Sunday, May 25, 2014

Navigating The Myth of IRA Deductions

According to the Merriam-Webster dictionary, a nest egg is a natural or artificial egg left in a nest especially to induce a hen to continue to lay there. Apparently this nest egg could be expanded to include teenagers still in bed at noon...but I digress! Well, we all know that a nest egg is a fund of money accumulated as a reserve and for most of us, that means a retirement account. 

One general trend I saw this tax season was, as more and more median incomes rose shifting people into the next higher tax bracket, more often than not, retirement savings schemes such as the 401(k), the Individual Retirement Account (aka IRA) seemed to be the salaried man's (or woman's) major or only avenue to tax savings. This is what I tell my clients, if the government gives you an opportunity to avoid income taxes, you should grab a hold of it & not let go. 

There are various employer offered retirement plans, like the Section 401(k), 403 (b) etc. These have more or less the same rules for 2014. The maximum annual contribution for these plans remains unchanged at $17,500 and $23,000 if aged 50 and above. The Individual Retirement Accounts contribution limits also remain unchanged for 2014- $5,500 and $6,500 for age 50 and above. 

The maximum contribution limits are easy to remember. The tricky part is understanding the phase-out limits for tax deductions when contributing to an Individual Retirement Account. 

Most of the confusion arises when taxpayers are already contributing into an employer retirement plan and want to bolster that with an IRA contribution. The table below should help: 

Filing Status
Modified AGI
Deduction Available
Single or
Head of Household
$60,000 or less

More than $60,000 but less than $70,000
$70,000 or More

Full Deduction up to amount of your contribution limit: $5,500 or $6,500 if above 50 years of age.

A Partial Deduction

No Deduction
Married Filing Jointly or
Qualifying Widow(er)
$96,000 or less

More than $96,000 but less than $116,000
$116,000 or More

Full Deduction up to the amount of your contribution limit: $5,500 ($11,000 if both doing $5,500 each) or $6,500 if above 50 years of age ($13,000 if both doing $6,500 each).
A Partial Deduction

No Deduction
Married Filing Separately*
Less than $10,000

$10,000 or More
Partial Deduction

No Deduction

*If filing with the MFS status and the taxpayer did not live with the spouse at any time during the year, the IRA deduction is determined as if under the "Single" filing status. 

If you go through the above table you will get that being in the "Full Deduction" and "No Deduction" group is easy to figure out, however if you fall into the "Partial Deduction", make sure you talk to a tax professional BEFORE you make your IRA contribution for the year. 

I would say DO NOT try any of these calculations on your own if you do not know what your Modified AGI or MAGI is going to be for the year. 

Bibliography: Publication 590

As always, read my disclaimer here. Please consult a qualified tax professional for your unique tax needs. 
More of my contact information is on my website, 

Friday, May 16, 2014

Alimony? What Is That? And Do I have to report It on my taxes?

The word Alimony comes from the Latin Word alimonia which means nourishment or sustenance. It also comes from Scots Law which is the legal system of Scotland and their concept of aliment. This was a rule of sustenance to assure the wife's lodging, food, clothing and other necessities of divorce. 

In the 1970s, the United States Supreme court ruled against gender bias in alimony awards. You may remember some high profile divorces, where women such as Britney Spears, Jessica Simpson etc have paid multimillion dollar settlements in lieu of alimony to their ex-husbands like Mother Goose in this cartoon! 

 Alimony is not child support. Child support is paid by one parent to the custodial parent mainly to support the needs of their children. Usually child support is not considered taxable income to the parent receiving it and is not deductible by the parent making the payments. However in most countries and certainly in the US, alimony is deductible to the person paying it and taxable income to the person receiving it. 

The Treasury Inspector General for Tax Administration (aka the TIGTA) recently released a report that "Significant Discrepancies Exist Between Alimony Deductions Claimed by Payers and Income Reported by Recipients". This report highlights the errors made by taxpayers & preparers alike in reporting alimony. 

How Should Alimony Paid/ Received Be Reported By the Taxpayer?

  • The Alimony paid to an ex-spouse should be part of the divorce decree. Such decree should be examined thoroughly. Child support or other payments to be made by decree have to be clearly separated from alimony. 
  • The ex-spouse's Social Security Number should be noted correctly and reported on the tax return by the spouse making the alimony payments. 
  • The alimony paid is an above-the-line deduction, taken on line 31a of the Form 1040. 
  •  Alimony received is taxable income and is reported on line 11 of the Form 1040. 

TIGTA recommended that the IRS evaluate its current examination filters. This is to make sure that potentially high-risk tax returns are not excluded from examination and the IRS develops a strategy to address the compliance gap. 

TIGTA also recommended that the IRS revise processes and procedures to verify that all tax returns include a valid recipient TIN/ SSN when claiming an alimony deduction and correct errors in IRS processing instructions to ensure that a penalty is accurately assessed on all tax returns on which a valid recipient TIN/SSN is not provided.

If you use a software to prepare your tax returns, it should give you an error message if you are claiming an alimony deduction without a recipient's SSN/ TIN. 

We have to wait and watch how the Internal Revenue Service implements the TIGTA's suggestions, till then make sure you are reporting Alimony in a correct manner. 

As always, read my disclaimer here. Please consult a qualified tax professional for your unique tax needs. 
More of my contact information is on my website, 

Sunday, May 11, 2014

U.S. Persons And Their Investments In Foreign Corporations

It's like the popular song from Disney, "It's a Small World After All"! And it's getting smaller as we speak! The global entrepreneur is a common phenom. Of course this leads to more tax compliance issues. The tax compliance issues can be solved by hiring a knowledgeable tax professional. To give you an overview of the requirements, here's some information: 

What is Form 5471?: If you are a U.S. person or a resident, and are an officer/ director or shareholder in certain foreign corporations, you have reporting requirements to satisfy Sections 6038 and 6046, and the related regulations. This is done via Form 5471. 

Generally all U.S. persons or residents falling under the requirements of the Categories of Filers as specified in the instructions have to file Form 5471. The form has to be attached to one's income tax return and has to be filed by the due date (including extensions) of the income tax return. 

A separate form 5471 and applicable schedules have to be filed for each applicable foreign corporation. 

Categories Of Filers: The definition of the U.S.person or resident is different for each category of filers. Instructions have to be read carefully & applied so that correct schedules are filed with the Form 5471. The details of these categories are available in the instructions for the form 5471. I recommend one should NEVER attempt filling this form without professional help. 

What is a CFC?:  A CFC is a foreign corporation that has US shareholders that own directly, indirectly or constructively within the meaning of sections 958 (a) and (b) on any day of the tax year of the foreign corporation, more than 50% of: 

  1. The total combined voting power of all classes of its voting stock or
  2. The total value of the stock of the corporation. 
Exceptions From Filing Form 5471: 

  • Multiple Filers of Same Information. One person may file Form 5471 and the applicable schedules for other persons who have the same filing requirements. The person filing forms 5471 must complete Item D on page 1 of the form. All the persons identified in Item D must attach a statement to their tax return that includes the information described in the instructions for Item D. Note: Exception exists for Category 3 filer.
  • Domestic Corporations. Shareholders of a foreign insurance company that has elected to be treated as a domestic corporation and has filed U.S. income tax return for its tax year under provisions of section 953(d). 
  • Members Of Consolidated Groups.A category 4 filer is not required to file form 5471 for a corporation that files a consolidated return for the tax year. 
  • Constructive Owners. Various categories of filers are considered constructive owners under different conditions. 
Additional Filing Requirements:  There are additional filing requirements for 
  • Category 3 filers; 
  • Certain category 2 & 3 filers who are shareholders, officers and directors of Foreign sales corporations (FSCs); 
  • If a Section 338 election is made with respect to a qualified stock purchase of a foreign target corporation; 
  • Reportable transaction disclosure statement, Form 8886 as indicated in Regulations section 1.6011-4(c)(3)(i)(G). There are penalties for failure to report such transactions under section 6011; 
  • Material advisors;
  • Holders of other foreign financial assets. Form 8938 may have to be filed due to threshold requirements.  
Penalties: There are civil & criminal penalties for failure to file, and failure to furnish information on form 5471 and certain schedules.  
  • Failure to file information required by Section 6038(a)
  • Failure to file information required by Section 6046

As always, read my disclaimer here. Please consult a qualified tax professional for your unique tax needs. 
More of my contact information is on my website, 

Sunday, May 4, 2014

Tax Exemption: A Precious Status, Take Care Not To Lose It!!

Martin Luther King Jr said, "Life's most persistent and urgent question is, what are you doing for others?" Daily routine is an all-consuming machine, we do forget to ask ourselves this question.  

Speaking of doing something for others, brings to mind Charitable Organizations. May 15th is creeping up on us real fast. And for those of us who have non-profit organizations as clients, we know that it is the deadline to file Form 990. This form is due on the 15th day of the fifth month after an organization's tax year ends. Since most use the calender year, the deadline for them is May 15th. 

A non-profit or a tax-exempt organization is one which seeks exemption from federal income tax under section 501 (a). To qualify for exemption under the code, your organization must be organized for one or more purposes as specifically designated in the code. 

The difference between a non-profit and tax-exempt status according to the IRS is, "nonprofit" is a state law concept. However, being granted this status at the state level does not automatically make it tax-exempt at the federal level. One has to file Form 1023 to obtain exemption from federal tax. This is a long, laborious and sometimes expensive process. 

This exemption obtained with so much hard work must be maintained at all costs. Consequences of non-filing of Form 990, 990-EZ or 990-PF or submitting a From 990-N for three consecutive years is automatic revocation of the tax-exempt status. 

In addition to receiving a letter for the automatic revocation, the IRS also lists the name, last known address and EIN and other details about the organization on it's Auto-Revocation of Exemption List.  This is a public list and is available on the Exempt Organization Select Check Tool to the public within a month of the revocation. 

For an organization collecting tax deductible contributions from the public, being on this list is a sign of negligence. The contributions may stop coming in if the donors look for the it's legibility online and find it on the Auto Revocation of Exemption List.

In order to avoid being in such a situation, an exempt organization needs to hire a tax professional with knowledge of non-profits & their requirements. This tax professional would make sure that the organization is current with it's filings and is on track to staying exempt.

Bibliography: Exemption Requirements;; From 990 Instructions; Other IRS Rules & Regulations.  

As always, read my disclaimer here. Please consult a qualified tax professional for your unique tax needs. 
More of my contact information is on my website,