Tax News - October 2014 Edition

2015 Pension Plan Amounts 
The IRS published cost-of-living adjustments to various pension plans and related amounts for 2015:
(1) the benefit limit for defined benefit plans remains unchanged at $210,000;
(2) defined contribution plan limit goes from $52,000 to $53,000;
(3) compensation limit for determining benefits and contributions increases from $260,000 to $265,000;
(4) definition of a highly compensated employee increases from $115,000 to $120,000;
(5) elective deferral limit for employees who participate in 401(k), 403(b), and most 457 plans goes from $17,500 to $18,000; and
(6) limit on contributions to SIMPLE accounts also increases from $12,000 to $12,500.
News Release IR-2014-99.

Social Security Wage Base for 2015
The Social Security Administration (SSA) announced that the maximum earnings subject to the Social Security component of the FICA tax will increase to $118,500 in 2015 from $117,000 in 2014. This means, that for 2015, the maximum Social Security tax that employers and employees will each pay is $7,347 ($118,500 x 6.2%), and a self-employed person with at least $118,500 in net self-employment earnings will pay $14,694 for the Social Security part of the self-employment tax.
The Medicare component remains 1.45% of all earnings, and individuals with earned income of more than $200,000 ($250,000 for married couples filing jointly) will pay an additional 0.9% in Medicare taxes. Other 2015 cost-of-living adjustments announced by the SSA are available at http://op.bna.com/der.nsf/id/klan-9q5jfs/$File/colafacts2015.pdf .


Probable Tax Filing and Refund Delays
According to IRS Commissioner John Koskinen (resembles Elmer Fudd and you may have seen him spinnin', duckin' & dodgin' in recent congressional testimony), if 2014 tax laws aren't finalized by the end of November, the IRS may be forced to postpone the opening of the 2015 filing season and delay processing of tax refunds for millions of taxpayers. A delayed tax season would likely mean that tax filers with more complicated returns (those claiming depreciation, passive losses, and certain tax credits) will probably have to wait even longer.

Business Travel Per Diem Rates
The IRS released the 2014-2015 per diem rates for substantiating employees' business expenses under IRC Sec. 274(d) for lodging, meals, and incidental expenses incurred while traveling away from home. The Meal and Incidental Expense (M&IE) rates for the transportation industry remain unchanged at $59 for travel in the continental U.S. and $65 outside the continental U.S. The per diem for travel to high-cost localities increases by $8 to $259 ($65 for M&IE), while the rate for travel to other localities increases by $2 to $172 ($52 for M&IE). The incidental-expenses-only rate remains at $5 per day. The updated rates and list of high-cost locations apply to per diem allowances paid to employees after 9/30/14. Notice 2014-57, 2014-41 IRB .


Airline Ticket Received as Award Points Was Taxable Income
A taxpayer received "thank you" award points toward an airline ticket for setting up a bank account at Citibank, which he redeemed for a restricted coach class airline ticket. The bank issued a Form 1099-MISC reporting the $668 value of the airline ticket, which the taxpayer failed to include as income on his tax return. Bank records and a bank official's affidavit showed that the taxpayer received the award. Because the award was given in exchange for depositing money in a bank account, the Tax Court held that it should be treated like interest income. Since the taxpayer didn't show any evidence that the flight was worth less than $668, that value was the amount to be includible as income. Parimal H. Shankar , 143 TC No. 5 . (Tax Ct.).

Business Record Keeping Basics (4th of 4 Messages)

Here is our fourth and final message in a series designed to help you handle the basics of sound business record keeping.  Our previous messages addressed checking accounts, logs and receipts & records retention.

You may hate the ‘records keeping’ part of the tax system, but it’s critical to your tax health. It’s also important the health of your business. Good records help you monitor and improve your business. Do not depend on the IRS for mercy when it comes to your tax records. You will never find the word “mercy” in the same sentence with the IRS. It does not exist in the code or the regulations.  I have yet to meet a “merciful” IRS agent. Where there is no mercy, you have no choice but to play defense and keep your records correctly.

Here we will address Accounting Software, Payroll Preparation and then wrap things up for you.

Accounting Software 

We are huge proponents of using accounting software to get your record keeping automated and we are big fans of the QuickBooks product line.  Intuit’s QuickBooks accounting program has revolutionized bookkeeping for small business.  It’s easy to learn, it handles virtually every aspect of small business accounting and it’s inexpensive.

Keep in mind that having your records automated doesn’t mean you don’t have to follow the basics delineated in our previous messages.  You may still have to produce receipts to back up your deductions and QuickBooks can make that process more efficient. QuickBooks also helps you track your business as it continues to progress towards attaining your goals.

Payroll Preparation and Compliance

Because of the continuous changes in payroll reporting & compliance, we recommend that you utilize a reputable payroll processing firm like ADP.  The cost is minimal when compared to the penalties that can accrue from incorrect payroll submission and the time savings are measurable.  In addition, there is the peace of mind in knowing that your payroll calculations and tax filings are being handled correctly.  Finally, it’s also reassuring to know that you have the support of the professionals at ADP if there are ever any questions or tax notices.

Thoughts That Make Keeping Records More Pleasant

Think of your business records in the way you think of tracking your investment portfolio, golf handicap or bowling averages. The records tell you what you need to do to continue improving. The fact that the tax law requires the records is another incentive to keep them. But really, if no tax law existed, as a businessperson you would want records that show you where you have been and where you might go.

We hope this series has been helpful to you!  If you have any comments or feedback, please share them with us.  

2014 Tax Developments (sort of)

The US Senate is on track to hold a vote next week to restore nearly all of the key tax provisions that expired at the end of 2013 (details below).  Meanwhile, over at the US House of Representatives, the process is moving along but at a slower pace.

The House did approve legislation to permanently extend the Research & Development tax credits and will take up additional tax legislation on a bill-by-bill basis.  Accordingly, final reconciliation most likely won't occur until late in the year (read that as AFTER THE MID-TERM ELECTIONS).  You heard it here first, folks (OK, maybe not first but you did hear it here).

Here is a listing of the tax provisions that expired in 2013 and that we believe will be re-instated retroactively to January 1, 2014:

• The $500,000 cap on expensing business assets under Code Sec 179 (it was $500,000 for 2013 but dropped to $25,000 for 2014 with the 2013 expirations);
• The election for folks 70 1/2 and older to transfer up to $100,000 from their IRAs directly to Charity;
• The $2 million exclusion for debt forgiven on a primary residence; and
• The election to write off state sales taxes in lieu of state income taxes.

There are other provisions that are on the table and we'll keep you updated as news becomes available.  We do not believe that any of the generous "Bonus Depreciation" provisions for businesses will be re-instated.

Finally, for 2014 the estate and gift exemption amount is set at $5.34 million and it will rise annually with inflation.  The Obama Administration wants to raise the Estate & Gift tax rate by 5% (to about 45%) and cut the exemption amount to $3.5 million but the House Republicans have balked and we don't believe there is any reason to think that the Administration will get their way on this.

Enjoy your Spring! We'll be writing more in a few weeks.

How Long to Keep Records

Here is our third message in a series designed to help you handle the basics of sound business record keeping.  Our previous messages addressed checking accounts & logs and receipts.

You may hate the ‘records keeping’ part of the tax system, but it’s critical to your tax health. It’s also important the health of your business. Good records help you monitor and improve your business. Do not depend on the IRS for mercy when it comes to your tax records. You will never find the word “mercy” in the same sentence with the IRS. It does not exist in the code or the regulations.  I have yet to meet a “merciful” IRS agent. Where there is no mercy, you have no choice but to play defense and keep your records correctly.

Here we will address how long you should keep your records.

How Long to Keep Records

The statutes of limitations tell you the time period during which the IRS can audit your returns. If your returns are examined, you need tax records that prove your deductions. This means you need to keep your records for longer than you might think.  

Assets

Assets such as your car, desk, computer, and office building are relevant to your tax return during their depreciable class lives.  If you are depreciating the assets, the depreciation shows up in those returns. If you used Section 179 to expense the assets, then you have potential recapture during the depreciable class life. 

Example. You buy a $1,500 desk and depreciate it over the seven-year MACRS life (this takes eight years). In year eight, you still have to prove the depreciation. That means you need the original purchase record in year eight. You also need the purchase record in year eleven to meet the three-year statute of limitations on this year eight deduction.   If you used Section 179 expensing on this desk, your records requirement is identical to the example. You have recapture exposure during the eight years, and you need to hold onto your proof of purchase for three years beyond that, or 11 years in total.  

Make this easy. For any asset that has a life of more than one year, keep the purchase records in a permanent file. With a separate permanent file of asset purchases, you don’t have to think or worry about class lives or limitation periods. 

The five-drawer method

To use the five-drawer method, you need to keep your permanent files in another place (such as a different set of file drawers). Next, you must report your income and file and pay your taxes on time or with extensions, to limit your audit exposure to three years from the date you filed your return. If you fit this profile, the five-drawer system can simplify your records retention. It works like this:  

Drawer 1: Accumulation of current year tax return information

Drawer 2: Last year (tax return filed this year, say on April 15)
Drawer 3: Two years ago
Drawer 4: Three years ago
Drawer 5: Four years ago

At the beginning of each year, the contents of drawer 5 go to the dump and all drawers move down one notch.

Employment taxes

If you have employees, you must keep all employment tax records for at least four years after the date the tax becomes due or is paid, whichever is later. Again, simplify. If you have employees, use a six-drawer method. Toss the sixth drawer when your four-year statute expires.

Next time, we’ll talk about accounting software and payroll.

2nd Rule in a Series - Logs & Receipts - Audit-Proof Your Records

Here is our Second Message in a series designed to help you handle the basics of sound business record keeping.  Our prior message addressed Checking Accounts .

You may hate the ‘records keeping’ part of the tax system, but it’s critical to your tax health. It’s also important the health of your business. Good records help you monitor and improve your business.  Do not depend on the IRS for mercy when it comes to your tax records. You will never find the word “mercy” in the same sentence with the IRS. It does not exist in the code or the regulations.  I have yet to meet a “merciful” IRS agent. Where there is no mercy, you have no choice but to play defense and keep your records correctly.  

Here we will address logs and receipts.

Keep Logs

To deduct your vehicle expenses, you need proof of business use. This is true regardless of the form your business takes. 

Thus, if you operate as a corporation, you (the employee) must submit proof of your business use to the corporation.   We recommend that you keep your vehicle mileage in your appointment book so it reflects your business activities for each day. Further, the appointment-book recordings facilitate use of a sampling method, such as the three-month log of business miles to prove business use for the year.

If you own rental properties, you should track for at least three consecutive months the time spent on the rentals, to prove material participation and, if applicable, real estate professional status.   

If you claim a deduction for an office in the home, you should track time spent working in the home office. Your use of the home office must meet the “regular use” test. If you use your home office a little more than 10 hours a week on a consistent basis, you meet the requirements for regular use as set out in the Green Case.

Record Required Elements of Travel and Entertainment    

Regardless of business form, you need to prove, for each day of travel, where you were and why you were there.   For entertainment, you need to record: 

• who,
• what,  
• when,  
• where,  
• why, and  
• how much.  

You can meet all these requirements by adding a short note to the receipt with the name of the person you entertained, and why you entertained this person. 

The “why” should relate to the immediate or future business benefit you hope to achieve with the entertainment. Try to keep the “why” explanation to seven words or less.   We made up this seven-word guideline and have used it successfully for the past 15 years because it makes for a clear explanation of the entertainment activity. Further, you have additional corroborative evidence in your files and e-mails. 

The receipt contains the remaining documentation for:

• what (e.g., food, drinks, golf);
• when (date);
• where (name and address of the place); and
• how much.  

If you operate as a corporation, you need to turn the documentation in to the corporation, and the corporation needs to either pay for the entertainment and travel expenses directly (say, with a corporate credit card) or reimburse you for the amounts spent. Make certain the corporation pays. You do not want to claim deductions for these expenses as employee business expenses.

Remember this:

For all expenses, from the purchase of your desk to pens for your office, keep these two points in mind:    

• You need to prove what you bought; and
• You need to prove that you paid for what you bought.  

Step 1: What you bought. Generally, the receipt or invoice will prove both the description of what you bought and how this purchase relates to your business. With entertainment at a restaurant, the receipt that proves what you bought is the receipt that shows the details of what you had to eat and drink. 

Step 2: What you paid. Tax law considers the charge to a credit card as payment, regardless of when the card gets paid. Thus, you can prove payment by credit card with either the credit card receipt that shows the total charge or the credit card statement.   The canceled check proves payment by check. The bank statement proves payment by electronic transfer. 

As a general rule, don’t pay in cash. These are the first questions an auditor will ask about a cash payment: 

• Where did the cash come from?  
• How good is the trail of cash to the payment?  
• Was an ATM withdrawal evident before the cash payment?  
• Did the taxpayer really spend the cash or just make up this deduction?

You face no such questions for payments by check or credit card. 

Petty Cash   

For most small businesses, a petty cash system is a disaster and we discourage our clients from using one. If you have such as system and it works well for you, be pleased to know that you are the exception rather than the rule. We strongly recommend using the reimbursement method.

Under the reimbursement method, if you or an employee spends money on behalf of the business, you simply have the business write a check to reimburse the expense based on documentary evidence such as a receipt for the expenditure, and an expense report for the auto mileage, if applicable.   The reimbursement method is direct, clear, and less subject to mistakes than the petty cash system. 

Next time, we’ll discuss How Long to Keep Records.

First Rule in Series - Checking Accounts - Audit-Proof your Records

You may hate the ‘records keeping’ part of the tax system, but it’s critical to your tax health. It’s also important the health of your business. Good records help you monitor and improve your business (says your humble CPA).

Do not depend on the IRS for mercy when it comes to your tax records. You will never find the word “mercy” in the same sentence with the IRS. It does not exist in the code or the regulations.  I have yet to meet a “merciful” IRS agent. Where there is no mercy, you have no choice but to play defense and keep your records correctly. 

Getting your tax records right is not difficult when you know what to do. We’ve prepared a series of messages to give you the record-keeping basics you need and helps you spend less time keeping records.  Here is the first rule in the series:

Checking Accounts

The 1st rule to keeping good records: Do not commingle activities in your checking accounts.  Most taxpayers should maintain separate checking accounts for:

• Family account or accounts,
• each separately reported Schedule C business,
• each corporation, and 
• each rental property (if there are substantially different types of rentals, then additional separate accounts may be necessary here).

Example: You operate your business as a proprietor and cover your spouse with a Section 105 medical reimbursement plan. If you have only one checking account for the family and the proprietorship, writing the reimbursement check to yourself likely would destroy the Section 105 plan.

That’s how Darwin Albers lost his Section 105 plan deductions.  The Albers case is just one example of how using a joint account for both business and personal reasons causes a loss of deductions.

Rule #1: Maintain a separate checking account for each business activity. 

Deposit Receipts in the Account for the Business That Earns the Money   

You may not earn income in your personal name and then assign that to your corporation. Income is taxed to the person or entity that earns it. You don’t want business receipts in your personal accounts or personal receipts in your business accounts. The separate checking gives you the ability to avoid commingling which is something to avoid always.
When the IRS gets confused looking at your accounts, it simply taxes all the income. True, you might be able to undo that assertion and prove that all the deposits are not taxable, but that takes time and effort. By simply getting the deposits right to begin with, you save yourself from confusing the IRS—which saves the IRS, in turn, from frustrating you. 

Record Deductible Expenses Daily   

Yea, we heard your groan when you saw the word “daily” above. Don't worry, the daily requirement, which actually existed for auto expenses in 1984, was repealed and replaced with an adequate records requirement. So the IRS now gives you a week to meet the “timely” and “adequate” records requirements for vehicles, travel, entertainment, and listed property.

We doubt that you will, but you probably should thank the IRS for the one-week rule. Why? Because recording your business expenses within one week makes good business sense. After all, if you wait too long, you won’ t remember the nature or reason for the expenses. 

Next time, we’ll discuss Logs and Receipts.

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A "close to retirement" IRA question

Q:      I retired from my full time job in 2013 but I plan to keep working part-time for at least a three or four more years.  How much can I deduct in an IRA contribution?

A:       The answer is: it depends!  Generally, for 2013 and 2014 you can contribute the lesser of your annual compensation or $5,500 to a traditional Individual Retirement Account (“IRA”) or to a Roth IRA.  For folks over the age of 50, that amount increases to $6,500 because of the special “catch up” provisions for IRA contributions.  http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics-IRA-Contribution-Limits

In addition, deductible amounts are reduced or eliminated if you (or your spouse if you’re married) actively participate in an employer sponsored retirement plan (like a 401(k), 403(b), SEP or Simple Plan).  In addition to this “active participation” rule, there are limitations to the deductibility of your traditional IRA contributions if your adjusted gross income (AGI) exceeds certain amounts. For more information about these limitations, visit this page on the IRS website:  http://www.irs.gov/Retirement-Plans/IRA-Deduction-Limits

You can’t make deductible contributions to a traditional IRA in the year you reach the age of 70½ and for every year after that.  You can still make contributions to a Roth IRA and you can still make rollover contributions to your traditional IRA or Roth IRA regardless of your age (*).

This is a great idea on your part to beef up your retirement nest egg.  I would suggest that you consider making your annual retirement contribution to a Roth IRA instead of contributing to a traditional IRA.

Like the traditional IRA, income generated inside the Roth IRA is not taxed as it’s earned. The real benefit to the Roth is that, when you are older than 59½ years of age, funds withdrawn from the Roth IRA are never subject to tax. There are significant financial, tax and estate planning benefits to utilizing a Roth IRA. Before making your final decision, consider the Roth IRA for the contributions you have inquired about.

* * * * * * * * * * * * * * * * * * * *

* - There can be significant tax consequences to either rolling over your employer retirement account or converting your traditional IRA to the Roth IRA so make sure you know all the facts & consequences before you make a Roth conversion.

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