the direction your company will likely head in and what’s important to you (investors, flexibility, lower income tax, etc.) and chose an entity based on that. And for goodness sake go talk to a decent tax accountant. Who probably isn’t your neighbor.


Finders Keepers

Let’s say you had a certain amount of money deposited into your bank account unexpectedly… what would you do? What would you really do? What if the amount was only $50? What if it was $110,000? What if the amount was deposited by the IRS (or the Treasury)?

Would you try to figure out why it was deposited into your account? Or whether the funds actually belonged to you?

Or would you say nothing and just hope no one would notice there was a mistake made?

Or would you go out and spend it on your student loans, car payment, and foreclosure debt?

If you asked Stephen McDow, he probably would have answer yes to that last one.

You see where I’m going with this, right? McDow had $110,000 deposited into his account. He wasn’t expecting the money, and I’m willing to bet that not so deep down he knew that the money didn’t belong to him. Turns out that the money that was deposited into Mr. McDow’s account was actually a refund belonging to another taxpayer. Apparently, that taxpayer provided her accountant with information for a Citibank account that was closed in 2004. Citibank later reissued that account number to Mr. McDow.

After obtaining an e-mail address for McDow, the taxpayer had her attorney send him an e-mail with instructions to return the money. To which he responded that he’s already spent some of it—on student loans, a car loan, and a home loan, to be specific.

Mr. McDow apparently offered to make monthly payments, but let’s just say that that offer wasn’t accepted since the rightful owner reported the theft to the police.

McDow has since been arrested.

Who knows what was going through his head, but I just find it hard to fathom that someone can have that much money deposited in their account and not try to ensure that it really did belong to them. It’s one thing if you’re expecting it, but quite another to have that money mysteriously appear in your bank account one day.

Also, I guess I also don’t understand how someone who is expecting such a significant refund doesn’t bother to verify that the account number is correct before giving it to her accountant. The account was closed in 2004. I get that nowadays we rarely use checks and payments are withdrawn from your account automatically, but it was closed in 2004. 2004.

Apparently finders aren’t keepers.


I’m Back!

The last tax season was, well, hectic.

After that I needed a vacation.

After my vacation I needed motivation to get back to writing. And to work in general.

Now, I’m back. Refresh and renewed.

The 2010 tax season was probably my most hectic. That’s not a complaint, though. Believe me. It proved to be really difficult to keep up with blogging and answering questions while I had returns and engagements to deal with.

And after tax season was finished, I had even more work to do. After that was done, I finally took a much-needed vacation. We went to visit family in Italy for what had to be the shortest two weeks ever. As I said, I’m back now, refreshed, and ready. Vacation will do that do you (after you get over the jet-lag, of course).

I’m gotten quite a few e-mails with questions, and quite frankly I am a bit surprised by the amount of e-mail I’ve received. I’ve tried my best to respond to as many as I could, but I haven’t posted any of those questions here. If you’ve sent me an e-mail and I haven’t responded, my apologies. I’m working my way through my inbox… and will hopefully get to yours eventually. Please keep in mind that I could just be waiting for a more appropriate time to respond to your inquiry.


You want to know how I knew for sure today was March 15? No, I didn’t check my calendar. I checked my e-mail, and there they were: e-mails asking when corporate tax returns are due. Now, I occasionally get e-mails about due dates all throughout tax season, but for some reason, on March 15, I get more e-mails than I do any other day.

Apparently people are confused.  And I think most of the confusion has to do with the fact that individual tax returns aren’t actually due until April 15 (this year they are due April 18). Because of this, quite a few people, especially those that haven’t filed a corporate tax return before,  assume that the corporate tax return due date is also April 15. 

Corporate tax returns are in fact due March 15. (that’s today!)
So if you haven’t filed your corporate tax return as yet, either finalize the filing or do yourself a favor and file an extension using Form 7004, please.

While we’re on the subject of extensions, plthis would be a good time to point out that an extension is only an extension of time to file, not an extension of time to pay. So, if your return is on extension, and you end up with a balance due when you file the actual return, you may not be assessed a failure-to-file penalty, but you will get hit with the failure-to-pay penalty, which is currently .5%. Oh, and let’s not forget about interest.

So, what are you waiting for? Go file that return—or extension!


Here’s the redacted version of what David asked:

In 2010 a previous employer informed that they were forcing me to take my 401K contributions out of their plan and roll it into another IRA of my choosing. According to their rules, I had enough capital in the account such as they couldn’t force me to take an early distribution, but not so much that they couldn’t force me out of the employer-subsidized account.

I procrastinated getting in the necessary paperwork with instructions as to which provider to transfer funds to. The funds were subsequently sent to E-trade securities, LLC. rolled into an IRA rollover account. I then had E-trade perform an ACAT transfer to my preferred carrier.

I also moved other assets from UBS to AIG/Valic. However, in this instance, I requested UBS disburse me an early distribution check, due do the fee-free transaction. I immediately mailed the capital to AIG via personal check after the EFT disbursement from UBS cleared my checking account.

Now, it appears that I should be receiving a few Form 1099 as well as Form 5498. I’ve currently already received the 1099 forms but no 5498′s. How does this affect my filing? Are there any special tax forms that need to be prepared? How do I account for these transactions, although all funds/distributions were completely rolled into qualifying IRA plans, given the fact that I’m being told that the Form 5498 won’t be sent until after May31st and the 2010Tax deadline is April15th? Wheh!

I say:

First, I feel like I should apologize since David’s been waiting quite a while for a response—he may have even received those 5498s already.

So, Davide, my apologies. This year, tax season started with a bang. And it started out with really complex returns that took more research than normal, so sleep has been very hard to come by. But, alas, here’s my response, and I hope it helps.

Employers are required to give those individuals that participate in their plans an option to have an eligible rollover distribution paid directly to a traditional IRA, so long as the amount of the distribution isn’t less than $200.

Let me explain what a Form 5498, IRA contribution Information, is. Like it’s name suggest, it reports information on contributions, rollovers, conversions, and recharacterizations to both you and the IRS. It also reports the FMV of the account at the end of the year, which is needed mostly for required minimum distribution purposes and in calculating the taxable portion of an IRA distribution.

The amounts of each distribution is reported to you and the IRS on Form 1099-R. So on Form 1040, you report the total distribution shown on line 16a, and the taxable amount on line 16b for all except distributions from an IRA—those distributions get reported on line 15a, with the taxable portion on like 15b. You’ll know if they belong on line 15 if the IRA checkbox in box 7 of the 1099-R is checked.

If all the distributions were rolled over to a retirement account, whether directly from one trustee to the next, or through a complete distribution to you and then transferred to another account then the amounts shouldn’t be taxable.

I’ve given you a pretty quick and dirty response to qualified plan distributions. Your age, whether they were rolled over within 60 days of the distribution, and a number of other factors can come into play. You should definitely check with your accountant regarding how these distributions will affect your specific tax situation.

Disclaimer: like any decent tax professional will tell you, since you’re not currently a client of mine—though you can be—it’s almost impossible to provide complete and accurate tax advice over the internet without being aware of the taxpayer’s entire situation; therefore, I suggest you consult your tax professional before relying solely on any information provided on this site.