Monthly Archives: December 2014

Why is My Bonus Taxed At Such a High Rate?

By: Alex Franch, BS EA

Were you lucky enough to get a holiday bonus, but noticed it was much smaller than you expected after taxes were taken out? Here’s an example of why this happens.

Let’s begin with a taxpayer (let’s call him Mr. Banks) who makes $96,000 annually, or $8,000 per month. Mr. Banks is married, with no dependents. At this rate, his employer (let’s call it the Dawes Tomes Mousley Grubbs Fidelity Fiduciary Bank or DTMGFFB) looks at the payroll tables and calculates a Federal Withholding of $1,133 per month. They withhold an additional $1,028 in payroll tax and Massachusetts income tax. So Mr. Banks has a take home pay of $5,839 every month from January to November.

Ho, Ho, Ho, Bonuses for Everyone at DTMGFFB

BonusDTMGFFB announces bonuses for everyone in December. Mr. Banks is expecting a $5,000 bonus but when he opens his paycheck, it has only gone up by $3,000. Why? When the computers at DTMGFFB see the Gross Pay for Mr. Banks as $13,000 for the month of December, they naturally assume that Mr. Banks is going to make $156,000 for the year ($13,000 x 12 months). DTMGFFB withholds $2,383 to the IRS and an additional $1,671 for payroll taxes and Massachusetts income tax. Mr. Banks has a take home pay of $8,946 in December. On the plus side, Mr. Banks can now grouse about the tax man at every holiday meal. Merry Christmas Mr. Banks.

What Should be Withheld if the Bonus Was Spread Out All Year Long?

If instead, Mr. Banks received a $5,000 raise rather than a December bonus. Mr. Banks would have a monthly income of $8,417 or $101,000 for the year. At this rate, DTMGFFB would withhold $1,238 in Federal tax plus $1,081 in payroll and Massachusetts income tax. Mr. Banks would have a take home pay $6,098 every month from January to December.

What Difference Does a Bonus Make?

In this case, not much, since Mr. Banks has virtually the same take home pay in both cases:

  • $5K Bonus: $5,839 x 11 months + $8,946 = $73,146
  • $5K Raise:  $6,098 x 12 = $73,176

But depending on the size of the bonus, the amount of your regular salary, and current IRS tax brackets, the difference could be far more than the extra $30 that Mr. Banks had to pay.

Luckily, that’s your money, not the government’s. Miscalculated withholding doesn’t change how much tax you actually owe, so the IRS will have to pay you back when you file your tax return.

Why the Bonus Instead of a Raise?

The company does not know how much it can afford until it is about to close its books in December. What I can tell Mr. Banks is, a spoonful of sugar helps the medicine go down.

Need Advice? Contact Us

Are you giving your employees a bonus or are you expecting one? Maybe you are not sure how to work through the tax implications of the bonus? Call Alex Franch at 781-849-7200,

With tax season approaching, we invite  you to like or follow us on our FacebookGoogle+ or Twitter pages and keep informed of important updates.

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Massachusetts Circuit Breaker Tax Credit

By Thomas Holmes, JD

No, you will not receive a tax credit for having circuit breakers in your home. The Massachusetts Circuit Breaker Tax Credit is an income tax credit for certain people age 65 or older who own or rent a principal residence located in Massachusetts.

What is the Threshold?

Circuit Breaker Tax CreditAs with most tax credits, there are certain income threshold amounts that, if exceeded, will disqualify the taxpayer from taking the credit. On the surface, it would appear that most elders would be eligible for the credit. The income thresholds are as follows:

  • Single taxpayer – $56,000 “total income”
  • Head of household – $70,000 “total income”
  • Married filing joint – $84,000 “total income”

But hold on! Before you start planning on how you will spend your tax credit, think again. “Total income” for the purposes of the Circuit Breaker Tax credit is not “adjusted gross income” or “taxable income.” To calculate “total income,” start with total 5.25% income from Massachusetts Form 1, line 10; subtract deductions (if any) reported on line 1 through 10 of Schedule Y  (do not subtract deductions reported on lines 11 through 16); add back to Income the following: Massachusetts bank interest exempted on line 5b, total Social Security Benefits, Pensions/Annuities/IRA/Keogh distributions not taxed by Massachusetts, and certain miscellaneous income, e.g. cash public assistance; subtract exemptions from lines 2a through 2d of Form 1. The result will be “total income” for the Massachusetts Circuit Breaker Tax credit.

An Example of the Massachusetts Circuit Breaker Tax Credit

John & Mary are both retired and are both 65 years old. John has income of $45,000 from a Massachusetts teacher’s pension. Mary has Social Security income of $30,000. Together they have investment income of $25,000 and net rental income of $5,000. They do not report any deductions on Schedule Y. Because the teacher’s pension and Social Security income are not taxable in Massachusetts, only $19,800 of their income will be subject to Massachusetts income taxes ($30,000 less exemptions). At first glance it might appear that they qualify for the Circuit Breaker Tax credit. However, employing the calculations of the preceding paragraph, their “total income” is $94,800 ($105,000 less exemptions). Therefore, John & Mary are not eligible for the Circuit Breaker Tax credit.

Even if their “total income” had been below $84,000, if they own their home, the assessed value of the home may not exceed $691,000 (down $9,000 from 2013) to remain eligible for the credit.

The Calculation

If eligible, having satisfied both threshold requirements, the credit available in 2014 is calculated as follows:

For homeowners, the credit is equal to the amount by which the taxpayer’s property tax payments for the current year, plus 50% of water and sewer charges, but excluding any abatement or exemption granted, exceeds 10% of “total income”. The maximum credit for 2014 is $1,050.

For renters, the credit is equal to the amount by which 25% of the rent actually paid during the taxable year exceeds 10% of “total income”. Again, the maximum credit is $1,050.

Want to know more?

To read more about the Massachusetts Circuit Breaker Tax Credit click over to the Guide for Personal Income Tax on Mass.gov. We also invite you to leave your questions below or post to our Facebook or Google+ page. You are also welcome to contact us.

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Self-Directed IRA: 9 Things You Should Know – Buyer Beware

By – Cindy Toran

Nest Egg3Have you ever thought about how you could benefit from a self-directed IRA? Any ideas on how you might use one to your financial advantage? It would seems simple enough. Invest in any creative alternative idea you can dream up and reap the benefits tax free!  Some examples of investments that have been made are:  golf courses, freight truck fleets, tractors, race horses, mineral rights, sugar, and hardwood trees.

What are the rules and risks of a self-directed IRA?

Before you jump into your own self-directed IRA, here are some considerations:

  1. No self-dealing:  IRS rules prohibit transactions that benefit you or those deemed “disqualified” persons, including:
    •         IRA owner
    •         Spouse
    •         Descendants and their spouses
    •         Service providers, such as custodians or brokers.
    •         Must be real investments:
    •         No collectibles, such as art, coins, antiques, vintage cars, wine collections, etc.
    •         No tangible personal property or life insurance.
    •         No investment in an active business owned or managed by a disqualified person, including S-Corp, LLC or partnership.
  2. Real Estate can be financed with a mortgage but it must be non-recourse (i.e., neither the IRA nor its account owner or family may be liable on the loan).
  3. Gains on real estate held in a traditional IRA will be taxed at ordinary tax rates as distributions are taken, thus losing the favorable capital gains rate. However, gains in a Roth IRA would be tax free.
  4. Rental real estate must generate positive cash flow to cover all expenses. Loaning money even by writing personal checks for repairs, etc. are prohibited and will make the IRA fully taxable.
  5. No disqualified person may occupy real estate, including land, owned by a self-directed IRA.
  6. Assets in an IRA must be valued annually, which may require expenses for appraisals.
  7. Holding illiquid assets, such as real estate or equipment, in an IRA when the owner reaches 70-½ years and must begin taking distributions, could be a problem.
  8. There is a general lack of scrutiny in self-directed IRAs. Accounts administered by custodians lack regulation and seem to attract unscrupulous promoters of dubious investment schemes.  Administrators do not vet investments, that is the job of the IRA owner (i.e., “buyer beware”).

Self-directed IRA’s offer a wider variety of investment options. Those may seem more financially attractive than traditional accounts. However, be sure you know the rules and risks before taking this leap with your retirement funds.

What do you think?

Maybe you have some questions regarding a self-directed IRA, please feel free to leave your question below or post to our Facebook or Google+ page. You are also welcome to contact us.

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Business Travel: Are You Driving for Business?

by Alex Franch, Enrolled Agent

Most business travel of involves the use a car, van, pickup or panel truck. While the costs are significant, tax deductions are available.

medium_7044479533What Does Business Travel include?

  • Travel from one work location to another
  • Visiting customers
  • Attending a business meeting away from the regular work place
  • Travel from home to a temporary workplace if you have one or more regular places of work.
  • It is important to note that travel between a taxpayer’s home and regular place of work is commuting expense and considered personal (i.e., not deductible).

There are two methods to calculate cost that may be used for business travel:  a standard mileage rate (56 cents in 2014) or actual expenses.  In addition, both of these methods require calculating the business portion of the expenses that may be deducted.  Both methods require adequate recordkeeping.

The calculation for the deductible portion of expenses allowed for tax purposes is based on a ratio of business use.  For example, if you drive a car a total of 10,000 miles for the year, of which 7,500 miles are for business purposes, the business use percentage is 75%. Therefore, 75% will be applied against total expenses of operating the car.

Keeping a mileage log is the recordkeeping required to validate business use.  The daily log should show miles traveled, destination and business purpose.  To simplify, note the odometer reading at the beginning and end of the year to calculate total miles driven.  Sum up the business miles from the daily log to determine a total for the year.  Divide the Business Miles by Total Miles = % of Business Use. This is to be applied against costs.

There are smartphone apps with GPS capability. TaxPocket, is one app that helps to maintain a mileage log.

What Additional Records Must be Maintained?

  • Date the vehicle was placed into use for business travel
  • Adjusted cost basis of vehicle (keep bills of sale and records of trade-in/disposal or lease contracts)
  • Receipts to prove operating expenses (if using the actual cost method)

In conclusion, using a vehicle for business travel purposes is commonplace.  As with all tax deductions, recordkeeping is required to prove the deduction.  Using the standard mileage rate simplifies recordkeeping. Remember, a mileage log is mandatory.

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photo credit: Mosman Council via photopin cc

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Tips on the Dependent Care Tax Credit

by Cindy Toran, Tax Manager

As any parent knows well, expenses for dependent care, such as child care or adult care, can be significant. The IRS provides a subsidy for working people who pay for dependent care while they work, look for work, or attend school full-time.

To Qualify for Dependent Care:

  1. 2014_12_08 Dependent Care owned by AVSofficeBoth parents must have earned income or be a full-time student. Both parents must have earned income or one may be a full-time student.
  2. Children must be age 12 or younger or unable to care for themselves.
  3. Expenses must be directly connected to allowing the parent(s) to work (i.e., not off-hours babysitting for personal reasons and no overnight camps) or to attend school.
  4. Expenses cannot be paid to a spouse or parent of the child or other person who is a dependent of the taxpayer.
  5. Generally taxpayers must file jointly or as head of household.
  6. Parents must be able to provide the name, address and tax identification number of the care provider on your tax return.

How much is the Dependent Care credit?

The amount depends on the number of children and ranges from 35% to 20% of work-related dependent care costs depending on your adjusted gross income (AGI). As the AGI increases, the percentage decreases.

  1. The amount of expense is limited to $3,000 for one child and $6000 for 2 or more children.
  2. Your tax bill must exceed the allowable credit (i.e., any credit in excess of the tax is not usable).
  3. Eligible daycare expenses must be reduced by any dependent care benefits provided through an employer, such as a Flexible Spending Account.

The IRS subsidy will certainly not cover the total cost of child care but every little bit helps the family budget, and the dependent care tax credit should not be overlooked. If you have a question regarding any type of dependent care, feel free to leave it below or post to our Facebook or Google+ page.

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Beware of Trust Fund Recovery Penalties

The term “trust fund recovery penalties” refers to a tax penalties assessed against the directors or officers of a business entity that failed to pay a required tax on behalf of its employees. For example, employers withhold income taxes and FICA payroll taxes from employees’ wages. These funds actually belong to the government. They aree referred to as “trust funds.” They cannot be used by the employer to pay other business expenses.

Tax law provides that employers are personally responsible for remitting the trust funds to the government. If the employer is a business entity such as a corporation or a limited liability company, then any person who was “required to collect, truthfully account for, and pay over” the funds is liable “for a penalty equal to the total amount of tax” that went unpaid. Once assessed, these “trust fund penalties” cannot be discharged in bankruptcy, and the employer or responsible person(s) will be liable for them even if the business entity itself is liquidated. Other civil penalties, as well as criminal penalties, could also apply.

Trust fund recovery penalties (the amount of the tax that was collected and not paid) can be imposed on any person who:

(1) Is responsible for collecting, accounting for, and paying over payroll taxes; and

(2) Willfully fails to perform this responsibility. Willfulness involves a voluntary, conscious and intentional act to prefer other creditors over the U.S. Thus, if a responsible person knows that withholding taxes are delinquent and uses corporate funds to pay other expenses, such failure to pay withholding taxes is deemed “willful.”

In determining whether an individual is a responsible person, courts consider various factors, including whether the individual:

  1. Holds corporate office;
  2. Has check-signing authority;
  3. Can hire and fire employees;
  4. Manages the day-to-day operations of the business;
  5. Prepares payroll tax returns;
  6. Signs financing contracts; and
  7. Determines financial policy.

If you can be judged to be a responsible person, make sure the trust fund payments are made before any other expenses are paid, even if encouraged not to do so by someone else of authority within the company.

Otherwise you may be held responsible for the unpaid funds, and the liability could follow you to your grave. If you have questions about the trust fund rules and potential trust fund penalties, please give this office a call at 781-849-7200.

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Ottoman Empire

by Alex Franch, Enrolled Agent

2014_12_04 Ottoman Empire medium_2710788094As we look back 100 years to the start of World War I, let us look to California where you can exclude payments received from the Ottoman Empire from your income.  I wonder how many people this still affects as the last veterans of WWI are now all deceased.  Perhaps a ‘Freedom of Information Act’ request would get us an answer?

I know this is a random thought, but I would enjoy hearing your thoughts on this subject below or on our Facebook or Google+ pages.

 

photo credit: Norman B. Leventhal Map Center at the BPL via photopin cc

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Taxpayer Identity Theft: IRS v Massachusetts

by Alex Franch, Enrolled Agent

Recently, the Massachusetts Department Of Revenue (Mass DOR) announced some new tax fraud prevention tools. Let’s compare how Massachusetts Department of Revenue measures up to the big dogs at the IRS when it comes to Taxpayer identity theft. While e-filing continues to be the most convenient, most popular, quickest, and most secure method to file, it is also targeted most often by cyber criminals.

Preventive Measures

stopping cyber crimeYou can request a PIN from the IRS which they will send you letter with your PIN by mail. Without this PIN, you cannot e-file your tax return. Mass e-files typically require that a copy of the Federal return be attached depending on the system used, therefore, the IRS PIN does not necessarily protect you on Mass. A thief might be able to bypass both safeguards by paper filing but most of these crimes are cyber crimes. In my opinion, the IRS system seems to provide better safeguards from a preventive standpoint.

What if you become a victim?

If someone has filed a fraudulent IRS return with your name or Social Security Number (SSN), you will need to paper file with the IRS, along with an identity theft affidavit. This can delay your tax return for several months. This is a slow and frustrating process for most taxpayers. IRS online resources are very limited in this regard; on the other hand, they are already a very big target for cyber-crime. Pick your poison I suppose.

As I understand it, The Mass DOR’s new system in place would generate a letter (snail mail) and they would hold your refund. The letter would instruct you to go to the Mass DOR website and answer some questions. First, you are asked for the reference number from the letter, your name, and the last four of your Social Security Number. You would then be prompted with four questions to verify your identity. Answer three out of four of the questions, and you get your refund; you get two tries, three minutes each. If you fail twice you will have to take additional steps to verify your ID. It is unclear what additional steps are needed to verify your Identification.

In addition to actual cases of cyber crime, the IRS and Mass DOR both use algorithms to flag tax returns in this manner. Regardless if it is a cyber crime or dragnet, I suppose you are a victim either way.

Concerns

The Mass DOR system processes faster than the IRS, if you need a speedy resolution; however, the IRS has a more proactive system. Mass DOR does not mention what the four questions are, supposedly making it more difficult for the cyber thieves. However, this can make these questions difficult for an honest person to answer and put you on the spot. (Here is my question, how does the Mass DOR know my pet’s name anyway?) Finally, heaven help me if my parents get swept up in this dragnet and I have to help them navigate through the Mass DOR website. We all know how challenging this can be for you and I, but what about the elderly themselves who may not be so quick in their memory or someone helping the elderly who may need answers quickly?

If you have experienced the Mass DOR system or IRS process, please feel free to share your experience below or go to our Facebook or Google+ page.

Other Tax Identity Theft Help Articles:

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