Vehicle Depreciation Recapture + Leasing
Subject: Thanks and a Question
Just discovered your website today. Very nice. Thanks for the hours you must devote to keeping this up to date.
I found your site by researching a question on recapture rules for SUVs used in a business. You've probably already thoroughly addressed this, but I'm afraid I couldn't find the answer. So, here's the situation:
Client placed into service a large SUV (greater than 6,000 lbs gross vehicle weight) on 12/1/03. He took advantage of the generous Section 179 election available back then, so has no basis left in the vehicle.Business use has never dropped below 50%. He is considering selling the vehicle, which has a current value of around $25,000. Questions:1.
What is the earliest date he could sell the vehicle without being exposed to recapture? Is it 5 years from the in-service date (12/1/08)?2. Even if client waits long enough to avoid any recapture, is he still subject to tax on the sale? If yes, is it capital gains or ordinary income?3. Client would prefer to lease his next business vehicle rather than trade this one in on another purchased vehicle. Is there a better way to get the next business vehicle?Thanks so much for your time.
I have discussed the recapture rules on several occasions, which you can probably find by searching my blog. However, a quick review may be handy here.
For some reason, you seem to have the mistaken impression that it is possible to wait out the recapture requirements. That is the case for the Section 179 recapture requirement while still owning the vehicle. However, that is not possible for a sale.
It is always important to keep tabs on the adjusted cost basis (aka book value) of business assets so that you can know what any potential gain or loss would be triggered by its sale.
Basically, the book value is the original cost of the asset less the depreciation (including Sec. 179) claimed up to the point of sale. In your case, if you expensed the entire cost of the SUV, its book value is zero, which means the full amount of any sales price will be taxable at the 25% Federal depreciation tax rate, plus state tax if you are in a taxable state. This would be the case if the sale took place now or 50 years from now.
Before a sale, there is a potential taxable partial recapture of the Section 179 if the asset's business usage slips below 50% in the first five years after you place it into service while still owning it.
If you are disposing of the SUV in order to acquire a newer model, there will be no taxable recapture if you trade in your existing one on the purchase of a new one costing at least as much as the old one is worth and you receive no cash or net relief of debt.
Replacing the SUV with one on an operating lease won't qualify for any tax break. A disguised purchase lease may qualify.
I have never been a fan of leasing from a financial perspective and have longed warned about how much of a rip-off it is. With very few exceptions, I have found that operating leases of vehicles are by far the most expensive way to finance their acquisition; often incurring an implicit interest rate of well over 30% APR. This is even before the exorbitant charges assessed by leasing companies for such things as excess mileage and excessive wear and tear.
Unlike conventional vehicle loans, which are required to make full disclosure of the interest rates, leasing companies are allowed to camouflage their implicit rates and even lie about what it is. I have actually heard employees of leasing companies deny that there is any interest charge built into their monthly lease payments. However, since any financially competent analyst can very easily compute exactly what those charges are, I have amazed clients with the truth about what they are being charged. This is useful in saving them a lot of money when they ask for my advice before signing up for a lease; but is disheartening news when they tell mine about the lease after they have committed to it and are faced with the reality of how much they are being screwed over. A lease with a 30% built-in interest rate simply doesn't seem like much of a bargain compared to a purchase loan of zero to five percent.
These are all extremely basic tax and financial principles that any competent tax person should have no problem explaining to you and your clients; so before disposing of the old SUV or acquiring a new one, a tax pro should be consulted.
Good luck. I hope this helps.
Reporting S Corp Income On 1040
Subject: general question
I have a general question pertaining to S-corps and taxes. I came across your website in my search for answers. I’m hopeful you may assist.
I have a S-Corp and the IRS recently requested I send a 1040 form for a previous year.
Must I complete the 1040 form using all of my information from the S-Corp filing – (redundancy) or may I use just my K-1 schedules and fill in the 1040.
The IRS has my S-corp submissions
Thanks Kerry for your thoughts
I don't mean to pick on you here, but you appear to be a perfect example of getting in over your head by setting up an S corp without knowing how they function tax-wise, as well as trying to handle your taxes without the assistance of a professional tax advisor.
If your S corp's 1120S was prepared properly, its K-1 should have all of the information that needs to be entered onto the various schedules of your 1040. There is no need to enter the individual income and expenses items that are shown on the 1120S.
Before you prepare your 1040 for 2004, you should have a professional tax advisor review the 1120S to make sure that doesn't need to be amended. S/he should then be used to prepare your 1040 for that year as well.
Annuities Cashed In
Subject: Annuity question
I recently had to cash in/surrender an annuity with a insurance company. Naturally, I had to pay a surrender charge. Is all or part of this charge a deduction using schedule D of capital gains/loss form? Thanks.,
I'm assuming this annuity was in your personal name and not in an IRA or other kind of retirement account.
Just like a commission and other selling costs, the surrender charge would be added to the annuity's cost basis figure on your Schedule D; thus reducing the net taxable gain.
You really should be asking your personal professional tax advisor questions like this. This is especially important for planning the best use of capital gains and losses for the year.
2007 California Tax Rate Schedules
Unlike with the annual inflation adjustment for the Federal individual income tax brackets, which are released well before the next year, the California Franchise Tax Board doesn’t release its new brackets until well into the subject year. They have just now released the 2007 rate schedules.
Based on previous years, the 2008 Federal tax schedules should be out in about three weeks and will be posted on my main website shortly thereafter.
The FairTax - distortions and lies – Another response to Bruce Bartlett’s hatchet job on the FairTax proposals.
From the latest email issue of the Intuit ProConnection Newsletter:
Divorces Are Bad Enough. Tax Slip-ups Can Make Them Worse - Includes sample doc letter to send to clients.
2007 Section 179 Limits
Subject: Section 179 2007 Limit
Hi, I love the website. I have a quick question regarding the 2007 deduction limit for Section 179. I see that you note the limit is $125K this year, so do other sites, but the IRS website under 2007 changes notes the limit is $112K. Is there a quick explanation for the difference? Is it related to Gulf Zone property?
I covered the 2007 increase in this blog post from May.
I have no idea why the IRS webmasters can't keep their info properly up to date; but this is another good example of why it is dangerous to rely on IRS for tax info rather than professional tax advisors, who are more current in their knowledge of the tax laws.
Fair Tax, Flawed Tax - Bruce Bartlett on the attack against the FairTax plan. If northing else, it’s good to see this as an openly discussed issue in the lead-up to the presidential election. I’m sure we’ll hear and see the rebuttal to Mr. Bartlett’s comments from Neal Boortz before long, especially this item, which I had never heard before, and suspect is bogus:
It was originally devised by the Church of Scientology in the early 1990s as a way to get rid of the Internal Revenue Service, with which the church was then at war (at the time the IRS refused to recognize it as a legitimate religion). The Scientologists' idea was that since almost all states have sales taxes, replacing federal taxes with the same sort of tax would allow them to collect the federal government's revenue and thereby get rid of their hated enemy, the IRS.
[Update] Neal Boortz actually posted his response to the Scientology accusation in a rare Sunday posting to his blog.
SCIENTOLOGY? ARE YOU KIDDING ME?
Frankly, it looks to me like some K Street opponent of the FairTax got to Bartlett, and Bartlett, or one of his researchers, simply failed in their due diligence. It takes no time at all on the Internet to debunk this absurd notion. My guess is that Bartlett will be issuing an apology to Leo Linbek, Bob McNair, John Linder, Americans for Fair Taxation and hundreds of thousands of FairTax volunteers before too many day pass.
You're asking me if I will address this on Monday's show? Absolutely. See you there.
This should be interesting. I must have missed the vocal support of the FairTax plan by such A-List Hollywood celebrities as Tom Cruise and John Travolta.
Sec. 179 For Leased Motorhome
Subject: re: Section 179
I have a question regarding Section 179 that I seem to be struggling with on getting a straight answer (assuming one exists…)
My wife and I are going to purchase a motor home and would like to supplement financing by leasing it to a third party.
The question I have is, would this be applicable to Section 179 (expensing in 07') if I purchase before the year end and issue it into service (available for rental)?
There seems to a lot of confusion on this particular topic. I did find a case where the court ruled in favor of the tax payer, Robert D. Shirley, TC Memo 2004-188.
What is your opinion in this matter and has there been any further clarification by the IRS?
I have discussed this very issue in a number of earlier blog posts.
Here is the applicable quote from the QuickFinder Depreciation Online Handbook:Leased property. For noncorporate taxpayers, leased property is not eligible for Section 179 expense, unless:You really need to be working with an experienced professional tax advisor who can help you work out the most appropriate way to handle this, including what business entity makes the most sense for your unique circumstances.
1) The taxpayer manufactures (or produces) the property to lease to others.
2) The taxpayer purchases the property to lease to others and both the following tests are met:
The term of the lease (including options to renew) is less than 50% of the property's class life.
For the first 12 months after the property is transferred to the lessee, the total business deductions on the property exceed 15% of the property’s rental income.
Thanks for the information.
One follow up question I have as I took your advice on talking to a tax advisor (have appnt. tomorrow). However she brought up the point that I need to "recapture" any gains I have through the sale of the motor home. I thought she meant that if I purchase the motor home for 100k and sell it for 80k, I essentially need to claim the 80k as gains on the subsequent filing. Is this true?I read (on your blog!) that I only need to claim the difference between the sale and book value...am I reading that right?
It is always important to keep tabs on the adjusted cost basis (aka book value) of business assets so that you can know what any potential gain or loss would be triggered by its sale.
Basically, the book value is the original cost of the asset less the depreciation (including Sec. 179) claimed up to the point of sale. In your case, if you expensed the entire cost of the motorhome, its book value is zero, which means the full amount of any sales price will be taxable at the 25% Federal depreciation tax rate, plus state tax if you are in a taxable state.
Your tax pro should also advise you of some other factors to consider.
Even before a sale, there is a potential taxable partial recapture of the Section 179 if the asset's business usage slips below 50% in the first five years after you place it into service.
If you are disposing of the motorhome in order to acquire a newer model, there will be no taxable recapture if you trade in your existing one on a new one costing at least as much as the old one is worth and you receive no cash or net relief of debt.
These are all extremely basic tax principles that any competent tax person should have no problem explaining to you.
Taxing IRA Investments
Hi Kerry,Can sold IRA asset profits be treated as long term capital gains for tax accounting if they are kept over the required time?(6months?)I have sold quite a bit this year and would appreciate your advice.Thanks....
This is an issue that catches a lot people by surprise. While sales of assets held for more than 12 months in your individual or living trust's name qualify for the special lower long term capital gains tax rates, that is not the case for gains made by investments inside IRA and other retirement accounts.
Conventional IRAs, where you claim a deduction for contributions made to the accounts, are tax deferred arrangements. When money is drawn out, and not rolled over into another retirement account, it is all subject to income tax as ordinary income regardless of how the money was invested inside the retirement account. Income generated from bonds or other interest bearing investments is taxed the same way as profits made from stock trades. So, keeping track of long term capital gains earned inside IRAs is not required for anything.
The other main kind of IRA, the non-deductible Roth, has the advantage of allowing completely tax free income from all of its investments, as long as the account has been held for at least five years. Just like with conventional IRAs, there is no need to keep track of what kinds of earnings were generated inside the IRA because they all receive the same tax treatment.
As you may have read on my blog on several occasions, I am still very skeptical of the long term tax free status of Roth IRAs. It is still my prediction that our rulers in DC will pull the same Switcheroo on Roths as they did with Social Security benefits, and force those they consider to be evil rich to pay tax on income receive from them. FYI: Evil rich for SS recipients is any single person earning over $25,000 or married couple earning over $32,000 per year.
I hope this answers your question.
Double Counted Dependent Child
Mr Guru - hope you don't mind my picking your brains on this matter. I have a couple who divorced early in the decade with a dependent child Father was to claim child in odd years and Mother in even years. In 2006, I prepped Mother's 2005 return, who instructed me to claim the child regardless that this was an odd year. Now, Father (who had some long-standing tax problems) wants to finally file his 2005 1040 & claim child. Ethically, do I need to notify Mother that I'm filing Father's 1040 claiming child? Should I automatically file a 2005 1040X for Mother taking off the child? Or just let me IRS notify them both? Any ideas?
That kind of every other year arrangement is increasingly common with divorced parents, so this kind of thing does pop up frequently.
As you most likely already have experienced, IRS is very efficient at catching attempts to claim the same child more than once and they will generally allow the first parent's return to have the exemption and deny the second parent's.
This brings you to your point; how to remedy the problem. While there may be a number of ways to correct the situation, here are some ideas.
Technically, in the IRS's eyes, they don't have to honor the agreement between the parents and will leave it up to them to hash it out between themselves to equalize the situation. While the short-changed parent could notify IRS of the inappropriate dependent claim and try to trigger some IRS pressure on his ex, I have found that IRS really isn't very concerned about this kind of thing and will most likely do nothing. This leaves a civil lawsuit as the remedy for the short-changed parent to enforce his rights under the divorce agreement, most likely in Small Claims Court.
I wouldn't just go ahead and prepare the 1040X without getting an agreement from the mother that she will indeed file it with IRS and pay you for doing that work. Otherwise, you have wasted your time for nothing.
If the mother agrees to filing a 1040X to remove the child, that's fine and sets the stage for the father to later file his proper 1040.
However, I have seen a number of occasions where the first parent didn't want to rock the boat with IRS by filing a 1040X and instead agreed to reimburse the other parent directly for the difference in the taxes with and without the child. In those kinds of cases, you can prepare draft returns both ways to document the difference in Federal and State taxes, and the mother would then write a check for that amount to the father, plus the additional costs for you to do those calculations, since it was her fault in improperly claiming the child.
Obviously, who bears these additional costs is negotiable between the three of you. If you want to accept some responsibility for the screw-up on the mother's 1040, and do the extra work for free, that's your call to make.
Obviously, there's no cut and dried answer; but I hope this gives you some ideas to work with.
Mr Guru - thanx for your input, as always. I'll take it from here.
Progressive Tax Rates
Subject: Tax Question and Great Thanks!Let me first say Thank You for your taxguru.org site and your blog. I have been reading the material several times over to get it to sink. Of course, I am consulting my two knowledgeable colleagues and reading IRS doc/online resources to augment your articles.Currently I am an IT consultant but I want to be my own business and try to make my own fortune. The problem is, when I want to learn something new I attack it hard. This means I am in serious study mode right now. Okay , onto the question..:)QuestionI have a question regading the following verbiage taken from this link:"A C corporation has its own progressive tax rate structure, ranging from 15% on the first $50,000 of net income, to as much as 39%. My philosophy is to look at the overall tax picture for individuals and their companies by smoothing income over the personal (1040) and corporate (1120) tax returns. For 2000, a married couple's 15% tax bracket ends at $43,850 of taxable income. It then jumps to 28%, almost double the rate. However, if you consider that the couple's C corporation has its own $50,000 15% bracket, their overall combined 15% bracket has more than doubled to $93,850. That alone can save several thousands of dollars per year in income taxes."What is some good study material to get some practical examples for dividing my income from my business (when I start it) and my personal income to keep me in the lowest possible tax bracket for both?In regards to the very first sentence, why would the tax rate be "flexible" and range from15% to 39%? Why isn't a static figure? Where can I read more to understand this? Or did you mean that the maximumI actually have two more questions but on a different topic but I'll save that for a future correspondence if there is one. I sincerely appreciate any information/advice you can offer.Thank you,
One of the basic fundamental aspects of the income tax system in this country has long been the use of "progressive" tax rates, which penalize those who earn more money by taking a larger percentage of their income away from them. You can see the current tax rate schedules on my website:
If we had just one single flat tax rate, there wouldn't be as much opportunity for tax savings by the income smoothing strategies I mentioned on my website. Unfortunately, the pervasive "hate the rich" mentality in this country will never allow such a change.
Studying issues like this and discussing them with colleagues can only take you so far in understanding how to best maneuver within the tax system. You need to be working with an experienced professional tax advisor who can help you apply these and other strategies to your particular circumstances. There is no one size fits all solution to proper tax planning. What may be a good plan for a colleague could very well end up costing you a lot of needless additional taxes because such things as family members (spouses and kids) and personal likes and dislikes can have huge impacts on any tax saving plans.
Good luck. I hope this helps.
Foreclosure's other shoe: a big tax bill – Nothing new here. Debt relief has always been considered income. I don’t see this as that big a deal because I’m sure many of the people who have gains from foreclosures will also have qualifying unforeseen circumstances that allow the prorated tax free exclusion of gain under Section 121.
Sharing Education Credits?
Subject: Lifetime Learning Credit intertwined with a Gift
Longtime reader, first-time e-mailer. For starters, great blog! On to my question...
I am about to begin my second year of law school. For 2006, I took the lifetime learning credit because I had income from the job I held for the first seven months of the year. In 2007, I will have negligible income and the lifetime learning credit will do nothing for ME. My parents will not pay for any of my education.
Are there any roadblocks to the following scenario?:
1) Mom pays for $10,000 of my education expenses
2) I gift Mom $8,000
3) Mom takes the lifetime learning credit for a $2000 deduction
Net results: Mom = even, Me = +$2000
Lastly, would my Mom need to pay the $10,000 directly to the institution or could she simply pay me.
Thanks in advance for your response (and the great service your blog serves)!
After the first reading of your email, my gut reaction was that there were several flaws to your plan. However, after checking my reference materials on the lifetime education credit, it appears that many of the steps are possible.
One key point that you forgot to mention was whether or not you are being claimed as a dependent on your mom's 1040. If not, she can't claim any credit for your education costs.
If you are a qualified dependent on your mom's 1040, she can use gift money to pay the education costs. However, that step may not even be necessary. She also has the option to count payments made directly by her dependent (you) when computing the credit.
Just to clear up terminology, the lifetime education credit is 20% of the qualified costs, up to $10,000 per taxpayer. This would result in a $2,000 credit, which is a potential dollar for dollar reduction of her income tax. This is much more valuable than a $2,000 deduction, which has a savings based on her tax bracket.
You also didn't say how high your mom's income is. There are phase-outs of the credit in order to prevent the people our rules consider to be evil rich from receiving any of this tax break. If her AGI is over those limits, this is all a moot point.
As always, these are general comments and any specific plans related to this kind of strategy should be developed with the assistance of your and your mom's personal professional tax advisors.
Ok thanks. I guess as a law student I should've read the lifetime learning credit materials a little closer as I am NOT a dependent anymore.Thanks for your help!
Fair Tax, Foul Politics – Surprisingly strong opposition to the FairTax proposal by the editors of National Review, who believe it to be political suicide for any candidate supporting it. I think they are overstating the country’s love for the IRS; but this is a good example of how impossible it is to make a radical change in the tax system with no majority supporting any alternative. We are doomed to eternal tinkering with the current system, guaranteeing an unending amount of work for us tax pros.[Update: Feedback on this editorial]
Bad experiences with tax preparers?
I am scheduled to have a phone interview tomorrow with a writer for SmartMoney on the subject of being smarter about looking for tax pros, which is obviously a topic I have long been very vocal about.
The writer is also interested in hearing from others on this topic. Specifically:
Also, I'm looking to talk to some people who have been dissatisfied with a tax preparer's service (including but not limited to CPAs, enrolled agents, joe shmoes, & storefronts). Can you think of anyone I might get in touch with, or would you be willing to post a query on your blog?
When we talk tomorrow, I plan on giving her some examples of tax preparer screw-ups I have seen. When we first relocated here from the SF Bay Area, it was like shooting fish in a barrel, correcting huge expensive mistakes that other preparers had made and recovering hundreds of thousands of dollars for people.
Anyone else – tax pros, as well as clients – who would like to contribute to this article by sharing their bad experiences getting their taxes done should contact Janet Paskin via email at firstname.lastname@example.org
Increasing Section 179 Deductions
Subject: 179 SUV deductionHi Kerry,I've been to your web site and blog, thank you for making the information on 179 deductions so easy to understand.I am a consultant with three sources of income for 2007: self-employment, partnership income under an LLC, and W-2 income.Last year I took a 179 SUV deduction on a toyota land cruiser of 25,000.My question for you:I'd like to find a way to take that nice deduction again in 2007. Can I sell the truck I bought in 2006, then buy another one in 2007 and take the deduction again?Also, will I face recapturing of depreciation for doing that?lets say this is the scenario:Paid 28k for the truck on 2006Sell the truck in 2007 for 29k (toyota land cruisers can appreciate)Will I owe recaptured depreciation?29k-28k+25k(the deduction taken in 2007)?Are you able to advise me on federal taxes. I am in Florida.Thanks!
I'm just going to do a quickie refresher on this topic because I have covered it in more depth in numerous previous blog posts.
Basically, if you sell your current vehicle, you will have a taxable gain, which will be whatever your sales price is less the adjusted cost basis of the SUV (cost minus Section 179 and depreciation). You can go out and buy a new one and claim a new $25,000 Section 179 on your 2007 tax return; but that will be less than the taxable gain from the sale.
A more tax-savvy maneuver would be to trade in the old SUV on a new one. There is no taxable gain; but you can only claim a new Section 179 on the additional cost of the new vehicle after the trade-in allowance you are given.
If I'm not mistaken, a Toyota Land Cruiser is an SUV and not a truck; so it has a lower maximum Section 179 than a truck would have.
Remember also that business vehicles are just one type of asset that qualifies for the Section 179 expensing deduction. You can buy other kinds of business equipment and deduct their costs without having to sell your existing SUV.
This is a very basic tax matter and illustrates how dangerous it is for you to continue to try to run your business and tax matters without the assistance of an experienced professional tax advisor. You should start working with a tax pro ASAP. You may even want to give potential tax pros this issue and see how they address it before making your selection.
Thanks KerryI'll seek out a tax professional.Can I buy antique office furniture for my office and expense that under 179?
As long as you actually use the furniture in your business and not just as an investment, it should qualify for Section 179 expensing. I have a lot of info on what kinds of assets do and do not qualify for Section 179 on my website.
You should always remember that, if you expense the cost of the furniture, its cost basis for you will then be zero. Any sale of those items will then create a taxable gain for the full amount of the sales price. Likewise, if you give the furniture to someone else, that person will assume your same zero cost basis.
These are all issues that should be handled along with a professional tax advisor.
Great Thanks!Wish you were taking on more clients.
Man Pays Big Tax Bill in Coins, $1 Bills – Interesting way to make a statement about taxes.
Should tax advisor be in same state?
Subject: Illinois CPA Recommendation?
Would you happen to know a good Tax Advisor in Chicago, IL.
I am starting my new business and would like to start in the right foot.
I appreciate your feedback,
The only names I have are on this page.
As I say in my tips for selecting tax advisors, geographic location shouldn't be the main basis for selection. Most good professionals have clients all over the country.
I hope this helps. Good luck.
I believe your point of view on selecting the best Tax Advisor not necessary being close to client's location. But I was thinking in the view that my business will operate in the State of Illinois. Wouldn't I need a tax advisor in the state of Illinois for State Taxes?Also can you help me in your perspective about incorporating in Nevada? I heard many advantages incorporating in Nevada than in Delaware or Illinois. I would like to start on the best route for my start-up company. I am thinking about choosing C-Corp as my entity because of the tax deductions and tax bracket compare to LLC and S-Corps. Can you provide me with your insight on this?I am excited to start thinking as an Entrepreneur and not as an employee. There is a lot of benefits that an average employee does not have. I been reading and listening to audio books on RichDad by Robert Kiyosaki and as well as other Leadership and Tax benefits audio books. But mainly its my passion to service my clients in Computer Information Technology Services because that is what I do best.
Thank you for your quick response to my first question
While it would be nice to have someone intimately familiar with your state's tax system by being located within the state, that's not as critical as you think. Most tax pros routinely handle out of state tax issues. Back in my California CPA practice, I had a CPA on staff who we gave all non-California tax returns to do by hand. Now, the Lacerte tax software has added several state programs to its mix, so I use it to prepare several different state tax returns every month.
Since you are considering operating a Nevada corp, that brings up the issue of who would handle its taxes if being within the state is critical. Would you have one tax pro for your Illinois activities and a different one for your Nevada operations? While dividing the workload can sometimes make sense, you will generally find that working with one firm that can better appreciate the big picture will be more efficient.
I do have extensive experience with Nevada corps and have actually written about it several times on my blog and website; so I don't have time to rehash everything here. That is another key issue you need to work on with your personal professional tax advisor.
I will warn you about the number one misconception I constantly encounter. Just establishing a corp in Nevada will do nothing to reduce your Illinois income taxes if you actually conduct your business operations inside the borders of Illinois. You will still need to file Illinois income tax returns and pay taxes to that state. Depending on how your business activities are handled, there may be ways in which to source the income to Nevada and legally avoid having any Illinois tax obligation. That is something that you need to work on with an experienced professional tax advisor because if you do it incorrectly, you could subject yourself to some serious penalties.
Good luck. I hope this helps.
Changing From C to S Corp
Hello, Mr. Kerstetter,
I came across your website today. I was wondering if you can answer me a quick question:
Our fiscal year is April 1st to March 31st. What would be the time frame that we can change to an S corp?
Appreciate your help!
You need to do some more research and work directly with an experienced professional tax advisor before you take the step of converting to an S corp.
As I have explained several times on both my blog and website, one of the biggest pitfalls to converting from a C corp to an S is the fact that you will also have to convert your fiscal year to a calendar year, which will force you to lose all of the benefits of having a different fiscal year.
You may find that retaining your current C corp and starting a new S corp will give you the best of both worlds. A good professional tax advisor should be able to explain how using two corps can work in your best interest.
I don't know how much of my website you have looked at, but here are some key pages you should study before consulting with a professional tax advisor:
Valuing S Corps
Subject: SUB S CORP SHARE VALUE
I have spent an afternoon on the internet trying to get some general information about this subject, without success. Our family has a Sub S Corp trucking company which is now 5 years old and is doing quit well. Onginally we set my youngest son up as sole incorporator and he takes 100% of the Sub s schedule k-1 on his personal incme tax return. We would now like to sell some shares of stock (ownership) to my older son and daughter. How do we figure out the value per share to charge my older son. It is not so much to make money but what the accountant and the IRS will accept.
There are several different ways to value small businesses, each yielding very different results.
Rather than have a professional business appraiser give you all of those value, it is generally easier to decide, for your current needs, if you want a high or low value and then work with your professional tax advisor to draw up an analysis to justify that number. That will be a lot quicker and a lot less expensive for your needs.
Everyone involved needs to sit down and look at the short and long term aspects to whatever value you use. A high value will possibly generate a capital gain for your youngest son, depending on what his current adjusted cost basis is for the shares he will be selling. That will also give the new shareholder a higher cost basis to start with.
Conversely, a low share price will generate less capital gain, or possibly a capital loss for your youngest son, but will give the new shareholder a lower cost basis to start with.
Again, working with your professional tax advisor, you may want to start by calculating the break-even cost basis of your youngest son's shares and then have your tax advisor back into a calculation method that would justify that value for the shares.
Good luck. I hope this gives you some ideas of issues to discuss among yourselves and with your professional tax advisor.
Kerry:Thank you for the response. I would like to pay you for some consulting time to explore this issue further.First of all there was a typo, in that our trucking company has been in existence for just over 11 years. Second, the reason for the change in ownership is there is a pending divorce. He has a prenup dated 7/2/2000, excluding the companies value prior to that time.Our present accountant is a family friend and we wish to keep him out of the loop at this time. From the information you gave us it appears that a low share price would be desirable, but would it stand the scrunity in the divorce court. We intend to consult an attorney once we establish the price per share and the logic by which it is derived. Could we pay you to help us arrive at a reasonable price per share, along with the reasons used to get there? Could we provide you with our financial figures to give you something tangible to work with? I further suspect that upon the share price determination that the company Articles of incorporation along with the stock retirement agreement would have to be amended.Thanks
There are far too many options to consider and possible scenarios that can be used to achieve your goals for me to even begin giving you specific advice via this medium.
You all will need to work directly with an experienced tax pro who can analyze your unique circumstances. I wish I could help; but I already have too many clients to take care of properly; so we are still trimming back on the difficult clients and are not accepting any new ones at this time.
Unfortunately, we don't have anyone specific to whom we could refer you. I did recently post some names and links for some like-minded tax pros around the country.
If you haven't already done so, you should check out my tips on how to select the right tax preparer for you.
I wish I could be of more assistance; and I wish you the best of luck.
Gifting Appreciated Assets
Subject: Re: Gifts Tax Free For RecipientsGood morning, Kerry. I'm assuming the question had to do with cash gifts rather than of appreciated assets. I've seen some surprised people when the recipients of appreciated assets were told that they received the basis of the donor.In our charitable giving world, we tell people to, where possible, give cash to family and appreciated assets to charity.
That particular email did have to do with cash; but you are correct in noting the carry-over basis aspect to non-cash gifts.
As I have discussed on a number of occasions, it is a bit more complicated than simply donating appreciated assets to charity. Another part of tax and gifting plans often involves deciding which family member has the lowest tax bracket and either gifting or holding those assets so that person can sell them with the lowest tax bite.
Thanks for writing.
Gifting plans need professional guidance
Subject: Re: Skirting Gift LimitsThe following is, of course, a great technique. However, I'd use your typical admonition to engage the services of a qualified tax professional to make sure that this arrangement doesn't trigger the imputed income rules."A common technique used to get the cash into the childless couple's hands now, without exceeding the limit, is to loan them the extra amount now and then forgive that debt in future years as gifts in those years."Thanks.
That is absolutely right. I would hope that, after years of warning people how dangerous it is to function without the assistance of competent professional tax advisors, it would go without explicitly stating that every time. However, it doesn't hurt to remind people of that fact once again.
Subject: S vs. C Corporations
Thanks for the article "S vs. C Corporations" I got a lot of information from it.
I have a question for you, in the section of Fiscal Year you mentioned " Toward the end of your personal fiscal year (12/31), you bleed off some of your taxable income to your C corp by paying it for something like rent or marketing services. In Jan, your corporation can pay it back to you." How I do that? If it possible you give me a detail sample?
I have a C corporation for several years, but never know any way to save tax. Please advice.
Your big mistake has been in not working with an experienced tax professional who can show you how to properly utilize a corp to dramatically reduce taxes. This should have been done from before establishing your corp so that you could start saving money from that point on.
The income shifting techniques are not complicated and I have described many of the basic steps several times on my blog. However, you shouldn't try to set up the strategy on your own. The assistance of an experienced tax pro is essential.
Facts of life...
The best way to explain how Social Security works is to describe a typical Ponzi Scheme.
Reduced Social Security Benefits
Subject: early social security
If one takes social security @ 62 and earns more than 12K but puts the excess amount in a defered program like 401K is the earned income still counted as earned income
Unfortunately, putting a huge chunk of current W-2 income into a deferred comp plan in order to avoid the SSA's penalty on those with excess earned income (over $12,960 in 2007) would be too easy. SSA counts the full amount earned during the year, which is normally going to be the amount subject to MediCare tax, not the smaller amount subject to income tax.
There aren't as many opportunities for avoiding this penalty by W-2 wage slaves as there are for self employed individuals, who have several very easy methods to accomplish this since SSA looks at the net Schedule C income and not the gross pay, as they do for W-2 recipients.
I hope this answered your question.
Sec 125 and flexbenefit plans are not subject to SS so if all the money went into pay for sec 125 benefits would that work?
It's my understanding that SSA doesn't look at those kinds of benefits as part of their earned income calculations. So, if they don't show up in the Medicare Wages box on the W-2, I don't see how they would be part of the benefit reduction process.
Depending on how much money you are talking about shifting to tax free benefits, you need to be very careful that the amounts are reasonable and in compliance with the kinds of expenditures spelled out in the business's particular Section 125 benefit program and are not disguised compensation. In this matter, there is more potentially to fear from IRS attempts to reclassify it as taxable income than from SSA trying to use it to reduce benefits if things are handled properly.
Subject: S CORPS
I was reading your article on S Corps and was wondering if each corporate officer must be a shareholder in the S Corp? In other words, does the title of corporate officer imply ownership or can it be a status only recognized perhaps in the articles of incorporation or even set up at a later date? (ie is it possible to be a corporate officer in as S Corp but not receive a K1?)
Thanks for any input you can forward.
While it is very common with small corporations for one person or a few persons to encompass all of the roles in operating them, that is not required. Different people can have different roles.
It is really no different than with a large billion dollar corporation, where the roles are usually held by different people. The most common roles are shareholders, officers, directors and employees. Although a person can have more than one of those roles, they don't have to and can just fill one role at a time.
So, with an S corp, just as with a C corp, the shareholders can be different people than the officers or than the directors or than the employees. The critical difference for S corps is that there are special limits on who can be a shareholder without jeopardizing the S status. Your personal professional tax advisor can assist you in complying with those restrictions.
Besides consulting with your own personal professional tax advisor before setting up a corp or making any major decisions as to its strategies, you may want to check out the very useful reference materials on the principles of corporations and how to operate them properly from such sources as Nolo Press. I have been using their books for well over 20 years and still frequently refer to them. Reading over them will save you a lot of legal fees, as well as keep you out of trouble.
Good luck. I hope this helps.
Gift Tax History
Subject: Historical annual tax free gift allowances
What were the annual tax free allowances for gift taxes from 1965 to 2007 by year?
2007 $ 12,000
2006 $ 12,000
My policy is to not answer homework questions. However, check out this post from almost four months ago.
Piercing Corporate Veil
Subject: c vs. s corp, llc, and other other choices I might have....
Hello,I ran across a page from your webiste on the s corp vs. c corp that was very informative and quite good. I am knowledgeable in these areas and have been talking to lawyers, accountants, etc... about the best way to structure my businesses.... for tax reasons... but also quite importantly... liability reasons..... and want to set up a structure that would protect my personal assests from the company's in the event of any lawsuits etc... The business I am in... and most concerned with is the fitness business(gym ownership). Questions arise when talking about "piercing" the corporate veil?? Any articles/opinions relating to that....?I intend to look at your websites... blog etc.. in more detail soon.Thanks,
You are correct that maintaining the proper separation between your personal and corporate things is very important in order to protect against piercing the corporate shield by either IRS or overly aggressive attorneys. Many small corporate owners do jeopardize this protection by commingling their personal and corporate records and assets. This gives IRS and attorneys a perfect opportunity to ignore the corporate shield and accuse the owners of operating as if the corp is merely an alter ego of themselves.
I'm not an attorney; so I don't write a lot about this. I'm sure there are plenty of blogs by attorneys out there that will provide a variety of opinions on this subject. However, the ultimate decisions as to whether you are conducting yourself properly in this regard should be determined with the assistance of your personal legal counsel, with input from your personal professional tax advisor.
Tax Cuts caused bridge collapse?
The demagogues on the Left never bother to allow simple facts to get in the way of their anti-capitalist agenda. Blaming the Bush tax cuts for the collapse of the bridge is just one more example of how they conveniently ignore the very real fact that the lower tax rates promoted by Bush have resulted in record high tax revenues for all levels of government.
Here are some sample cartoons by leftist morons who want to make the Bush tax cuts appear to be the reason for the recent bridge collapse, as if without those cuts the bridge would be completely intact today.
(Click on images for full size)
Some interesting recent articles from the WSJ’s free RealEstate Journal:
Splitting the Cost of a Home When You Can't Go It Alone – Includes a discussion of Equity Sharing, a strategy that a lot of clients used back in the Bay Area.
How to Save by Selling Your House Online – Just like with do it yourself tax return software, there’s a big element of “you get what you pay for” with real estate deals. Good Realtors justifiably earn their commissions.
Victims of 2005 Hurricanes Get Additional Year to Sell Vacant Land – IRS is allowing these folks an extension of the normal two year deadline for a tax free sale of land that is part of their primary residence.