The Importance of Tax Planning

Many people use the term “tax planning,” but it is often misunderstood. It is the art of learning how to manage your affairs in ways that postpone or avoid taxes. Skilled tax planning means more money to save and invest, and it can make the tax season more of a financial boost instead of a financial burden. As explained well by Wealth Plan: “tax planning means either deferring or avoiding taxes by taking full advantage of the beneficial tax-law provisions, increasing tax deductions and tax credits, and by making good use of all applicable breaks that are available under the Internal Revenue Code.”

Strategies are typically designed and employed to achieve goals--a series of steps undertaken to accomplish an intended end. Of course, strategies within the realm of tax planning are undertaken to achieve financial goals primarily, but they are also employed to achieve business goals. If your tax planning strategies are effective, they should successfully accomplish, or at least address, the following goals:  

1. Lower your amount of taxable income

2. Reduce the rate at which you are taxed
3. Empower you to control when taxes get paid
4. Ensure you get all credits available to you
5. Put you in charge of the Alternate Minimum Tax

Note the following sample of strategies intended to reduce one’s tax liability, as noted by Cash Cow:

1.      Maximize Retirement Contributions: Deferral of taxation is one of the most common and useful tax strategies for individuals who are currently in a high tax bracket, but if you follow this path anticipate being in a lower tax bracket at some point in the future when withdrawals (distributions) are taken.

2.      Harvest Investment Losses: You can offset unlimited investment gains, and up to $3,000 of ordinary income each year by selling your investments that have lost value. If your losses exceed your gains and the $3,000 of ordinary income, you can carry them over to be used in future tax years.

3.      Consider Charitable Gifts: This strategy is only useful if you can itemize your tax deductions (most often due to mortgage interest deductions), and plan on making donations. Appreciated assets are some of the most tax-efficient charitable donations. Donating these assets will allow you to avoid paying capital gains on the appreciation.

4.      Invest In Municipal Bonds: Some high income earners are now subject to the 3.8% Medicare surtax on all investment income. Municipal bonds avoid this additional tax, and typically avoid all Federal and State income taxes. That means the tax equivalent yield (the yield an investor would require from a taxable bond) has increased for those taxpayers, making muni-bonds more attractive.

There are other creative ways to achieve effective tax planning, including these two tips from My CPA Team:

1.      Gifting Assets to Your Children: You can gradually take money out of your estate by giving it away. If your estate is larger than the normal exclusion amount, you can reduce its value by giving away $14,000 per year to each of your children, grandchildren, or anyone else without paying federal gift taxes. Your spouse can gift money as well, thus allowing a total $28,000 gifting capability between the two of you each year per recipient.

    2.  Deduct a Home-Based Office When Used for  Your Employer: People who work for  companies whose headquarters or branch offices  are not located in the same city as the employee,  or outside salespeople who often use their home  office as a base, can often use these deductions.  There are rules that must be followed in these  cases, however, and it is wise to consult a  professional before diving into the details.

In conclusion, you might be able to see that the tax planning process is not something that can be done in one day at the last minute. Time must be invested throughout the year to identify opportunities for savings as well as effective solutions to accomplish your tax planning goals.

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Deducting Self-Employment Expenses

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With the amount of taxes the IRS already collects from taxpayers—as well as the ever-increasing cost of living self-employed—tax payers can ill afford to overlook claiming as many deductions as the IRS makes available. The income and expense situation of self-employed taxpayers are widely recognized as fertile hunting grounds for a wide variety of deductions. This article will highlight a number of potentially significant deductions available to the self-employed taxpayer as well as some of the most commonly over-looked deductions by the self-employed.

Home Office Deduction, as explained by the IRS: If you use part of your home for business, you may be able to deduct expenses for the business use of your home. The IRS provides two methods for calculating this deduction, the “Simplified” approach and the “Regular” approach. The difference between the two approaches is that the Regular approach requires the taxpayer to determine the actual home office expenses. This approach could result in a higher deduction at the expense of more extensive record keeping.

Regardless of the method chosen, the basic requirements for your home to qualify as a deduction are:

• Regular and Exclusive of your home for conducting business, and
• You must show that you use your home as your principal place of business.

Investopedia recommends these additional deductions for the self-employed:

Internet and Phone: Regardless of whether you claim the home office deduction, you can deduct your business phone, fax and Internet expenses. The key is to only deduct the expenses directly related to your business.

Health Insurance Premiums: If you are self-employed, pay for your own health insurance premiums, and were not eligible to participate in a plan through your spouse's employer, you can deduct all of your health, dental and qualified long-term care insurance premiums.

Meals: A meal is a tax-deductible business expense when you are traveling for business or entertaining a client. The meal cannot be lavish or extravagant under the circumstances.

Entertainment: The IRS has numerous restrictions on claiming the business entertainment tax deduction. For starters, you must conduct business with the person you are entertaining during, immediately before or immediately after the event. If your entertainment expense meets all the tests, it’s still only 50% deductible.

            And according to ZipBooks.com:  

Educational expenses: If you go to seminars, take web-based classes, pay professional dues or subscribe to business publications, you can deduct all of those expenses.

Vehicle: If you use your personal vehicle for business purposes, you can deduct a standard mileage charge that is currently 54 cents per mile. Be sure to keep extremely detailed and accurate records. If you have a vehicle that you use exclusively for business, you can depreciate it over its useful life, which will possibly provide a much greater deduction.

Purchase/depreciation of computer and other office equipment: Depending on the price of the things you purchase, you may be able to write them off completely in the year that you put them into service with your company, or you may have to depreciate the cost over the item's useful life.

Retirement plan(s): Even though you do not have the opportunity to participate in an employer's 401(k) plan, there are several ways you can set aside money tax-free for your own retirement. Every dollar that you put into one of these plans comes off your taxable income, and you can put a very large amount into some of these plans.

The IRS does tend to target self-employed and small business owners at a greater rate than ordinary job-holding individuals. This is because there is far more room for “fudging” numbers when you are self-employed than when you receive a paycheck. The legal advice site, Nolo.com, offers the following two rules for the self-employed:

Claim all of your income.

Don't claim expenses for which you didn't actually pay.

To these two rules can be added a third: Keep amazingly accurate records. One way to do this is to use an accounting app designed for small businesses. In addition, a smartphone-based app ensures that you always have the ability to note and detail your expenses, no matter where you are. For more information about Accounting Services Arizona visit https://www.compasspointcpa.com.

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Do You Know About The ‘Nanny Tax?

Did you know that under current law, any family or individual who pays a household employee more than $2,000 (2016) a year must withhold and pay Social Security and Medicare taxes, also known as FICA. The law mandates that all domestic workers, such as cooks, nannies, housekeepers and gardeners, are subject to this combination of tax types known as the “nanny tax.” Federal unemployment insurance taxes must also be paid if the household pays any number of employees a total of $1,000 or more in a calendar quarter.

As this entry in Wikipedia notes, the "nanny tax" is comprised of a combination of taxes you withhold from your employee and the taxes you pay as the employer. Typically, you'll withhold Social Security and Medicare (collectively known as FICA) and federal and state (where applicable) income taxes from your domestic worker/employee each pay period. You'll also pay a matching portion of FICA, as well as federal and state unemployment insurance taxes.For more information click Tax services in Northern Arizona.

According to Care.com, you, as the employer, in order to properly pay what you owe in nanny taxes and satisfy your obligation, will need to collect the following:

• ID numbers: You need both the federal and state tax identification number in order to report your nanny taxes. You can get your federal employer identification number (FEIN) from the IRS and use this number to obtain your state identification number from the appropriate tax agency in your state.

• Payroll info: You need to accurately calculate your employee's gross pay, calculate the taxes withheld, and track the corresponding employer taxes each pay period.

• Forms:

• You must provide your nanny with a Form W-2 by the end of January each year.
• You need to file any required year-end forms with the state (where applicable), as well as Form W-3 and Form W-2 Copy A with the Social Security Administration.
• You need to prepare a Schedule H and file it with your federal income tax return.
• 
  
  
• Quarterly filings:
• You should file state tax returns, typically on a quarterly basis.
• You should send 1040 estimated payments to the IRS four times per year.

The employee, or nanny, should provide the employer with the following:

• A Social Security number or an ITIN;
• A completed Form I-9 with proper identification; and,
• A completed federal W-4 form and corresponding state income tax withholding form (if you live in a state with income taxes).

Are there any exceptions to the general rule of who is an employee?

If the babysitter is the taxpayer's parent, spouse, or if the babysitter is under 18 and is not primarily engaged in the household employment profession, the nanny tax does not apply. Investopedia encourages the use of an agency as another way to avoid the nanny tax pitfall:

Another way for taxpayers to avoid dealing with the nanny tax is by hiring household help through an agency. The agency will then be the employer and be the one who pays the nanny tax. Also, if household helpers are officially self-employed, they will be responsible for paying their own taxes and the taxpayer will not have to worry about the nanny tax.

Who else could qualify as an employee for the purpose of the nanny tax?

It depends on whether what you’ve paid these people exceeds the applicable dollar threshold. That sweet old lady across the street whom you pay to pick up your child from the school bus stop and watch them for an hour until you get home from work? She counts. So does that gardener you pay for three hours of work three times a month to make sure your lawn stays well manicured.

Refer to Topic 756, “Employment Taxes for Household Employees,” for additional information on the topic provided by the Internal Revenue Service.

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Have You Heard About IRC Sec 1031 Like-Kind Exchanges?

If you’re an investor who is looking to sell property, IRC Sec 1031 has good news for you: you can defer any and all capital gains by reinvesting the proceeds of your sale into new property. As IRC Section 1031 (a)(1) states:

No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment, if such property is exchanged solely for property of like-kind which is to be held either for productive use in a trade or business or for investment….1031 exchanges allow investors to defer capital gain taxes as well as facilitate significant portfolio growth and increased return on investment.

Of course, to take full advantage of the benefits available, it’s critical that you have a thorough understanding of Section 1031 code and the mechanics involved in the exchange.

The IRS breaks it down as follows:

• Whenever you sell business or investment property and you have a gain, you generally have to pay tax on the gain at the time of sale. IRC Section 1031 provides an exception and allows you to postpone paying tax on the gain if you reinvest the proceeds in similar property as part of a qualifying like-kind exchange.
• Gain deferred in a like-kind exchange under IRC Section 1031 is tax-deferred, but it is not tax-free.
• The exchange can include like-kind property exclusively or it can include like-kind property along with cash, liabilities and property that are not like-kind.
• If you receive cash, relief from debt, or property that is not like-kind, however, you may trigger some taxable gain in the year of the exchange.

To accomplish a Section 1031 exchange, as the IRS also notes, there must be an exchange of properties, and there are different types of exchanges:

• The simplest type of Section 1031 exchange is a simultaneous swap of one property for another.
• Deferred exchanges are more complex but allow flexibility. They allow you to dispose of property and subsequently acquire one or more other like-kind replacement properties.
• A reverse exchange is somewhat more complex than a deferred exchange.  It involves the acquisition of replacement property through an exchange accommodation titleholder, with whom it is parked for no more than 180 days. During this parking period the taxpayer disposes of its relinquished property to close the exchange.
  

To qualify for Section 1031, the IRS also has a wide array of requirements:

• Both the relinquished property you sell and the replacement property you buy must meet certain requirements.
• Both properties must be held for use in a trade or business or for investment.
• Property used primarily for personal use, like a primary residence or a second home or vacation home, does not qualify for like-kind exchange treatment.
• Both properties must be similar enough to qualify as "like-kind."  Like-kind property is property of the same nature, character or class. Quality or grade does not matter. Most real estate will be like-kind to other real estate.
• While a like-kind exchange does not have to be a simultaneous swap of properties, you must meet two time limits or the entire gain will be taxable. The first limit is that you have 45 days from the date you sell the relinquished property to identify potential replacement properties. The second limit is that the replacement property must be received and the exchange completed no later than 180 days after the sale of the exchanged property or the due date (with extensions) of the income tax return for the tax year in which the relinquished property was sold, whichever is earlier.

The IRS page on the guidelines offers more details. The foregoing high-level summary concerning the application of IRC Sec. 1031 should get the message across to not try to do this yourself without help from your attorney or other advisor. To say that the rules are complex is an understatement of biblical proportions!

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