The Tax Tips Blog - Answers to your Federal tax questions

Required Minimum Distributions

David Greenslit CPA — 2008-03-21T13:25:00Z

The required minimum distributions rules for Individual Retirement Accounts (IRAs) rely on IRS provided tables that use standardized life expectancies based upon your age. When using their tables (IRS tables) you use your age as of the end of the year to which the distribution applies, and the Fair Market Value of all your IRAs as of the beginning of the year.

CCH has an easy to use calculator here: RMD When using their calculator, you should enter your beneficiaries age if you have one. Because of the distribution rules that cover what to do when you don't have beneficiary, I recommend that you do have a beneficiary.

Stimulus Rebate and Dependents

David Greenslit CPA — 2008-03-19T03:57:00Z

People claimed on another's return do not qualify for the Stimulus Rebate. When deciding if parents should claim their child for one last year, the Stimulus Rebate should be considered. There are no age limits on the Rebate that I am aware of. We often compare the total tax a family would pay two ways. With them claiming their child and without them claiming the child. This often occurs when children are of college age. The potential $600 that they could get, if they have enough income, should be considered when figuring who should claim the child, MAYBE.

Part of my uncertainty here is caused by what I call the 2008 Make Up filing. I expect that those who missed out on this May's payment will still have chance at getting it later. According to the IRS, "If you're not eligible this year but you become eligible next year, you can claim the economic stimulus payment next year on your 2008 tax return."

So, if a child aged 18 is claimed by their parents for 2007, can they next year when filing their 2008 return, in effect claim that they are entitled to their $600, because they actually claimed themselves on their 2008 return, the period to which the Stimulus Rebate is tied to? If this is allowed, the parents can benefit from claiming them for one more year, and they can get the rebate. This is different than the rule that says, dependents can't get the rebate. I am not offering an opinion about whether this will be possible? I am asking for my readers comments on it.

Lease with Option to Buy Real Estate

David Greenslit CPA — 2008-03-18T21:57:00Z

I have a client who is renting out their former residence and giving the renter a $1000 credit per month towards the purchase of the house at the end of a 2 year lease. The question is, did my client really sell his house or is he leasing it out? There doesn't seem to be a hybrid answer where the $1000/month is treated differently from the rent payment. The IRS has I think in this case said that you have one or the other and that the total monthly payments are either all rent or all payments on the sale of the house. We ended up here, treating all the payments as rent income, based on the circumstances. I good description of the rules is available from CIRE Magazine: Lease Option

Unrecovered costs at death in annuities and retirement plans

David Greenslit CPA — 2008-03-16T22:29:00Z

There's a question of what to do with the remaining basis of an annuity upon the death of its owner? In Minnesota many people receive Public Employee Retirement Association (PERA) when they retire. I expect to see on their 1099-Rs a slightly larger Gross distribution than Taxable distribution. The difference represents a part of their unrecovered basis in the plan (of their after tax money). Where does this untaxed money go upon their death? I think it goes to their beneficiary when there is one.

I noticed a surviving spouse taking over the payments recently. The spouses 1099-R didn't show basis because the Gross distribution equaled the Taxable distribution. It seems we should either convince PERA to change how it does things, or find out what the remaining basis is and figure the basis recovered each your ourselves.

In looking into this issue if found this clear as mud support for my position: Basis Cornell who has this information is thanked. The problem with trying to understand it is with the IRS, who wrote what Cornall reproduces, who often fails to write in simple terms for normal people. I can also write that carrying forward and using this uncovered basis makes sense to an accountant because it balances the books. Because the money that was once taxed, is not taxed again.

"the deduction... ...shall be allowed to the person entitled to such payments for the taxable year in which such payments are received." - The IRS

Reporting Sales of Covered Calls

David Greenslit CPA — 2008-03-16T00:53:00Z

Selling Covered Calls is when you own a stock and sell the right for someone else to "Call" it away from you and make it theirs, at an agreed upon price. If your stock is trading for $100/share, you might sell a call for sometime to buy it at $105/share. So, if the stock rises above $105 before the call expires, this other person will most likely buy it. If the stock prices rises to $110, they can buy it from you for $105 and turn around and sell it for $110, making a quick profit. So what would sell such an option for? The market will determine this. I'd say all calls have an expiration date.

It to me is similar to selling an option on land. You can sell an option for someone to buy your land at an agreed upon price for a certain amount of time. The question de jour is, how to report the money from covered call sales on your 1040?

If the Call expires worthless, that means it isn't exercised, you report the income as capital gain. If the stock is called away from you, you add it to your Gross Proceeds when you report the sale of the stock, you just had to sell, because it was called away from you.

Most Covered Calls are written for less than a year. So the next question is, is the income from an expired call Long or Short term gain? It has some attributes of both long and short term. If the stock is called, this money is treated the same as the underlying stock, so it would be long term if the stock has been held for more than a year. But in the case of an expired call, it seems a short term bet was made that the stock wouldn't rise much. That's a question this CPA wishes to look into another day, and I'd appreciated your comments hopefully with links that support your position.

Brokers are getting good about providing Realized Gain and Loss Summaries. If you receive one of these from your Broker to help you with your income taxes, and you have Covered Call Sales, ask the broker if they correctly treated the Sales by adding them to any stock that was Called? And then ask them to prove it to you, by showing how they came up with the basis numbers related to covered calls sales?

Thanks to: slcg.com

Child and Dependent Care Credit and Single Parent Students

David Greenslit CPA — 2008-03-15T17:32:00Z

For the Child and Dependent Care Credit, married couples generally need compensation for the credit to be taken. If only one spouse works, the credit in not allowed. There is an exception to this rule if the spouse is a full time student. Being a full time student counts as having compensation for the credit. 2441 instructions

What is unclear is what to do when there is a single parent that is a student? We could conclude that even though the IRS doesn't say that the credit is allowed in the situation, it is. We might argue that what the IRS writes about married couples, would apply to single parents.

My current position is that an informed client of mine can decide to claim the credit. What I'd like see is more discussion about this issue, and for the IRS to clarify its position.

Sale of an Inherited House

David Greenslit CPA — 2008-03-12T03:10:00Z

When you've inherited a house and later sell it, you could be looking at a taxable gain or loss. At the time of sale, you will generally compare the house's Fair Market Value on the date of death to what you get for it, less selling costs. During the time you hold the house, you can deduct property taxes. Here's a rather aggressive opinion from TaxMama, about what to do with some of the other costs related to maintaining the house: Inherited House

Don't Mess With Taxes

David Greenslit CPA — 2008-03-12T02:59:00Z

The award for funniest name for a tax related website goes to: Don't Mess With Taxes, a site that covers: "money news, notices, tips, commentary, insight and humor". The site appears to be Texas journalist Kay Bell's. Taxes

Babysitters and Newspaper Carriers under the age of 18

David Greenslit CPA — 2008-03-10T22:32:00Z

From kiplinger.com: "...teenage babysitters are normally considered employees, so they are exempt from paying self-employment tax. There's also a specific exemption for newspaper carriers under age 18.

If a child under 18 is working part-time as a household worker (this means babysitters, gardeners, people who do housecleaning or repair work, or anyone who is employed in or around someone else's home), he or she is also exempt from the Social Security tax."
http://www.kiplinger.com/columns/drt/archive/2007/dt070703.html

It's been my general advice that if your child is in a similar situation, they don't have to pay the Self Employment Tax. The income is reported on line 21 of form 1040. I code it "Child's non SE earned income", so that my tax preparation software knows its relevant attributes and treats it in the correct way. Line 21 is used for almost everything that doesn't fit someplace else on the return. In the case of a child with earned income from babysitting entered on line 21, their standard deduction should be tied to this line 21. As their line 21 increases, their standard deduction generally also increases, up to the 2007 maximum of $5350.

Online Sales - Here comes the IRS

David Greenslit CPA — 2008-03-08T20:56:00Z

From CNET News: "The U.S. Treasury Department wants Congress to force auction sites like eBay, Amazon.com and uBid.com to turn over the identities and Social Security numbers of a large portion of their users to the IRS--so tax collectors know how much each person made through online selling.

The effort is part of a larger plan, which enjoys enthusiastic support from both Democrats and Republicans, to close what's known as the "tax gap." It's a broad term that covers Americans who don't file tax returns or those who underreport their income, and the IRS believes it to total around $345 billion for the 2001 tax year." More

My comments: This type of income should be reported when there is a material amount of it. There may be some arguments for not reporting it in limited situations. If you sell your old boat on eBay, mostly like you'll have a non-reportable personal loss. If you are buying boats to resell them on eBay, then I'd say you have a business, and you need to be reporting it on your 1040. Material omissions of income from your 1040 tax return is a serious matter. Whether or not Congress acts to require auction sites to report these sales doesn't matter. If someone fails to report to you taxable income that you earned, the law (and this CPA) says you still have to report it.

Home Foreclosure debt cancellation income exclusion

David Greenslit CPA — 2008-03-05T19:59:00Z

From: The LA Times: "Debt cancellation exclusion. Before last year, if you lost your house in foreclosure or were forced to sell it for less than the loan amount, you'd typically be subject to "debt cancellation income." The short version: The IRS assessed income tax on the money you didn't have to pay back.

Let's say you had a home with a $500,000 mortgage and a market value of $450,000. Before Congress passed a three-year exception to help people cope with the sub-prime crisis, if the lender took the home in foreclosure and you walked away owing nothing, the $50,000 difference was taxable income to you.

For 2007 through 2009, debt cancellation on your primary residence, whether as the result of a so-called "short sale" or a foreclosure, is not taxable. (Taxpayers are likely to get a 1099C showing the phantom income, however, so you must fill out a Form 982 to exclude that income from tax, Perlman said.)" Debt income

My advice here is to not automatically assume you have taxable income to report. Another aspect of the situation is that the Exclusion on the sale of your home can apply and cancel out the difference between what you paid for it (plus additions), and what it was worth when it was foreclosed upon.

At this next link, there is guidance on other ways to exclude canceled debt from income. Of note is the general rule that, "The cancellation takes place when you are insolvent... ...and the amount excluded is not more than the amount by which you are insolvent." Canceled So, it would seem that canceled credit card debt, may in some cases be excluded from income.

Top ten ways to annoy an IRS Agent

David Greenslit CPA — 2008-03-05T17:10:00Z

Top ten ways to annoy an IRS Agent.

Veterans Disability Payments and the Tax Rebate

David Greenslit CPA — 2008-03-03T20:26:00Z

The question arose as to how to inform the IRS about the amount of a client's only source of income, Veterans disability payments. Since they are generally non-taxable, the IRS has no line on their forms for it, yet it is qualifying income for the rebate. Here is a link to the answer: Veterans
The IRS is telling us to put the income on the same line as total Social Security Benefits. Also note at the top of the page the words, "Stimulus Payment". Be sure to have that on the return for Rebate Only Filings.

Casino Drawing Winnings and Deducting Loses

David Greenslit CPA — 2008-03-02T23:56:00Z

Casino drawing winnings are taxable. The question arises as to whether or not someone can deduct their gambling losses from a drawing winning? Guidance is provided here:
Drawings
It seems the crux of the matter is proving a direct relationship between the drawing and other gambling activity. If there is one, I'd be OK with an informed client taking the deduction. It would be helpful if Casinos took this into account, and structured their drawings in such a way as to require a minimal amount of gambling in order to enter the drawing.

Tax Rebate Calculator

David Greenslit CPA — 2008-02-28T21:23:00Z

A handy tool for calculating what your 2008 income tax rebate should be is provided by Kiplinger.com: http://kiplinger.com/tools/rebate/

Inherited IRAs and transfers

David Greenslit CPA — 2008-02-27T04:41:00Z

I had a client who inadvertently transfered an inherited IRA into their regular traditional Individual Retirement Account. This transfer is not "allowed" by the IRS. Inherited IRAs, that are not from a deceased spouse, have special rules that generally say that the IRA will be taxed because the custodian of the IRA is required to make taxable distributions of the IRA to its beneficiary.

The required and allowed distributions range from taking all the money right away, to over many years. Typically, people like the option of not having to take any distributions, but that isn't possible.

So the IRS wants people to keep their inherited IRAs separate from their regular traditional IRAs, since there are different rules for each.

I advised my client that the inherited IRA that was transfered was taxable and he'd have to pay taxes on it. The next question was, what to do with the combined IRA account? Could he take the inherited money out tax free because he just payed taxes on it? Another possible answer was that his new combined IRA has what we call a basis. When he took money out in the future, part of it wouldn't be taxed to balance the books on what he had already paid tax on. After some research, I couldn't find any guidance for him.

We considered a complete distribution of the account so as to avoid uncertainty. If that was done, he wouldn't pay tax on his assumed basis, or his perhaps allowed distribution of what he'd paid tax on. So I figured that the IRS couldn't have it both ways, by not allowing him both his basis and a 'corrective' distribution. This wasn't too appealing of an option, since his IRA would be gone. But it would hopefully end the problem. Fortunately, the problem was resolved. The bank (IRA custodian) took responsibility and un-transfered the money. What the bank apparently did is, transfer money from an account entitled: the beneficiary IRA of John Doe into an account entitled: the IRA of John Doe. This is something we might assume it would know not to do.

Still, I have a question for my readers. What happens to the inherited IRA money that was transfered into the normal traditional IRA account? Can it be distributed tax free the next year, is it part of the basis, or is there some answer I haven't thought of?

Federal changes not adopted by Minnesota

David Greenslit CPA — 2008-02-26T21:08:00Z

Due to a number of circumstances, Minnesota has once again failed to adopt or renew some Federal tax laws. Minnesota generally follows the IRS's rules when it comes to personal income taxes. It is expected that they will "renew" some provisions of its tax code. But that hasn't happened yet for tax year 2007. This year there are a number of adjustments some taxpayers should be making when filing their form M-1.

Some of these adjustments relate to:
The tuition and fees deduction on federal Form 1040
The educator expenses deduction on federal Form 1040
Qualified mortgage insurance premiums on federal Schedule A
See More

If the Minnesota legislature does eventually renew these expired provisions, people who have already filed, should amend their Minnesota form M-1s.

Minnesota Property Tax Refund and Household Income

David Greenslit CPA — 2008-02-20T03:06:00Z

The State of Minnesota offers a Property Tax Refund for individual filers. It is based on Household income and the amount of property taxes paid by a homeowner, or in the case of renters, the amount of deemed property taxes paid through their rent.

Some people with middle and higher incomes do not qualify for the refund as it is progressive. The more Household income one has the greater the chance that they will not get a property tax refund. Household income is similar to one's Adjusted Gross Income, but there can be adjustments to it.

An important adjustment to it can be when two or more unmarried people share the same household. In some cases, the income from this other person or people should be combined with the filers income, to arrive at Household income for the Property Tax Refund. The rules for when to do this are found here:
http://www.taxes.state.mn.us/taxes/prop_refund/instructions/m1pr_inst_07.pdf

It is this accountant's wish that the rules were a little more helpful.

I have seen a Minnesota Revenue auditor claiming that they have information that another party lives with a Property Tax Refund filer. I would assume, they use a data base of all returns filed and look for matching addresses. They then might attempt to question a Property Tax Refund's legitimacy by arguing that the Household income was under-reported. I would advise property tax refund filers who live with others, to review the Household income rules.

The Residential Energy Credit

David Greenslit CPA — 2008-02-19T20:14:00Z

More good guidance for understanding what qualifies for the Residential Energy Credit is found at: http://www.energystar.gov/index.cfm?c=products.pr_tax_credits

Many non-filers eligible for 2007 Tax Return Rebate

David Greenslit CPA — 2008-02-17T05:49:00Z

The IRS has clarified the status of non-filers and the 2007 Tax Return Rebate. Some low income people are not required to file a return. Often times there is no tax benefit for them filing, but 2007 will be an exception for many of them.

The IRS recently stated on its website:

"The law also allows for payments for select taxpayers who have no tax liability, such as low-income workers or those who receive Social Security benefits or veterans' disability compensation, pension or survivors' benefits received from the Department of Veterans Affairs in 2007. These taxpayers will be eligible to receive a payment of $300 ($600 on a joint return) if they had at least $3,000 of qualifying income.

Qualifying income includes Social Security benefits, certain Railroad Retirement benefits, certain veterans' benefits and earned income, such as income from wages, salaries, tips and self-employment. While these people may not be normally required to file a tax return because they do not meet the filing requirement, the IRS emphasizes they must file a 2007 return in order to receive a payment."

The IRS further stated that: "Recipients of Social Security, certain Railroad Retirement and certain veterans' benefits should report their 2007 benefits on Line 14a of Form 1040A or Line 20a of Form 1040. Taxpayers who already have filed but failed to report these benefits can file an amended return by using Form 1040X. The IRS is working with the Social Security Administration and Department of Veterans Affairs to ensure that recipients are aware of this issue."

Some filers may not have used line 14a or 20a as they are not required to do so by the IRS when their Social Security is not taxable. Low income filers should review their situation. I'd consider any problems one might have receiving the rebate, correctable.

Many retired people with lower incomes will benefit from this rebate. The rebate is automatic for people who file a return.

As usual, there are limits and qualifications for the rebate. Some higher income taxpayers will not receive a rebate check, as the IRS states on its site: "Payments to higher income taxpayers will be reduced by 5 percent of the amount of adjusted gross income above $75,000 for individuals and $150,000 for those filing jointly."