Harless Tax Blog

Harless Tax Blog

Tax reform changes affecting small business and self-employed taxpayers; third quarter estimated tax payment deadline is Sept. 17

Monday, September 10, 2018

Source from irs.gov
WASHINGTON – With the last third of the year now in full view, the IRS today reminded small business and self-employed taxpayers of the importance of meeting their tax obligations. Part of those obligations normally include making quarterly estimated tax payments.

This news release is part of an ongoing campaign aimed at helping small businesses understand tax reform changes that affect their bottom line.

Who may need to pay estimated taxes
Individuals, including sole proprietors, partners and S corporation shareholders, may need to pay quarterly installments of estimated tax unless they owe less than $1,000 when they file their tax return or they had no tax liability in the prior year (subject to certain conditions).

Other taxpayers who may need to make estimated payments include someone who:

  • has more than one job but doesn’t have each employer withhold taxes.
  • is self-employed.
  • is an independent contractor.
  • is a representative of a direct-sales or in-home-sales company.
  • participates in sharing economy activities where they are not working as employees.

Taxes are pay-as-you-go
Because the U.S. tax system operates on a pay-as-you-go basis, taxpayers are required, by law, to pay most of their tax liability during the year. For 2018, this means that an estimated tax penalty will normally apply to any party that pays too little tax-- generally less than 90 percent of the tax shown on the return for the current tax year or 100 percent of the tax shown on the return for the preceding tax year -- during the year through withholding, estimated tax payments or a combination of the two.

In recent years, the IRS has seen an uptick in people subject to estimated tax penalties. These penalties normally apply when someone underpays their taxes. The number of people who paid this penalty jumped from 7.2 million in 2010 to 10 million in 2015, an increase of nearly 40 percent. The penalty amount varies, but can be several hundred dollars. There are special rules for farmers and fishermen. IRS Publication 505, Tax Withholding and Estimated Tax, has more on penalties for underpayment of tax.

Perform a paycheck checkup
The Tax Cuts and Jobs Act, enacted in December 2017, changed the way tax is calculated for most taxpayers, including those with income not subject to withholding.

The IRS urges all employees, including those with other sources of income, to perform a Paycheck Checkup due to these tax law changes. Doing so now while there is still time in 2018 will help avoid an unexpected year-end tax bill and possibly a penalty. A convenient way to do this is to use the Withholding Calculator on IRS.gov.

Employees who expect to receive long term capital gains or qualified dividends, or employees who owe self-employment tax, alternative minimum tax, or tax on unearned income of minors should use the instructions and worksheets in Publication 505 to check whether they should change their withholding or pay estimated tax.

Form 1040-ES, Estimated Tax for Individuals, available on IRS.gov, is designed to help taxpayers figure these payments simply and accurately. The estimated tax package includes a quick rundown of key tax changes, income tax rate schedules for 2018 and a useful worksheet for figuring the right amount to pay. The IRS also mailed 1 million Form 1040-ES vouchers with instructions in late March to taxpayers who used this form last year.

How and when to pay
For tax-year 2018, estimated tax payment due dates are April 18, June 15, Sept. 17 and Jan. 15, 2019. Taxpayers in presidentially-declared disaster areas may have more time to make these payments without penalty. Visit the Tax Relief in Disaster Situations page for details.

The fastest and easiest way to make estimated tax payments is to do so electronically using IRS Direct Pay or the Treasury Department’s Electronic Federal Tax Payment System (EFTPS). For information on other payment options, visit IRS.gov/payments. For filers paying by check, the check must be made payable to the “United States Treasury.”

More information about tax withholding and estimated tax can be found on the agency’s Pay As You Go web page as well as in Publication 505, Tax Withholding and Estimated Tax. Publication 505 has additional details, including worksheets and examples, which can help taxpayers determine whether they should pay estimated tax, such as those who have dividend or capital gain income, owe alternative minimum tax or have other special situations.

Accounting Services | Jupiter Fl

Avoid penalty for underpayment of taxesAvoid penalty for underpayment of taxes

Thursday, September 06, 2018

Source from irs.gov
WASHINGTON ― With nearly 10 million U.S. taxpayers facing a penalty for underpayment of estimated tax last year, the Internal Revenue Service urges taxpayers to plan ahead, understand their options and avoid the penalty when they file in early 2019.

To help taxpayers avoid this common situation, the IRS is focusing four news releases this week on key areas to help taxpayers pay the right amount of tax and avoid an estimated tax penalty. The IRS is highlighting a variety of resources and tools – including the online Withholding Calculator – to help taxpayers determine if they need to make an additional tax payment to avoid an unwelcome surprise at tax time.

This is part of the wider Paycheck Checkup campaign to encourage people to check their tax situation, including withholding and estimated tax payments.

Those who are self-employed or have other income, such as interest, dividends, self-employment, capital gains, prizes and awards or have too little tax withheld from wages may need to make estimated or additional tax payments. Estimated tax is used to pay not only income tax, but other taxes such as self-employment tax and alternative minimum tax.

Pay as you go
The U.S. tax system is essentially “pay-as-you-go.” Taxes must be paid as income is earned or received during the year. For people who receive salaries, wages, pensions, unemployment compensation and the taxable part of Social Security benefits, tax can be withheld.

Taxpayers can adjust withholding on their paychecks or the amount of their estimated tax payments to help prevent penalties. This is especially important for people in the sharing economy, those with more than one job and those with major changes in their life, like a recent marriage, divorce or a new child.

Some income is not subject to withholding. This includes some income from the sharing economy and income from self-employment or rental activities. Individuals, including sole proprietors, partners and S corporation shareholders, may need to make estimated tax payments unless they owe less than $1,000 when they file their tax return or they had no tax liability in the prior year (subject to certain conditions).

Perform a ‘Paycheck Checkup’
The Tax Cuts and Jobs Act, enacted in December 2017, changed the way tax is calculated for most taxpayers, including those with substantial income not subject to withholding. Because of the far-reaching tax changes taking effect this year, the IRS urges all employees, including those with other sources of income, to perform a Paycheck Checkup now. Doing so now will help avoid an unexpected year-end tax bill and possibly a penalty. The easiest way to do this is to use the Withholding Calculator available on IRS.gov.

To use the Withholding Calculator most effectively, users should have a copy of last year’s tax return and recent paystubs. After filling out the Withholding Calculator, the tool will recommend the number of allowances the employee should claim on their Form W-4. Though primarily designed for employees who receive wages, the Withholding Calculator can also be helpful to some recipients of pension and annuity income. Recipients of pensions and annuities can make a change by filling out Form W-4P and giving it to their payer.

Form 1040-ES, Estimated Tax for Individuals, available on IRS.gov, is designed to help taxpayers figure these payments simply and accurately. The estimated tax package includes a quick rundown of key tax changes, income tax rate schedules for 2018 and a useful worksheet for figuring the right amount to pay. The IRS also mailed 1 million Form 1040-ES vouchers with instructions in late March to taxpayers who used this form last year.

Employees who expect to receive long-term capital gains or qualified dividends, or employees who owe self-employment tax, alternative minimum tax or tax on unearned income of minors should use the instructions in Publication 505 to check whether they should change their withholding or pay estimated tax.

When and how to pay estimated tax
Taxpayers normally make four estimated tax payments a year. Remaining payments for 2018 are due Sept. 17, 2018, and Jan. 15, 2019. Those who make estimated payments may be charged a penalty if those payments are late.

Taxpayers have a variety of ways to pay estimated tax: online, by phone or from their mobile device. Direct Pay is a secure online service to pay a tax bill or pay estimated tax directly from a checking or savings account at no cost. Visit IRS.gov/payments for easy and secure ways to pay taxes. If a taxpayer pays estimated tax by mail, they should use the payment vouchers that come with Form 1040-ES.

Publication 505, Tax Withholding and Estimated Tax, provides more information about these special estimated tax rules. Taxpayers in presidentially declared disaster areas may have more time to make these payments without penalty. Visit the Tax Relief in Disaster Situations page on IRS.gov for details.

For more information about estimated taxes, see these IRS resources:

Accounting Services | South Florida

IRS keeps closing Taxpayer Assistance Centers

Friday, August 17, 2018

Source from accountantsworld.com
The Internal Revenue Service is continuing to close Taxpayer Assistance Centers around the country, despite recommendations to the contrary from the National Taxpayer Advocate and the Senate Appropriations Committee.

National Taxpayer Advocate Nina Olson wrote a blog post last week pointing out that the IRS has closed nine of its walk-in centers since her report to Congress last December, in which she criticized the closure of such facilities, where taxpayers can talk face-to-face with IRS employees about their tax concerns. In December, she noted, the IRS operated 371 Taxpayer Assistance Centers, but today there are only 362.

That’s going against not only her recommendation that the IRS keep the TACs open, but also Congress’s, especially in the wake of the passage last December of the Tax Cuts and Jobs Act, which is generating plenty of need for assistance for taxpayers as well as tax professionals. Olson pointed out that in March, when Congress passed an appropriations bill for the IRS and other parts of the federal government, the Senate Committee on Appropriations actually directed the IRS to produce a study about the impact of closing a Taxpayer Assistance Center and the adverse impact it has on taxpayers’ ability to interact with the IRS. The IRS is supposed to report on the steps it’s taking to prevent any closure of the TAC walk-in locations along with the status of possible alternatives, such as virtual customer service sites. The IRS is also supposed to convene a public forum in any affected community at least six months prior to a planned closure and notify the appropriations committees in both the House and the Senate.

However, that’s not been happening at all. Many of the closures appear to be occurring in rural communities, the Senate committee noted, leaving taxpayers with few options other than seeking out the assistance of paid tax professionals.

“It is clear the issue of TAC closures and declining services to taxpayers is of grave concern to the Committee, as it is to me,” Olson wrote. “I am astonished that the IRS has continued to close TACs in the face of this direction from the Senate Committee on Appropriations before even submitting the requested reports. I have long expressed my concerns about the impact of closing TACs, specifically on rural taxpayers who may not have another face-to-face option nearby to interact with the IRS. I eagerly await the release of the required reports so I (as well as the appropriations committees and other interested stakeholders) can review the findings of the IRS. To date, my office has not been consulted by the IRS regarding these reports.”

The IRS issued a statement Monday in response to Olson’s concerns. “The IRS uses its limited resources to provide the best possible service to America's taxpayers,” it said. “The IRS is complying with congressional requirements regarding the closure of any taxpayer assistance centers. Helping taxpayers with face-to-face service either in-person at assistance centers or virtually through secure networks will remain an integral part of the IRS’ customer service strategy.”

The agency has been dealing with a series of budget cuts at the hands of Congress in recent years and has been focusing this year on implementation of the Tax Cuts and Jobs Act that Republicans pushed through Congress last December. The agency also doesn’t yet have a full-time chief. David Kautter, the Assistant Secretary of the Treasury for Tax Policy, has been filling the role of acting commissioner of the IRS since the departure in November 2017 of Commissioner John Koskinen. The full Senate has not yet confirmed the Trump administration’s nominee, Chuck Rettig, although the Senate Finance Committee did vote to advance his nomination last month. Rettig is a Beverly Hills tax attorney whose clients can well afford the services of a high-priced practitioner. But for the average taxpayer the door is often closed when they try to visit an IRS office for help and discover the Taxpayer Assistance Center isn’t around anymore to assist them.

Accounting Services | Jupiter

Spouses Need To Think Carefully About When To Take Social Security Benefits

Tuesday, August 14, 2018

Source from fa-mag.com
When a spouse starts receiving his Social Security benefits can determine the lifetime income his or her surviving partner will get, according to Diane Pearson, a wealth advisor and shareholder at Legend Financial Advisors in Pittsburgh.

Social Security makes up an average of 40 percent of people’s retirement income and “is more valuable than most people think,” said Pearson during a webinar Wednesday sponsored by Legend Financial entitled “Social Security Planning: What You Need To Know To Maximize Retirement Income.”

A benefit of $2,000 a month for a 30-year retirement with a 2.1 percent cost of living adjustment (COLA) is $1.122 million, Pearson said. But how much a beneficiary will receive can vary.

One of the first questions everyone asks about Social Security is: Will it be there in the future? Pearson said yes. The $2.9 trillion Social Security Trust Fund is enough money to pay 100 percent of the benefits due to retirees through 2034, at which point benefits will be reduced to 77 percent of what is due unless changes are made.

To solve the problem, the retirement age could be raised, the amount of income on which Social Security taxes are paid could be raised, the COLA could be reduced or the benefits as a whole could be reduced.

A spouse is entitled, for the most part, to an amount equal to half of the higher earner’s benefits. Once the spouse dies, the survivor is entitled to 100 percent of the deceased person’s benefit. So it pays to maximize the higher earner’s benefit, which usually means he or she should wait as long as possible, up to age 70, to begin taking the benefit, Pearson said.

If both the husband and wife were receiving benefits before one passes away, the survivor will have to budget for the loss of one check, Pearson added.

When a person applies for benefits can mean thousands of dollars in added income over a long retirement.

Accounting Services | Jupiter

Classic Lesson From The Tax Court

Tuesday, August 07, 2018

Source from accountantsworld.com
Timing is at least as important in tax as it is in comedy. Although less common than it used to be before the age of direct deposit and mobile banking apps, the question sometimes arises about when must a taxpayer report as gross income a check received on December 31st but not cashed until January. The flip side is when may a taxpayer take a deduction for a check sent out on December 31st but not cashed until January.

Taxpayers tend to want to push off reporting income into a later year and tend to want to pull back deductions into the current year. Specifically taxpayers who receive a check on the last day of the year would like to say they don’t have income until they cash the check in January. But at the same time, taxpayers who write a check for a deductible expense on the last day of the year want to deduct that expense in that year and not the next.

Taxpayers cannot have it both ways. The good news is that the IRS has long allowed checks mailed on December 31st to be deductible in the year mailed, even when not cashed until January, so long as the taxpayer has truly parted control over the delivery of the check. See Treas.Reg. 1.170A-1(b).

The bad news is that taxpayers are also generally required to report checks received on December 31st as income. The rationale for that, however, is not entirely clear, as one sees in the classic case of Kahler v. Commissioner, 18 T.C. 31 (1952).

The facts in Kahler are simple. Mr. Kahler (1912-1990) earned both salary and commissions each year from the Sumner Seed Co. Normally, his employer paid him in January for the commissions earned the previous year. In 1946, however, Mr. Kahler received a check for about $4,300, reflecting about $5,400 of commissions earned (the net amount reflected withholding and another small adjustment).

Mr. Kahler did not report the $5,400 as income on his 1946 return. However, he also disclosed the facts and requested an audit to determine whether he should have reported that income. The IRS said “yep, you should have” and Mr. Kahler was off to Tax Court.

Mr. Kahler’s main argument in Tax Court centered on the inability to deposit the check in 1946. He argued that the inability to cash the check in the tax year it was received meant that the check could not count as income.

The Tax Court majority rejected that argument, reasoning that checks were really the equivalent of cash “as a practical matter, in everyday personal and commercial usage” because “the parties almost without exception think and deal in terms of payment except in...the unusual circumstance not involved here...” The majority thus took that position that the amount of gross commissions reflected in the check was the proper amount to include in income.

Judge Murdock had a slightly different rationale for concluding that the check was income in 1946. Judge Murdock pointed out that even if Mr. Kahler could not cash the check in 1946 at a bank, he “might have cashed it at some place other than at a bank or hem might have used it to discharge some obligation, within the year 1946.”

If one follows the majority’s rationale, then checks are includable in income at their face value (or for the face value of the gross income they represent). But if one follows Murdock’s concurrence, then while all checks are still includable in the year received, the amount that must be reported as gross income might be less than the face value if the checks actually have a fair market value of less than their face amount. They would instead be includable at their fair market value. To use Murdock’s example, if I receive a check for $1,000 and owe a debt of $900, my creditor might accept the check in satisfaction of the debt. In that case, I would have $900 of income, not $1,000 (and my creditor would get a basis of $900 in the check). Or I might sell the check for $900 and assuming that sale is to an unrelated buyer, that would set the market value.

Murdock’s rationale makes sense, of course, because a check, after all, is not cash. It is the right to receive the amount stated on the face of the check. A right to receive something is a piece of property. No, not property like my lawn mower. That’s tangible. It’s property like a lawn-mowing contract. An intangible right to something that, if necessary, can be enforced in the courts by an action at law. The old English word for “property” is “Chose” and so this kind of intangible property right is called a “Chose in Action.”

Courts have settled on the majority rationale, however, at least for checks and other potential cash equivalents: they are includable at their face value, not their fair market value. If their fair market value is so uncertain or so low relative to their face value, then they are simply not income. For checks, this rarely happens. However, for other types of “property-that-we-will-treat-as-cash” taxpayers may be able to prove that the fair market value is so small or uncertain that the item should not count as income that year. That is most obvious when one looks at the cases on promissory notes.

Promissory notes are just a promise to pay. Like a check they are a chose in action. Unlike a check, they are not used with such regularity as to be viewed by parties as in and of themselves a payment. Nonetheless, they might be cash equivalents. The Fifth Circuit explained why in Cowden v. Commissioner, 289 F.2d 20 (5th Cir. 1961): “We are convinced that if a promise to pay of a solvent obligor is unconditional and assignable, not subject to set-offs, and is of a kind that is frequently transferred to lenders or investors at a discount not substantially greater than the generally prevailing premium for the use of money, such promise is the equivalent of cash and taxable in like manner as cash would have been taxable had it been received by the taxpayer rather than the obligation.”

You can quickly run the reverse statements and find support for them in the law. Thus, if the taxpayer shows that the promise to pay is from an insolvent obligor then it is not income. Williams v. Commissioner, 28 T.C. 1000 (1957). If the promise to pay is subject to some significant restriction, it is not income in the year received. Bright v. United States, 926 F.2d 383, 386-87 (5th Cir.1991).

The difference between the majority rationale and Murdock’s rationale is the difference between cash and property. Sometimes a promissory note looks like cash. But sometimes it just looks like property. You can see that tension in Jones v. Commissioner, 68 T.C. 837 (1977), where the taxpayer sold property and took a promissory note in exchange. The face value of the note was about $133,000.00 but the taxpayer showed that the fair market value of the note was only about $76,000. On those facts the Tax Court said “no income.” But the 9th Circuit reversed. It instead held that §1001 controlled the outcome because when you sell property, that section tells you that your amount realized is the total cash PLUS the fair market value of property received. Since the promissory note was indeed “property” (a chose in action), taxpayers had to count its fair market value as part of determining the tax consequences of the sale of their property.

Despite the uncertain extension of the cash equivalency doctrine to promissory notes, the importance of Kahler remains this: checks are viewed as cash. Especially in this age of mobile banking applications, the receipt of a check on the last day of your tax period means it is income in the year received at its face amount.

Accounting Services | Jupiter

IRS issues guidance on small business accounting

Monday, August 06, 2018

Source from irs.gov
WASHINGTON – The Internal Revenue Service issued guidance today on new tax law changes that allow small business taxpayers with average annual gross receipts of $25 million or less in the prior three-year period to use the cash method of accounting.

The Revenue Procedure outlines the process that eligible small business taxpayers may use to obtain automatic consent to change accounting methods that are now permitted under the Tax Cuts and Jobs Act, or TCJA.

The TCJA, enacted in December 2017, expands the number of small business taxpayers eligible to use the cash method of accounting and exempts these small businesses from certain accounting rules for inventories, cost capitalization and long-term contracts. As a result, more small business taxpayers will be allowed to change to cash method accounting starting after Dec. 31, 2017.

Accounting Services | Jupiter

GOP Tax Reform and its effects on the taxation of foreign students and other non-resident aliens

Monday, July 30, 2018

Source from blog.sprintax.com
At the end of 2017, the U.S. Congress passed the largest tax reform act in history. The act itself contains nearly 500 pages. Even the most experienced American tax accountants are needing to keep up with the constantly changes instructions to advise to clients. My suggestion for clients is: When you read articles about the U.S. tax reform, pay special attention to their sources, and confirm the content with your U.S. accountants/taxation attorneys, so that you can avoid economic loss caused by wrong information. This article will mainly include the effect of the new tax reform act as we know it today to U.S. tax residents and Non-residents. If you have additional questions, please contact me through wechat: harlessmin or mhuang@harlessandassociates.com. Thanks!

  1. Personal exemption will be waived in full
    Effective date: 01/01/2018
    U.S. residents: In 2017, before the tax reform, U.S. resident’s income is lowered by personal exemptions of $4,050 and one for each qualifying family members, including dependent relatives. After the tax reform, regardless of your income, the personal exemption is eliminated for 2018 and 2019. In 2018, the standard deduction and personal exemptions were combined into one large standard exemption for U.S. citizens.

    Non-residents: All non-residents doing properties investment, stock, having business in America, as well as all other people who need to file form 1040 NR, including international students/scholars, will not be entitled to $4,050 exemption. However, you can still choose to work together with a professional accountant to make the best plan for your income in the U.S. based on U.S.-China tax treaty and the U.S. tax code.

  2. Standard Deductions increased significantly
    Effective date: 01/01/2018
    U.S. residents: Starting from 2018, the standard deduction for single will be increased to $12,000. It will be $24,000 for married couples. Please consult accountants about standard deduction for head of household or other filing status.

    Non-residents: Except for non-residents from few countries with U.S. tax treaty, all non-residents from other countries WILL NOT be entitled to standard deductions, including Chinese citizens.

  3. 529 plan will no longer be non-taxable
    Effective date: 01/01/2018
    U.S. residents: 529 plan was a mainstream tuition deposit plan with tax benefits in the U.S.. It will no longer be non-taxable starting from 2018. I suggest clients who are parents with this deposit plan investing money in other projects with higher and more stable earnings in time.

    Non-residents: Not applicable.

  4. SALT (State and Local Taxes) will be limited
    Effective date: 01/01/2018-12/31/2025
    U.S. residents: Before the tax reform, the property tax and all other types of state and local income taxes for home-based properties can be exempted in the federal tax return with no limitation. Now, the federal tax reduction is limited to up to $10,000 per year.

    Non-residents: It is only limited to all types of state and local income tax up to $10,000.

  5. Other Miscellaneous itemized deductions will be canceled
    Effective date: 01/01/2018-12/31/2025
    U.S. residents: Unreimbursed employee expenses (2106 form), investment expense, tax preparation fees, bank deposit box fee cannot be used to deduct income.

    Non-residents: The same as U.S. residents.

  6. Moving expenses incurred by work are not allowed
    Effective date: 01/01/2018-12/31/2025
    U.S. residents: Moving expenses incurred by work are no longer deductible from income, except for members of the U.S. Army Forces.

    Non-residents: Not Applicable.

  7. Expenses for personal casualty loss and theft-canceled
    Effective date: 01/01/2018-12/31/2025
    U.S. residents: Personal casualty loss was deductible from income before the tax reform. No deduction allowed now, except for the clients affected by natural disaster areas.

    Non-residents: The same as U.S. residents.

  8. Estate tax and gift tax
    Effective date: 01/01/2018-12/31/2025
    U.S. residents: The lifetime estate tax exemption is $11,180,000 for single, and times two for married couples. In 2018, the gift tax exemption amount among U.S. residents is $15,000. Consult us or your U.S. accountant if your estate exceeds the life time exemption amounts. The gift between husband and wife is exempted from tax with no limitation.

    Non-residents: The exemption for estate tax is $60,000 for single. It has no limitation for foreign citizens giving anyone oversee assets as gifts, and it is exempt from U.S. tax, except for giving U.S. assets as gifts. At the same time, if the gift receiver is a U.S. resident, the U.S. resident client will need to contact their U.S. accountants. In 2018, the exemption for gifts between U.S. resident and foreign couple is limited to $152,000. If the amount is exceeded, please consult accountants for details.

    An Example of foreign citizen estate tax: With the rate of Chinese citizens holding assets of U.S. property and stock increasing, it is becoming more and more important to plan U.S. estate tax in advance. I had a Spanish client owning two apartments in his name only in the Miami and New York area. Each was valued at around $1,800,000. If he died by accident or passed away naturally (he was 87 at that time), what would the cost be for his only grandson in Spanish and how can the inheritance tax be reduced to avoid it:

    Cost: Since these are U.S. assets, the first $60,000 value is tax-exempt when the child inherits them. The amount (less the first $60,000), which is over $3 million, will be taxed for estate tax purposes at least 40% (federal), not including state estate tax rate.

    How to avoid it: Please consult us for ways to avoid details. Our mission is to help clients make plans to avoid the risk of estate tax while receiving benefits from the U.S. investments.

  9. Summarization of 2018 income tax rate
    Effective date: 01/01/2018-12/31/2025
    The highest income tax rate will be lowered from 39.5% to 37%. The following rate includes the different situations for clients with different income:

    This form is the tax rate form for net income excluding all exemptions. The right way to read it is to find your marital status on the time of your filing, and look from the top to bottom, finding your tax rate using your annual net income. There will be other articles in the future. Thanks!

Coping with the new entertainment expense and transportation fringe benefit rules

Wednesday, July 18, 2018

Source: thetaxadviser.com
Now that new tax rules are in place, employers and their advisers are coping with the difficulties faced in implementing the changes, adjusting to a new normal. New tax laws are always a product of give-and-take, with many constituencies fighting to retain favorable rules and congressional staff putting the pieces together so there are enough votes to pass the legislation. The changes brought about by P.L. 115-97, known as the Tax Cuts and Jobs Act (TCJA), are no exception.

The goal of lowering tax rates, primarily for businesses, needed to be tempered by eliminating certain business deductions or individual income tax exclusions so that federal revenues didn't decline too much. The elimination of employer deductions or individual income tax exclusions causes taxpayers to consider behavior adjustments to account for the increased cost of the formerly deductible or excludable expense. Never has this adjustment had to occur so quickly, with the TCJA legislation enacted on Dec. 22, 2017, and many effective dates occurring only 10 days later, on Jan. 1, 2018.

Congress is always concerned that certain business deductions or individual income tax exclusions may not be fair to all taxpayers, as some individuals and businesses benefit more than others from tax incentives. To eliminate this unfairness, Congress can either (1) eliminate the business deduction for incurring the expense, or (2) in the case of employee benefits, tax the individuals receiving the benefit. While both approaches accomplish the same tax policy result of not providing an income tax incentive for certain behaviors, the effect on Social Security taxes and the optics of the change are quite different. In one case, the cost to business for the expense is increased, and, in the other, the cost to individuals for receiving the benefit is increased. Of course, the true economic cost of these changes is borne by business owners and employees, with the relative changes for each group being dictated by their own adjustments to accommodate the increased tax costs.

This article addresses two common business expenses whose tax rules changed beginning Jan. 1, 2018: entertainment expenses and transportation fringe benefits. While the TCJA legislative changes were not detailed, the effects are significant. Without detailed legislative changes, the hard work falls to tax administrators and professionals as they help taxpayers cope with the required changes. In these two areas, administrative guidance will be particularly important. Guidance, by necessity, will follow the statute, taking into account the legislative history. However, where interpretations of the statute can differ or issues are not addressed by the statute or committee reports, the guidance may reflect the interpretation of the current IRS and Treasury leadership.

As tax advisers, we are called upon to help clients implement the new law with limited and incomplete guidance. The best we can do is make our own decisions on what is reasonable and what rules we think may be promulgated later, understanding that tax administrators may be liberal in transition relief for unexpected or significant changes and tax enforcers may be willing to accept a reasonable interpretation. This article offers practical approaches to dealing with implementing these tax rules, in a world of less than complete guidance.

Entertainment expenses — no longer deductible
Under TCJA, entertainment expenses incurred on or after Jan. 1, 2018, are nondeductible. Prior to the most recent tax law changes, entertainment expenses were 50% deductible to the extent that they were directly related to, or, in the case of an item directly preceding or following a substantial and bona fide business discussion, associated with, the active conduct of a trade or business. Detailed regulations further defined when this could occur.

Over the years, businesses interpreted many activities as falling within these exceptions, liberally interpreting the regulatory rules to claim more deductions for entertainment costs. IRS agents tended to ignore these costs, except where expenses were clearly entertainment (e.g., trips to the Super Bowl). Over the years Congress enacted additional limitations on expenses, focusing on meal expenses, spousal travel, and conventions outside North America. Beginning in 2018, U.S. taxpayers will no longer be funding a portion of these entertainment costs through tax incentives as the new law makes all entertainment expenses nondeductible. (Interestingly, tax-exempt organizations are not affected by these rule changes except to the extent associated with unrelated business income, likely because tax-exempt status appropriately limits all those expenses with the rule requiring expenses to promote the organization's exempt purpose.)

Business meals
One of the most controversial areas that guidance will need to address is whether business meals with current and prospective clients are considered entertainment expenses and thus nondeductible. It may seem obvious that when a business owner shares a restaurant meal that is not lavish or extravagant with a current client or customer during which several topics are discussed, including the health of each other and their families, recent political developments, and business news affecting the client's industry, as well as the current and expected future projects for the client/customer, that the cost should be 50% deductible, just as business meals with other employees of the same firm are 50% deductible. (In 1986, Congress limited the deduction for meal expenses to 80% of the cost, further limiting the deduction to 50% in 1993, as a way of recognizing that the personal expense of eating should not receive tax benefits.)

However, what if the person joining the taxpayer is not a current client, but rather another professional or a prospective client? Isn't it just as important to maintain contact with prospective clients and other professionals as with current clients? If so, should the business cost of doing so be any different?

Some commentators suggest that even the business meal with a current client or a meal with a prospect or other business relationship may be nondeductible as an entertainment expense. Their argument is based on the development of the tax law since entertainment expense deductions were prohibited in 1962, with an exception for business meals in circumstances conducive to business deductions (repealed in 1986), current regulations, and case law. IRS Publication 463, Travel, Entertainment, Gift, and Car Expenses, which has not been modified since enactment of the legislation, makes the distinction between entertainment and nonentertainment meals meaningful and provides insight into how the IRS views meals:

A meal as a form of entertainment. Entertainment includes the cost of a meal you provide to a customer or client, whether the meal is a part of other entertainment or by itself. A meal expense includes the cost of food, beverages, taxes, and tips for the meal. To deduct an entertainment-related meal, you or your employee must be present when the food or beverages are provided.

Taxpayers will prefer to look to the TCJA conference committee report, which describes both the House bill and Senate amendment by stating, "Taxpayers may still generally deduct 50 percent of the food and beverage expenses associated with operating their trade or business (e.g., meals consumed by employees on work travel)" (H.R. Conf. Rep't No. 115-466, 115th Cong., 1st Sess. 460 (Dec. 15, 2017)). A parenthetical phrase highlighting an example of food and beverage expense associated with operating a trade or business, suggests that this is not the only example. It appears then that Congress's intent is for business meals that are not incurred while traveling should be treated similarly.

In fact, former Ways and Means Committee Chairman Dave Camp's proposal, the Tax Reform Act of 2014, H.R. 1 (113th Cong.), which included this change, stated the rule more broadly. "The 50-percent limitation under current law would apply only to expenses for food and beverages and to qualifying business meals under the provision, with no deduction allowed for other entertainment expenses" (Ways and Means Committee Majority Staff, Tax Reform Act of 2014, Discussion Draft, Section-by-Section Summary, p. 64 (2014)). Additionally, congressional committee staffers have informally indicated that it was not Congress's intent to limit deductions for business meals that are not lavish or extravagant beyond the 50% limit already in place.

If there was not uncertainty on this point, however, the AICPA and others would not be asking IRS for additional guidance. While we wait for guidance, how should we be advising clients? We should caution clients that amounts may not be deductible, and we will not know if they are until IRS guidance is issued. Before that time, we may get some helpful language in the Joint Committee on Taxation's Bluebook, a description of the legislative changes. Until that time, for purposes of making estimated tax payments, taxpayers may want to conservatively assume that amounts are not deductible.

Next year, as tax returns are prepared, there should be a review of all these expenses taking into account all guidance issued by then. Certainly, we believe that it is fair and reasonable that business meals with a business purpose and intent are deductible. Tax administrators, realizing the importance of these rules for many taxpayers, will no doubt make every effort to issue guidance as soon as possible, with generous transition rules to the extent that the changes are unexpected.

Transportation fringe benefits
In the early 1990s, Congress wanted to provide incentives to use mass transit and limit the exclusion for employer-provided parking to a specified dollar amount, and enacted an exclusion for qualified transportation fringe benefits. While those benefits could be provided through a reimbursement arrangement (i.e., one in which the expense incurred by employees was reimbursed tax free by the employer, assuming substantiation requirements were met), amounts could not be provided in lieu of compensation. That rule changed for tax years beginning after 1997 when Congress provided that an employee could choose to reduce compensation to receive a nontaxable qualified transportation fringe benefit. The use of employer-provided parking exploded as a tax-free fringe benefit.

By its nature, this is a benefit enjoyed primarily by employees working in urban areas, where parking is expensive. Camp's proposal noted that elimination of a deduction for qualified transportation fringes aligns the treatment with amenities provided to employees that are primarily personal in nature and not directly related to a trade or business. Not wanting to eliminate an individual income tax exclusion, Congress decided to leave the exclusion in place and eliminate the employer's expense deductions associated with this benefit. To include tax-exempt and governmental organizations where elimination of a tax deduction is not meaningful, Congress made those amounts subject to unrelated business income tax.

Some have thought that the salary reduction provisions of qualified transportation fringes provide an opportunity to avoid the disallowed deduction rule, because it appears that the employee is funding the benefit. However, that is not correct. If an employee reduces future compensation on a pre-tax basis in exchange for the employer providing parking, the parking benefit is a provision of a qualified transportation fringe benefit, the costs of which would be disallowed. However, if the salary reduction is on an after-tax basis, the employee is not receiving a qualified transportation fringe and the disallowed deduction or, in the case of a tax-exempt organization, unrelated business income is avoided.

Costs disallowed
Qualified parking is a qualified transportation fringe benefit. As such, there is a disallowed cost that the employer must determine for qualified parking. To determine that cost, taxpayers should look to lease costs or ownership costs and, if amounts are not separately stated, make a good-faith allocation of these costs, taking into account the relative fair market values of the various items included in the lease or ownership costs. For example, a parking lot owned by a business may have snow removal, depreciation, maintenance, security, and similar expenses. There may be costs to administering a program that provides transit passes to employees. The employer will need to aggregate all of these costs and, if the costs relate to employee and nonemployee use, allocate the costs between employees' use and others' use. A conservative approach to accumulating and identifying nondeductible costs should be applied in 2018 tax planning.

Value of parking benefit
Because the employee exclusion amount is the fair market value (FMV) of the parking benefit provided, and the disallowed employer deduction is the cost of providing that parking benefit, questions arise regarding whether a value of $0 for qualified parking might eliminate the existence of the qualified transportation fringe benefit as the provision of the benefit by the employer is not a provision of anything of value.

Notice 94-3 provides helpful guidance by stating:

Generally, the value of parking provided by an employer to an employee is based on the cost (including taxes or other added fees) that an individual would incur in an arm's length transaction to obtain parking at the same site. If that cost is not ascertainable, then the value of parking is based on the cost that an individual would incur in an arm's-length transaction for a space in the same lot or a comparable lot in the same general location under the same or similar circumstances.

The notice continues by helpfully giving an example of an industrial plant in a rural area in which no commercial parking is available. In this example, while the employer provides parking free of charge, the FMV of the parking would be $0 because nonemployees would not normally pay for parking. The implication is that with a $0 market value, there is no qualified transportation fringe benefit. With no qualified transportation fringe benefit, the TCJA rule limiting employer deductions for qualified transportation fringes may not apply. (However, the inability to deduct commuting expenses may apply, if parking is considered to be part of commuting.)

A second example highlights an additional rule for parking available for customers (e.g., at a mall that provides free parking to customers and employees). Under that rule, only if an employer maintains reserved preferential spaces (i.e., parking spaces that are more favorably located than the spaces available to customers) for employees would the FMV of $0 rule not apply.

Notice 94-3 applies to the income exclusion rule for qualified transportation fringe benefits and may not extend to this new disallowed deduction rule. The TCJA deduction limitation focuses on employer costs incurred and not employee value received. Thus, even if the $0 FMV rule applies, the employer may have a cost disallowed, since the employer likely has expenses for lease or maintenance of a parking lot and other related expenses.

While this is a reasonable position, IRS guidance is needed to be confident that a value of $0 could result in no disallowed deduction. Until that time, taxpayers should be conservative and assume that if the employer incurs costs for providing qualified transportation fringes, possibly including parking with a $0 FMV under the rules of Notice 94-3, there is a disallowed cost that must be determined. Again, a conservative approach can only bring good news when tax returns are prepared and guidance is available.

CPA | South Florida

Buck market volatility with a retirement bucket plan

Wednesday, June 27, 2018

by: Harless and Associates Staff
We have seen an increase in market volatility in early 2018. A steep pullback in stocks could be good news for working people who are building retirement funds, but those approaching or recently beginning retirement might be hurt.

Historically, stock market setbacks have proven to be buying opportunities for patient investors.

Example 1: Harry Walker was 50 years old in 2008, with most of his retirement savings invested in stock funds within his 401(k) account. Then, Harry’s holdings dropped heavily.

Harry stayed the course and continued to buy stock funds as the Dow Jones Industrial Average (DJIA) rebounded from a 2008 low around 7,500 to 10,000 in 2009, 11,000 in 2010, and so on. Therefore, Harry has built substantial wealth, with the DJIA around 24,000 as of this writing.

Vulnerable to volatility
Ten years later, Harry’s situation is different.

Example 2: Harry is age 60 now, with $1 million in his 401(k). He plans to retire at 62, but a stock market collapse could trigger a 40% drop, reducing his $1 million 401(k) to $600,000. Harry might have to postpone his retirement or reduce the amount he withdraws from a smaller portfolio. If Harry stops working, he may not be able to keep investing and profit again from any market rebound.

Harry could avoid this potential problem by moving his 401(k) account from stock funds into cash. However, yields on bank accounts and the like are extremely low. If Harry moves out of stocks at age 60, he’ll avoid market risk but also reduce his opportunity for substantial investment growth going forward.

Going for the flow
Instead of moving 100% to cash, Harry could implement a so-called “bucket plan.” These plans vary, but the key to success is to have a substantial cash bucket. Continuing our example, Harry Walker would figure out how much money he’ll need for living expenses each month from his portfolio after he stops working. Typically, a cash bucket will hold at least a year’s worth of cash flow.

Example 3: Harry calculates that he’ll need $4,000 a month from his 401(k) or from an IRA after a rollover to maintain a desired lifestyle. If Harry needs to take $4,000 a month from his retirement plan, he would hold at least $48,000 in his cash bucket at the start of retirement with this strategy. From the cash bucket, Harry would arrange to have $4,000 paid into his checking account each month, just as his paychecks from work were handled.

Regular refills
Setting up the cash bucket is just the beginning of a bucket plan. That bucket must be replenished so cash can keep flowing.

One way to do this is to divide portfolio assets into two broad categories: fixed income (mainly bonds) and equities (mainly stocks). At regular intervals, money can flow from the fixed income bucket into the cash bucket and from the equities bucket into the fixed income bucket. This allows stocks to be held for the long term, which, historically, has been a winning investment strategy.

Other bucket plan strategies can be used. If this method appeals to you as a way to address possible market volatility, our office can go over your plan to illustrate how various portfolio assets can be delivered to you as after-tax cash flow.

Coping with summer vacations at your small business

Tuesday, June 19, 2018

by: Harless and Associates Staff
During the summer, it may be true that “the living is easy,” as the old song goes. The midyear season, though, is often not so easy at small businesses because many employees are taking vacations. Total work hours often shrink and so may company productivity.

Spreading vacation time over the rest of the year might not be practical, especially if many of your workers have school-age children and desire family vacations during summer break. You may prefer to squeeze most vacations into the summer so the disruption is minimal the remainder of the year. Nevertheless, you probably won’t welcome a warm weather slowdown, so it’s best to take steps to keep things running at an acceptable pace.

Scheduling strategies
It’s vital to create and maintain a visual schedule of who is taking time off and when. This might be created with a simple wall board or online. In a relatively small company, you could have your assistant keep up this schedule and show it to you every week or so. A larger firm could leave the schedule supervision to department or division heads, each of whom would track their workers.

However you decide to do it, you should have an easy way to see who will be away next week, the week after, and so on. If several people are scheduled for vacations during, say, the third week of July, you (or the manager who will be affected) might push forward some projects or delay them until you have a full crew in the office. Also, you probably should be cautious about approving additional vacation requests for weeks when multiple employees are already planning time off.

Reaching out
Summer vacations can be extra troubling because your business won’t be the only one shorthanded from now until Labor Day. Chances are that your customers, suppliers, and other companies with which you work also will have employees who won’t be available. Their absence can put a crimp in your own operations. If you have strong relationships with such business associates, you might ask about their vacation schedules and who to contact if your company runs into a snag.

In some situations, you might decide to revise some of your company’s efforts to make the timing mesh with that of key outsiders.

Filling the gaps
There is not much you can do about vacationing employees elsewhere, but there are things you can do this summer to help your company manage with a reduced workforce. If there are deadlines, require employees to finish all projects before they leave. For ongoing efforts, have your workers write up a summary of work-to-date with helpful materials attached. Get mobile numbers and email addresses where they can be reached, in case a need for contact should arise.

Make sure employees place vacation responses on their work phones and email, with dates of departures and returns. You might consider assigning someone to create templates for these employees to use for their vacation responses; this can assure that vacation responses will contain the required information and without any comments that could offend or reveal confidential matters.

In addition, arrange for some employees to cover for those on vacation, if necessary. You’re probably better off if you can avoid one-on-one coverage because the worker staying at the office will be doing two jobs. Work sharing among multiple co-workers might be a better solution. If you have summer interns, ask if they might be able to handle some of the tasks usually assigned to the vacationers.

Clarity begins at home
With all this planning, don’t forget to schedule your own vacation. Obviously, you also work hard throughout the year, so some downtime will be beneficial, whether you travel or wind down at home.

In addition, you should keep track of what unexpected flaws arise this vacation season and how you might remedy them in 2019. Should you require all summer vacation requests two weeks, or even a month, ahead of time? Demand that all requests be turned in by Memorial Day before you grant any approvals? Treat conflicts in favor of seniority? Offer those who lose out by conflict a chance to jump the line next year? The more clarity in a vacation plan you disseminate to all employees, the greater the chance your company will keep operating at its peak this summer and next.

Accounting Services | Stuart