Redrocktaxes's Weblog

Tax Effects of Divorce or Separation

Income tax may be the last thing on your mind after a divorce or separation. However, these events can have a big impact on your taxes. Alimony and a name change are just a few items you may need to consider. Here are some key tax tips to keep in mind if you get divorced or separated.

•                Child Support.  If you pay child support, you can’t deduct it on your tax return. If you receive child support, the amount you receive is not taxable.

•                Alimony Paid.  If you make payments under a divorce or separate maintenance decree or written separation agreement you may be able to deduct them as alimony. This applies only if the payments qualify as alimony for federal tax purposes. If the decree or agreement does not require the payments, they do not qualify as alimony.

•                Alimony Received.  If you get alimony from your spouse or former spouse, it is taxable in the year you get it. Alimony is not subject to tax withholding so you may need to increase the tax you pay during the year to avoid a penalty. To do this, you can make estimated tax payments or increase the amount of tax withheld from your wages.

•                Spousal IRA.  If you get a final decree of divorce or separate maintenance by the end of your tax year, you can’t deduct contributions you make to your former spouse’s traditional IRA. You may be able to deduct contributions you make to your own traditional IRA.

•                Name Changes.  If you change your name after your divorce, notify the Social Security Administration of the change. File Form SS-5, Application for a Social Security Card. You can get the form on SSA.gov or call 800-772-1213 to order it. The name on your tax return must match SSA records. A name mismatch can delay your refund.

Health Care Law Considerations

•                Special Marketplace Enrollment Period.  If you lose your health insurance coverage due to divorce, you are still required to have coverage for every month of the year for yourself and the dependents you can claim on your tax return. Losing coverage through a divorce is considered a qualifying life event that allows you to enroll in health coverage through the Health Insurance Marketplace during a Special Enrollment Period.

•                Changes in Circumstances.  If you purchase health insurance coverage through the Health Insurance Marketplace, you may get advance payments of the premium tax credit in 2015. If you do, you should report changes in circumstances to your Marketplace throughout the year. Changes to report include a change in marital status, a name change and a change in your income or family size. By reporting changes, you will help make sure that you get the proper type and amount of financial assistance. This will also help you avoid getting too much or too little credit in advance.

•                Shared Policy Allocation. If you divorced or are legally separated during the tax year and are enrolled in the same qualified health plan, you and your former spouse must allocate policy amounts on your separate tax returns to figure your premium tax credit and reconcile any advance payments made on your behalf. Publication 974, Premium Tax Credit, has more information about the Shared Policy Allocation.

Solar Energy Credit

A solar energy credit has been available for several years, but both the residential credit and the business credit are due to expire on December 31, 2016, so if you want to take advantage of either of them, act fast!

The residential credit is available for homes within the United States. The home does not have to be your primary residence, but a rental property will not qualify. The credit is 30% of the cost of the solar equipment that is installed on your home and includes solar water heaters.

For commercial buildings, there is also a 30% credit until December 31, 2016; thereafter the credit will drop to 10%.

These credits are a dollar for dollar reduction in the tax owed, and, if they cannot all be used in the year the solar system is placed in service, they can be carried forward to use in future years.

Investing in solar energy is a great way to both help reduce our use of fossil fuels and save substantial amounts of tax.

Reporting Gambling Income and Losses on Your Tax Return

If you play the ponies, play cards or pull the slots, your gambling winnings are taxable. You must report them on your tax return. If you gamble, these IRS tax tips can help you at tax time next year:

1. Gambling income. Income from gambling includes winnings from the lottery, horse racing and casinos. It also includes cash and non-cash prizes. You must report the fair market value of non-cash prizes like cars and trips.
2. Payer tax form. If you win, the payer may give you a Form W-2G, Certain Gambling Winnings. The payer also sends a copy of the W-2G to the IRS. The payer must issue the form based on the type of gambling, the amount you win and other factors. You’ll also get a form W-2G if the payer must withhold income tax from what you win.
3. How to report winnings. You normally report your winnings for the year on your tax return as “Other Income.” You must report all your gambling winnings as income. This is true even if you don’t receive a Form W-2G.
4. How to deduct losses. You can deduct your gambling losses on Schedule A, Itemized Deductions. The amount you can deduct is limited to the amount of the gambling income you report on your return.
5. Keep gambling receipts. You should keep track of your wins and losses. This includes keeping items such as a gambling log or diary, receipts, statements or tickets.

See Publications 525, Taxable and Nontaxable Income, for rules on this topic. Refer to Publication 529, Miscellaneous Deductions, for more on losses. It also lists some of the types of records you should keep. You can download and view both on IRS.gov/forms at any time.

Additional IRS Resources:

• Tax Topic 419, Gambling Income and Expenses

In addition to the above resources, you can contact your tax professional for more details on the records you should keep and the tax consequences if you should win “big”.

Why Was I Chosen to be Audited?

IRS audits aren’t usually a matter of chance. Almost always something in the return triggers an audit. What factors are most likely to cause an audit? In no particular order, here are items that may cause your return to be audited.

1. The first one might be a surprise to almost everyone: high income. If your income is over $200,000, the likelihood of being audited is substantially increased.
2. Schedule A, Itemized Deductions, Medical Expenses. Although they can only be deducted if they exceed 10% of your Adjusted Gross Income (7.5% for those over 65 through 2016), be sure to keep all records relating to medical expenses. Over-the-counter medications, cosmetic surgery, and health club dues are not deductible.
   
3. Also Schedule A, Itemized Deductions, Charitable Contributions. Be sure to retain a cancelled check, bank statement, or credit card statement and dated receipt for any cash contributions under $250. For cash contributions over $250, you must have a statement from the organization with the following information:
   a. Date and amount of the contribution,
   b. Whether any goods or services other than intangible religious benefits were provided, including a good-faith estimate of the value of such goods and services,
   c. A statement that the only benefit that you received was an intangible religious benefit (if that is applicable).

For noncash charitable contributions under $250, have the following:

a. A receipt with the following information:
1. Name of the Organization,
2. Date and location of the contribution,
3. Reasonably detailed description of the property donated.

b. Documentation of:
1. Fair market value and method used to determine it,
2. Cost or basis of appreciated property (does not apply to most donations),
3. Any conditions attached to the donation.

If the donation is between $251 and $500, have the following additional documentation:

       a. Whether any goods and services were received (other than intangible religious benefits),
b. A statement that the only benefit the taxpayer received was intangible religious benefit (if applicable).

If the donation is between $501 and $5000, in addition to all the above, you must have:

a. How the property was acquired (purchased, inherited, gift, etc.),
b. Approximate date the property was obtained,
c. Cost or other adjustments to basis.

If the contribution is over $5000, in addition to all the above requirements, you must have a written appraisal.

4. Finally, on Schedule A, Itemized Deductions, if your itemized deductions are larger than the IRS’s range for your income level, it may trigger an audit. You should take all the deductions you are entitled to, but be sure that you can prove all items on your return.
5. Businesses that consistently have losses year after year. The IRS will wonder if you are really trying to make a profit. Be sure that you can prove all expenses and that you report all business income.
6. Related to business losses is that home office deduction. Be sure that your home office is used “regularly and exclusively” for business and that it is your principal place of business. Also, be aware that if you claim that you are using over half of your home for business, the IRS might well want to know where you are actually doing your living.
7. Next on the list is investment income. You (and the IRS) receive 1099s that summarize your interest, dividends, and sales for the year. Be sure that you have received all the 1099s before you file your returns.
8. Finally, be sure not to omit any information. Even though banks and brokerages are not required to report interest under $10, you are required to report it. If you forget this, the IRS may wonder what else you have forgotten.

If you are selected for audit, be sure that your tax professional represents you before the IRS. You will need someone who is not emotionally involved in your corner and someone who understands how the IRS operates. Any time you receive a letter from the IRS or your state taxing department, your first call should be to a tax professional qualified to represent you.

Wow! Have You Looked at College Costs Lately?

According to The College Board, in-state tuition at 4-year public college averaged $9139 and private non-profit colleges averaged $31,231, the average cost to students after grants and tax credits for tuition is $3020 at public 4-years colleges and $12,631 at private non-profit colleges. Even with these reductions, this is a big hit for students and parents trying to get a college degree.

So, what options are available to help these students pay for college and what are the advantages and disadvantages of each?

First, we will consider 529 (College Savings Plans). A 529 plan offers many advantages compared to mutual funds, bank accounts, and most other types of investments that might be used to save for college because it is a tax-free investment provided it is eventually used to pay for qualified higher education expenses. This means all of the earnings go towards college, are not reported on your tax return, and so, are not taxed. In addition, in Arizona with 529 plans you can deduct up to $2500 of contributions to 529 plans. Many other states offer similar advantages. Additionally, they may receive advantageous treatment when applying for financial aid (for example, if the grandparent is the owner of the account), and professional management of your investments with stringent oversight by the states. Accounts can be opened for as little as $250, and additional contributions can be as low as $50. And of importance to parents and grandparents is the investment that always stays under your control and not accessible to the beneficiary unless you say so, no matter what the beneficiary’s age, the downfall of Uniform Gifts to Minors, which to minor controls when he/she becomes a “major”.

Currently, financial aid eligibility isn’t affected much by 529 plans (college savings plans or pre-paid tuition plans) because these plans are considered part of the parents’ assets (or the grandparent’s—and not calculated at all) in the calculation of the Expected Family Contribution (EFC) toward college costs.

The primary downside to a 529 plan is that you risk income tax and a 10% penalty on the account earnings if you use 529 money for a purpose other than college. The mutual fund companies who manage these funds also charge a fee for their administration. If there is a stock market crash, that can also impact the amount of money in the account and can be especially harmful if it occurs just as the student is starting college.

Other options for saving for college include:

A Roth IRA. The account holder can choose from a number of mutual funds, along with using individual stocks, bonds, certificates of deposit, and other investments. Roth IRA contributions can be withdrawn at any time without taxes or penalties. Some parents choose to open a Roth IRA for their child with the expectation that any funds not used for college can remain in the account to give the child a head start on saving for retirement. Note: Cannot be opened in the name of the child unless he/she has earned income at least in the amount of the contribution).

If your child does not go to college, your invested funds can be shifted towards your retirement.

More Advantages of a 529

• More than 30 states offer a tax deduction or tax credit for committing to a 529 plan.
• Annual contributions have higher limits than Roth IRAS
• People of all income levels are eligible to contribute to a 529 plan.
• College savings plans are open to residents of any state.
• Withdrawals that are used to pay the beneficiary’s qualified education expenses are completely income tax-free at the federal level.
• Once every 12 months you can roll over the beneficiary’s 529 account to a different 529 plan for the same beneficiary without tax or penalty implications. This qualifies you to choose various investment opportunities if your current plan is not meeting your required rate of return.
• Plan contributions qualify for the annual gift tax exclusion.

Disadvantages of a Roth IRA

• Most fund companies require minimum initial payments of at least $2,500 a year.
• Contributions must be included in base-year income, which can hinder financial aid benefits.
• If you have more than a couple of children, the Roth IRA might not give you enough leeway to contribute towards your retirement and save enough for your kids. High fund requirements may reduce your ability to contribute for multiple children, leaving you with a decision between retirement and your children’s college savings.
• Funds that reside in a Roth IRA cannot be used as collateral for a loan, per current IRS rules, and, therefore, cannot be used for financial leveraging or for investment purposes.

Disadvantages of a 529 Plan

• 529 plans charge various fees to cover investment expenses and the administration of your account.
• Early withdrawals from a 529 plan that are not used for the beneficiary’s qualified education expenses are taxed and penalized.
• College savings plans don’t guarantee your return and are subject to risk; you could lose some or all of the money you’ve contributed.
• Prepaid tuition plans generally require that all tuition credits be used before the beneficiary reaches age 30, and all withdrawals are completed within 10 years of the time the beneficiary starts college.
• In many states, you are generally limited to the prepaid tuition plan offered by your state of residence. Arizona allows you to invest in any state 529 plan and deduct up to $2500 of contributions per year.

With college costs soaring, perhaps it is time for the parents and grandparents to give serious consideration to investing in College Savings Plans.

Yea, Medical Marijuana is Legal – I Can Have a Medical Deduction for it!

Well, not so fast! Medical marijuana is legal on the state level, but on the federal level, it is still considered a Schedule 1 drug under the Controlled Substances Act of 1970. Although legal businesses and activities within the states, marijuana is illegal under federal law.

Currently, 27 states and the District of Columbia have passed laws legalizing some form of marijuana. Additional states are considering legalizing usage in some form or other.

But let’s go back to our original statement. Revenue Ruling 97-9 states that amounts paid for marijuana for medical use are not deductible, even if they are permitted under state law.   The rationale for this decision is that the marijuana was not legally procured under federal law.

So, understand that even if you can obtain medical marijuana and use it, it will not qualify for a medical deduction.

IRS Audits – Are You At Risk?

Now that “tax season” is well, you may believe that you don’t need to think about taxes again until next year. However, some individuals may receive letters from the Internal Revenue Service about their tax return (NOTE: the IRS will never contact you by phone!).

The IRS selects individual tax returns for audit every year. Thanks to Congress for the budget cuts, they are only able to audit roughly less than one percent of these tax returns. How do you know if you are likely to be among that “less than one percent who are audited?

Among the red flags for audit by the IRS are the following:

• Reporting more than $10 million in income
• Reporting no income at all
• Filing an estate tax return with assets worth more than $5 million
• Filing an international tax return
• Being self-employed
• Claiming a lot of deductions

For most of us the first few flags rule us out, but many individuals meet one or both of the last two criteria.

An audit can be very stressful and time consuming. Simple correspondence audits, where the IRS sends you a letter and asks for verification of an item on your return, are not too demanding, but you should consult your tax professional to be sure you understand what the IRS is asking for.

Some correspondence audits can be very involved, asking for verification of many items from your return or asking you to call to set up an “in person” audit. For these you absolutely want to consult with a tax professional. Since response time is limited, consult with your tax professional as soon as possible after you receive the letter. Waiting until the day before the scheduled audit places your representative at a disadvantage that can hurt you.

If you find you have been selected for an audit by the IRS, do not worry. That sounds easy, but most people will worry. Really, the important thing to do is to set an appointment with your tax professional and start gathering the information requested by the IRS.

Start Planning Now for Next Year’s Taxes

You may be tempted to forget all about your taxes once you’ve filed your tax return. Do not give in to that temptation. If you start your tax planning now, you may avoid a tax surprise when you file next year. Now is a good time to set up a system so you can keep your tax records safe and easy to find. Here are some IRS tips to give you a leg up on next year’s taxes:

• Take action when life changes occur. Some life events can change the amount of tax you pay. For example, a change in marital status or the birth of a child. When they happen, you may need to change the amount of tax withheld from your pay. To do that, file a new Form W-4, Employee’s Withholding Allowance Certificate, with your employer. Use the IRS Withholding Calculator Tool on IRS.gov to help you fill out the form. If you are self-employed, you may need to re-determine your estimated payments.
• Report changes in circumstances to the Health Insurance Marketplace. If you enroll in insurance coverage through the Health Insurance Marketplace in 2015, you should report changes in circumstances to the Marketplace when they happen. Report events such as changes in your income (loss of job or big salary increase) or family size. Doing so will help you avoid getting too much or too little financial assistance in advance.
• Keep records safe. Put your 2014 tax return and supporting records in a safe place. If you ever need your tax return or records, it will be easy for you to get them. For example, you may need a copy of your tax return if you apply for a home loan or financial aid.
• Stay organized. Make tax time easier. Have your family put tax records in the same place during the year. That way you won’t have to search for misplaced records when you file next year. Just putting all possible tax related information in a file folder will save you time when tax season rolls around.
• Shop for a tax preparer. If you want to hire a tax preparer to help you with tax planning, start your search now. Choose your tax preparer wisely. Use the Directory of Tax Return Preparers tool on IRS.gov to find tax preparers in your area with the credentials and qualifications that you prefer.
• Think about itemizing. If in the past you have claimed the standard deduction on your tax return, you may be able to lower your taxes by itemizing instead. A donation to charity could mean some tax savings.   Keep track of your medical expenses (AZ allows you to deduct all of them if you itemize,) real estate taxes (both on your home and on any other property you own), extra sales tax paid when you purchase a car, boat, motor home, etc., mortgage interest (on both your primary and secondary homes), and charitable contributions (Don’t forget the AZ tax credits.).

Planning now can pay off with savings at tax time next year.

Tax Related Identity Theft

Identity theft is a frustrating and extremely time-consuming process for victims.

What is tax-related identity theft?

Tax-related identity theft occurs when someone uses your stolen social security number to file a tax return claiming a fraudulent refund. Generally, an identity thief will use your SSN to file a false return early in the year. You may be unaware you are a victim until you try to file your taxes and learn one already has been filed using your SSN.

Know the warning signs

Be alert to possible identity theft if you receive an IRS notice or letter that states that:

• More than one tax return was filed using your SSN;
• You owe additional tax, refund offset or have had collection actions taken against you for a year you did not file a tax return;
• IRS records indicate you received wages from an employer unknown to you.

Steps to take if you become a victim

• File a report with law enforcement.
• Report identity theft at www.ftc.gov/complaint and learn how to respond to it at www.identitytheft.gov.
• Contact one of the three major credit bureaus to place a ‘fraud alert’ on your credit records:
  ◦Equifax, www.Equifax.com, 1-800-525-6285
  ◦Experian, www.Experian.com, 1-888-397-3742
  ◦TransUnion, www.TransUnion.com, 1-800-680-7289

• Contact your financial institutions, and close any accounts opened without your permission or tampered with.
• Check your Social Security Administration earnings statement annually. You can create an account online at www.ssa.gov.

If your SSN is compromised and you know or suspect you are a victim of tax-related identity theft, take these additional steps:

• Respond immediately to any IRS notice; call the number provided.
• Complete IRS Form 14039, Identity Theft Affidavit. Use a fillable form at IRS.gov, print, then mail or fax according to instructions.
• Continue to pay your taxes and file your tax return, even if you must do so by paper.

If you previously contacted the IRS and did not have a resolution, contact the Identity Protection Specialized Unit at 1-800-908-4490. We have teams available to assist.

How to reduce your risk

• Don’t routinely carry your Social Security card or any document with your SSN on it.
• Don’t give a business your SSN just because they ask – only when absolutely necessary.
• Protect your personal financial information at home and on your computer.
• Check your credit report annually.
• Check your Social Security Administration earnings statement annually.
• Protect your personal computers by using firewalls, anti-spam/virus software, update security patches and change passwords for Internet accounts.
• Don’t give personal information over the phone, through the mail or the Internet unless you have either initiated the contact or are sure you know who is asking.

The IRS does not initiate contact with taxpayers by email to request personal or financial information. This includes any type of electronic communication, such as text messages and social media channels.

Report suspicious online or emailed phishing scams to: phishing@irs.gov. For phishing scams by phone, fax or mail, call: 1-800-366-4484. Report IRS impersonation scams to the Treasury Inspector General for Tax Administration’s IRS Impersonation Scams Reporting (1-800-366-4484).

January is Fast Approaching

And it’s time to start thinking about filing requirements other than income tax returns.

I’m sure you’re aware that if you paid anyone as an employee, you must provide him or her with a W-2 by January 31, 2015 and send a W-3 to social security. The easiest way to send them to social security is electronically.

What you may not know is that if you have paid any independent contractor (anyone who did work for you, but is not an employee) $600 or more over the course of a year that you must issue a 1099-MISC to that person, also by January 31, and send a 1096 to the IRS.

We can help. We can prepare these documents for you and be sure they are timely filed. Contact our office if you would like assistance.

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