What to do When a Loved One is Facing Mental Decline
Dementia, Alzheimer’s disease, and other cognitive decline diagnoses are among the health issues that people fear the most. Cognitive decline is devastating for the patient as well as for their loved ones, who not only bear witness to the deterioration but who are often tasked with ensuring that all financial matters have been addressed in keeping with the individual’s wishes.
Even with a definitive diagnosis, raising the subject can be cause for discomfort, but the earlier you do so the more effective these conversations can be, and the more certain you can be that you’re doing the right thing. Here are our tips for what to do when a loved one is declining mentally.
Don’t delay. It is so easy to put off difficult conversations, but when it comes to financial planning in the face of a dementia diagnosis, the sooner you do it, the better. In most cases, there is enough time between diagnosis and significant deterioration for you to discuss your loved one’s wishes and put them into place without fear that their abilities are compromised. Now is the time to ask what type of care they want, to take them to different facilities and choose where they would like to be, to ask how they want their assets allocated, and more. Just keep in mind that time is not your friend. Act early, and if you meet resistance, keep pushing. Once everything is in place, everybody can take a deep breath and relax a bit.
Don’t ambush the individual. People who are facing cognitive decline are already vulnerable, so you don’t want the conversation to be intimidating. Give careful consideration to who will participate, and where and how you will broach the subject. Have a specific goal in mind so that the conversation can be controlled. This means that if you hope to have papers signed or brochures reviewed, you should bring them with you. Be mindful of your loved one’s condition and how different times of day and setting impact their cognition. You want to choose a time when they are generally attentive, strong, and engaged.
Familiarize yourself with the proper paperwork. Addressing the needs of a person in cognitive decline requires more than agreement. There are legal documents that codify their wishes about their finances and medical directives, and if these are signed while the person is still in control of their mental powers, these documents will be extremely helpful. The most important documents to have in place are a durable power of attorney to indicate who is in charge of financial decisions, a will to indicate both the executor of the estate and its beneficiaries, and a living trust to designate the person who will manage all assets when they are no longer able. An advanced directive for medical decisions is also important.
Get control of the paperwork. We’re all familiar with our own daily transactions and documents – we receive and pay invoices, balance our checkbooks, and make sure that all of our financial obligations are attended to. The same is true for your loved one, but they will not be able to continue much longer. Now is the time to sit down with them and make sure that you know exactly what these duties are and make sure you have all of their obligations and tasks organized so that you can assume responsibility when the time comes.
Find professional help. Taking care of your loved one’s economic well being is overwhelming, especially when you’re also taking care of your own needs. Do not be afraid to turn to financial planners, tax planners, social workers and others who have the experience and resources to help you manage your loved one’s finances, medical needs, expenses, and other tasks. Their expertise will prove to be invaluable as you try to find the right way to address each legal, medical, and financial issue that arises, including government benefits and tax issues.
The needs of the elderly are unique, and an elder law attorney can be one of your most valuable resources. The National Academy of Elder Law Attorneys provides an online directory to help you find a professional in your local area, and the website LawHelp.org is specifically dedicated to supporting those for whom cost is an issue. You can also find help on financial planning from the Alzheimer’s Association website, or by contacting us directly and asking for help with putting a personalized tax plan in place.
Tax Information Reporting Requirement for Cryptocurrency Added by Infrastructure Bill
Over the last 3 years, the Internal Revenue Service has been engaged in a virtual currency compliance campaign to address tax noncompliance related to cryptocurrency use. The IRS’ efforts have included outreach to taxpayers through education, audits of taxpayers’ returns, and even criminal investigations.
Soon the IRS will have another arrow in its quiver. Thanks to a requirement included by Congress in the Infrastructure Investment and Jobs Act (IIJA) of 2021, signed into law November 15, 2021, cryptocurrency exchanges will be subject to information reporting requirements similar to those that stockbrokers have to follow when a taxpayer sells stock or other securities. These new rules generally will apply to digital asset transactions starting in 2023, so the first reporting forms related to cryptocurrency transactions will be issued to the IRS and crypto investors in January 2024.
Form W-9 – As crypto exchanges gear up for the new reporting requirement, and if they don’t have a record of their users’ taxpayer-identification numbers (usually a Social Security number), they will contact their users for the information, likely using IRS Form W-9, Request for Taxpayer Identification Number and Certification. If the taxpayer doesn’t complete and returns the W-9 to the requestor, the taxpayer may be subject to backup withholding, which means the exchange would have to withhold 24% of future transactions and submit the withheld tax to the IRS.
Form 1099-B – At this time it’s not known if the IRS will modify Form 1099-B, Proceeds from Broker and Barter Exchange Transactions, currently most commonly used by brokers to report stock sales, for reporting crypto transactions, or if a new form will be created.
As with the information on the 1099-B that brokers report, the IRS will then use the reported crypto transaction details – sales proceeds, acquisition and sale dates, tax basis for the sale, and character of the gain or loss – to match to the information reported on the taxpayer’s tax return. Those who don’t report, or don’t properly report, their cryptocurrency transactions will be liable for the tax, penalties, and interest. In some cases, taxpayers could be subject to criminal prosecution.
Crypto is Treated as Property – Although cryptocurrency may seem like money, according to the IRS it is treated as property. General tax principles applicable to property transactions apply to transactions using virtual currency. So, it is necessary to report the disposition of cryptocurrency when it is sold for cash, used to buy something, or traded for another cryptocurrency. But just transferring the currency from an online wallet to an exchange, or vice versa is not a disposition.
The character of the gain or loss from the transaction generally depends on whether the cryptocurrency is a capital asset in the hands of the taxpayer. Generally, a taxpayer realizes capital gain or loss on the sale or exchange of cryptocurrency that is held as a capital asset. On the other hand, a taxpayer generally realizes ordinary gain or loss on the sale or exchange of cryptocurrency that he or she does not hold as a capital asset. Inventory and other property held mainly for sale to customers in a trade or business are examples of property that is not a capital asset.
Digital Assets – The IIJA defines a digital asset as any digital representation of value that is recorded on a cryptographically secured distributed ledger or any similar technology. Furthermore, the IRS can modify this definition. As it stands, the definition will capture most cryptocurrencies as well as potentially include some non-fungible tokens (NFTs) that are using blockchain technology for one-of-a-kind assets like digital artwork.
Transfer Reporting - Based on the IIJA change, the definition of brokers who will need to furnish Forms 1099-B (or whatever new form the IRS might design) includes businesses, referred to as crypto exchanges, that are responsible for providing any transfer services for the transfer of digital assets on a taxpayer’s behalf. So, any platform on which a taxpayer can buy and sell cryptocurrency will be required to report digital asset transactions, both to the taxpayer and the IRS.
Of course, not every transfer transaction is a sale or exchange. An example would be transferring cryptocurrency from a wallet at Crypto Exchange #1 to the taxpayer’s wallet in Crypto Exchange #2. In this case, Crypto Exchange #1 will be required to provide relevant digital asset information to Crypto Exchange #2. Such a transaction is not a reportable sale or exchange, and similar to when a taxpayer switches stockbrokers, the prior exchange must provide the new exchange with the basis, and purchase dates, just as a stockbroker must when the brokerage firms are changed.
Cash Transaction Reporting for Businesses - Currently when a business receives $10,000 or more in cash in a transaction, the business is required to report the transaction on IRS Form 8300, including the ID of the person from whom the cash was received. Under the IIJA rules, businesses will be required to treat digital assets like cash for purposes of this reporting requirement. The $10,000 may occur in a single transaction or a series of related transactions. Transactions between a buyer, or agent of the buyer, and a seller that occurs within a 24-hour period are related transactions.
1040 Crypto Question – Starting with the 2020 tax return, the IRS asks a question on the return that requires a yes or no answer. The draft of the 2021 Form 1040 shows the following question will be posed: “At any time during 2021, did you receive, sell, exchange, or otherwise dispose of any financial interest in any virtual currency?” Once the IIJA crypto reporting requirement is effective, the IRS will know if the taxpayer’s response to the question is correct. Taxpayers should consider that when signing their Form 1040, they are attesting under penalties of perjury to filing a true, correct, and complete return. A response contrary to the 1099-B reporting information could lead to unwanted interaction with the IRS.
If you have questions about reporting cryptocurrency transactions, please don’t hesitate to contact your tax preparer.
How Can a Non-working Spouse Qualify to Fund an IRA?
One of the fallouts of the COVID-19 pandemic is that millions of people have dropped out of the workforce, particularly female workers with families. While they remain unemployed, these women will have lost the opportunity to build up their retirement nest egg through their employers’ retirement plans. However, those who are married have an option to accumulate retirement funds that will help make up for some of their lost retirement savings.
This frequently overlooked tax benefit is the spousal IRA. Generally, IRA contributions are only allowed for taxpayers who have compensation (the term “compensation” includes wages, tips, bonuses, professional fees, commissions, taxable alimony received, and net income from self-employment). Spousal IRAs are the exception to that rule and allow a nonworking or low-earning spouse to contribute to his or her own IRA, otherwise known as a spousal IRA, as long as his or her spouse has adequate compensation.
The maximum amount that a nonworking or low-earning spouse can contribute to either a traditional or Roth IRA (or a combination) is the same as the limit for a working spouse, which is $6,000 for 2021. If the non-working spouse is 50 years or older, that spouse can also make “catch-up” contributions (limited to $1,000), raising the overall contribution limit to $7,000. These limits apply provided that the couple together has compensation equal to or greater than their combined IRA contributions.
Example: Tony is employed, and his W-2 for 2021 is $100,000. His wife Rosa, age 45, didn’t work during the year after deciding to care for their children at home due to their difficulty finding childcare providers. Since her own compensation of zero is less than the contribution limit for the year, Rosa can base her contribution on their combined compensation of $100,000. Thus, Rosa can contribute up to $6,000 to an IRA for 2021. Even if Rosa had done some part-time work and earned $2,500, she could still make a $6,000 IRA contribution.
The contributions for both spouses can be made either to a traditional or Roth IRA or split between them as long as the combined contributions don’t exceed the annual contribution limit. Caution: The deductibility of the traditional IRA and the ability to make a Roth IRA contribution are generally based on the taxpayer’s income:
Traditional IRAs – There is no income limit restricting contributions to a traditional IRA. However, if the working spouse is an active participant in any other qualified retirement plan, a tax-deductible contribution can be made to the IRA of the nonparticipant spouse only if the couple’s adjusted gross income (AGI) doesn’t exceed $198,000 in 2021. If the couple’s income is $198,000 to $208,000, only a partial deduction is allowed. Once their AGI reaches $208,000, no amount is deductible.
Roth IRAs – Roth IRA contributions are never tax-deductible. Contributions to Roth IRAs are allowed in full if the couple’s AGI doesn’t exceed $198,000 in 2021. The contribution is ratably phased out for AGIs between $198,000 and $208,000. Thus, no contribution is allowed to a Roth IRA for 2021 once the AGI exceeds $208,000.
Example: Rosa from the previous example can designate her IRA contribution as either a deductible traditional IRA or a nondeductible Roth IRA because the couple’s AGI is under $198,000. Had the couple’s AGI been $203,000, Rosa’s allowable contribution to a deductible traditional or Roth IRA would have been limited to $3,000 because of the phaseout. The other $3,000 could have been contributed to a traditional IRA and designated as nondeductible.
Contributions to IRAs for 2021 can be made no later than April 15, 2022.
Please give your tax preparer or financial advisor a call if you would like to discuss IRAs or need assistance with your retirement planning.
The IRS May be Getting a Massive Budget Increase. Will It Impact the Audit Rate?
In September of 2021, the Congressional Budget Office announced a proposal to increase funding for the Internal Revenue Service by as much as $80 billion over the next ten years. The argument is that doing so would ultimately increase the revenue the organization is able to generate by as much as $200 billion over the next decade.
A significant portion of the new money — to the tune of about $60 billion — is aimed at empowering enforcement actions in particular. All told, that means by 2031, the IRS will double the number of people working for it and will have a 90% higher budget than they do right now.
This, of course, has led people to wonder — does that mean that more people than ever are about to get audited?
Obviously, the situation is a lot more nuanced than people on both sides of the aisle are giving it credit for. Therefore, understanding what this means and what implications it may have requires you to keep a few key things in mind.
The Current Situation With the IRS: What You Need To Know
While it's difficult to say exactly what the future might hold, some Republicans believe that the plan would indeed increase the rate at which people are audited. House Minority Leader Kevin McCarthy, for example, cited research saying that the funding would lead to an increase of 1.2 million additional audits each year compared to those that are taking place right now. More than that, he claimed that roughly 50% of them would target homes making under $75,000 per year.
Others are not quite as pessimistic about the situation. According to a report filed in September from the CBO, it's estimated that the new funding won't necessarily lead to a "major increase" in audits in the strictest sense of the term. It's just that the IRS has been understaffed and underfunded for so long that they haven't been able to operate at their "normal" level of activity.
Therefore, the increase in the budget — and the new employees that it will bring with it — will simply allow audit levels to rise to where they were roughly 10 years ago. It's an increase over recent memory, yes — but historically, that isn't necessarily the case.
Despite all this, the United States Treasury has stated several times that its goal is for audit rates to not increase for households that make under $400,000 per year. Again, it's difficult to know exactly what the future will bring with it — which is why this is one situation that many will be paying attention to moving forward.
If you'd like to find out more information about whether the IRS's new budget increase will impact the audit rate, or if you'd just like to discuss your own needs with someone in a bit more detail, please feel free to contact your own tax preparer today.
Advance Child Tax Credit and EIP Must Be Reconciled on Your 2021 Return
Early in 2021, Congress passed the American Rescue Plan which included a provision that increased the child tax credit amount and upped the age limit of eligible children. Normally, the credit was $2,000 per eligible child under age 17. For the 2021 tax year, the American Rescue Plan increased the credit to $3,000 for each child under age 18 and to $3,600 for children under age 6 at the end of the year.
Even though the benefit of a tax credit traditionally isn’t available until after the tax return for the year has been filed, for 2021 the new tax law included a provision to get the credit benefit into the hands of taxpayers as quickly as possible and charged the Secretary of the Treasury with establishing an advance payment plan. Under this mandate, those qualifying for the credit would receive monthly payments starting in July equal to 1⁄12 of the amount the IRS estimated the taxpayer would be entitled to by using the information on the 2020 return. If the 2020 return had not been filed or processed yet by the IRS, the 2019 information was to be used.
However, since the IRS only estimated the amount of the advance payments, some taxpayers may have received too much and others not enough. Thus, the payments received must be reconciled on the 2021 tax return with the amount that each taxpayer is actually entitled to. Those who received too much may be required to repay some portion of the advance credit while some may be entitled to an additional amount.
To provide taxpayers with the information needed to reconcile the payments, the IRS has begun sending out Letter 6419, an end-of-year statement that outlines the payments received as well as the number of qualifying children used by the IRS to determine the advance payments. For those who filed jointly on their prior-year return, each spouse will receive a Letter 6419 showing the advance amount received.
Do not discard the letter(s) from the IRS as they will be required to properly file 2021 returns.
Having received the advance credit payment, taxpayers will find their refunds will be substantially less than they may have expected, or they might even end up owing money on their tax return unless their AGI is low enough to qualify for the safe harbor repayment protection for lower-income taxpayers, in which case the excess advance repayment is eliminated or reduced.
Example: If a taxpayer received advance child tax credit payments for two children based on the 2020 return, and the taxpayer doesn’t claim both children as dependents in 2021, the taxpayer would need to repay the excess on their return, unless they are protected by the safe harbor provision.
It is also possible that one taxpayer could have received the advance child tax credit payments based on their 2020 return and not have to make repayment under the safe harbor rule, while another taxpayer, who can legitimately claim the child, can get the credit on their 2021 tax return. This is most likely to happen when the parents are divorced. So, there’s the potential for the child tax credit to be received by both parents.
Economic Impact Payment (EIP) Letter - The IRS will begin issuing Letter 6475, regarding the third Economic Impact Payment, to EIP recipients in late January. This letter will determine if EIP recipients are entitled to and should claim the Recovery Rebate Credit on their tax year 2021 tax returns filed in 2022.
Letter 6475 only applies to the third round of Economic Impact Payments that were issued starting in March 2021 and continued through December 2021. The third round of EIPs, including the “plus-up” payments, were advance payments of the 2021 Recovery Rebate Credit that would be claimed on a 2021 tax return. Plus-up payments were additional payments the IRS sent to people who received a third EIP based on a 2019 tax return or information received from the Social Security Administration, Railroad Retirement Board or Dept. of Veterans Affairs; or to people who may be eligible for a larger amount based on their 2020 tax return.
Most eligible people already received the payments. However, those who are missing stimulus payments should review the information to determine their eligibility and whether they need to claim a Recovery Rebate Credit for the tax year 2020 or 2021.
Like the advanced CTC letter, the EIP letter includes important information that can help tax preparers quickly and accurately reconcile the Recovery Rebate Credit when preparing 2021 tax returns.
Please contact your tax preparer if you have questions regarding the Child Tax Credit or the Recovery Rebate Credit and the advance payments of either that you received.
2022 Standard Mileage Rates Announced
As it does every year, the Internal Revenue Service recently announced the inflation-adjusted 2022 optional standard mileage rates used to calculate the deductible costs of operating an automobile for business, charitable, medical, or moving purposes.
Beginning on Jan. 1, 2022, the standard mileage rates for the use of a car (or a van, pickup, or panel truck) are:
58.5 cents per mile for business miles driven (including a 26-cent-per-mile allocation for depreciation). This is up from 56.0 cents in 2021;
18 cents per mile driven for medical care or by an active member of the armed forces for moving purposes. This is up from 16 cents in 2021; and
14 cents per mile driven in service of charitable organizations.
The business standard mileage rate is based on an annual study of the fixed and variable costs of operating an automobile. The rate for medical and moving purposes is based on the variable costs as determined by the same study. The rate for using an automobile while performing services for a charitable organization is statutorily set (it can only be changed by Congressional action) and has been 14 cents per mile for over 15 years.
Important Consideration – The 2022 rates are based on 2021 fuel costs. Given the potential for the continuation of substantially higher gas prices, it may be appropriate to consider switching to the actual expense method for 2022, or at least keeping track of the actual expenses, including fuel costs, repairs, maintenance, etc., so that the option is available for 2022.
Taxpayers always have the option of calculating the actual costs of using their vehicle for business rather than using the standard mileage rates. In addition to the possibility of higher fuel prices, the bonus depreciation and increased depreciation limitations for passenger autos that were part of the 2017 Tax Cuts and Jobs Act may make using the actual expense method worthwhile during the first year a vehicle is placed in business service.
However, the standard mileage rates cannot be used if you have used the actual method (using Sec. 179, bonus depreciation, and/or MACRS depreciation) in previous years. This rule is applied on a vehicle-by-vehicle basis. In addition, the business standard mileage rate cannot be used for any vehicle used for hire or for more than four vehicles simultaneously.
Employer Reimbursement – When employers reimburse employees for business-related car expenses using the standard mileage allowance method for each substantiated employment-connected business mile, the reimbursement is tax-free if the employee substantiates to the employer the time, place, mileage, and purpose of employment-connected business travel.
The Tax Cuts and Jobs Act eliminated employee business expenses as an itemized deduction, effective for 2018 through 2025. Therefore, employees may not take a deduction on their federal returns for those years for unreimbursed employment-related use of their autos, light trucks, or vans. However, those who are self-employed are eligible to claim expenses for their personal vehicles used in their businesses.
Faster Write-Offs for Heavy Sport Utility Vehicles (SUVs) – Many of today’s SUVs weigh more than 6,000 pounds and are therefore not subject to the limit rules on luxury auto depreciation; taxpayers with these vehicles can utilize both the Section 179 expense deduction (up to a maximum of $27,000) and the bonus depreciation (the Section 179 deduction must be applied before the bonus depreciation) to produce a sizable first-year tax deduction. However, the vehicle cannot exceed a gross unloaded vehicle weight of 14,000 pounds. Caution: Business autos are 5-year class life property. If the taxpayer subsequently disposes of the vehicle before the end of the 5-year period, as many do, a portion of the Section 179 expense deduction will be recaptured and must be added back to income (SE income for self-employed individuals). The future ramifications of deducting all or a significant portion of the vehicle’s cost using Section 179 should be considered.
Consider Bonus Depreciation - Consider using bonus depreciation as an alternative to the Section 179 deduction. Under this provision, a taxpayer can elect to claim a deduction of 100% of the cost of a new or used vehicle used for business in the first year it is placed into business service. However, the luxury auto rules impose a maximum annual deduction for depreciation, including the bonus depreciation. For example, in 2021, the maximum depreciation deduction for an auto for which bonus depreciation was claimed was $18,200. This compares to a maximum of $10,200 if bonus depreciation isn’t elected. Of course, if the vehicle is used only partly for business, then only the business-use percentage of the cost is eligible to be deducted.
After 2022, the deductible bonus depreciation percentage drops by 20 percentage points a year, until 2027 when, barring an extension by Congress, no bonus depreciation will be allowed.
Whether to claim bonus depreciation, Section 179, regular depreciation, or a combination of these methods for a business vehicle or to use the standard mileage rate instead, can be a complicated decision to make.
If you have questions related to the best methods of deducting the business use of your vehicle or the documentation required, please give your own tax preparer a call.
Filing as Married Separate? Better Read This.
TLDR: Married Filing Separate has consequences, call your tax pro to see how many are applicable to you.
Married taxpayers have two options when filing their 1040 or 1040-SR tax returns. The first and most frequently used filing status is married filing joint (MFJ), where the incomes and allowable expenses of both spouses are combined and reported on one tax return. The joint status almost always results in the lowest overall tax. Spouses who file together are jointly liable for the tax, meaning either or both can be held responsible for paying the tax from the joint return.
The second option is to file as married filing separately (MFS), with each spouse filing a return. Depending on whether the taxpayers are residents of a separate or community property state, these separate returns may include just the income and eligible expenses of each filer or a percentage of their combined income and expenses. Couples may choose the MFS option for a variety of reasons:
• They want to avoid the joint and several liability for the tax.
• They have children from a prior marriage and want to keep finances separate.
• They only want to keep their taxes separate.
• The marriage is tenuous.
• The taxpayers are separated and don’t want to cooperate in filing a joint return.
• One spouse might get a larger refund by filing separately (the other will pay more).
• They think they can save money by filing separate returns, and a variety of other reasons.
The fact of the matter is that Congress carefully writes the tax laws to eliminate tax breaks for those filing MFS and can make filing very complicated. Here are some of the issues related to separate filings.
Filing Requirements – MFJ taxpayers generally do not need to file a return unless their joint income exceeds the standard deduction, $25,100 for 2021, but those filing MFS must file if they have just $5 of income.
Changing Filing Status – Taxpayers cannot change their filing status from joint to separate after the unextended return due date, usually April 15. However, they can change from a separate to a joint return any time up to 3 years.
Social Security Benefits – For joint filers, the income threshold where Social Security benefits become taxable is $32,000. For those filing separately, 85% of the benefits are taxable from the very first dollar of Social Security income.
Traditional IRA Deductibility – An IRA contribution is not deductible for higher-income taxpayers who are also active participants in qualified requirement plans. For joint filers with employer-sponsored plans, the IRA deductibility for 2021 begins to phase out when their joint income reaches $105,000 and is fully phased out at $125,000. But when filing MFS, the deductibility begins to phase out with the first dollar of income and is fully phased out when the AGI (adjusted gross income) reaches $10,000.
Roth IRA Contribution Restrictions – The ability to contribute to a Roth IRA is limited for higher-income taxpayers, and for joint filers, the 2021 allowable contribution phases out with AGIs between $198,000 and $208,000. However, for separate filers, the ability to contribute to a Roth IRA phases out for AGIs between $0 and $10,000.
Higher Education Interest Deduction – Joint-return filers can deduct $2,500 per year of qualified student loan interest, but separate-return filers are not allowed any deduction.
Itemized Deductions – Where one spouse filing MFS itemizes their deductions, the other spouse must do the same and cannot take the standard deduction.
Medicare Premiums – The premiums for Medicare participants are substantially higher for individuals filing separate returns compared to those filing jointly. In addition, premiums are based on a taxpayer’s filing status 2 years prior. That means you won’t even notice the increase when the separate returns are filed. For example, if a couple filing jointly had an AGI of $180,000 in 2019, their monthly Medicare premiums in 2021 would be $207.90 per month each. On the other hand, if they had filed separate 2019 returns and each had an AGI of $90,000, their Medicare premiums in 2021 would be $475.20 per month each. Thus, each one’s premiums for the year would be $3,208 more in 2021 because they used the MFS status in 2019.
Child & Dependent Care Credit – Separate filers cannot claim this credit unless they are legally separated.
Earned Income Tax Credit (EITC) – Generally, MFS filers cannot claim the EITC unless one or both are qualified to claim the head of household (HH) filing status. That would generally mean they are separated and maintaining separate households. To qualify for HH, a married taxpayer must pay half the cost of maintaining a home for a dependent child for the last 6 months of the year. A married couple cannot reside together and one of them claim HH filing status. Thus, under most martial separation circumstances, one spouse would file MFS and one HH, and only the one filing HH could claim the EITC if otherwise qualified.
Premium Tax Credit (PTC) – Although there are some infrequent exceptions, taxpayers filing as MFS won’t qualify for the PTC, which is the government supplement for the cost of health care insurance purchased through a government health marketplace for lower to middle-income taxpayers.
Tax Rates – The tax rates for MFS are twice what they are for joint-filing taxpayers.
Other Limitations – For MFS filers, most other tax deductions and limitations, such as the standard deduction, allowable capital losses, and rental loss limitations, are half of what they are for joint filers.
If you anticipate filing married separate returns, please contact your tax pro to see how that filing might impact the outcome of your tax liability.
As always folks, this post is educational and informational only. This stuff is complicated. Don’t take advice from the internet. Ask your own tax pro or financial advisor for specific information about your situation.
Avoiding IRS Underpayment Penalties
Congress considers our tax system a “pay-as-you-earn” system. To facilitate that concept, the government has provided several means of assisting taxpayers in meeting the “pay-as-you-earn” requirement. These include:
Payroll withholding for employees;
Pension withholding for retirees; and
Estimated tax payments for self-employed individuals and those with other sources of income not covered by withholding.
When a taxpayer fails to prepay a safe harbor (minimum) amount, they can be subject to the underpayment penalty. This nondeductible interest penalty is higher than what might be earned from a bank. The penalty is applied quarterly, so making a fourth-quarter estimated payment only reduces the fourth-quarter penalty. However, withholding is treated as paid ratably throughout the year, so increasing withholding at the end of the year can reduce the penalties for the earlier quarters. This can be accomplished with cooperative employers or by taking an unqualified distribution from a pension plan, which will be subject to 20% withholding, and then returning the gross amount of the distribution to the plan within the 60-day statutory rollover limit (but check with this office before using the latter strategy).
Federal law and most states have so-called safe harbor rules, meaning if you comply with the rules, you won’t be penalized. There are two Federal safe harbor amounts that apply when the payments are made evenly throughout the year.
The first safe harbor is based on the tax owed in the current year. If your payments equal or exceed 90% of your current year’s tax liability, you can escape a penalty.
The second safe harbor—and the one taxpayers rely on most often—is based on your tax in the immediately preceding tax year. If your current year’s payments are equal to or exceed 100% of the amount of your prior year’s tax, you can escape a penalty, regardless of the amount of tax you may owe when you file your current year’s return. If your prior year’s adjusted gross income was more than $150,000 ($75,000 if you file married separate status), then your payments for the current year must be 110% of the prior year’s tax to meet the safe harbor amount.
Where taxpayers get into trouble is when their income goes up or their withholding goes down for the current year versus the prior year. Examples are having a substantial increase in income, such as when investments are cashed in, thereby increasing income but without any corresponding withholding or estimated payments. Another frequently encountered situation is when a taxpayer retires and their payroll income is replaced with pension and Social Security income without adequate withholding. Taxpayers who don’t recognize these types of situations often find themselves substantially underpaid and subject to the underpayment penalty when tax time comes around.
The bottom line is that 100% (or 110% for upper-income taxpayers) of your prior year’s total tax is the only true safe harbor because it is based on the prior year’s tax (a known amount), whereas 90% of the current year’s tax amount is a variable based on the income for the current year, and often that amount isn’t determined until it is too late to adjust the prepayment amounts.
That being said, there are times when using the 100%/110% safe harbor method doesn’t make a lot of financial sense. For example, let’s say that in the prior year, you had a large one-time payment of income that boosted up your tax to $25,000, which is $10,000 more than you normally pay. You know that you won’t have that extra income in the current year. Rather than rely on the 100%/110% of prior tax safe harbor, where you’d be prepaying $10,000 more than your current year’s tax is likely to be, it may be appropriate to use the 90% current-year tax safe harbor, determined by making a projection of your current year tax, and as the year goes along, monitoring your income and the tax paid in to be sure you are on track to reach the 90% goal.
Please contact your tax pro promptly if you have a substantial increase in income so that withholding or estimated tax payments can be adjusted to avoid a penalty.
As always folks, don’t trust anything from the internet. These posts are meant to inform and educate, not to advocate for any position. Always reach out to your own tax preparer for your own advice.
Required Minimum Distributions Have Resumed for 2021
Ok folks, this one’s pretty long. Here’s the tldr: RMD’s were postponed in 2020, they’re not in 2021. You MUST take your RMD in 2021. Make sure you do! Brave souls only, read on past this point!
When Congress established tax-favored retirement plans, they allowed taxpayers to take a tax deduction for the amount of their allowable contribution to the plans. But they also included a requirement for a portion of the funds to be distributed each year and be subject to income tax. Such a distribution is referred to as a required minimum distribution (RMD).
RMDs are commonly associated with traditional IRAs, but they also apply to 401(k)s, SEP IRAs and other qualified retirement plans. The tax code does not allow taxpayers to keep funds in their qualified retirement plans indefinitely. Eventually, assets must be distributed, and taxes must be paid on those distributions. If a retirement plan owner takes no distributions, or if the distributions are not large enough, he or she may have to pay a 50% penalty on the amount that is not distributed.
There is no maximum limit on distributions from a Traditional IRA, and as much can be withdrawn as the owner wishes. However, if more than the required distribution is taken in a particular year, the excess cannot be applied toward the minimum required amounts for future years.
There have been some recent tax law changes that have led to some confusion among taxpayers subject to the RMD requirement. Prior to 2020, the required starting age for RMDs was 70½. Thanks to the Secure Act passed by Congress in late December 2019, the age at which distributions have to begin was increased to age 72 starting in 2020.
However, as part of the 2020 COVID relief, Congress suspended the RMD requirement. Thus those turning 72 in 2020, and those who turned 70½ in prior years, were not subject to the RMD requirement for 2020.
RMDs Resume in 2021 - Since the suspension was for one year only, the RMD requirement resumes for 2021. Of course, the resumption applies to those that attained the age of 70½ in years before 2021, those who turned 72 in 2020 and those who turn 72 in 2021.
Still Working Exception – If you participate in a qualified employer plan, generally you need to start taking RMDs by April 1 of the year following the year you turn 72. This is your required beginning date (RBD) for retirement distributions. However, if your plan includes the “still working exception,” your RMD is postponed to April 1 of the year following the year you retire.
This delayed-until-retirement distribution provision does NOT apply to IRAs, so even though someone age 72 or older with an IRA is still working, and perhaps still contributing to the IRA, they are required to take a minimum distribution from the IRA each year.
First Year IRA RMD Exception – If a taxpayer so chooses, he or she can delay an RMD for the first year an RMD is required until the second year, thus making the distribution includible in the second year’s tax return. This is sometimes desirable if the taxpayer has substantial wages or other income in the year the mandatory distribution age is reached and expects less income the next year. In this situation, by delaying the distribution to the second year the tax bracket could be substantially lower. If the taxpayer chooses that option, then:
• The first year RMD must be taken by April 1 of the following year, and
• The taxpayer must also take the second year RMD distribution by December 31 of year two, thus doubling up the distributions in year two.
Determining the RMD Amount - The required withdrawal amount for a given year is equal to the value of the retirement account on December 31 of the prior year divided by the life expectancy (“distribution period”) from the Uniform Lifetime Table illustrated below, with the exception where the taxpayer’s spouse is 10 years younger, in which case the Joint and Last Survivor Table is used. It is not illustrated because of its size.
Note: the above table is only valid through 2021. The IRS has released a new table which must be used for the RMD computations beginning for 2022 and subsequent tax years.
Example: An IRA account owner is age 75 in 2021, and the value of his only IRA account was $120,000 on December 31, 2020. His 73-year-old wife is the sole beneficiary of the IRA. From the uniform lifetime table, we determine the owner’s distribution period to be 22.9. Thus, his RMD for 2021 is $5,240 ($120,000/22.9). That amount must be withdrawn by no later than December 31 of 2021.
If the same set of facts were to occur for a different taxpayer in 2022, using the new table (not illustrated), the distribution period will be 24.6 and the RMD $4,878 ($120,000/24.6). The new table was designed to take into account individuals’ longer life expectancies based on actuarial statistics developed since the last time the tables were updated. Thus, the comparable RMD is less than under the current table, and at least in theory, the IRA won’t be depleted as quickly.
The RMD for the year can be taken from any one or several of the taxpayer’s IRA accounts, but the minimum distribution amount must be figured separately for each account, and then totaled to determine the RMD for the year.
Caution: Some individuals roll over their distribution in the mistaken belief they can circumvent the RMD requirement. This is not true – remember, the purpose of the RMD is to force taxable distributions.
If the taxpayer dies prior to taking the entire RMD for the year of death, the IRA beneficiaries are responsible for figuring the owner's required minimum distribution in the year of death and distributing it to the named beneficiaries. If there are no beneficiaries, the distribution goes to the decedent’s estate
Excess Accumulation Penalty – The tax law includes a penalty referred to as an excess accumulation penalty. This draconian penalty is 50% of the RMD that should have been distributed for the year and wasn’t. In the preceding example, if the taxpayer does not withdraw the $5,240 for 2021, he would be subject to a 50% penalty (additional tax) of $2,620 ($5,240 x 50%).
Under certain circumstances, the IRS will waive the penalty if the taxpayer demonstrates reasonable cause and makes the withdrawal soon after discovering the shortfall in the distribution. However, the hassle and extra paperwork involved in asking the IRS to waive the penalty makes avoiding it highly desirable; to do so, always take the correct distribution in a timely manner. Some states also penalize under-distributions.
Even though a qualified plan owner whose total income is less than the return filing threshold is not required to file a tax return, he or she is still subject to the RMD rules and can thus be liable for the under-distribution penalty even if no income tax would have been due on the under-distribution.
Qualified Charitable Distribution – A taxpayer is allowed to transfer funds from their IRA to a qualified charity and the distribution is non-taxable. To constitute a qualified charitable distribution (QCD), the distribution must be made:
(1) Directly by the IRA trustee to a qualified charitable organization other than a private foundation or a donor-advised fund, and
(2) On or after the date the IRA owner attains age 70½. A distribution from an IRA made to a charitable organization in the year that the IRA owner turns 70½ but prior to the date the individual reaches age 70½ is not a qualified charitable distribution.
For those 72 and older a QCD will also count towards the annual RMD requirement. However, after 2019 the restriction on making traditional IRA deductions after age 70½ was repealed and Congress added a complication to QCDs. That provision requires the non-taxable portion of a QCD to be reduced by any deductible IRA contribution made after reaching age 70½.
Example – Bob makes a traditional IRA contribution of $7,000 when he is age 71 and another $7,000 contribution at the age of 72 and deducts the IRA contributions on his returns. Then later when he is 74, he makes a QCD in the amount $20,000 to his church’s building fund. Since Bob had made the deductible IRA contributions after age 70½, his QCD must be reduced by the $14,000. As a result, of the $20,000 QCD, $14,000 is a taxable distribution and only $6,000 is nontaxable. However, because the $14,000 was taxable Bob can claim a $14,000 charitable contribution if he itemizes his deductions. In addition, the entire $20,000 will count towards his RMD for the year.
Designated Beneficiaries - Keeping your designated IRA beneficiary or beneficiaries current is very important. You may not want your account going to your ex-spouse, and you certainly do not want a deceased individual to be your beneficiary.
In many cases, advance planning can minimize or even avoid taxes on Traditional IRA distributions. Often, situations will arise in which a taxpayer’s income is abnormally low due to losses, extraordinary deductions, etc., where taking more than the minimum in a year might be beneficial. This is true even for those who may not need to file a tax return but can increase their distributions and still avoid any tax. If you need help with the tax consequences of planning your RMD, please call this office for assistance.
As always folks, this post is educational and informational only. Don’t take advice from the internet. Ask your own tax pro or financial advisor for specific information about your situation.
Employers Hiring New Employees May Be Able to Claim a Work Opportunity Tax Credit
The Covid-19 pandemic has had a significant impact on the labor market – mandated government lockdowns and workers’ and customers’ fears of contracting the illness resulted in businesses closing or temporarily cutting back and laying off or furloughing millions of employees. In April 2020, the unemployment rate reached 14.8%, the highest rate since such data started to be collected in 1948. While by September 2021 the unemployment rate had declined to 4.8%, millions of job openings went unfilled as former employees were reluctant to return to work. Some businesses still weren’t operating at full capacity because they weren’t able to find enough employees.
If you are a business owner, and are hiring new workers, you may be able to claim a Work Opportunity Tax Credit (WOTC) if you hire someone who has been unemployed for 27 consecutive weeks or more or if the individual is from one of several other categories of eligible employees, as explained below. This credit is an income tax credit, unlike some of the pandemic-related credits that are applied to employment taxes of the business.
The WOTC is typically worth up to $2,400 for each eligible employee, but it can be worth up to $9,600 for certain veterans and up to $9,000 for “long-term family assistance recipients.” The credit, which was extended by Congress in late 2020 legislation, is available for eligible employees who begin working for the new employer after 2020 and before 2026.
Generally, an employer is eligible for the WOTC only when paying qualified wages to members of any of the targeted groups listed below. For more details on the required qualifications for each group, see the instructions for IRS Form 8850 (Pre-Screening Notice and Certification Request for the Work Opportunity Credit).
(1) Qualified IV-A recipients – generally, members of a family that is receiving assistance under the Temporary Assistance for Needy Families (TANF) program;
(2) Qualified veterans;
(3) Qualified ex-felons – generally, those hired within one year of release from prison;
(4) Designated community residents – those who are aged 18 through 39 and who are living in an empowerment zone or a rural renewal area*;
(5) Vocational rehabilitation referrals – handicapped individuals who are referred by rehabilitation agencies;
(6) Qualified summer youth employees – those who are 16 or 17 years old, have never previously worked for the employer and reside in an empowerment zone*;
(7) Qualified members of families who participate in the Supplemental Nutritional Assistance Program (SNAP);
(8) Qualified Supplemental Security Income recipients;
(9) Qualified long-term family assistance recipients – those receiving TANF assistance payments; and
(10) Qualified long-term-unemployed individuals. The period of unemployment cannot be less than 27 consecutive weeks, and must include a period (which may be less than 27 consecutive weeks) in which the individual received unemployment compensation under state or federal law.
* Both empowerment zones and rural renewal areas are listed in the IRS Form 8850 instructions. The empowerment zone designations expired at the end of 2020. However, the legislation that extended the WOTC through 2025 also provides for an extension of the designations to the end of 2025.
For an employer to qualify for the credit, the employee must work a minimum of 120 hours and receive at least 50% of his or her wages from that employer for working in the employer’s trade or business. Relatives of the employer and employees who have previously worked for the employer do not qualify for the credit.
For an employee from most of the targeted groups, the credit is based upon the first $6,000 of first-year wages. If an employee completes at least 120 hours but less than 400 hours of service for the employer, the credit is equal to those wages multiplied by 25%. If the employee completes 400 or more hours of service, the credit is equal to the wages multiplied by 40%. Thus, the maximum credit per employee in one of these groups would be $2,400 (.4 x $6,000). For the summer youth employees, only the first $3,000 of the first-year wages are taken into account, resulting in a maximum per-employee credit of $1,200 (.4 x $3,000)
Two categories allow for higher first-year wages to be eligible when calculating the credit:
Long-term family assistance recipients – For this category, the first-year wage that can be taken into account for the credit is increased to $10,000, thus allowing a maximum credit of $4,000 (.4 x $10,000). In addition, this group qualifies for a credit in the second year (immediately following the first year); this is equal to 50% of second-year wages up to $10,000.
Veterans – The three possible qualifications of veterans (family received SNAP benefits, unemployed, or service-related disability) have applicable first-year wages for the credit of up to $12,000, up to $14,000 and up to $24,000. Thus, the maximum credit for this group is between $4,800 (.4 x $12,000) and $9,600 (.4 x $24,000), depending upon the qualification. The unemployment-based qualification for veterans without a service-related disability is either that the veteran was:
(1) Unemployed for a period or periods totaling at least 4 weeks (whether or not consecutive) but less than 6 months in the 1-year period ending on the hiring date, or
(2) Unemployed for a period or periods totaling at least 6 months (whether or not consecutive) in the 1-year period ending on the hiring date.
Certification Process - To be eligible to claim the WOTC, the employer must file Form 8850 with its state workforce agency (SWA) no later than 28 days after an eligible employee begins work. Due to the COVID-19 emergency, the IRS has extended many filing due dates, including if the 28th calendar day falls on or after January 1, 2021, and before October 9, 2021; in that case, employers are allowed to submit Form 8850 to the SWA by November 8, 2021. Once the worker is state-certified as a member of a targeted group and has worked sufficient hours, the employer can claim the WOTC on Form 5884 (Work Opportunity Credit).
Other Issues:
No Multiple Benefits – No deduction is allowed for the portion of wages equal to the WOTC for that tax year. Also, the same wages used to compute the WOTC can’t be used by the employer when claiming the coronavirus-related Employee Retention Credit, the credit for qualified sick and family leave, and the disaster-related employee retention credit.
Unused Current-Year Credit – The credit is included in the general business credit, and if an employer’s credit is greater than its income-tax liability (including the alternative minimum tax), the excess credit is considered an unused credit that is available for use on another year’s return. The unused credit is first carried back one year (generally by amending the return for the carryback year) and then carried forward until any remaining credit is used up (but for no more than 20 years).
If you are expanding your work force as the pandemic winds down, be sure to keep in mind that you may be eligible to claim the WOTC for eligible employees from the targeted tax groups noted in this article. However, in some circumstances, electing not to claim the WOTC may be more valuable tax-wise for you. Please call this office for additional information related to the WOTC and to see if it would be beneficial in your particular tax circumstances.
As always folks, don’t trust anything from the internet. These posts are meant to inform and educate, not to advocate for any position. Always reach out to your own tax preparer for your own advice.