Cancelled Debt and How It May Affect You

Sometimes things happen in life that are outside of our control. Medical bills, job loss, and catastrophic uninsured damage to a home are just a few things that could happen to each and every one of us. When unwelcome events like these happen it may make paying bills harder and can ultimately lead to losing a car or house in exchange for debt forgiveness. Although you would be relieved of your obligation to pay back your debt, there is another party waiting in the distance to collect; the IRS.

What is Cancelled Debt and How is it Reported?

Cancellation of Debt "COD" income, as the IRS defines it, is any debt for which you are personally liable, which is forgiven or discharged for less than the full amount owed. The debt is considered canceled in whatever amount remains unpaid. Creditors are responsible for reporting cancelled debt to taxpayers for amounts $600 or greater on form 1099-C. Taxpayers who receive COD income (regardless of whether or not they receive a 1099-C) must report the cancelled debt on their income tax return and pay income tax for the amount forgiven.

What to Do if You Receive COD Income

Like anything else tax related, don’t ignore any tax forms you receive, including a 1099-C. Remember, anytime you receive a tax document from a third party, there is a very high likelihood that the IRS has also received a copy. The IRS is expecting that you will report all tax information, and if you don’t, they’ll correct your return for you and throw on some penalties & interest for their trouble. Even if you don’t receive a 1099-C, you are still responsible for claiming any COD income on your return.

There are however some exceptions and exclusions as to when COD income is taxable (listed below). Visit the IRS website for more information about each.

Exceptions (do not reduce tax attributes)
1) Gifts, Bequests, Devises, and Inheritances
2) Student Loans
3) Deductible Debt
4) Price Reduced After Purchase
5) Home Affordable Modification Program

Exclusions (may reduce tax attributes)
1) Bankruptcy
2) Insolvency
3) Qualified Farm Indebtedness
4) Qualified Real Property Business Indebtedness
5) Qualified Principal Residence Indebtedness

Before you get too excited, it’s important to understand that the exceptions and exclusions listed above exist in a very narrow set of circumstances and the rules have changed numerous times over the last decade. Discuss any tax ramifications with your tax advisor if you have any COD income. I will go into more detail on two of the most common types of COD income in the next section.

Mortgage Relief and Consumer Credit

The most common types of COD income include Qualified Principal Residence Indebtedness and consumer credit. For taxpayers whose primary homes are foreclosed or sold in a short sale, they are required to report COD income, but may not be responsible for paying income tax on the COD income they receive (effective through December 31, 2016 as of the time of this writing). This is thanks to the Mortgage Forgiveness Debt Relief Act of 2007. The good news here is that there is talk (as of the time of this writing) to extend the Qualified Principal Residence Indebtedness relief permanently for all future years.

For consumer credit (such as credit cards), taxpayers can almost always expect to pay income tax on any COD income they receive, unless one of the exceptions or exclusions from the above section apply. In instances where a car or boat is repossessed and a loan is forgiven there may also be tax consequence. These are common examples of when taxpayers are blindsided. Remember this if you ever need to negotiate with your credit card company to reduce an amount due.

One more note of caution. Although there are exceptions and exclusions at the federal level, some states may still require that income tax be paid on COD incomeregardless of the federal exclusion. Again, consult with your tax advisor to whether this pertains to your situation or not.

How Much Will I Owe?

If you find yourself faced with a situation where you know you’ll have to pay tax on COD income then it might be wise to plan ahead. COD income is taxed at your marginal income tax rate. So for example, a taxpayer with COD income of $10k in a 15% tax bracket (plus state) will face at least $1,500 in additional income tax related to the COD income. In a separate example, if you had a car with a $20k note on it and you returned the vehicle worth $18k and were forgiven for your debt, only the $2k difference would be taxable at your marginal tax rate. What these examples tell us is if you’re going to attempt to have debt cancelled or forgiven, it would be ideal to do it as early in the year as possible to afford you more time to save up to pay your tax bill.

Debt forgiveness has more than just an income tax effect. It can also impact your credit score. Sometimes it may make more sense to get out from under a loan rather than try to endure the hardship of paying it back. In those cases, COD income and lower credit scores may be worth the trade-off. However, given all of the adverse consequences of debt forgiveness, taxpayers should consider debt forgiveness as a strategy only as a last resort.

I hope this was informative to readers. It’s not common that taxpayers receive COD income but it is a growing trend and more people are finding themselves faced with the issue. Feel free to leave comments or questions below!

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Why You Shouldn't Always DIY

In today’s connected world it’s easier than ever to learn how to do almost anything or “do-it-yourself” (DIY). Sometimes it can be fun and exciting to challenge yourself to do something you couldn't previously do and it is oftentimes quite rewarding when you are successful. But there are things that, despite having a basic or conceptual understanding of, should be left to the professionals. This week I’m writing about why sometimes it makes sense to not DIY. To keep it relevant for readers, I’ll tie my advice back into accounting related areas.

Opportunity Cost

Opportunity cost is best defined by Investopedia as a benefit that a person could have received, but gave up, to take another course of action. For example, if you chose to spend your time doing bookkeeping for your small business then you might find you’re giving up the opportunity to pursue new sales prospects or allow yourself some much needed downtime to recharge. Yes, anyone can teach themselves how to do almost anything, but is your time really worth spent doing everything yourself? Not to mention that we as human beings cannot really master everything and will inevitably encounter something we can’t handle, or will unknowingly do something wrong. In short, is your time really worth doing things you can hire others to do the right way the first time? Sometimes hiring a professional first may be a better use of time in the long-run.

How Much Could It Possibly Save?

Above I mentioned you’ll spend your time in lieu of paying someone to do something for you. But consider this, how much could you possibly save for a certain task? Think of your taxes, if you do them yourself you still have to buy software and then you have to enter the info and follow directions. The Q&A style software packages that are available are not designed to “think” but instead guide you to a reasonable answer. It might tell you that rental property is depreciable and guide you to receive the appropriate deductions, but does it also tell you that by itemizing each rental property asset you can receive a greater tax deduction? Do you see the difference here? In addition, you are the one preparing your taxes which likely takes even the most prepared person a couple of hours. So now not only have you paid for a program to guide you (at best), but you also just spent a couple of hours of your life all to save yourself a couple hundred bucks from a tax preparer. I can promise you this, the best professionals, no matter what you need done, will save you time and money, and will deliver a quality product that a non-professional can't even get close to.

Jack of all Trades, Master of None

You simply cannot be a master of everything in life. Our brains are not wired to retain that much information and I have to imagine someone who is a “know-it-all” probably does not lead a very exciting life and is probably not fun to be around. I have always followed the guidance to do what you love. Pick a few things that really interest you and hone those skills. Get well-trained in them, I mean ridiculously trained, and then help others using those skills. If you have a genuine interest in something, you’re far more likely to excel at it than if you’re learning something out of necessity. For things that you find less interesting, find someone who performs amazingly well at them and bring them on your team to help out. You’ll be happier if you only ever have to do the things you love rather than the things you need to do.

Knowledge, Training, and Experience

Finally, we arrive at the defining trait; experience. Anyone can gain the knowledge of how to do something. Most can even receive some sort of training (formal or informal). But nothing will ever substitute experience. I don’t care if you know exactly how to do your books down to the penny and you’ve seen a hundred Balance Sheets & P&Ls in your time, if you’ve never prepared one or handled a general ledger system, you will mess it up. Even if you ran one successful business 10 years ago your thinking may be so outdated and irrelevant at this point that it doesn’t matter. If you truly want to DIY, consider shadowing a true professional in what it is you want to learn. Offer your time for free for a while in exchange to learn a skill. Most professionals would likely welcome the free labor and be happy to teach someone with a genuine interest to learn what they know. By learning from a master, you will not only save yourself endless hours of learning things the hard way, but you will have less errors in your work, dramatically improving the quality.

I hear it over and over again from my clients that they’ll take care of certain things themselves only to get the unfortunate news from me that things have been prepared or performed incorrectly, or worse, that they’re out of compliance on items. It’s usually only after it’s too late that my clients approach me to clean things up and do the work going forward. My challenge to anyone reading this is to consider that path from day one rather than as a backup plan. Don't leave it to chance that things will be okay. Instead, ensure that you’re receiving the best service and quality of product you can instead of burning yourself out trying to learn something simply to save a few bucks. In the world of business, it only takes one error to set you back all the money you "saved".

I’ll leave you with one final example. This is a real life example of a conversation I had with a client. My client approached me for a tax consult early one year after he received his 1099-MISC from one of his largest clients and explained that he had an LLC setup to be taxed as an S Corporation but the 1099-MISC was written to him personally (it had his name and SSN on it). I explained that since he had personally received payment all year, and the 1099-MISC was addressed to him, that it would unfortunately have to be reported on his personal tax return. I further explained that if he had been set up with his client for them to write checks and issue tax documents to his LLC, that he could have potentially saved thousands of dollars under certain allowable corporate tax deductions. Although we agreed that it would be time-consuming and costly to try to amend and correct everything that had happened, he was able to apply this newly found knowledge to future years. My point here is that if had obtained a tax consult from the beginning, he could have saved himself thousands of dollars from day one.

Any interesting DIY stories or mishaps in your past? Any questions? Comment below and let us know!

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How to Handle Tax Notices

Now that summer is officially here taxpayers have likely started receiving notices from the IRS (and states) for regarding issues with their most recent tax year’s filings. Some of these notices include recalculation of tax bills, failure to file (and pay) notices, and even the dreaded audit notice! As alarming as these may seem, and some of them may be, a more common reason a taxpayer receives a notice is a request for additional information. Long story short, most inquiries can be handled easily with a written response to the notifying party through the mail.

What to Do

If you find yourself in a position of having received a notice there are a few things you should do. First off, do not ignore the notice! I can’t stress this enough. As with most things in life, by ignoring the notice, you’re just going to make the matter worse. Even if you don’t think you can resolve the issue on your own, you’re better off hiring a tax professional to act on your behalf. The right individual (or firm) will be able to explain the notice to you and prepare any supporting schedules or correspondence on your behalf. If necessary, you can even complete a Power of Attorney to grant them authority to speak and act on your behalf. If you ignore the notice though, penalties, fines, and interest (as well as levies) can accrue quickly. I have heard several cases recently of garnishments being imposed among taxpayers at both the federal and state levels; all because those taxpayers ignored the notices they received.

Regardless of if you choose to retain someone to help guide you or go it alone, you’ll need to locate the documentation regarding the tax year you received a notice for. Notices typically indicate the year, issue, any recalculations made, and a response due date, as well as directions on how to respond. Make note of the due date since missing it carries its own consequences.

Formally Respond

When reviewing your notice you will be presented with options. You usually have the opportunity to comply (and pay any difference due) or disagree and explain your side. In the event that you find the notice is correct and you owe more in tax, your best course is likely to pay the amount due and move on. If the amount is large and you can’t pay it in one lump sum you should be able to enter into an installment agreement to pay it over time. If you disagree though, then it is worth your time to review your supporting documentation and draft a well-written response stating the facts as you have them and citing why you feel your position is justified. When drafting your response it is best practice to indicate all of the header information from the original notice as reference for the receiving party. Be sure to include your social security number and sign your response. If you are married and filed jointly with your spouse then you should include your spouse’s social security number on the response and have them sign the notice as well. Note that any unsigned written correspondence will not be valid.

Business Tax Notices

If you are a business owner then the scope of notices you might receive is different. In addition to receiving a notice related to income taxes, you may also receive a notice regarding sales taxes or payroll withholding taxes. Most commonly, notices for either of these types of taxes arise out of a failure to file the correct forms. If that is the case, you should file any missing forms and remit the associated taxes immediately. Since sales taxes are controlled by the states, you are playing with fire if you fail to file and pay on time. The states have the authority to close your business until all back taxes have been paid. This is clearly not a problem you want to have. You can treat payroll taxes with the same urgency (if not as a higher priority) because those cases you will likely have the feds and state looking to be paid.

I hope you found this brief read helpful. It’s hard to give specific advice because all notices are different as is every taxpayer's situation. As unexciting of a topic as it is, the information is handy to have nonetheless. Taxpayers should take time to think through their options if they receive a notice, but they certainly should not wait too long to act or ignore them either. If you have questions you should reach out to a professional or contact the notifying party for guidance in resolving the matter. Individuals will find it hard to live their lives if garnishments and levies are imposed upon them, and similarly, business owners can have their operations halted if they do not comply with the notices.

Have a tale to tell? Leave your comments below!
 

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5 Online Security Habits You Should Adopt

Some of you may have heard about the phishing attack that was perpetrated through Google last week. In case you didn’t though, check it out here. I personally experienced an incident through my non-profit e-mail around the same time as the Google phishing incident. I received a suspicious e-mail from the President which appeared legit and written in a similar fashion as that of the President. In my case the sender’s address did not match our non-profit’s extension which was a huge red flag. The request was also odd in itself and so I validated the e-mail with the President and once we determined it was a fake I immediately reported it to Google (our e-mail provider) as well as the rest of our team.

In light of these incidents, I’m writing this week to discuss the importance of online security. It’s a topic that is very hot among CPAs because we are always working hard to protect the sensitive information that is passed to and from our clients. Encrypted e-mail, secure portals, and passwords are just a few of the ways CPAs protect client information from data breach and compromise. I will highlight some best practices that general computer and internet users should consider below.

A Quick Note

Before I get to the 5 online security habits users should adopt I want to tell the tale of an incident of identity theft.

This past tax season when attempting to file a client’s tax return I was notified that my client had already filed a tax return. The IRS has safeguards in place that prevent the same person from filing more than one return for a given tax year and any tax preparer would have received the same notice for this client. Upon further investigation, we were able to determine that the client’s identify had been compromised. The IRS was skeptical as well and had already flagged the return that was filed as fraudulent. The good news is that we were able to identify this with enough time to get the return filed on time, but unfortunately my client has had to clean up any messes the fraudster made.

The moral here is that nobody is safe...

Okay, on to the tips!

#1 Use Internet Security / Antivirus Software

Security software is a cheap insurance policy to help protect from malicious attacks. Although I don’t have many recommendations, my advice is to pick something and use it. Whether you choose Norton, McAfee, BitDefender, Kaspersky, or Avast, you need the protection of a trusted internet security provider. These services are particularly helpful in detecting and preventing threats. Whether those threats are firewall holes, bogus website phishing for your passwords, or viruses designed to compromise your system and private information, a trusted security software platform can save you from hours of headaches from a breach or attack and potentially your financial well-being.

#2 Securely Transmit Sensitive Information

I can’t stress this one enough but if you do nothing else you should be religious about this one. I have heard arguments about how your information is probably already “out there somewhere” but that doesn’t mean you shouldn’t be cautious. You really shouldn’t be e-mailing unsecured files to anyone. Instead, use third-party services like Dropbox or Google Drive to share files with others safely. This not only reduces the chances of an e-mail becoming intercepted but also helps maintain version control over your shared documents. You can also ensure that collaborators have the correct access they need to a file by allowing them to edit or read-only files you share with them. If you must send sensitive information via e-mail, find a way to encrypt the message between you and the sender.

#3 Use Trusted WiFi Spots

Remember the last time you went to Starbucks and hopped on their free Wi-Fi? Well, you might want to reconsider doing so. Whenever you access a public network your information becomes available for all on that network to see. Sadly, hackers have developed sophisticated attacks they can use to scam you just from being on the same network. If your computer is not secured properly you may also be exposing the contents of your entire computer for all to see. Research Virtual Private Networks (VPNs) to learn more about how you can protect yourself when using a public Wi-Fi connection.

#4 Never Give Out Passwords

Never give out your passwords, ever! To protect you, no reputable software, app, or internet product vendor will ever request your password. They can either already see what it is, or, they typically verify your account another way that doesn’t require surrendering your password. If ever asked, consider if the vendor is reputable and if there is another way you can validate your account with the requester. When in doubt, don’t give them up.

#5 Stay Vigilant

You have to stay on your toes nowadays. Some might say the Internet is a blessing and a curse (in more ways than one), but you definitely need to stay vigilant. It's still a relatively new technology so it still has a "wild west" feel to it. Resetting passwords as well as revisiting (and refreshing) your security protocols every few months is well advised to keep attackers guessing. Using keychain style programs such as LastPass to store all of your logins in one place is helpful, but can also be a single point of failure if the master key is compromised. The nice thing is that those vendors typically generate very powerful passwords for you without you having to think about it. Also, most internet security software will run in real-time and on a scheduled basis so you can constantly have the software monitoring your system for flaws. Evaluate your security situation and make necessary changes to get setup to help prevent problems. Remember, it’s better to be safe than sorry.

I could go on and on about all the things you should do to stay safe and the above tips are certainly just the tip of the iceberg; but I’ll spare the audience. These tips should be considered whether you are using a mobile device or computer. Stay safe out there and think about what you’re doing, where you’re doing it, and with whom you’re dealing with before you do anything. Feel free to share your tips & tricks to staying safe on the internet in the comments section below.

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The Standard vs. Actual Deduction Methods (Vehicles)

Every year at tax time self-employed taxpayers are faced with a dilemma; how to deduct their business related vehicle expenses. The IRS allows for a choice between two methods, the standard & actual method. I’m writing to explain the difference and limitations between each method as they relate to business use of personal vehicles.

Vehicle Expenses

As mentioned, the IRS allows for a choice between two methods. The first method, the standard deduction, allows for a set rate per business mile driven of a personal vehicle. For tax year 2016 the rate was $0.54 per business mile driven and for tax year 2017 the rate is $0.535 per business mile driven. These rates change every year but are usually pretty close year-over-year.

Although the rate per mile under the standard method is generous, the rate was established to cover all of the maintenance on a personal vehicle (including but not limited to):

•    Fuel
•    Oil
•    Repairs & maintenance
•    Deprecation
•    License & registration fees
•    Parking fees & tolls*
•    Tires
•    Insurance
•    Vehicle cleaning expenses
•    Towing charges (for repairs only)
•    Auto club dues / roadside assistance service fees
•    Lease payments

Expenses can add up fast depending on the type of vehicle and how much it is used. For taxpayers that choose the actual method, they would be allowed to deduct the expenses incurred for each of the items above (plus any other vehicle-related expenses that might not be listed). Of course there is limitation to the extent the vehicle is used for business purposes. To easily determine the business-use portion of expenses, a taxpayer should track total miles and business miles driven to create a percentage allocation.

*Note that parking fees & tolls are deductible regardless of method used.

Which Should You Choose?

The majority of taxpayers elect the standard deduction because it is simply easier and cuts down on the amount of recordkeeping. It may not always be the most favorable election though. If you don’t rack up miles throughout the year, drive an expensive vehicle, or drive one that has unusually high maintenance costs, you may benefit more from the actual method.

The only way to know which is more favorable is to track both methods each year and do the math. Typically, most taxpayers would find the calculations to be very close to one another. For those circumstances where one significantly outweighs the other, it might be worth changing methods. A pitfall here is that if you elect the actual method in the first year the vehicle is available for business use, then you are permanently locked in until that vehicle is retired. Choose wisely and consider electing the standard method in the first year so you can have the flexibility to switch back and forth between the methods (subject to some limitations).

Recordkeeping Requirements

When choosing the standard method, taxpayers will want to maintain a driving log of business-related miles they drove. This log should include the date, miles driven, the reason for the trip, individuals involved, and starting & ending addresses. Taxpayers can keep a paper written log in their vehicle for easy access and recording or they can create a spreadsheet to track trips. There are also apps such as MileIQ that will track miles automatically. This information will be necessary to accurately calculate business mileage at the end of the year and in case it is ever requested to support a mileage deduction.

If using the actual method, taxpayers should keep receipts for all vehicle expenses. This practice is consistent with that of any other business-related expense and can be tracked on the business’s books the same way. Since the majority of the receipts will be paper copy they can be scanned onto a computer or into the cloud for safe keeping and quick access if they are ever requested. Another idea is to keep them in a folder somewhere in the related vehicle for quick access. This is also beneficial for when the car is sold to prove maintenance history of the vehicle.

Leased Vehicles

A note about leased vehicles. Lease payments can only be deducted when using the actual method. Additionally, if a taxpayer chooses the standard method in the first year of the vehicle’s lease, they are locked into the standard method for the entire life of vehicle’s lease period (including extended terms). The type of vehicle and expected number of miles driven over the life of the lease will play a large part in choosing the most favorable method.

BONUS: Medical & Charitable Service

In addition to the standard mileage rate for business miles, the IRS also allows a standard rate (only) for medical purposes and charitable service. The rates are much lower for each ($0.17 for medical & $0.14 for charity in 2017), but are often overlooked by taxpayers and can add deductions for those that itemize. Note that charitable service includes the miles driven to deliver donated goods or perform services to benefit a 501(c)(3). This is only true if the entire trip is for charitable service only. Any personal stops along the way to or from could disallow the deductible miles in full for that trip.

I hope you enjoyed this write-up on vehicle expenses. They are common deductions that most self-employed taxpayers incur, but are still overlooked. Leave your comments or questions below!
 

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5 Myths About Tax Returns

If you follow me or have read any of my blogs in the past couple of months then you know I have been writing quite a bit about taxes. I want to share five myths I consistently hear about tax returns.

Myth #1 – I Can Do It Myself

This is less of a myth and more of a question of one’s ability. Everyone is entitled to prepare their own tax return, that’s no secret. But there is much to consider when doing it yourself, primarily, the complexity of your return. That is where the “myth” comes in. There will come a time when you will have a complicated return and really shouldn't do it yourself.

I have seen self-prepared returns from the impoverished to multi-millionaires and I can tell you everyone makes mistakes. It's very rare that I do not find mistakes on self-prepared tax returns. Vendors like TurboTax and H&R Block Online do a great job with their products, but even I have had to cobble my way to the right answer when using their software. There are parts of the tax code that are highly subjective to interpretation, and unless you are well versed in everything tax, then you stand a fair chance of being wrong in your interpretation. This could mean you are leaving money on the table or might have to pay back some of your refund down the road. Know your limits and when it makes sense to bring in a CPA to assist you.

Myth #2 – I Always Get a Refund

Nobody is ever guaranteed a tax refund. Your tax return is an annual reconciliation between what you should have paid and what you actually paid throughout the previous year. If you paid too much then you get a refund, but if you didn’t pay enough, well, then you owe. Some taxpayers treat refunds like found money, but the reality is that it is money overpaid throughout the year. Yes there are credits available to certain taxpayers who meet specific criteria, but they are not available to everyone and a taxpayer’s situation can (and usually does) change each year. If you prepare your own taxes you may not even be aware at how much you are overpaying into the system each month. Again, this is why it’s important to consider working with someone that can explain the results to you each year.

Myth #3 – Tax Preparers are Responsible for the Return

Not true! If you are working with a reputable preparer then you should be receiving an engagement letter or agreement each year. Somewhere in that letter or agreement it should clearly state that the preparer is not responsible for the return and that they only used the information provided by the taxpayer to prepare the return. This is also clearly stated on your return.

What does this mean? Well, if you provide facts and circumstances that are inaccurate, you are on the hook for additional taxes as well as penalties and interest if you are ever audited. But if your return preparer misinterprets the law using accurate information you provided, then the liability might be shared. One thing I can assure you is that the IRS is indiscriminate with their notices and audit selection and it is usually unrelated to who prepared the return. Speaking of the IRS…

Myth #4 – I Received a Notice from the IRS, it’s my Preparer’s Fault

In most cases, you didn’t receive a notice because you changed who was preparing your tax return. More likely, you may have received a notice requesting additional information to validate a tax return line item. Typically it has something to do with earning significantly more or less money, or not paying enough taxes.

There is little correlation between who receives notices based on their tax return preparer. That being said, the IRS looks favorably upon CPAs and tax attorneys because they usually possess an advanced understanding of the tax code versus their peers. An IRS agent reviewing a return may choose to forego any further action if they see that a return has been prepared an individual with one of those designations.

Myth #5 – Tax Elimination Plans

This myth is by far my favorite because hands down it is a complete lie. I have heard industry experts claim they can eliminate your tax liability and I know how they do it. Rather than have you pay the government what is owed, they have you invest the money into a tax-deferred investment account such as an IRA (or SEP if you’re self-employed) so that you don’t have to pay taxes on that money today. Well, it’s true that you may not owe today, but your tax bill hasn’t actually been eliminated. Any tax due on the money you invested is just deferred until 70 1/2 when Required Minimum Distributions “RMDs” kick in. You're also still out of pocket that cash so you still have to come up with the money, you're just sending it elsewhere for the time being. The term tax elimination is misleading and if you ever encounter someone who tells you they can do it then you should be skeptical.

Share Your Thoughts!

I’m really interested to hear what other taxpayers (and preparers) think or have heard about taxes. As part of my service I try to educate my clients to understand how the system works so they are better informed for the future. Leave your comments in the section below.

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Year-end Tax Planning and What's New for 2016

This week I decided to share a report from the October 2016 Issue of the Journal of Accountancy about 2016 tax changes. It's a great resource for what to expect at tax time. Comments and questions are encouraged and welcome!

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Trump's Tax Plan

With the 2016 presidential election behind us I thought it would be a good idea to address the sudden 800lb gorilla in the room; Trump’s tax plan. Trump has released an aggressive tax plan that his administration believes will stimulate economic growth in the United States. Although the question remains whether part, or all, of the proposed changes will be passed into law, it’s best to be prepared and understand the consequences.

Given the number of changes in the proposal, I am only highlighting those that could have an impact on the average taxpayer and business owner.

This article is a good read but it does get a bit technical at points so brace yourself.

Individuals

Tax Bracket Changes
There are currently seven income tax brackets starting at 10% and topping out at 39.6%. Trump’s plan condenses those seven brackets into three; 10%, 20%, and 25%.

Deductions & Personal Exemptions
Trump’s plan would increase the standard deduction from $6,300 to $15,000 for single filers and from $12,600 to $30,000 for joint filers. This would result in fewer taxpayers itemizing their deductions. For those able to itemize, single filers would be capped at $100,000 in itemized deductions and joint filers would be capped at $200,000. An allowance for personal exemptions and the head-of-household filing status would also be eliminated as a result of the plan.

Childcare
Under Trump’s plan, taxpayers would be entitled to an above-the-line deduction for children under the age of 13 for childcare expenses, but the proposed deduction would be capped at the state average for the age of each child. For example, if a taxpayer lived in GA and the average cost for childcare were determined to be $4,000 for a 10-year-old child in GA, a taxpayer with a 10-year-old child would be entitled to a deduction up to that amount. Any excess costs would presumably not be deductible. The childcare exclusion would not be available to single filers with total income over $250,000 or joint filers with total income over $500,000, and would be limited to four children per taxpayer per year. Additionally, any deduction for an eldercare dependent would be capped at $5,000 per year.

Something interesting to note is that this proposal would also be provided to taxpayers who use stay-at-home parents or grandparents as caregivers (as well as those who use paid caregivers).

Businesses

Tax Rate
Under President-elect Trump’s plan, the current corporate tax rate of 35% would be reduced to 15%, and the corporate alternative minimum tax rate would be eliminated. As a result, most business deductions would be eliminated. This rate would become available to all businesses, regardless of size, primarily to encourage them to retain profits within their business (and in theory stimulate more spending within the business).

Perhaps the biggest change to corporate tax rates would be for LLCs, partnerships, and S corporations, commonly known as “pass-through” entities. The proposal would make the pass-through portion of income taxable at the new corporate rate of 15% as well. This could have a huge impact on business owners depending on their income bracket.

Depreciation
There has been some discussion in the tax community about Trump’s proposal to eliminate depreciation, but I’m skeptical. Such a revolutionary change to a long-standing accounting principle seems unlikely. There is, however, a proposal in his plan, which would allow manufacturing firms to expense capital investments entirely in the year of purchase, but at the same time forgoing a deduction for interest expense on the same asset(s). Essentially, you would not be able to finance an asset, deduct the entire asset in the year of purchase, and continue to receive an interest expense deduction for the same asset.

How things shake out on the subject of depreciation will be interesting for sure.

On-site Childcare
If your business offers on-site childcare then you are aware of the tax credit that currently provides your business up to $150,000 for a portion of the costs associated with providing the childcare. Trump’s proposal would raise this credit to $500,000. Amounts paid to employees for childcare would still be considered business deductions, but would not be used to calculate this credit.

Concluding Remarks
I hope readers have found this article insightful. Tax changes are never easy to navigate or understand but my goal was to make readers aware of some of the changes that could potentially be coming to us in the near future. There will undoubtedly be tax changes, which will have an impact on individuals and businesses beginning in 2017.

Confused? Concerned? Unsure? Feel free to comment below or send me a message to keep the conversation going.

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