Deciding When to Start Receiving Social Security Benefits
As you approach retirement age, you must decide whether to begin taking reduced social security benefits early or wait until full benefit retirement age (FBRA), or even later. In many cases, this decision will depend on factors other than trying to receive the greatest lifetime benefit from social security. Remember that while you have the option of receiving social security benefits as early as age 62, the eligibility age for Medicare remains at 65. So, although you may be able to replace a sufficient amount of your earned income with social security benefits beginning at age 62, you may not be able to adequately replace your employer-provided health insurance.
Even if you have sufficient funds to live on without considering social security, many people prefer to begin receiving benefits as soon as possible. For 2013, the benefits at age 62 are reduced by 25% of what they would be at age 66 (i.e., the FBRA); but, you will receive more social security checks if benefits are drawn early. In addition, drawing early social security benefits may allow you to leave tax-deferred retirement accounts untouched and growing for longer periods.
Another reason to receive benefits early is if you have children living at home. Children under age 18 (or up to 19 if a full-time student) may be eligible for benefits if you are also receiving social security benefits.
Furthermore, if you wait until the FBRA to draw benefits, it will take several years to reach the break-even point to make up for the years of payments that were not received.
Example: Receiving social security benefits at age 62 versus the FBRA.
Curt is single and plans to begin receiving social security benefits on his 62nd birthday in 2013 when his benefit, based on his earnings history, is $1,000. He will receive monthly social security retirement benefits of $750, or 75% of his benefit. Therefore, he will receive 48 benefit checks of $750 each (not considering annual inflation adjustments), a total of $36,000, by the time he reaches age 66 (his FBRA).
Curt’s benefit would have been $1,000 if he had waited until age 66 to begin receiving benefits. Therefore, it would take him 12 years (starting at age 66) before the additional $250 per month ($1,000 − $750) benefit caught up to the $36,000 he would have received between ages 62 and 66.
When the present value of future social security benefits is considered, it could be more favorable to start the benefits as soon as possible (if the money is going to be invested). However, if you are simply using early social security benefits to replace a similar amount of earned income, the short-term financial position will not be improved and the long-term outlook could suffer.
Another factor to consider in taking retirement benefits early is the increased tax cost. With a smaller social security retirement benefit, you may need to work or draw on other resources to meet expenses. If the additional taxable income you generate exceeds certain thresholds, 50% to 85% of your social security benefits will be taxable.
You might carefully consider the long-lasting advantages of waiting until FBRA based on the following factors.
Life Expectancy. Your life expectancy may be the biggest factor in deciding whether to receive benefits early. By age 62, you should have a good handle on your own life expectancy based on your current health and the longevity of your parents. In general, 77 years might be a good cutoff point. If you reasonably expect to reach that age, waiting until FBRA may be a wise choice.
Shortening the Retirement Period. A significant factor in retirement planning projections is the length of the retirement period. For example, if you want to retire at age 62 and you have a life expectancy of 85, you have a 23-year retirement period to fund. By working past age 62, you are shortening the retirement period and lowering the amount of money needed to fund your retirement regardless of longevity.
The Earnings Test. If you are considering receiving retirement benefits before your FBRA but you intend to keep working, you must consider the earnings test. For 2013, social security benefits are reduced $1 for every $2 in earnings above the exempt amount of $15,120.
Replacing Lower-wage Years. Your social security benefits are calculated based on your highest 35 years of indexed earnings. If you can replace lower-wage years early in your career with higher-wage years after age 62, the benefit can be increased. This can lead to a greater benefit when you retire.
Inflation Adjustments. Social security benefits receive an annual inflation adjustment. By taking early benefits, your starting base for these annual adjustments is smaller. For example, if your benefit was $1,000, but you retired early and received only $750, each year you would miss out on the compounded inflation adjustment of that $250 in lost benefits. In other words, the gap between the early retirement benefit you receive and the amount you would have received by waiting will get bigger and bigger.
The Effect on Your Spouse. Your decision to start receiving social security benefits before reaching FBRA may also affect your spouse’s benefits. If your spouse does not have a personal earnings record, he or she will only receive half of your retirement benefit.
After FBRA. If you delay receiving benefits until after your FBRA, you will receive larger benefits because of the delayed retirement credit. You may receive a credit of up to 8% per year for each year you delay receiving benefits until age 70.
If you are able to wait, the delayed retirement credit can have a significant impact. In addition to the higher retirement benefit you will receive, you will also shorten your retirement period and increase your spouse’s survivor’s benefit.
MAKING SENSE -- NOVEMBER 18, 2013 AT 1:02 PM ET
Why baby boomers are making the wrong Social Security moves
Boomers don't make the right decisions about collecting Social Security because the present often takes precedence over the future. Photo courtesy of Flickr user Leenata Bankhele.
Larry Kotlikoff's Social Security original 34 "secrets", his additional secrets, his Social Security "mistakes" and his Social Security gotchas have prompted so many of you to write in that we now feature "Ask Larry" every Monday. We are determined to continue it until the queries stop or we run through the particular problems of all 78 million Baby Boomers, whichever comes first. Kotlikoff's state-of-the-art retirement software is available here, for free, in its "basic" version.
Larry Kotlikoff: I've taken of late to asking myself a broader Social Security question before answering your specific ones. This is my academic economist side coming out. We dismal scientists are trained to focus on the big picture, especially when the big picture is bad. And, from everything I can tell, the vast majority of the 10,000 baby boomers retiring every day are making the wrong Social Security decisions.
Social Security, as I've belabored, is an impossibly complicated system, forcing most new retirees to consider thousands of options to find the one that maximizes their lifetime benefits.Getting this exactly right requires using software that solicits the right inputs and that's extraordinarily precise under the hood.
But only a handful of retiring boomers -- 500 a day is my guesstimate -- seem to be using Social Security-maximizing software. Those that are using software appear to be using programs like AARP's free software, which provides wrong answers, even ignoring the calculations under the hood. (Full disclaimer: My small software company sells Social Security maximization software, but also offers a free version, available on this page.)
The calculators that are dangerous are those that ask for too few inputs to generate the right answer. In addition, the inputs they solicit are the wrong numbers. For example, the AARP calculator asks for either your current salary or sends you to a Social Security calculator to recover your monthly full retirement benefit. But your current salary, even if you are working full time, may have very little connection to your actual earnings history, which one needs to determine the right Social Security maximization strategy.
And the Social Security Administration's calculator, which is based on your earnings record, assumes the economy will experience what it has not experienced for well over a half century: zero inflation and zero economy-wide real wage growth. Social Security makes these assumptions in order to produce low-ball benefit estimates for workers out of fear that workers won't save enough on their own if they think their future benefits will be as large as they actually will be.
The bias in the Social Security estimate depends on the age of the person using the calculator. So a husband and wife who are, say, five years apart, will have differentially wrong Social Security benefit estimates, which can seriously impact the optimal strategy if, and this is a huge if, AARP is calculating everything correctly under the hood. Their casual treatment of inputs does not instill much confidence.
Other retiring baby boomers are relying on non-specialists at Social Security, either those available on the phone or those in the local offices, for Social Security benefit collection advice. As my recent columns suggest, the last people you want to ask for Social Security advice are the very conscientious, but very poorly trained folks at Social Security.
There are brilliant current and former Social Security technical experts (like Jerry Lutz, who double checks my responses to your questions every week), but there are far too few of them to serve 10,000 people per day. Nor can even the best technical expert run thousands of comparisons in his or her head.
(Jerry, by the way, thinks I'm being too harsh on many of his former Social Security colleagues. Maybe. But I get emails every few days from people who have been steered the wrong way, some extremely badly, by the good folks at Social Security.)
Yet other baby boomers are relying on the advice of financial planners. But most planners are giving advice from their hip pockets. Two weeks back, I spoke in Florida at a conference for financial planners specializing in giving advice to prospective and current retirees. To check their knowledge of Social Security's provisions, I asked the roughly 75 planners if any of them were aware of Social Security's option to suspend your retirement benefit upon reaching full retirement age and start it up again at a permanently larger level at or before age 70.
(If, for example, you suspend at 66 and wait until 70 to restart your retirement benefit, it will start at a 32 percent larger value after inflation.) Not a single financial adviser was aware of this option. And their questions after my talk suggested they too had very little knowledge of Social Security's other provisions.
There are also many baby boomers who are living hand to mouth and have no option but to "take the money and run" -- to take whatever they can get as soon as they can get it.
But many boomers do have choices, like waiting until 70 to take benefits that will be 76 percent higher adjusted for inflation than the benefit available at age 62. Yet fewer than 2 percent are waiting this long. Again, this may be ignorance -- folks using bad calculating tools or receiving bad advice. But I think there is a deeper, darker explanation that comes from the economics of behavioral finance that might loosely be called economic schizophrenia.
We like to think of ourselves as being one person -- one self. But an alternative view is that we are one body comprising multiple selves -- one for each future period or year. And these multiple selves are duking it out inside our brains to protect their living standards. But the current self is in charge, and if it doesn't care enough about the future selves, it will try to over-consume today and let the future selves fend for themselves later. Taking Social Security retirement benefits early is ignoring your fiduciary responsibility to care for your future self.
Telling baby boomers to save for their futures hasn't succeeded in getting them to save. Perhaps, the trick is to get boomers to think of their future selves as their own children, whom they need to protect, which in this context, means spending the effort to get Social Security right and putting the concerns of tomorrow ahead of the demands of today.
Using an S Corporation to Hold Stock in Other Corporations
When choosing an entity for your business, keep in mind there are opportunities to use an S corporation to hold stock in other corporations, but not the stock of other S corporations. If any corporation acquires the S corporation’s stock, that S corporation becomes a C corporation, which is generally detrimental. The truth is that taxpayers with S corporations have a great deal of flexibility in structuring their corporate holdings. This flexibility allows an S corporation to hold C corporation subsidiaries and qualified Subchapter S subsidiaries, as explained below.
Regular C Corporation Subsidiaries. S corporations can own up to 100% of the stock in another corporation. A corporation that owns more than 50% of the stock of another corporation has the right to control that corporation. Ownership of 80% or more of the stock of another corporation establishes an affiliated group relationship. Thus, S corporations may have 80%-or-more-owned regular C corporation subsidiaries. These C corporation subsidiaries are allowed to file a consolidated return with any other C corporations they are affiliated with. However, the parent S corporation cannot be included in this return. In summary, S corporations can own and operate one or more chains of subsidiary C corporations or brother/sister C corporations, but cannot join in the filing of a consolidated return.
Qualified Subchapter S Subsidiaries. Because an S corporation cannot have a corporate shareholder, subsidiary corporations cannot be treated as S corporations. However, an S corporation can have one or more qualified Subchapter S subsidiaries (QSubs) if it owns 100% of the subsidiary corporation and makes the required election.
A QSub is ignored for federal tax purposes, and its operations are reported as part of the parent S corporation’s income tax return. In addition to the efficiency of eliminating multiple tax returns, the shareholders gain the ability to offset losses from one or more QSub entities against the income of other members of the parent S corporation/QSub group. Furthermore, QSubs generally limit the parent company’s legal liability. The use of multiple corporate entities helps prevent problems in one business or location from affecting others.
A QSub is not treated as a separate corporation. Instead, its assets, liabilities, income, deductions, etc., are treated as those of the parent S corporation. The QSub’s accumulated earnings and profits, passive investment income, and built-in gains are also treated as those of the parent. Other tax consequences relating to QSubs can be complex.
Please contact us if you would like us to analyze the benefits and costs of using a QSub arrangement.
IRS Affordable Care Act Website
The IRS has a new website that provides information on the Affordable Care Act (www.irs.gov/uac/Affordable-Care-Act-Tax-Provisions). The site explains tax benefits and responsibilities for individuals, employers, and other organizations. In addition, it provides information about tax provisions that are in effect now and those that will go into effect in 2014 and beyond. Topics include premium tax credits for individuals, new benefits and responsibilities for employers, and tax provisions for insurers, tax-exempt organizations, and other types of businesses.
New Tax Rules for Legally Married Same-sex Couples
The U.S. Supreme Court’s decision in the Edith Windsor Case, invalidating a key provision of the Defense of Marriage Act, raised many questions regarding the federal income tax rights and responsibilities of same-sex couples. The U.S. Department of the Treasury and the IRS recently ruled that same-sex couples, legally married in a jurisdiction that recognizes their marriages, will be treated as married for federal tax purposes. This ruling applies regardless of whether the couple lives in a jurisdiction that recognizes same-sex marriage or a jurisdiction that does not. However, the ruling does not apply to registered domestic partnerships, civil unions, or similar formal relationships recognized under state law.
Same-sex couples will now be treated as married for all federal tax purposes (income, gift, and estate taxes) where marriage is a factor. The ruling applies to filing status, personal and dependency exemptions, the standard deduction, employee benefits, IRA contributions, and the earned income and child tax credits.
For 2013, legally married same-sex couples must file their tax return using either the married filing jointly or married filing separately filing status. For years prior to 2013, these couples may, but are not required to, file amended returns choosing to be treated as married for federal tax purposes for one or more prior tax years still open under the statute of limitations.
October 31, 2013
It’s the time of year to again start thinking about expiring tax provisions. Usually the first thing that comes to mind is the alternative minimum tax, but this particular issue was “fixed” in January of this year by the fiscal cliff bill. That still leaves a number of expiring provisions, according to Robert Kerr, senior director of government relations at the National Association of Enrolled Agents.
Among them, Kerr noted, are the deduction for state and local sales taxes; the deduction for mortgage insurance as qualified interest; the above-the-line deduction for qualified tuition and related expenses; the above-the-line deduction for certain expenses of elementary and secondary school teachers; the Work Opportunity Tax Credit; the increase in expensing and the expansion of the definition of Section 179 property; the Research and Experimentation Tax Credit; and the 15-year straight line cost recovery for qualified leasehold, restaurant and retail improvements.
Every year the alternative minimum tax was at the head of the list of things that needed fixing, observed Kerr. “Each year that we didn’t have a fix, we had a growing number of people on the AMT bubble. It created a ‘whale tail’ when you paid for the patch. Since the increase in cost to pay for the patch wasn’t linear, it was exponential. It didn’t grow gently. Probably the piece that got our attention was there were some 20 million potentially affected out of the total population of taxpayers.”
There are a number of reasons that less attention is being paid this year to the extenders, Kerr indicated. “One reason is that AMT is no longer the engine that drives the extender train,” he said. The other is the overall legislative environment this year—the budget, the sequester, the shutdown, and talk of tax reform. At least the Ways and Means Committee had visions of managing the extenders within the context of tax reform.”
“The net is that we’re sitting here with 10 legislative days left in the year, and we don’t have any word on the extenders except for the notion that they will be included in the El Dorado of tax reform,” he said. “My take on that is tax professionals desire stability and predictability above all else, and the current state of affairs on extenders provides us with neither.”
Will Congress act before the end of the year to extend some or most of these? Will they all expire, only to be resurrected retroactively during the filing season—or in 2015? Or will they just expire, period?
“None of us should be surprised if we find ourselves in precisely the same situation as at the beginning of 2013, and proceed all the way through 2014 without knowing which ones will be retroactively extended,” said Kerr.
Washington, D.C. (October 31, 2013)
By Michael Cohn
Approximately 8,400 federal employees and contractors who were judged eligible for a security clearance from April 2006 to December 2011 owed approximately $85 million in unpaid federal taxes as of June 2012, according to a new government report.
The report, from the Government Accountability Office, noted that the figure represents about 3.4 percent of the civilian executive-branch employees and contractors who were favorably adjudicated during that period. As of October 2012, about 4.9 million civilian and military employees and contractors held a security clearance.
The GAO found that about 4,700 of the approximately 8,400 individuals were federal employees, while the others were mostly federal contractors. In addition, about 4,200 of these individuals had a repayment plan with the Internal Revenue Service to pay back their tax debts.
Federal laws do not prohibit an individual with unpaid federal taxes from holding a security clearance, but tax debt poses a potential vulnerability, the report pointed out.
GAO used clearance data from the Office of Personnel Management’s Central Verification System database to compile the report. The CVS database does not maintain information on the denial of security clearances on the basis of an individual's nonpayment of federal taxes, however, so the GAO was unable to determine the number of individuals who were denied security clearances for this reason.
The GAO pointed out that federal agencies have established mechanisms to identify the unpaid federal tax debts of security-clearance applicants, but these mechanisms have limitations. To detect federal tax debt for clearance applicants, federal investigators mainly rely on two methods: the self-reporting of tax debts by applicants, and validation techniques such as the use of credit reports or in-person interviews. Each of these methods has shortcomings in detecting unpaid federal tax debts of clearance applicants.
For example, credit reports are the primary means for identifying tax debts that were not self-reported, but these reports only contain information on tax debts for which the IRS has filed a lien on the debtor's property. According to the GAO's analysis, 5 percent of the 8,400 delinquent taxpayers who were favorably adjudicated as eligible for security clearances had a tax lien filed on them. In addition, federal agencies generally do not routinely review federal tax compliance of clearance holders.
There is no process to detect unpaid federal tax debts accrued after an individual has been favorably adjudicated unless it is self-reported, reported by a security manager due to garnishment of wages, or discovered during a clearance renewal or upgrade, the report noted. The GAO's analysis found that 6,300 individuals (or approximately 75 percent) accrued their tax debt after approval of the security clearance.
Additional mechanisms that provide large-scale, routine detection of federal tax debt could improve the ability of federal agencies to detect tax debts owed by security-clearance applicants and current clearance holders, but statutory privacy protections limit access to this information, the report pointed out. Federal agencies may obtain information on federal tax debts directly from the IRS if the applicant provides consent. In addition, federal agencies do not have a mechanism, such as the one used by the Treasury Department, to collect delinquent federal debts.
Such information could help federal agencies perform routine, automated checks of security-clearance applicants to determine whether they have unpaid federal debts, without compromising statutory privacy protections, the GAO noted. Such a mechanism could also be used to help monitor current clearance holders' tax-debt status. “Gaining routine access to this federal debt information, if feasible, would better position federal agencies to identify relevant financial and personal-conduct information to make objective assessments of eligibility for security-clearance applicants and continued eligibility of current clearance holders,” said the report.
The GAO recommended that the Office of the Director of National Intelligence study the feasibility of federal agencies routinely obtaining federal debt information from the Treasury Department for the purposes of investigating and adjudicating clearance applicants, as well as for monitoring current clearance holders' tax-debt status. The ODNI agreed with the GAO's recommendation.
“Although the investigative process involves mechanisms for detecting unpaid financial obligations, including some federal tax debt, it can be difficult to identify each and every instance of unpaid debt,” wrote Jim Crumpacker, director of of the Departmental GAO-OIG Liaison Office. “Reliance on self-reporting and legal restrictions on data sharing with the Internal Revenue Service complicates potential efforts to improve debt detection. Furthermore, it is not currently a condition of employment that all federal employees, regardless of whether or not they hold a clearance, be current on federal tax debt.”
October 31, 2013
By Michael Cohn
The Internal Revenue Service released the annual cost-of-living adjustments Thursday affecting dollar limitations for pension plans and other retirement-related items for tax year 2014, allowing taxpayers to contribute up to $17,500 to their 401(k) plans in 2014.
In addition, the IRS announced Thursday that it is modifying the “use or lose” rule for health care flexible spending arrangements, permitting a carryover of up to $500 to provide greater flexibility to plan participants (see Treasury Relaxes 'Use or Lose' Rule for Flexible Spending Accounts). The agency also issued the annual inflation-adjusted tax rate schedules and other changes in tax benefits for 2014 on Thursday (see IRS Adjusts 2014 Tax Rates for Inflation).
The IRS added that some pension limitations such as those governing 401(k) plans and IRAs will remain unchanged because the increase in the Consumer Price Index did not meet the statutory thresholds for their adjustment, but there will be changes in some pension plan limitations.
• The elective deferral (contribution) limit for employees who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan remains unchanged at $17,500.
• The catch-up contribution limit for employees aged 50 and over who participate in 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan remains unchanged at $5,500.
• The limit on annual contributions to an Individual Retirement Arrangement (IRA) remains unchanged at $5,500. The additional catch-up contribution limit for individuals aged 50 and over is not subject to an annual cost-of-living adjustment and remains $1,000.
• The deduction for taxpayers making contributions to a traditional IRA is phased out for singles and heads of household who are covered by a workplace retirement plan and have modified adjusted gross incomes (AGI) between $60,000 and $70,000, up from $59,000 and $69,000 in 2013. For married couples filing jointly, in which the spouse who makes the IRA contribution is covered by a workplace retirement plan, the income phase-out range is $96,000 to $116,000, up from $95,000 to $115,000. For an IRA contributor who is not covered by a workplace retirement plan and is married to someone who is covered, the deduction is phased out if the couple’s income is between $181,000 and $191,000, up from $178,000 and $188,000. For a married individual filing a separate return who is covered by a workplace retirement plan, the phase-out range is not subject to an annual cost-of-living adjustment and remains $0 to $10,000.
• The AGI phase-out range for taxpayers making contributions to a Roth IRA is $181,000 to $191,000 for married couples filing jointly, up from $178,000 to $188,000 in 2013. For singles and heads of household, the income phase-out range is $114,000 to $129,000, up from $112,000 to $127,000. For a married individual filing a separate return, the phase-out range is not subject to an annual cost-of-living adjustment and remains $0 to $10,000.
• The AGI limit for the saver’s credit (also known as the retirement savings contribution credit) for low- and moderate-income workers is $60,000 for married couples filing jointly, up from $59,000 in 2013; $45,000 for heads of household, up from $44,250; and $30,000 for married individuals filing separately and for singles, up from $29,500.
Here are some details on both the unchanged and adjusted limitations:
Section 415 of the Tax Code provides for dollar limitations on benefits and contributions under qualified retirement plans. Section 415(d) requires that the Secretary of the Treasury annually adjust these limits for cost of living increases. Other limitations applicable to deferred compensation plans are also affected by these adjustments under Section 415. Under Section 415(d), the adjustments are to be made pursuant to adjustment procedures which are similar to those used to adjust benefit amounts under Section 215(i)(2)(A) of the Social Security Act.
Effective Jan. 1, 2014, the limitation on the annual benefit under a defined benefit plan under Section 415(b)(1)(A) has increased from $205,000 to $210,000. For a participant who separated from service before Jan. 1, 2014, the limitation for defined benefit plans under Section 415(b)(1)(B) is computed by multiplying the participant's compensation limitation, as adjusted through 2013, by 1.0155.
The limitation for defined contribution plans under Section 415(c)(1)(A) is increased in 2014 from $51,000 to $52,000.
The Tax Code provides that various other dollar amounts are to be adjusted at the same time and in the same manner as the dollar limitation of Section 415(b)(1)(A). After taking into account the applicable rounding rules, the amounts for 2014 are as follows:
The limitation under Section 402(g)(1) on the exclusion for elective deferrals described in Section 402(g)(3) remains unchanged at $17,500.
The annual compensation limit under Sections 401(a)(17), 404(l), 408(k)(3)(C), and 408(k)(6)(D)(ii) is increased from $255,000 to $260,000.
The dollar limitation under Section 416(i)(1)(A)(i) concerning the definition of key employee in a top-heavy plan is increased from $165,000 to $170,000.
The dollar amount under Section 409(o)(1)(C)(ii) for determining the maximum account balance in an employee stock ownership plan subject to a 5 year distribution period is increased from $1,035,000 to $1,050,000, while the dollar amount used to determine the lengthening of the 5 year distribution period is increased from $205,000 to $210,000.
The limitation used in the definition of highly compensated employee under Section 414(q)(1)(B) remains unchanged at $115,000.
The dollar limitation under Section 414(v)(2)(B)(i) for catch-up contributions to an applicable employer plan other than a plan described in Section 401(k)(11) or Section 408(p) for individuals aged 50 or over remains unchanged at $5,500. The dollar limitation under Section 414(v)(2)(B)(ii) for catch-up contributions to an applicable employer plan described in Section 401(k)(11) or Section 408(p) for individuals aged 50 or over remains unchanged at $2,500.
The annual compensation limitation under Section 401(a)(17) for eligible participants in certain governmental plans that, under the plan as in effect on July 1, 1993, allowed cost of living adjustments to the compensation limitation under the plan under Section 401(a)(17) to be taken into account, is increased from $380,000 to $385,000.
The compensation amount under Section 408(k)(2)(C) regarding simplified employee pensions (SEPs) remains unchanged at $550.
The limitation under Section 408(p)(2)(E) regarding SIMPLE retirement accounts remains unchanged at $12,000.
The limitation on deferrals under Section 457(e)(15) concerning deferred compensation plans of state and local governments and tax-exempt organizations remains unchanged at $17,500.
The compensation amount under Section 1.61 21(f)(5)(i) of the Income Tax Regulations concerning the definition of “control employee” for fringe benefit valuation purposes is increased from $100,000 to $105,000. The compensation amount under Section 1.61 21(f)(5)(iii) has increased from $205,000 to $210,000.
The Tax Code also provides that several pension-related amounts are to be adjusted using the cost-of-living adjustment under Section 1(f)(3). After taking the applicable rounding rules into account, the amounts for 2014 are as follows:
The adjusted gross income limitation under Section 25B(b)(1)(A) for determining the retirement savings contribution credit for married taxpayers filing a joint return is increased from $35,500 to $36,000; the limitation under Section 25B(b)(1)(B) is increased from $38,500 to $39,000; and the limitation under Sections 25B(b)(1)(C) and 25B(b)(1)(D) is increased from $59,000 to $60,000.
The adjusted gross income limitation under Section 25B(b)(1)(A) for determining the retirement savings contribution credit for taxpayers filing as head of household is increased from $26,625 to $27,000; the limitation under Section 25B(b)(1)(B) is increased from $28,875 to $29,250; and the limitation under Sections 25B(b)(1)(C) and 25B(b)(1)(D) is increased from $44,250 to $45,000.
The adjusted gross income limitation under Section 25B(b)(1)(A) for determining the retirement savings contribution credit for all other taxpayers is increased from $17,750 to $18,000; the limitation under Section 25B(b)(1)(B) is increased from $19,250 to $19,500; and the limitation under Sections 25B(b)(1)(C) and 25B(b)(1)(D) is increased from $29,500 to $30,000.
The deductible amount under Section 219(b)(5)(A) for an individual making qualified retirement contributions remains unchanged at $5,500.
The applicable dollar amount under Section 219(g)(3)(B)(i) for determining the deductible amount of an IRA contribution for taxpayers who are active participants filing a joint return or as a qualifying widow(er) is increased from $95,000 to $96,000. The applicable dollar amount under Section 219(g)(3)(B)(ii) for all other taxpayers (other than married taxpayers filing separate returns) is increased from $59,000 to $60,000. The applicable dollar amount under Section 219(g)(3)(B)(iii) for a married individual filing a separate return is not subject to an annual cost-of-living adjustment and remains $0. The applicable dollar amount under Section 219(g)(7)(A) for a taxpayer who is not an active participant but whose spouse is an active participant is increased from $178,000 to $181,000.
The adjusted gross income limitation under Section 408A(c)(3)(B)(ii)(I) for determining the maximum Roth IRA contribution for married taxpayers filing a joint return or for taxpayers filing as a qualifying widow(er) is increased from $178,000 to $181,000. The adjusted gross income limitation under Section 408A(c)(3)(B)(ii)(II) for all other taxpayers (other than married taxpayers filing separate returns) is increased from $112,000 to $114,000. The applicable dollar amount under Section 408A(c)(3)(B)(ii)(III) for a married individual filing a separate return is not subject to an annual cost-of-living adjustment and remains $0.
The dollar amount under Section 430(c)(7)(D)(i)(II) used to determine excess employee compensation with respect to a single-employer defined benefit pension plan for which the special election under Section 430(c)(2)(D) has been made is increased from $1,066,000 to $1,084,000.
Gov. Snyder Signs Off on Changes to Unemployment System
Governor Rick Snyder signed legislation last Tuesday that would allow for the denial of unemployment benefits to someone if they fail or refuse a drug test needed for employment and had a job offer revoked by a potential employer. House Bill 4952, now Public Act 146 of 2013, is effective immediately. He also signed other bills that would make additional changes to the unemployment system. Read more in this online recap from MACPA’s lobby firm, Public Affairs Associates.
Washington, D.C. (November 5, 2013)
By Michael Cohn
The Internal Revenue Service is asking for $2.7 million in taxes from race driver Juan Pablo Montoya, and he has filed a lawsuit in the U.S. Tax Court challenging the IRS’s assessment.
The tax dispute centers around the use of an offshore corporation in the Bahamas to which the Colombian race car driver assigned the rights to his “driver identity”—including his image, name, appearance and voice—before moving to the U.S. in 2007, according to Forbes.
In his lawsuit, Montoya reportedly has admitted that he had almost $800,000 in income than he and his wife originally reported for 2007 and 2008 on their joint return, but he disputed the IRS’s assertion that they had $9.5 million in taxable income for those two years instead of the $2.4 million they had reported.
The IRS also disallowed tax deductions that Montoya had claimed after his company JPM Motorsport sold his image to another of his companies, Monty Motorsport, for $15 million in 2006 and began amortizing the investment, claiming deductions of $1.4 million in 2007 and $1 million in 2008. And the agency rejected another deduction for $267,000 related to Montoya’s professional fees and a grantor trust that the Formula One driver set up when he moved to the U.S. to compete in Nascar races. Montoya also claimed tax breaks on the purchase of an $8.7 million Lear jet to attend Nascar races, which the IRS also denied. He plans to move on to IndyCar racing next year.
The case is reminiscent of an IRS tax evasion case against another race car driver, Helio Castroneves, also involving income from his image and likeness funneled through an offshore corporation. The two-time Indianapolis 500 champion was acquitted of criminal charges but still ended up paying millions of dollars in taxes to the IRS (see Racecar Driver Castroneves Acquitted of Tax Charges).
November 6, 2013
By Michael Cohn
A pair of senators have introduced bipartisan legislation that would rescind tax write-offs for illegal corporate behavior in an effort to hold corporate wrongdoers accountable.
Senators Jack Reed, D-R.I., and Chuck Grassley, R-Iowa, introduced the Government Settlement Transparency & Reform Act, which aims to close a loophole that has allowed some corporations to reap tax benefits from payments made at government direction stemming from settling misdeeds.
Corporations accused of illegal activity routinely settle legal disputes with the government out of court because it allows both the company and the government to avoid the time, expense and uncertainty of going to trial, the senators noted. Federal law prohibits companies from deducting public fines and penalties from their taxable income. But under current law, offending companies may often write off any portion of a settlement that is not paid directly to the government as a penalty or fine for violation of the law. This allows some companies to lower their tax bill by claiming settlement payments to non-federal entities as tax deductible business expenses.
“A penalty is supposed to deter others because it causes pain to a company’s bottom line,” Reed said in a statement. “If a company is paying thousands, millions, or even billions in fines, it shouldn’t save money for those same misdeeds, it should be held accountable. The law needs to change to ensure the punishment fits the crime. Congress needs to close this settlement loophole.”
The Reed-Grassley bill would require the government and the settling party to reach pre-filing agreements on how the settlement payments should be treated for tax purposes. The bill clarifies the rules about which settlement payments are punitive and thus non-deductible, and increases transparency by requiring the government to file a return at the time of settlement to accurately reflect the tax treatment of the amounts that will be paid by the offending party.
“A penalty should be meaningful or it won’t have the deterrent effect it’s supposed to have,” Grassley said. “This issue comes up regularly, and this bill would make deductibility clear going forward.”
The Government Settlement Transparency & Reform Act (S. 1654) would close the tax loophole that allows tax write-offs for corporate violations. The bill would also amend the Tax Code to deny tax deductions for certain fines, penalties and other amounts related to a violation or investigation or inquiry into the potential violation of any law.
In addition, the bill would amend Subsection (f) of Section 162 of the Tax Code, which says that no deduction will be allowed for any fine or similar penalty paid to a government for the violation of any law. The amounts paid by corporations that constitute restitution for damage caused by the violation of any law are exempted and remain deductible. This section requires that nongovernmental entities that exercise self-regulatory powers be treated as government entities for purposes of disallowing deductions under this section. The bill would require the government to stipulate the tax treatment of the settlement agreement.
IRS Expands Fast-Track Settlement Program for Small Businesses under Audit
Washington, D.C. (November 6, 2013)
By Michael Cohn
The Internal Revenue Service expanded nationwide on Wednesday the rollout of its streamlined Fast Track Settlement program, which aims to help small businesses under audit settle their differences with the IRS over their tax debts more quickly.
The Fast Track Settlement program is designed to help small businesses and self-employed individuals who are under examination by the Small Business/Self Employed Division of the IRS. Modeled after a similar program that has long been available to large and midsize businesses with more than $10 million in assets, the FTS program uses alternative dispute resolution techniques to help taxpayers save time and avoid a formal administrative appeal or lengthy litigation. As a result, audit issues can usually be resolved within 60 days, rather than months or years, according to the IRS. In addition, taxpayers who choose the FTS option lose none of their rights because they still have the right to appeal even if the FTS process is unsuccessful.
Jointly administered by Small Business/Self-Employed Division and the IRS Appeals office, FTS is designed to expedite case resolution. Under FTS, taxpayers under examination with issues in dispute work directly with IRS representatives from SB/SE’s Examination Division and Appeals to resolve those issues, with the Appeals representative typically serving as mediator.
The taxpayer or the IRS examination representative may initiate Fast Track for eligible cases, usually before a 30-day letter is issued. The goal is to complete cases within 60 days of acceptance of the application in Appeals.
SB/SE originally launched FTS as a pilot program in September 2006 and expanded it in December 2007. For more information on taking advantage of the Fast Track Settlement program, see the Alternative Dispute Resolution page on IRS.gov and IRS Announcement 2011-05.
Workers Crossing State Lines Mean More Employer Audits: Taxes
By Michael Baer - Nov 4, 2013 12:00 AM ET
Workers who perform their tasks in different states may expose their employers to additional tax liabilities as states seek to collect levies from nonresidents by increasing enforcement actions.
Payroll systems that aren’t configured to track employee earnings for multiple work locations can expose employers to tax audits from numerous states, said Mary Hevener, a partner at Morgan, Lewis & Bockius LLP in Washington.
Employers that fail to collect and pay taxes to appropriate jurisdictions for traveling workers generally are liable for the taxes, Hevener said at a conference on payrolls in Newport News, Virginia last month, Bloomberg BNA reported. States audit employers because it is easier and more efficient than scrutinizing employees, especially those who haven’t been in a state for long.
The exposure occurs because “a lot of businesses don’t try to track the travelers,” she said.
Employers with mechanisms that track multistate work sometimes can receive complaints after mobile employees see wages and taxes for more than one state reported on their W-2 forms, Hevener said. Employers that report wages and taxes to more than one state essentially obligate the employee to file individual returns in those states. Hevener said she files tax returns in nine states.
Nineteen states with income taxes have certain thresholds of time spent and money earned while working in their state, according to a map that Hevener displayed. Twenty-two states technically subject workers to tax on the first day of travel in the state.
Of those states with thresholds, New York generally doesn’t apply state tax for certain work activities performed inside its borders for 14 days or fewer in a year, Hevener said. Georgia allows out-of-state workers to work in the state up to 23 days in a quarter without applying state taxes, or up to 5 percent of total compensation derived from in-state work. Other states have poorly explained rules on income allocations, she said.
To add to the issue’s complexity, states can tax stock options and restricted stock after employees move elsewhere, Hevener said. The taxing states also have tracking mechanisms for stock option income and stock appreciation rights, though there are no set rules among states for how these amounts are to be taxed.
Four general methods are used to identify when stock compensation is earned for tax purposes: grant to vest, grant to exercise, year of exercise and degree of appreciation. Some states, Hevener said, haven’t adopted any option-sourcing rules.
Federal law bans states from taxing certain types of deferred compensation earned in one state for those now living in other states.
Several attempts have been made to standardize how multistate workers are treated for state tax purposes, said Patrick Rehfield, a lawyer at Morgan Lewis who spoke with Hevener at the conference.
Under the Mobile Workforce State Income Tax Simplification Act, proposed in the past several congressional sessions, nonresidents would have to work at least 30 days in a state before becoming subject to out-of-state taxes, Rehfield said. The legislation, which would exclude professional athletes, professional entertainers and some public figures from the time frame, has encountered strong state opposition, he said.
Another proposal, the Multistate Tax Commission’s mobile workforce withholding and individual income tax model statute, would establish a 20-day threshold, Rehfield said.
Some states with income thresholds instead of day-counting thresholds are critical of the model statute. Under it, high-earner nonresidents working fewer than 20 days would be exempt from filing returns, while lower-paid nonresidents working more than 20 days in a state would have to file, Rehfield said.
July 16, 2013
In the course of running my own businesses for more than two decades, I’ve done my fair share of hiring. And I can tell you with absolute certainty that one of the most costly, time-consuming blunders a business can make is picking the wrong person for the job.
How costly? The U.S. Department of Labor currently estimates that the average cost of a bad hiring decision can equal 30% of the individual’s first-year potential earnings. That means a single bad hire with an annual income of $50,000 can equal a potential $15,000 loss for the employer.
This loss is compounded by the impact of a bad hire on productivity and team morale. One subpar employee can throw an entire department into disarray. Team members end up investing their own time into training someone who has no future with the company.
Tony Hsieh, CEO of Zappos, feels my pain. He once estimated that his own bad hires have cost the company well over $100 million. (That’s part of the reason he now offers new hires a $2000 bonus to quit after their first week on the job.)
I don’t give my new employees thousands of dollars to leave (yet!), but here are a few techniques I’ve used in my hiring process that I’ve found to be effective in preventing hiring mishaps:
1. Over-prepare: A job candidate isn’t the only one who should cram before the interview.
When you’re hiring employees for specific, technical roles, it can be hard to prepare the right interview questions. I always find it useful to first find an expert in the candidate’s specific field and get some advice on the best questions to ask. This is worth the extra effort, even if it means consulting someone outside your company.
So if you’re hiring for an IT role, find and talk to an IT person about what makes a good team member. Then, add three specific IT-related questions to your interview. Don’t be afraid to loop back with your expert advisor to get his feedback on the responses.
2. The secretary test: Great collaborators don’t pull rank.
Recently, we had various people applying for a high-level sales role, and time and time again the candidates would bulldoze over my executive assistant. I checked in with her and was surprised to find out that many people who had been personable and courteous to me were downright rude to her.
The ability to work well with others is a skill that benefits any workplace. An obvious way to gauge this is to contact the candidate’s references. But, why not take it a step further and dig into a candidate’s social media profiles? Savvy HR departments are already looking through candidates’ Facebook and LinkedIn profiles. I recommend going as far as checking a candidate’s Twitter feed to gain insight.
A few years ago a promising candidate for a job at our company tweeted this from his personal Twitter account: “going to a phone interview with @hootsuite and I am drunk after a few hours in the #congress2012 beer tent.” We found it and needless to say, he was not hired.
3. The curveball: Hide an unexpected question in the fine print.
Over the years, I’ve found that effective employees are those who take the time to read the fine print. So one thing I’ve done in the past is to throw a small, unconventional request into a job application. This can be something as innocuous as, “Please list three websites you visit often.” Candidates who overlook this question or don’t provide a full answer aren’t worth interviewing.
Why? People tend to be the most alert and thoughtful during this initial stage of the job application process. If they can’t pay attention to details here, how will they perform once they’re hired?
When it comes to hiring, I think Steve Jobs once said it best (as he often did): "I noticed that the dynamic range between what an average person could accomplish and what the best person could accomplish was 50 or 100 to 1. Given that, you're well advised to go after the cream of the cream. ...A small team of A+ players can run circles around a giant team of B and C players."
How do you find your “cream of the cream”? What are your unique or tried-and-tested hiring strategies?
Tax Planning Ideas for Your Schedule C (Sole Proprietor) Business
Posted by Joe Turnes on Tue, Nov 12, 2013 @ 10:36 AM
A tax planning question we often hear is: "I have a Schedule C business I report directly on my individual Form 1040. As I approach the end of the year, what are some tax planning ideas to save income taxes for 2013?" Let's answer that question.
Tax planning can be complex due to the ever changing tax laws introduced each year. However, some fundamentals remain the same even as taxes, credits and deductions are modified. A few ideas for you:
1.If your business is on the cash basis, you can postpone income until 2014 and accelerate expenses into 2013 to lower your 2013 tax liability. Besides reducing your tax liability, you may also increase other credits and deductions.
2.If you need to purchase business equipment, it may be wise to do so in 2013 instead of waiting until next year. Certain depreciation tax breaks are set to expire at December 31, 2013. Therefore, you may want to buy fixed assets in 2013 vs. 2014, as you may not get as much benefit for the purchase next year:
3.Consider using a credit card to prepay expenses that can generate deductions for this year. The credit card balance can be paid in January 2014 to avoid any interest charges.
4.To help fund new healthcare legislation, there is a new 3.8% surtax on unearned income (interest, dividends, capital gains, rent, passive pass-through income) and an additional 0.9% Medicare tax that applies to individuals receiving wages in excess of $200,000 ($250,000 MFJ). Depending on your circumstances, you may want to find ways to increase/decrease your wages/unearned income for 2013 vs. 2014.
5.Depending on your situation, you should try “bunching” your itemized deductions into one year (i.e. pay winter property tax bill in January 2013 and December 2013).
6.For individuals, some tax breaks are set to expire at the end of the year and may or may not be extended. For example, the above the line deduction for qualified higher education expenses and tax-free distributions by those age 70 ½ or older from IRAs for charitable purposes. If either tax break applies to you, you will want to make sure it is done in 2013 vs. 2014.
As with all tax planning, the best way to save taxes is to have level income over the years and to avoid spikes in income or losses.