Joy Olivia Miller

Archive for the ‘Tax’ Category

IS IT TRUE? WILL THE RESIDENTIAL REAL ESTATE BE TAXED 3.8% AS PART OF HEALTH CARE REFORM BILL?

Recently, a friend of mine mentioned that the new health care reform bill was going to include a 3.8% sales tax on the sale of homes. I think I blurted out, “you’ve got to be kidding me!”  Of course, I had to come home and research the details.

Before I got to doing the research, I had all kinds of expletives circled around in my head. Thankfully, they stayed inside there. Other thoughts included; could our leaders in Washington really be that stupid? Hasn’t the housing industry already gone through enough trauma? Why would Washington want to kill the real estate business and therefore the economy?

My research did verify the new health care reform bill does in fact have a provision to charge 3.8% sales tax on the sale of homes, but there is much more to it than that though. The 3.8% real estate sales tax only applies to single tax payers making more than $200,000 or joint taxer payers making more than $250,000 AND you wouldn’t pay on the first $250,00 in profits for a single tax payer or $500,000 in profits for a joint tax payer.

Whew…I was worried there for a minute.  All the residential real estate I own has dropped 40-50% in value so no need to worry about profits. For many us real estate types, it will be many years (if ever) before we work off carry forward losses from real estate activities of the last several years, so income thresholds aren’t an issue either.

My friend made it sound like it was a straight dollar for dollar 3.8% sales tax, which would have been the single stupidest thing Washington could have done since the beginning of the republic. I am never glad to hear Washington is tinkering with the market in which I earn my living, but I am glad to know that this 3.8% sales tax only applies to profits over 500k for joint filers. The 500K profit threshold pretty much eliminates most home sales unless the homes are selling for millions of dollars, which is a very small percentage of homes.

I think the potential bigger issue may be commercial properties owners where buildings that cost millions of dollars could easily appreciate a small percentage but increase in value $250K or $500K in net terms. The year you report the sale, your income would be increased by the net profit from the sale of the building.  For example, a retired couple on a fixed income could sell a commercial property from a business they once owned. Even though the couple is on a relatively small fixed income, the sale of the building would trigger them into the 250K income class when the profit of the sale exceeds 750K. Again, this might not happen that often, but one thing we know for sure…Washington put the provision in to raise revenues and that it will.

Tax attorney jobs are available in the fields of business, income, property, estate, and international taxes. Apart from a proper degree in taxation law, experience is also crucial. While a majority of tax attorneys in the US have a private practice, some attorneys work as advisors and prosecutors on behalf of the government.

Tax attorneys are also advisors to their clients. They must have a vast knowledge regarding the complicated tax laws regarding their area of specialization which can only come through years of experience. It is for this reason that most big law firms specializing in the area of taxation employ attorneys with at least 2-3 years experience. Young lawyers fresh out of law school must first start out working as apprentices, then move up the ladder through growing experience and branch out into their own private practice if they choose.

The field of international tax attorneys is rapidly expanding. With country borders becoming more porous and outsourcing and e-commerce becoming the norm, the aspiring tax attorney must now be able to take on tax laws of countries apart from his own.

Most firms advertise for attorneys with good writing skills, negotiating ability, and the ability to interact with management and staff of client companies. It is also essential that he should be a member of the Bar Association if he wants a credible private practice. Apart from this, he should be skilled in tax planning and advising.

The job of a tax attorney is filled with challenges. Criminal cases regarding tax involve white collar crimes like fraud, but are not as grueling as trying heinous crimes like murder. The job requires a good financial head, knowledge of laws, and the ability to drive hard bargains with the opposition.

A. Earned Income Credit

The Earned Income Tax Credit (EITC) Can be used for the basis of building wealth:

Here is how it works;
If you have at lease one child that lives with you over half the year, you may be eligible for this credit. It is set up so that the more money you earn, the higher the credit until you reach an income of $8,050 for one child or $11,300 for two or more children. The credit peeks at $2,747 for one child and $4,536 for two or more children. Therefore the credit can increase your income by 34% to 40%.

The credit then levels off then decreases as income increases but don’t stop striving to increase your earned income. Other credits come into play that I will show you latter that will help make up for the reduction in the earned income credit.

In this first example we can see how much a family of four may benefit from the. (EITC)

Income $16,000
Tax 0
Earned income credit 4,280
Total income $20,280

The (EITC) increases family income by $4,280 or about 25%

This lump-sum payment can become the basis for building wealth. Here are a few suggestions:
1. This lump sum can go a long way toward closing costs on a home purchase.

2. The IRS will allow you to receive up to half the credit along with your normal paycheck, when you complete a form W5. In this way the tax system helps you with the house payments.

3. The payment can be contributed toward a Roth IRA that can grow tax free for future needs.

Sometimes we need the funds to take care of everyday needs, but I would still encourage you to save as much as you can. In this way you can still start building wealth.

B. Child Tax Credit

As your income increases The Child Tax Credit provides additional help for working families. Let’s see how this works:

The child tax credit is divided into two parts:

1. The first part provides $1,000 per child under the age of 17 to reduce the federal income tax.

2. The second part is a refundable portion that is designed to provide additional cash for families as the (EITC) decreases.

Let’s take another look at the family of four in the first example and see how the child tax credit may increase the total available cash as income increases:

Income $16,000
Tax 0
EITC 4,280
Additional child tax credit 705
Total income $20,985

There are those out there that limit the amount that they work because they want to maximize the earned income credit. But as you can see in the example above as income increases and EITC decreases the additional child tax credit increases.

If the couple above stopped working when they had earned $11,300 so they could receive the maximum EITC of $4,536 their total income would have been $15,836. By continuing to earn income their total credits increased by $449 and they received a total of $5,149 additional income.
In the next example a family of four can increase their earnings by over 50% and still receive more than $4,000 in refundable credits after federal income tax.

The family earned $25,000 a year. The spouses filed married filing joint with two children under the age of 17 that live with both parents all year. The total income should look like this:

Income from wages $25,000
Earned income credit 2,385
Additional child tax credit 1,850
Total income $29,235

The total credits were reduced by a few hundred dollars but the total family income increased by $8,250.

Now let’s look at an example where the family’s income has doubled again: The married couple makes $50,000 a year, have two children under the age of 17. This family took my advice, purchased a home, sold it and moved up to a larger home, let us take a look at their income. They pay $10,000 a year in interest, $2,000 in real estate tax, $1,000 in state tax and have $5,000 in contributions.

Income from wages $50,000
Less contributions to IRA 5,000
AGI $45,000
Taxable income $13,800
Tax 0
Refundable credit 620

This family of four is now making over three times what they were making even with the earned income credit and they are still receiving a refundable credit. If they took the standard deduction of $10,300 instead of itemizing $18,000 their federal tax would be $474. They would still receive a benefit of a $2,000 tax reduction from this credit.

C. Children’s Exemption
Now let’s take the examples above and see more tax savings from using the child’s exemption:
In the first example the children’s exemption didn’t provide any tax reduction but the earned income credit and child tax credit provided $4,985 to the family’s income amounting to 34% of the family’s total income.

The second example each child provided $405 in tax savings in addition to the EITC and child tax credit, their total contribution to the family income is $5,045 or 17% of total income.
The third example the children provide $461.5 in tax savings each in tax plus the additional benefit of the child tax credit of $1,000 each. This represents a total tax savings of $2,923. In this example the children only contribute about 6.5% of the family income. In the next section we will take a look at another benefit that is provided in the tax code the standard deduction.

D. The Child’s standard deduction

Each child can earn up to the amount of their standard deduction without affecting the credits or having a federal tax liability.

In the last example the parents are self employed. The self employed pay double social security and Medicare tax and this tax is called self employment tax. On page 8 of IRS publication 15 (Circular E) under “Family Employees” it states that “Payments for the services of a child under age 18 who work for his parent in a trade or business are not subject to social security and Medicare taxes if the trade or business is a proprietorship or partnership where each partner is a parents of the child.”

The IRS doesn’t let you charge for food or rent to your minor child but think of the possibilities. You no longer need to set a college fund, date fund, car fund, in some cultures a mission fund. All of these expenses can come from the child’s own funds. In the following two examples let’s see how much you may save on just self employment tax. In this example $8,000 of deductible health insurance premium and HSA contribution has been figured in the calculation.

We will consider two examples the first we will see what tax is without the child working then in the second example we will how much is save by having the child work.

Income from self employment $75,000
Self employment tax 9,466
Federal income tax 3,967
State income tax 1,863
Child tax credit 2,000
Income after tax $61,703

In this example the children where worth $3,416, ($2000 child tax credit, $956 federal tax and $460 state tax) now let’s look at the other example where the children work for their parents and earn the amount of their standard deductions.

Income from Self employment $64,700
Self employment tax 8,011
Tax 2,466
State tax 1,209
Child tax credit 2,000
Sub-total $55,014
Child’s income 10,300
Total $65,323

In the second example the children contributed and additional $3,620, ($1,455 savings from self employment, $1501 federal tax, and $654 state tax). They contributed a total of $7,036 to the family. Another way to look at this is it only cost $3,264 for two employees; likely this is less than the allowances and expenses you would have if they weren’t working.

When you are considering doing some work on your property, you need to consider whether it will fall under the category of home repair, or home improvement. This is a crucial distinction because home improvements are tax deductible, whereas home repairs are not.

So what constitutes home improvement? In its basic form, it is any task that will add to the quality and therefore the value of your home. Such tasks would include putting up a new fence, installing a new driveway, complete kitchen remodeling, extending your property to add a room, building a swimming pool or garage, constructing a deck or porch, adding insulation, installing new heating or air conditioning systems, replacing the roof, or re-landscaping your yard. All of these tasks will require capital expenditure, but will add to the value of your property and increase the equity in your home.

Home repair, on the other hand, is a task undertaken to prevent the decline or decay of your property, and a subsequent drop in value. The task is necessary to maintain your home to its existing standard, without making significant additions or improvements. Home repairs include repainting or decorating, fixing leaks or breakages, repairing cabinets and replacing fixtures that no longer function.

Generally expenditure on home repairs cannot be used to obtain a tax benefit. However, there is a possibility that you could incorporate your repairs into a home improvement project and still gain a financial advantage. If you were undertaking a large remodeling task, you would be doing a lot to improve your property and increasing the value, and if you were doing some repairs as part of this project, expenditure for the whole task could be tax deductible. In other words, next time you plan to add an extra room to your home, be sure to fix the leaky roof at the same time!

If you require refinancing to pay for your home improvements, you may be advised to wait for a drop in interest rates. If you obtain refinance and use the capital for home improvements, you will be able to deduct the loan points in that same financial year. If you choose not to use the capital to pay for home improvements, the points will be deducted over the term of the loan. If you use only a portion of the loan for home improvements, then your possible deduction is also proportional. The rest of the points will be deducted during the term of the loan. Any points not deducted by the final payoff date of the loan will be cent per cent deductible in that year.

Before you start work on your home, you really need to understand the various distinctions that allow or disallow tax deduction. You can then make a decision whether it would be financially prudent to expand your project beyond simple repairs to increase the value of your property and ensure your expenditure is tax deductible.

I think tax lien investing is one of the most interesting ways to get involved in the real estate market. The advantages are overwhelming compared to other real estate investments. It is a relatively risk free investment because you will either receive your investment plus interest or you will be able to get ownership of the property. The interest rates are higher than most certificates of deposit or other bank interest. The initial investment is lower than any other real estate venture. Another advantage it is fairly simple.

Tax lien investing can be simple, but you need to have a plan and there is some research involved. You need to create a strategy before you get started. In order to create that strategy, you will need to know the following:

1. Research how different states/counties conduct tax lien sales.
2. Decide which states/counties you want to participate in tax sales.
3. Determine the specific procedures for participating in auctions in the county you have selected.
4. If you want to invest through an IRA, you will need to set up a “self-directed IRA”.
5. Determine if you want to just invest for the interest or if you want to ultimately own the real estate. There are different approaches to selecting properties depending on your goal.
6. Decide how much you are willing to invest. Although you will get a good return on your investment, you will have to be willing to wait. There is no way to know when the property owner will pay the taxes owed. Be patient.

Tax lien investing can be a profitable investment, but it is not free or fast. If you are willing to do your homework and put a little of your portfolio into tax liens, you can make a good return. You can have fun in the process as long as you have a strategy.

When I coach clients on their tax strategy to legally reduce their taxes, many of the strategies require monitoring throughout the year. The monitoring serves two primary purposes:

#1 To Monitor the Numbers

Many tax strategies are based on income and expenses being at certain levels. It is not uncommon for these numbers to change during the year. Certain changes can impact the effectiveness of the tax strategy so it is critical to know if the numbers change so changes can be made to the tax strategy.

#2 To Monitor the Documentation

Part of the tax coaching I do with clients includes coaching them on how to document the transactions, the activity, the income and expenses that impact their tax strategy. Proper documentation increases the accuracy of the information my clients provide to me to do tax planning and prepare their tax returns. It also provides the support the IRS would want to see if my client is audited. Part of my mid-year planning process includes checking in with my clients on how their documentation is coming along.

What is your system to make sure you monitor your taxes throughout the year?

If you don’t have a system to monitor your taxes throughout the year, you need one and here is why:

Have you ever met with a CPA or tax preparer and been told you could have done something about a tax problem if only you had acted before the end of the year?

And while year end tax planning has its place in a tax strategy, often times there is simply not enough time at the end of the year to get the best tax results. That’s why mid-year tax planning is so important.

I have a system in place to make sure this monitoring happens for my clients. Part of that system includes a custom checklist designed for each specific client. Here are the top 5 questions from that checklist.

** Question #1 **

Do you need to change how your entity or entities are taxed?

Sometimes an entity is formed with the strategy that once that entity hits a certain target income, then how that entity is taxed needs to change. This can be a very costly tax mistake if it is missed!

** Question #2 **

Do you need to add an entity or restructure how your entities are owned?

Knowing the right time and the right entity for your tax strategy can often save as much as $10,000 per year in taxes.

** Question #3 **

Are your salary and distribution amounts from your S Corporation optimal?

S Corporations are the most popular entity for businesses. The mistake I see most often is S Corporation owners not balancing the amount the S Corporation pays them as salary versus distributions in order to reduce their taxes and their audit risk.

** Question #4 **

Is your accounting up to date?

If your accounting is not up to date through at least the first quarter of 2008 (March 2008), then it is not up to date and you need to take action now! Accounting is the heart of every tax strategy. Without current accounting, it is impossible to determine the tax strategies that will generate the most tax savings or if anything needs to be adjusted during the year to protect the tax savings.

** Question #5 **

Are your travel, meals and entertainment expenses properly documented?

Travel, meals and entertainment are among the most heavily scrutinized expenses. This makes proper documentation of these expenses a key part of every tax strategy.