We usually discuss tax or accounting topics
with this blog, so this one is a slight departure. It’s to be
expected that an accounting firm would be a heavy user of technology, so
I’d like to discuss one piece of software that we’ve become big fans of
If you’re not familiar with it
already, Evernote is a web-based note taking application.
That simple explanation doesn’t quite do it justice, though. The
feature that makes it so useful and flexible is its ability to synchronize
itself across multiple platforms and devices. I have it installed on
my office PC, my home PC, my laptop and my Android phone. All these
devices have access to the same data. What gets entered on one is
visible on all the others automatically. Notes can be tagged and
stored in different notebooks. Notes can be text, pictures, or audio
files. It’s actually a bit difficult to explain what Evernote
is. It’s much easier to discuss how it can be used.
There are a dozens of use
cases discussed on Evernote’s website, so I won’t try to duplicate all
that here. Rather, I’ll use my own use of it as an illustration.
I use Evernote for my work by clipping content
from the internet that I need to read later. I keep a todo list for
work related items. While I’m out of the office, Evernote’s audio
note taking function allows me to record a note for action when I return
to my desk. With Evernote, you get a dedicated email address that
will create a note when you send an email to it. This allows me to
capture notes from emails quickly. I use Evernote to write these
blog posts as well. I use a tagging system that allows a post to
move from an “idea” to “work in process” and finally to a “published
post”. I can access my unfinished posts anywhere and anytime that I
think of something to write about.
In terms of personal use, the note that I use
a few times weekly is my grocery list. When I run out of something,
I quickly enter that item on my grocery list note. In the grocery
store, I pull out the phone and have access to the list. I have
another to hardware stores and the warehouse club as well. I keep my
personal todo list in Evernote by tagging items with “todo”. I run a
search for that tag and can find a list of all those things that I can’t
quite get around to doing. I store user manuals in Evernote.
When I buy something new, I go to the manufacturer’s website and download
the manual in a pdf file and send it to Evernote. I can then discard
the paper copy that came with it. On a recent trip, I saved my hotel
reservations in Evernote.
I find that I use each device
differently. My phone is primarily used to capture data quickly and
for simply viewing data. The PC application is better at
organization and for clipping content off web pages. I might take a
picture of something and put the phone back in my pocket. Later,
when I get to a computer, I might enter the details of the item. For
example, I recently found a copy of QuickBooks at our warehouse club at a
very low price. I quickly took a picture of it. Later, at my
PC, I tagged it and posted it on our firm’s intranet to let everyone else
in the office know about it so they could tell clients where to find
Evernote is free to install and use.
They offer a premium service with higher data limits and the ability
to save any file. I only recently upgraded to premium. The
free account is good enough for the majority of users, as I used it for
months before upgrading.
By now you’ve no doubt heard that President
Obama signed the Tax Relief, Unemployment Insurance Reauthorization and
Job Creation Act of 2010 — or the Bush tax cuts extension in
December. Sorting through the political rhetoric is difficult at
best. So, now that it’s law, let’s see what’s in it for the typical
taxpayer or small business. Of course, this is not meant to be an
exhaustive analysis — just a plain English summary of the highlights that
will interest most of our clients.
Before we dive into the details, let’s
remember that the two tax cut packages signed by President Bush in 2001
and 2003 had many different sunset dates. December 31, 2010 was the
most common. Many of the provisions of these two acts were set to
expire at the end of last year. Therefore, if nothing had been done,
most taxpayers would have seen a large increase in their tax liabilities
for 2011 and beyond.
Unless otherwise noted, the following items
are extended through 2012.
- 10% tax bracket — The 10% tax bracket created by the 2001 tax cut is
- Rate cuts — The reduction in tax rates in the tax brackets above 15%
is kept in place. The other tax brackets were cut (and now
extended) as follows: 28% to 25%, 31% to 28%, 36% to 33% and 39.6% to
- 15% tax on capital gains and qualified dividends.
Additionally, the 0% tax on capital gains for those in the 10% and 15%
tax brackets is extended.
- Social Security payroll tax cut — for 2011 only, the Social Security
(FICA) tax withheld from employees’ paychecks is reduced by 2% to
4.2%. The employer’s portion is unchanged at 6.2%.
- AMT — The Alternative Minimum Tax patch preserved the nearly
doubling of the exclusion from AMT for 2010 and 2011. The bottom
line here is that a tax that was never intended to be paid by the middle
class is pushed out temporarily. Until Congress decides to act in
a permanent way to address this issue, we will see these extensions
every few years.
- Increased standard deduction for married taxpayers filing jointly.
- The $1,000 per child tax credit is preserved instead of being
reduced to $500.
- Earned Income Tax Credit is largely left intact.
Unfortunately, many small business owners and the recently unemployed
are qualifying for this credit as a result of the recession.
- The maximum credit for child and dependent care expenses is kept at
- The ability to deduct sales tax instead of state income tax is
extended. This primarily helps those living in states without an
- Certain education tax benefits such as the ability to claim an
“above the line” deduction for tuition and other higher education
expenses is preserved.
- The $250 deduction for teacher’s classroom supplies is extended.
- Depreciation — Both the “bonus” depreciation and the expansion of
the Section 179 election are either kept intact or expanded.
Equipment placed in service after September 8, 2010 through
December 31, 2011 is eligible for 100% bonus depreciation. For
property placed in service in 2012, a 50% limit applies. The
already high limits on Section 179 elections are left in force.
Small businesses rarely exceeded these thresholds anyway. This is
a complex topic with lots of limits in play, but generally, you can
either expense or rapidly depreciate almost any business asset placed in
service through 2012.
There are other provisions as well.
Since this is running long already, we’ll omit them. Just know that
there are changes to gift and estate taxes and extensions of unemployment
benefits, energy and other business credits.
In short, this act largely maintained our
present tax system for a bit longer.
Think twice before you let your S-corporation
or partnership tax return due date or extension of time to file lapse
because the consequences have steepened. For tax years beginning in 2010,
the late filing penalty amount for an S-Corporation or Partnership return
has risen from $89 to $195. This penalty is calculated based on the total
number of shareholders/partners during any part of the tax year multiplied
by each month-or partial month-the return is late (up to 12 months). An
example is provided below:
An S-corporation with a calendar-year end (Jan
1-Dec 31) is required to file the 1120S annual tax return on the 15th day
of the third month following the close of the tax year—or March 15th of
the following year. If the corporation has 3 shareholders, no extension of
time to file was submitted and the return was filed on July 16th, the late
filing penalty is calculated as follows:
Number of shareholders during the year = 3
Months late = 5 (March 16th – July
*if submitted on July 15th it’s only 4 months late
$195 penalty x (3 shareholders) x (5 months
late) = $2,835
*or $567 per month
All penalties imposed by taxing agencies are
non-deductible for income tax purposes, so you’re hit twice by the same
penalty. Not only are you required to remit an unnecessary penalty, but
you’re also denied the deduction of the penalty on that year’s tax
It’s important that documentation is gathered
to support the date you submit your return, especially if you’re filing
close to a deadline or after a deadline has passed. The taxing agencies
may assess a late filing penalty from the date the return was received as
opposed to the date it was mailed, which could be up to a 2 week
We would recommend sending your return by
registered or certified mail, which documents the official post-mark date
and address where items were mailed. This certification will serve as
sufficient evidence needed to abate a late filing penalty that is
No penalty will be imposed if the corporation
shows that the late filing was due to “reasonable cause”, but what
constitutes reasonable cause? This term can be interpreted in many
different ways by taxpayers and by the IRS and deserves a blog of its own.
It is up to the IRS to determine if your cause is reasonable, so it’s in
your best interest to timely file all tax returns.
The IRS has announced that proposed
regulations will expand the use of electronic payment systems for payroll
and other tax payments, eliminating the use of paper coupons in 2011.
Up to now, businesses could submit tax
payments by using a coupon (Form 8109-Federal Tax Deposit Coupon) at their
bank along with a check for the payroll tax amount. Going forward,
businesses will be required to make these payments electronically using
the EFTPS (Electronic Federal Tax Payment System) or a payroll processing
provider, such as our firm. This payment can be made by telephone or
You will need to register in order to obtain a
PIN number to begin this process. Our office has the enrollment form
available or you may enroll on line at EFTPS.gov. We are happy to
assist you with this application.
We are available to show you how the
information is entered into the EFTPS system, or if you prefer, we can
make the payment for you. Our office will make this payment for you
as part of our payroll service–at no additional cost.
The midst of the Great Recession might seem
like a strange time to write about second homes; however, when you
consider that the real estate market is severely depressed, I suspect that
many taxpayers who have the means to purchase a second home will probably
find that now might just the best time to buy that we will see for a
generation. Perhaps you already have a second home. Let’s lay
aside predictions for the real estate market and the larger economy and
address the tax impact of owning a second home.
First, let’s define a second home and discuss
what it is not for a bit. A second home, by definition is a personal
use asset. Just as your residence is a personal asset, so is a
second home. It is therefore, not investment property. Of
course, almost everyone purchasing a second home would hope to see an
eventual return on their investment in it. For tax purposes,
however, there is a difference. Investment property is acquired
solely for its ability to return a profit. I’ll expand on renting
your second home later, but for now, let’s also say that a second home is
not a rental property.
We are all familiar with the fact that
mortgage interest and property taxes on our primary residence are
deductible as an itemized deduction. The same is generally true for
second residences. The property taxes are always deductible for
second homes. The interest is probably deductible as well, although
there are some limitations on it. The interest paid for the purchase
of the property is deductible for both regular tax and Alternative Minimum
Tax — AMT. This is true even if the loan is structured as a line of
credit as opposed to a traditional mortgage. Line of credit, or
equity line, interest for money not used to purchase or refinance the
property is deductible for regular tax but not for AMT. To state it
more simply, if you took cash from the loan or used the money for anything
other than the purchase or refinance of the property, the interest it not
deductible for AMT. (AMT is a much larger topic, so we’ll save that
for another post.) Of course, if you borrowed more than the
property’s value, that interest is not deductible, but that’s largely
irrelevant as those mortgages are a thing of the past.
Let’s assume that, like most people, you
bought your second home hoping to make a profit on it after holding it for
a while and enjoying the use of the property. As a personal use
asset, the gain on the sale is taxable, but a loss would not be
deductible. The gain would be either long term or short term based
on how long you held the property. Currently, we have preferential
tax rates for long term capital gains, but that may change in the
future. If you are looking to sell a second home now that has
declined in value, keep in mind that the loss will not be deductible. This
is the same law that prohibits you from deducting the depreciation on your
car, by the way.
Now, let’s wade into the topic of renting your
second home. Let me start by saying that the rules governing renting
a second home are very complex. You should consult your tax
professional with your exact situation. We can assist you with
determining the current classification of your property and advising you
on how to use the property to take maximum advantage of it from a tax
Imagine a sliding scale. On one end of
the scale is a traditional second home with no rental use at all. On
the other end of the scale is a pure rental property with no personal
use. The complexities come with the middle ground. As we
increase the rental of the property, it is treated more like a rental and
less like a second home. With this image in mind, let’s start with
Renting your property for 14 or fewer
This is the best possible outcome for tax
purposes. If the property is only rented for 14 or fewer days out of
the year, you can ignore the rental portion. This means that you
cannot deduct any expenses related to renting the property. It also
means that you need not claim the rental income. If you can remember
the summer of 1996, this is why so many people here in Georgia tried to
rent their homes for two weeks during the Olympics.
Renting your property for more than 14
Under this scenario, we have a property that is
basically a hybrid of a second home and a rental property. All
rental income is claimed. Expenses are prorated based on the number
of days the property was rented out of the year. I’m simplifying it
quite a bit, but if you rent the property for nine months, you claim 100%
of the rental income and 75% of the expenses. There is an alternate
method of allocating expenses known as the Bolton or Tax Court Method
which will probably yield a higher deduction. The remaining interest
and taxes are still deductible for the personal use portion as itemized
deductions as discussed above, but other deductions such as depreciation
and utilities are disallowed.
Personal use is less than 14 days or
10% of the rental days
The personal use of the property is
ignored. In this case, you have a rental property and all expenses
for the property may be deducted. For this test, days spent
maintaining the property do not count toward personal use.
You can understand that the level of personal
and rental use is a point that might be hard to prove in an audit.
For this reason, we recommend that you keep a log of your activities with
respect to a mixed use property. This log should record the days
that the property was rented, used for personal use. Also, for work
days, document the work that was done on those days. Proving that
you spent the entire month of February at your slope-side condo in Vail
hanging wallpaper will be next to impossible without solid evidence or
some allowance for the days that you did not work on the property.
This blog post is not intended to address
every possible situation, but just to simplify a fairly complex
topic. We would be glad to meet with you to assist with your
situation and help plan your use of the property accordingly. If you
find this information useful, click the orange subscribe button in the
address bar to have these posts delivered to your RSS reader. For
more on RSS readers, see my previous post on the topic.
One of the first questions
that we ask someone who just started a business is what type of entity
they have selected. “I’m an LLC.” is probably the most common
response. Surprisingly, this tells us next to nothing.
First, let’s define an LLC, or limited
liability company. LLC’s are created by operation of state
law. They originated out of the oil and natural gas industry in the
1980’s. Generally, they give owners the limited liability of limited
partnerships, while allowing them to participate in management as in a
corporation. You could think of them as a hybrid of a corporation
and a partnership. They vary a bit from state to state, so this
discussion is based on Georgia’s LLC statute.
LLC’s have unique terminology that separates
them from corporations. The owners of an LLC are called members, as
opposed to shareholders for corporations and partners for
partnerships. Members who participate in the operation of the LLC
are known as member-managers, differentiating them from officers of a
corporation and general partners of partnerships. LLC’s are formed
by an operating agreement in the same way that corporations have a charter
and partnerships have a partnership agreement.
As they are creations of the states, the IRS
faced a challenge in classifying these entities as either partnerships,
corporations, trusts or something else. The solution has become
known as the “check-the-box regulations”. In summary, these
regulations define a default classification then list classifications that
the LLC can elect.
First, let’s look at the single member
LLC. By default, a single member LLC is a disregarded entity.
That means that the entity that owns it reports it on its return as if
there was no LLC. For an individual operating a business, that means
they are self-employed and file Schedule C. If the LLC holds rental
property, that requires Schedule E. The member might be a
corporation or a partnership — even another LLC. In that case, the
results of the single member LLC’s operations are rolled up into the rest
of the entity’s activity and reported as if the LLC did not exist.
In this situation, the LLC exists at state law, but not for federal income
A single member LLC can elect to be taxed as a
corporation. Further, it can elect to be taxed as an S
corporation. Actually, this can be done now with a single election,
taking the LLC directly from a disregarded entity to an
S-corporation. A single member LLC cannot be a partnership for tax
If an LLC has more than one member, it is by
default a partnership. It can elect to be taxed as a corporation –
either an S or a C. It cannot be a disregarded entity. There
is one exception, however. An LLC owned by a husband and wife only
may be a disregarded by reporting two Schedule C’s or E’s. In my
opinion, this isn’t of much use because if you have to split the activity,
you might as well report it as a partnership.
You can see that all these options make an LLC
very flexible. This explains at least some of the popularity of
LLC’s. In our experience, about two thirds of the new entities that
we establish in our practice are formed as LLC’s.
These elections are generally made once and
are binding for the life of the entity. Changes are permitted in a
narrow set of circumstances, but that is beyond the scope of a blog
post. It is important to note that once an election has been made,
it subjects the LLC to all aspects of the tax code related to that type of
entity. This seems obvious, but it’s worth mentioning. Also,
the states – including Georgia — generally accept the federal election as
binding. So, if you have elected to be taxed as a C corporation, you
would file that federal and state form.
Now, the next time someone asks you how your
business is organized, you can tell them that you are an LLC electing to
be taxed as an S-corporation.
What is estate tax
planning? Estate tax planning in simple terms refers to
developing a strategy to transfer assets to your heirs with as little lost
to the estate tax as possible. It should be viewed as a part of
general estate planning, which would include creating a will and other
What is the estate
tax? It is sometimes called the death or inheritance
tax. The estate tax is a tax on the assets of a deceased person – a
decedent. The total value of a decedent’s assets over a set
exclusion amount is taxed at a very high rate – currently as high as
45%. The exclusion was $3.5 million for 2009. Where it will be
in the future is completely unknown. For all practical purposes, you
could think of this tax as being paid by your heirs as any tax owed will
directly reduce the amount that you can leave to them. The estate
tax is not the estate income tax, which is – obviously – a tax on the
incomes of estates.
Isn’t this something that only
wealthy people need to be concerned with? Maybe. For
decedents passing in 2010, there is no estate tax. If Congress does
not act, starting January 1, 2011, it comes back with an exclusion amount
of $1 million and a top rate of 55%. At this level, many decedents
that one would not consider wealthy could be subject to estate tax.
No matter which expert’s forecast you subscribe to, it’s obvious that more
estates will owe tax in 2011 than in 2009.
The worst case scenario is one where the
estate owes a large amount of tax and it is primarily made up of illiquid
assets. In other words, there is no cash to pay the tax. In
some cases, the executor may have already distributed the cash and other
liquid assets to the heirs before learning that estate tax is due.
Under this situation, the only option would be to sell assets under time
pressure and probably at a discount to entice a quick sale to avoid the
heirs having to pay the tax themselves
Is there any reason other than
taxes to do estate planning? Absolutely. Your will
should provide for care for your dependents, and disposition of your
assets. This post is only meant to address the estate tax. You
should consult your attorney for the preparation of a will and other
What should I do? First, you should
consider carefully whether you might have an estate tax issue to concerned
with in the first place. The first step would be to simply add up
the fair value of all your assets. If it is far less than the
exclusion amount, then you don’t have to be concerned with the tax.
However, keep in mind that the exemption amount could change during your
lifetime and that your assets could appreciate as well. This is a
case where close does count.
Secondly, if you determine that your estate
could potentially be subject to estate tax, there are many things that you
can do to reduce its effect or eliminate it altogether. Some are
simple, and some are exceedingly complex. Unless your estate is very
large, simple solutions can most likely suffice. Even a small amount
of planning can go a long way. Just knowing ahead of time that your
estate may owe tax can save your heirs and your estate’s executor from a
costly surprise after your death.
Probably the simplest form of estate planning
is to gift away one’s assets prior to death. Currently, you can gift
as much as $13,000 per year to each recipient without reporting it.
Your spouse can also make the same gifts. Thus, you could give away
as much as $26,000 annually to each recipient. If you have enough
time and liquid assets, this might solve your estate tax problem.
But, what if the majority of your estate is one large piece of real
estate? You cannot easily gift away real estate in $13,000 or
$26,000 pieces. Further, the basis of the gifted property is your
basis and your heirs will not get the “stepped up” basis of fair market
value when they inherit it. (This is the amount to which the sales
price is compared for determining gain or loss when they eventually sell
Bear in mind, however, that the annual gifting
limits are only to avoid reporting the gifts. A gift tax return
might be required, but no tax is due until your cumulative lifetime gifts
exceed $1 million.
Perhaps one of your major assets is your
business. What if you are unsure what the value of your assets
is? Are you interested in funding someone’s education? Do you
want to make a charitable gift from your estate? There are many
factors to be considered.
Estate planning is not something for which
there is a one-size-fits-all solution. Each situation is different
and needs an individualized strategy. There are many
strategies available to avoid subjecting your heirs to the estate
tax. If we can help you with your estate tax planning needs, please
let us know.