Last Minute 2014 Personal Tax Planning

Consider implementing the following strategies by December 31^st to save income taxes.  The income tax laws are now so complex that it is difficult to know whether any of these general recommendations will actually save you tax without undertaking a computerized tax projection.  You should consult your tax advisor before implementing these ideas.

·       If you are in the upper tax brackets, harvest capital losses as necessary to reduce capital gains tax, and to lower the Obamacare tax on net investment income.  Generally, short-term losses are preferred over long-term losses because short-term gains bear a higher tax rate than long-term gains.  Be sure to specifically identify the block of securities you are selling to your broker.  Don’t trigger capital losses if you are in a low tax bracket.  Be sure to avoid the “wash sale” rule that applies if you purchase substantially identical replacement securities within 30 days before or 30 days after the date of sale.  See my prior blog post for more details.

·       If you are in the lower tax brackets, harvest long-term capital gains as necessary to fill in the lower tax brackets.  For example, a zero percent long-term capital gain tax rate applies through $73,800 of taxable income!  However, ordinary income fills up the low brackets first, so some coordination is necessary to achieve a zero percent tax rate.

·       Be sure that any year-end charitable donations are either delivered or mailed and postmarked by December 31^st.  Be sure that you obtain the required tax-qualified receipt early next year so that documentation is available when preparation of your income tax return begins.  If you want a charitable deduction but are not prepared to actually give the funds to a charity at this time, consider using a donor advised fund (DAF) to claim the deduction now.  You can select the charity later and “advise” the DAF to contribute to the charity then.

·       For those at least age 70 ½, consider using your traditional IRA to make a direct charitable donation of up to $100,000 to a public charity (but not a DAF).  This provision had expired at the end of 2013 but was just retroactively reinstated for 2014 donations.  It expires again after 2014!  The charitable IRA donation is also considered a distribution for purposes of your 2014 minimum required distribution.  Coupled with the phase out of itemized deductions, personal exemptions, and the net investment income tax, the charitable IRA donation can be effective in lowering your overall income tax.

·       Consider donating any long-term appreciated securities to charity.  You can claim a tax deduction equal to the fair market value of the securities without triggering tax on the capital gain.

·       For those at least age 70 ½, and for those who have inherited an IRA, don’t forget to take your minimum required distribution by December 31^st to avoid a 50% penalty.

·       Prepay state income tax unless you are subject to the alternative minimum tax (AMT) because taxes are not deductible for the AMT.

·       Consider accelerating ordinary income into 2014 if you are subject to the AMT and may not be in 2015.  The top AMT tax rate is lower than the top ordinary tax rate.

·       If you exercised incentive stock options (ISOs) in 2014 and the value of the stock has dropped, consider selling the ISO stock by year-end in order to purge the AMT ISO adjustment so that you don’t pay tax on value that has disappeared.

·       Consider making a Roth IRA conversion if you are in a low tax bracket this year.

·       Keep a focus on your adjusted gross income (AGI).  Many deductions and credits are lost, and additional taxes can apply, depending on the size of your AGI.  These include the deduction of personal exemptions, itemized deductions, some IRA deductions, the ability to contribute to a Roth IRA, educational credits, taxation of Social Security benefits, and Obamacare taxes.  Therefore, it generally makes sense to keep your AGI as low as possible.

·       For purposes of gift and estate tax planning, don’t forget to use the $14,000 annual exclusion.  Giving cashier checks is advisable when cash gifts are made at year end to be sure that the gift is completed in the 2014 calendar year.

Last Minute 2014 Business Tax Planning

Now that the Senate has passed the Tax Prevention Act of 2014, and with the expected signature of the President, taxpayers have less than two weeks until December 31, 2014, to implement any “last minute” income tax planning strategies.  The Act basically extends for one-year the various tax items that had expired at the end of 2013.  Here is a checklist of several strategies applicable to businesses:

·       50% first-year bonus depreciation has been extended to include qualified property acquired and placed in service by December 31, 2014 (previously expired after 2013 and expiring once more after 2014).  The property’s original use must begin with the taxpayer (new property).

·       The higher Section 179 business expensing limits have been extended to include property (new or used) acquired and placed in service in tax years beginning in 2014 (previously expired for tax years beginning after 2013 and expiring once more for tax years beginning after 2014).  The expensing limit is restored to $500,000; phasing out dollar for dollar as purchases exceed $2,000,000.  Previously these limits would have been $25,000 and $200,000 respectively.

·       Adopt a qualified retirement plan, such as a profit sharing plan, a 401(k) plan, or a defined benefit plan by December 31^st.  Alternatively, a simplified employee pension (SEP) plan can be adopted by the due date of the tax return (with extensions).

·       Estimate the business’ marginal income tax rate for 2014 and 2015 and shift income and deductions as appropriate to allow more income to be taxed at lower tax rates, or to allow more deductions to be claimed at higher tax rates.

·       Cash basis taxpayers should pay and mail all outstanding bills and payroll by December 31^st.

·       Accrual basis corporations should declare and accrue bonuses by December 31^st as long as actual payment occurs no later than March 15, 2015.  Special rules apply to shareholders owning directly or indirectly more than 50% of the corporation’s stock.  Bonuses to such shareholder-employees must be paid by December 31^st to be deductible in 2014.

·       If you own an interest in a partnership or an S corporation, you may need to increase your tax basis in the entity in order to deduct a loss from it for this year.

·       If you do not already have an existing policy, be sure that a written capitalization policy is in place by December 31, 2014 for the 2015 tax year.  This policy permits low-cost asset purchases ($500 or up to $5,000 for audited financial statements) to be expensed in the income statement instead of capitalized on to the balance sheet and depreciated.  Your financial accounting records must also treat these low-cost asset purchases as expenses.  While an annual election in the income tax return must be made each year to claim the deduction, it does not appear that a new capitalization policy must be adopted each year.  Rather, a written capitalization policy simply must be in place before the start of the tax year for which you are making the tax return election.

Employer Reimbursement of Employee Health Insurance Premiums

Historically, many small employers haven’t directly offered group health insurance policies, but instead have reimbursed or directly paid some or all of the premium expense of policies purchased by their employees.  Beginning in 2014, the Affordable Care Act (ACA) presents at least two large problems with these arrangements.

1.     First, if more than one current employee is involved in the expense reimbursement plan, the government says the employer has established a group health plan.  The ACA prohibits group health plans from limiting the amount of medical benefits provided under the plan.  By design, reimbursement arrangements are limited to the cost of the premium.  Now, under the ACA, the reimbursement plan exposes the employer to potentially unlimited liability for employee medical costs.

2.     Second, if the employee purchases his or her policy on the health insurance marketplace or exchange, the employer’s reimbursement or payment of the premium is a violation of the ACA.  It does not matter whether or not the reimbursement or payment is treated as taxable wages or as a non-taxable, pre-tax reimbursement to the employee.  Plans that violate the ACA are subject to a $100 per day per employee penalty under IRC §4980D.

Another pitfall deals with more-than-2% S corporation shareholder employees.  IRS Notice 2008-1 permits the shareholder-employee to purchase an individual policy and to either be reimbursed by the S corporation or to have the S corporation directly pay the premium.  If the premium is included as income taxable wages on the W-2 (it isn’t subject to FICA or Medicare tax), the shareholder-employee may deduct the premium cost as self-employed health insurance.  However, this Notice 2008-1 pre-dates the ACA.  So if more than one employee is involved, the problems listed above apply.

What can be done to avoid these problems?  The employer should offer an ACA-compliant group health insurance policy for the employees instead of reimbursing the costs of individual policies.  The employer could also consider the small business health options program (SHOP), known as Avenue H in Utah.  Avenue H permits an employer to provide a sum of money for an employee to use to purchase a policy on that exchange.  Alternatively, the employer could simply increase their employees’ wages and let the employees purchase their own health insurance.  The wage increase should not refer to health insurance premiums.  As a small employer, there is no requirement to offer health insurance, so there is no penalty for increasing employee wages and letting them purchase their own insurance.  The downside, of course, is that increasing wages is not a tax efficient way for the employee to purchase insurance.  A better approach for tax purposes would be to use Avenue H which permits pre-tax money to be used to purchase health insurance.

For further guidance on these issues, see IRS Notice 2013-54 and a DOL FAQ on the subject.

General Documentation Guidelines for Deductible Charitable Contributions

As the year comes to a close, many people consider making charitable contributions to their favorite organizations by year end.  The following chart outlines in general the required documentation.  Without timely documentation, the tax deduction is lost.  IRS form instructions should be consulted for special rules.

Required Documentation for Charitable Deductions
	Amount	Required Records
Cash	Single cash contribution of less than $250.	Cancelled check, bank record, credit card statement or written acknowledgment from the charity.
	Single cash contribution of $250 or more.	A tax qualified receipt that contains the following elements: ·        Amount of the contribution, ·        Name of the donor, ·        States that either:  i) no goods or services were provided by the charity in consideration for the contribution, or ii) provides a description and good faith estimate of the value of any goods or services provided by the charity, ·        If only “intangible religious benefits,” were received, then the receipt must explicitly state this, and ·        The donor must receive the receipt no later than the due date of the original federal tax return (including any extensions obtained).
	Payroll Deduction	Pledge card, W-2, Paystub etc.
Non-Cash	Non-cash contributions of less than $250.	Written acknowledgment from the charity or other record showing the details of the donation.  Complete Form 8283 Section A Part 1, if the total of such donations exceeds $500 but is $5,000 or less.
	Non-cash contribution of $250 or more.	Tax qualified receipt from the charity.  Complete Form 8283 Section A Part 1, if the total of such donations exceeds $500 but is $5,000 or less.
	Non-cash contribution of publicly traded securities.	Tax qualified receipt from the charity.  Complete Form 8283 Section A Part I even if over $5,000.
	Non-cash contribution of non-publicly traded securities and other property over $5,000.	Tax qualified receipt from the charity.  Complete Form 8283 Section B and obtain a qualified appraisal.

If you are considering donating a vehicle to a charitable organization, consult IRS Publication 4303 which provides specific guidelines on vehicle donations.

The amount of any deductible contribution must be reduced by the fair market value (FMV) of any goods or services received.  If the FMV of the goods received exceeds the amount of the contribution, none of the contribution is deductible.  Many organizations host charitable events which include auctions.  At many auctions the FMV is listed on the bid sheets.  Occasionally individuals will bid on an item simply because they wish to donate to the organization but do not have any intention of ever using the item.  In such a case, the individual should simply donate cash instead of bidding on an item, in order to deduct the full amount of the donation.

For individuals who volunteer for charitable organizations, the cost of the individual’s time and and value of his or her services are not deductible.  However, a volunteer may deduct mileage (at 14 cents per mile) and any unreimbursed out-of-pocket expenses directly connected with services provided.  Documentation of the time, place, date, amount and nature of the expenses is required.

If you are unsure whether or not an organization is eligible to receive tax-deductible charitable contributions, verify the organization’s status by using the IRS’ Exempt Organizations Select Check tool.

Selected 2015 Inflation-Indexed Figures

Many contribution and deduction amounts in the tax law are indexed for inflation.  Many also have statutory adjustments.  While there remains substantial uncertainty about whether the “lame duck” Congress will enact any new tax laws before the end of 2014, some important 2015 inflation-adjusted figures have been released and are as follows:

1.     The top 39.6% ordinary income and 20% long-term capital gain tax rates apply when taxable income exceeds $464,850 for joint filers (up from $457,600 in 2014) and $413,200 for single filers (up from $406,750 in 2014).  For trusts and estates, the top rates apply when taxable income exceeds $12,300 (up from $12,150 in 2014).

2.     Itemized deductions and personal exemptions begin to “phase-out” once adjusted gross income exceeds $309,900 for joint filers (up from $305,050 in 2014) and $258,250 for single filers (up from $254,200 in 2014).  These phase-outs do not apply to trusts and estates.

3.     The personal exemption is $4,000 (up from $3,950 in 2014).

4.     The contribution amount for traditional and Roth IRAs remains $5,500 (the same as in 2014).  For those who are age 50 and older, the additional “catch-up” contribution is $1,000 and is not indexed for inflation.

5.     The modified adjusted gross income phase-out range for contributions to Roth IRAs is from $183,000 to $193,000 for joint filers (up from between $181,000 and $191,000 in 2014); and from $116,000 to $131,000 for single filers (up from $114,000 and $129,000 in 2014).

6.     The contribution amount for traditional and Roth 401(k) accounts is $18,000 (up from $17,500 in 2014).  For those who are age 50 and older, the additional “catch-up” contribution is $6,000 (up from $5,500 in 2014).

7.     The limit on the annual additions to a participant's defined contribution account is $53,000 (up from $52,000 in 2014).

8.     The annual exclusion from gift tax remains $14,000 per donee (the same as in 2014).

9.     The lifetime exemption from estate, gift, and generation-skipping transfer taxes increases to $5,430,000 (up from $5,340,000 in 2014).

10.  The Social Security tax wage base is $118,500 (up from $117,000 in 2014).

11.  The maximum annual contribution to a health savings account is $3,350 (up from $3,300 in 2014) for an individual-coverage-only health plan, and $6,650 (up from $6,550 in 2014) for a family-coverage health plan.  For employees age 55 and older, the additional HSA "catch-up" contribution is $1,000 and is not indexed for inflation.

Update
The business mileage rate increases to 57.5 cents per mile in 2015 (up from 56.0 cents in 2014).  The depreciation component in the business mileage rate is 24 cents per mile in 2015 (up from 22 cents in 2014.  However, the medical care and the moving mileage rates decrease to 23.0 cents per mile in 2015 (down from 23.5 cents in 2014).  The charitable mileage rate remains 14.0 cents per mile as it is not indexed for inflation.

Checklist of Various Tax Matters to Consider Before Year-End 2014

As the end of 2014 approaches, there are many tax matters to consider, including the following (non-exhaustive) list:

1.     Small estates should consider whether to elect portability of the deceased spouse’s unused exemption amount by the December 31, 2014 special extended deadline.  See my January 28, 2014 post here.

2.     Project your 2014 and 2015 income tax rates to see whether it is beneficial to accelerate deductions into 2014 and defer income to 2015, or to do just the opposite.

3.     Determine whether prepaying state income taxes by December 31^st is beneficial.  If the alternative minimum tax applies, prepaying is generally not beneficial.

4.     Be careful of buying mutual funds before their December ex-dividend dates to avoid inadvertently increasing your taxable income simply from your purchase!

5.     Be sure to receive the required minimum distribution (RMD) from an inherited IRA (traditional or Roth) or an inherited qualified retirement plan by December 31^st to avoid a 50% penalty!

6.     If you are over age 70 ½ in 2014, you must also receive the RMD from your traditional IRA or qualified plan by December 31^st to avoid the 50% penalty.

a.      If you make contributions to public charities, consider waiting until further into December to see if Congress and the President will extend the charitable IRA rollover provision that can count as part of your RMD and save you taxes.  See my January 12, 2013 post here for a discussion of this technique.  If you aren’t sure whether the provision will be extended and the end of the year is approaching, make the charitable IRA rollover anyway in case the provision is retroactively extended.

b.     If you turned age 70 ½ in 2014, then your RMDs must begin.  For the first year that you are subject to the RMD, you can choose whether to receive the RMD by December 31, 2014 or by April 1, 2015.  If you choose April 1, 2015, then two RMDs will occur in 2015 as the 2015 RMD must be received by December 31, 2015.  The choice depends upon your income tax rates and the impact upon adjusted gross income (AGI) based deductions and taxes between the two years.

7.     For those employing a program of making annual exclusion gifts of $14,000 each year as part of their estate planning, be sure the checks are cashed early enough in December so that the funds are removed from your bank account by December 31^st, or else use cashier checks.

 8.    Businesses should be sure that their written capitalization policy for 2015 is in place by December 31, 2014.

2015 Health Insurance Marketplace (Exchange) Open Enrollment

On November 15, 2014, the 2015 open enrollment period begins for the Federal Health Insurance Marketplace or Exchange.  This is the second year of the Exchange that infamously had many problems a year ago.  More than seven million people are estimated to have obtained coverage in the first year and that number is expected to grow to 13 million in the coming year.  Utah residents use the Federal Exchange as the state did not build its own, although Utah does have its own small business exchange (SHOP) known as Avenue H.

Open enrollment for 2015 insurance coverage ends February 15, 2015.  This three-month period is only half as long as the 2014 open enrollment period.  You must enroll by December 15, 2014 to have coverage effective January 1, 2015.  If you enroll during December 16-31, coverage won’t begin until February 1, 2015 and you will have a gap in coverage!  So it is important not to delay if you purchase health insurance on the Exchange.  On December 31, 2014, coverage ends for 2014 plans, but you will automatically be re-enrolled in that plan on December 15, 2014 if you take no action.

During the open enrollment period you may change to a different insurance plan or keep your existing plan.  You shouldn’t just blindly accept re-enrollment in your existing plan as premiums and features will have changed from 2014.  So you should shop the Exchange to be sure that you have the most appropriate plan for your circumstances.   Be sure that your doctors and medications will be covered if you change plans.  During the open enrollment period you also apply for premium support subsidies based upon your estimate of your 2015 household income.

Undo a 2013 Roth IRA Conversion by October 15th

In some instances it makes tax and financial sense to convert a traditional IRA to a Roth IRA.  A traditional IRA generally permits tax deductible contributions (but not for certain higher income taxpayers who actively participate in an employer retirement plan), and distributions are taxable income.  A Roth IRA does not permit deductions for contributions, but future qualifying distributions are excluded from taxable income.  In 2014, the ability to contribute to a Roth IRA is restricted once adjusted gross income exceeds $181,000 for joint filers and $114,000 for single filers.  However, there is no income restriction on the ability to “convert” a traditional IRA to a Roth IRA.  A conversion is best handled by means of a direct trustee-to-trustee transfer of funds from the traditional IRA to a Roth IRA.

The amount converted to a Roth IRA is treated as a taxable distribution.  If you converted to a Roth IRA in 2013, and the value of the Roth IRA account has dropped such that the taxable amount on the conversion exceeds the current value of the account, you should consider “recharacterizing” the Roth conversion by October 15, 2014.  To recharacterize means to unwind the conversion so that the balance in the Roth conversion account is transferred back to a traditional IRA by means of a direct trustee-to-trustee transfer.  Recharacterizing eliminates the taxable income from the conversion.  For example, if you originally converted $100,000 to a Roth IRA, but the investments have declined to $70,000; you would pay tax on $30,000 too much income and should consider recharacterizing to avoid paying unnecessary taxes.

You are eligible to make a recharacterization by October 15, 2014 if either:  1) you filed your 2013 income tax return on time by the April 15, 2014 due date, or 2) you timely filed an extension to file your 2013 tax return.  A tax return extension isn’t a requirement for purposes of the October 15^th Roth recharacterization deadline as long as you filed your 2013 tax return by April 15^th.  An amended tax return is necessary if you have already filed your tax return.

Once the amount has been recharacterized back to the traditional IRA, you may “reconvert” once more to a Roth IRA.  However, the reconversion cannot be done before the later of:  1) 30 days from the date of recharacterization or 2) the beginning of the tax year following the year of the initial conversion.  For example, if you originally converted your traditional IRA to a Roth IRA on December 15, 2013, and you recharacterized the conversion on October 15, 2014, then you may not reconvert until November 14, 2014.  On the other hand, if you converted on January 8, 2014 and recharacterized on November 17, 2014, you may not reconvert until January 1, 2015.  Reconversion gives you an opportunity to convert the IRA funds to a Roth IRA at a lower tax cost, assuming that the account value doesn’t increase during the waiting period and assuming no change in the effective income tax rate from the tax year of the original conversion.

IRS Eases Rules for Converting Non-Roth, After-Tax Qualified Plan Savings to a Roth IRA

IRS Notice 2014-54 opens up new Roth IRA planning opportunities for taxpayers who have made after-tax contributions to their employer’s retirement plan.  This issue does not involve 401(k) deferrals, either pre-tax or designated Roth 401(k) contributions, but rather additional after-tax savings that some qualified plans permit.  Taxpayers having after-tax savings in qualified plans have long sought a means of directly rolling over (“trustee to trustee”) the taxable portion of a qualified plan distribution to a traditional IRA and the nontaxable portion (or “basis”) to a Roth IRA.  Previously the IRS announced in Notice 2009-68 that it was not possible to isolate the basis as a separate distribution amount, but that each rollover consisted of a proportionate amount of basis.  Thus, if a taxpayer had $100,000 in his or her 401(k) account to be directly rolled over, and $30,000 of that amount consisted of after-tax (non-Roth) savings, it was not possible to direct only the $30,000 basis tax-free to a Roth IRA.  Instead, $21,000 of the $30,000 rolled over to the Roth IRA would be taxable ($30,000 X $70,000/$100,000).  Taxpayers devised means around this restriction, but it was uncertain whether the strategies would be respected by the IRS, and the strategies were complicated.  The IRS has now responded to taxpayer feedback and has issued this favorable notice.  The notice requires that the taxpayer inform the qualified plan administrator of how to allocate the basis to the rollover IRAs.  The plan administrator is then required to prepare the Form 1099-R’s accordingly.  The new notice is effective beginning in 2015, but it indicates that it is reasonable to rely upon it for distributions made on or after September 18, 2014.  Under Notice 2014-54, the taxpayer in our example would not have any taxable income upon directing the $100,000 rollover distribution as $30,000 of basis to a Roth IRA and as $70,000 of pre-tax amounts to a traditional IRA.

The notice opens up a new tax planning opportunity for individuals who already contribute the maximum permitted to their 401(k).  If the employer retirement plan permits after-tax voluntary employee contributions, then the individual may save additional money in the plan up to the maximum contribution limit of $52,000 for 2014, after taking into account the 401(k) deferrals, employer matching, and other contributions and forfeitures.  Note that so-called “catch-up” contributions (limited to $5,500 in 2014) for those age 50 or older do not count towards the contribution limit.  These additional after-tax contributions are then positioned for a Roth IRA rollover when the employee leaves employment.  This planning opportunity can be viewed as a “back-door” means of contributing to a Roth IRA in the future, and the amounts saved may go well beyond the normal Roth IRA contribution limits.  If your employer 401(k) plan does not permit voluntary employee after-tax contributions, the plan must first be amended.  Depending upon your position in the company and upon the type of qualified plan, there could be non-discrimination testing restrictions on how much can be saved.

Notice 2014-54 does not deal with isolating basis of non-deductible IRA contributions.  Making a Roth IRA conversion of a traditional IRA having tax basis will still be taxable according to the proportionate basis allocation rule.  Therefore, saving after-tax money in a 401(k) plan is a better choice than saving money as a non-deductible IRA contribution when looking forward to a future Roth IRA conversion.

S Corporation Shareholder Loans and Tax Basis

For income tax purposes, the definition of the word “basis” generally means the amount of after-tax investment in an asset.  Basis is a dollar amount that is used in various ways in the tax law, including the following examples:

1.     Basis is subtracted from the selling price of an asset to determine gain or loss.

2.     Basis is the amount that can be depreciated or amortized.

3.     Basis is the tax-free portion of retirement account or annuity distributions.

4.     Basis is the limitation on the amount of tax losses that can be deducted by a partner of a partnership, a member of a limited liability company, or a shareholder of a Subchapter S corporation.  These entities are called “pass-through” entities, meaning that the owner’s allocable share of the entity’s taxable income or loss (as shown on Schedule K-1) is reported on the owner’s income tax return.

Basis generally starts out as the after-tax cost of an asset or investment.  Then adjustments are made to basis depending upon the tax rules that apply.  For example, depreciation deductions reduce the original basis so that a double tax benefit isn’t received when the asset is sold:  once for the depreciation deduction and again in calculating gain or loss if basis isn’t reduced for the depreciation deduction.  When the asset is sold, “adjusted basis” is used in calculating the gain or loss.

For an S corporation shareholder, the original basis in the shares acquired is adjusted upward for allocated income and is adjusted downward for allocated losses and deductions and for distributions.  In addition, a special rule permits a shareholder to increase basis for the amount of loans made by the shareholder to the S corporation.  Unlike for a partnership or an LLC, third-party debt incurred by the S corporation does not increase basis for the shareholder.  Only bona fide shareholder loans to the S corporation create basis.  Loan basis permits the deduction of losses in excess of the shareholder’s basis in the S corporation’s stock.  Loan basis has been a source of controversy between the IRS and taxpayers over the years.  The IRS recently released final regulations governing shareholder loan basis.

The regulations permit loan basis only for bona fide, direct shareholder loans to the S corporation.  Personal guarantees of loans to the corporation made by third parties do not create basis, except when and only to the extent the shareholder actually makes payments under the guarantee.  Taxpayers run into trouble establishing basis when attempting to get around the third party debt limitation on basis if they engage in “circular loans” with a related party or if they do not properly structure “back-to-back” loans with an unrelated third party.  Generally a back-to-back loan will create basis if an independent third party loans money to the shareholder and the shareholder loans that amount to the S corporation in exchange for a promissory note secured with corporate assets.  This promissory note plus collateral of the shareholder is assigned to the third-party lender as security on the loan to the shareholder.  It is critical that the shareholder be directly liable on the third-party loan and not the corporation in order for the back-to-back loan structure to create basis.

How the Health Insurance Premium Assistance Tax Credit Impacts the Self-Employed Health Insurance Income Tax Deduction

Starting in 2014, taxpayers having household income below 400% of the Federal poverty line will receive a premium assistance tax credit if they purchase health insurance on a government health insurance exchange or marketplace.  Currently there is a legal challenge as to whether this credit is permitted if the purchase is made on the Federal exchange instead of on a State exchange (see my previous blog article for a brief description of the challenge).

Generally, self-employed individuals may deduct the cost of health insurance premiums as an adjustment for Adjusted Gross Income.  How is this deduction calculated if a premium assistance tax credit is received?  Surprisingly, the calculation is extremely complicated!  The deduction is limited to the lesser of:  1) the amount of the premiums paid less the premium credit claimed on the tax return, or 2) the sum of the premiums paid as reduced by an advance of the premium credit plus any required repayment of excess premium credits advanced once the income tax return is completed.  Many people ask for the premium assistance tax credit to be advanced in order to reduce their monthly premium cash expense.  Since the amount of the premium credit is based upon an estimate of AGI, a portion of the advance may be required to be repaid on the income tax return if the estimate of household income was too low.  Because household income is based upon modified AGI, and because AGI is reduced by the amount of the self-employed health insurance deduction, the amount of the premium tax credit changes based upon the amount of the deduction, and the deduction changes based upon the amount of the credit!  This is a circular calculation.

In Revenue Procedure 2014-41, the Internal Revenue Service provides instructions on how to compute the self-employed health insurance deduction as impacted by the premium tax credit.  The revenue procedure provides an iterative and an alternative calculation method in an attempt to resolve the circular computation.  Either method may be used.  Based upon the examples provided in the revenue procedure, the amount of the deduction and the amount of the premium credit may both be larger in many cases if the more complex iterative calculation method is used.  These complex calculations will require the use of a computer!  Thus, self-employed taxpayers who qualify for both the deduction and the premium tax credit will need good tax software and/or the services of a tax advisor in order to calculate the deduction and the credit.

Some Updates Regarding the Affordable Care Act

Several interesting developments regarding Obamacare occurred during July 2014.

Premium Tax Credit for Federal Exchanges

One of the primary features of the ACA is the establishment of so-called health insurance exchanges, now termed “marketplaces.”  The law contemplated that the marketplaces would be established by most of the States with a Federal backup for those States that did not establish their own marketplaces.  The reality is that 36 States chose not to establish their own exchanges requiring their citizens to purchase needed health insurance through the Federal exchange.  The ACA provides for substantial premium assistance tax credits to help make health insurance premiums affordable to lower income and middle class individuals and families.  These credits apply to taxpayers “enrolled through an Exchange established by the State” according to the statutory language.  The IRS interpreted this language to include Federal exchanges.  This interpretation was challenged in court and could affect an estimated 5 million people who are receiving the premium tax credit on the Federal exchange.

Two Federal Appeals Courts ruled on this challenge on July 22, 2014.  A three-judge panel of the District of Columbia Circuit Court ruled the IRS interpretation invalid with the consequence that the credits should not be available to those who enrolled through the Federal exchange.  The Fourth Circuit held that the IRS interpretation was consistent with congressional intent.  The conflicting opinions will need to be resolved by the U.S. Supreme Court.  The credit will remain in place for the Federal exchange until final resolution.  On August 1^st, the U.S. Justice Department asked the full District of Columbia Circuit Court to reconsider its opinion, which if it does, could delay the time that this matter will be heard by the U.S. Supreme Court.

Update:  the District of Columbia Circuit Court agreed on September 3, 2014, to rehear the case before the full court and vacated the earlier decision that would deny credits for those enrolling through a Federal exchange.

Second Update:  the U.S. Supreme Court agreed on November 7, 2014, to hear this matter.  If it rules that credits are not permitted for Federal exchanges, the decision could be the death knell for the ACA as health insurance would no longer be affordable by millions of people relying on the credits.

Draft Information Reporting Forms Released

On July 24, 2014, the IRS released drafts of the following information forms to report health insurance coverage:

·       Form 1095-B:  used by health insurance providers (including self-insured employers) to report monthly coverage of individuals.

·       Form 1095-C:  used by employers subject to the mandate to report the offering of health insurance to employees and to list the covered individuals.

·       Form 1094-B:  the transmittal form for submitting Forms 1095-B to the IRS.

·       Form 1094-C:  the transmittal form for submitting Forms 1095-C to the IRS; but this form also requires additional information pertaining to the aggregation of related employers and for indicating whether transition relief for 2015 applies (mid-sized employers having 50 to 99 full-time employee equivalents).

In addition, the IRS released a draft of Form 8965 that is to be used by individuals to report a marketplace-granted coverage exemption (e.g. premiums exceed 8% of household income) or a coverage exemption (e.g. a religious objection) from the individual mandate.  This form informs the IRS why the individual claims exemption from the penalty for not having minimum essential coverage health insurance.

2014 National Bronze-Level Premium Set for Individual Mandate Penalty

Unless an exemption applies, individuals and members of the individual’s tax household must be covered by minimum essential health insurance each month during 2014 or else pay a tax penalty for each month of non-coverage.  An exception is granted once each year for short periods of non-coverage that does not exceed three months.  The penalty is the greater of a flat dollar amount or a percentage of household income, not to exceed the national bronze-level premium amount.  Revenue Procedure 2014-46 sets the bronze-level national premium amount for 2014.  The annual penalty amount is calculated as follows.  Note, the amounts shown below are annual amounts; they should be converted to monthly amounts for purposes of computing the monthly penalty.

·       Flat dollar amount per adult age 18 and older: $95.00.  Flat dollar amount per child under age 18: $47.50.

o   The total flat dollar amount can’t exceed three times the per-adult penalty, so for 2014 the upper limit on the flat dollar amount is $285.

·       The percentage of household income (assessed on the amount in excess of the income tax return filing threshold amount) is 1%.

·       The national bronze coverage premium for each individual to be covered is $2,448 with the premium capped at $12,240 for a family with five or more members.

Deducting Out-of-Pocket Partnership & S Corporation Expenses

Many businesses are operated as tax partnerships and S corporations, including limited liability companies treated as one or the other.  These entities are known as “flow-through” or “pass-through” entities, meaning that the entity’s items of income and deduction are reported on the owners’ personal tax returns via Schedules K-1.  A tax advantage of pass-through entities is the ability for the owner to deduct losses (depending upon tax basis and participation levels) and to avoid double taxation on income and gains.  Sometimes owners will incur unreimbursed expenses relating to their work in the business.  Since the business is operated as a pass-through entity, may the owners claim their unreimbursed expenses as deductions in addition to the amounts reported from Schedule K-1?

Partnerships

In order to deduct an out-of-pocket expense, the regular deduction rules must first be met:  the expense must be incurred in a trade or business and the expense must be ordinary and necessary in nature.  Next, the partnership agreement must be examined.  If the agreement provides for the reimbursement of business expenses incurred directly by the owner, then the owner may not deduct the unreimbursed expense.  In this case, the owner should seek reimbursement so that the partnership may deduct the expense.  If the expenses are of a nature that the owner is expected to pay without reimbursement, then the unreimbursed expenses may be deducted.  It is best that the partnership agreement state that the partners are expected to bear their own expenses without reimbursement such as, for example, expenses incurred to develop or market their business.  Tax form instructions require that deductible unreimbursed expenses be reported on a separate line from the K-1 information.  Note that as a partner, these expenses will be deducted on Schedule E instead of Schedule A.  Schedule A is used by employees and a partner is not considered to be an employee for tax purposes.  A Schedule E business deduction is much more favorable tax-wise than a Schedule A itemized deduction.  In addition to reducing taxable income, such expenses may also reduce self-employment income tax.

S Corporations

Unlike for a partnership, an owner working in an S corporation is considered to be an employee.  Therefore, unreimbursed expenses that are not reimbursable by the corporation may not be deducted on Schedule E even though that is where the K-1 information is reported.  Instead, the expenses must be reported on Schedule A as a miscellaneous itemized deduction.  The Schedule A deduction does not result in income tax savings until total miscellaneous itemized deductions exceed 2% of adjusted gross income.  Furthermore, miscellaneous itemized deductions will not save any income taxes if the owner is subject to the alternative minimum tax.  For these reasons an owner-employee should seek reimbursement from the S corporation so that the business expenses can be deducted by the corporation against business income, thereby avoiding the tax limitations on unreimbursed business expenses.

What is Longevity Insurance?

Longevity insurance, also known as a longevity annuity or a deferred income annuity, is a risk-shifting tool to insure against the risk of outliving your retirement assets.  The risk of outliving retirement assets has become a very real possibility given increasing life expectancies and the decline of employer-provided defined benefit retirement plans.  With longevity insurance, you invest a lump-sum of money now with the objective of waiting for many years (e.g. until age 85) before receiving a stream of payments for the rest of your life.  If you die before the starting date, your heirs receive nothing.  Requesting a payback guarantee so your heirs receive back your investment if you die early will significantly reduce the annuity payment, defeating some of the benefit of the longevity policy.  The objective is to provide an enhanced income stream in your old age when much of your retirement assets may have been depleted.  So in a sense, longevity insurance is like any other insurance policy that pays when some event occurs, such as a car wreck, a fire in your home, etc.  But with longevity insurance, the event is living to a certain age.

The fact that not everyone lives to old age enables the insurance company to pay a fairly high amount in relation to the premium.  The longer you wait to receive the annuity the higher the payout.  However, you must remember that the stated benefit is in future dollars, meaning that the real purchasing power of the annuity will have been reduced by inflation.  For example, assuming a 3% inflation rate, today’s dollar will only buy 55 cents worth of goods and services in 20 years.  Some policies provide an inflation adjustment for an additional premium payment.

Who should consider a longevity annuity?  A person in their 50’s or 60’s who is in good health.  A person having family members who lived to an old age.  Those who have sufficient retirement assets and Social Security or other pension benefits and can afford to make the lump-sum premium payment and wait until the annuity begins.  On the other hand, longevity insurance doesn’t make financial sense for those persons with sufficient money that the risk of outliving their retirement funds is remote.

Generally no more than 10% to 25% of retirement assets would be placed in longevity insurance.  The money paid in is generally not accessible to you during the time period before payout.  The payout amount depends upon your age and upon interest rates at the time of purchase.  The younger you are when purchasing the policy, the higher the future payout.  The higher interest rates are at the time of purchase, the greater the future payout.

Only financially sound and historically stable insurance companies should be considered for this type of policy.  If the insurance company were to fail before you receive your benefits, you would receive nothing or only some amount from the state insurance guaranty fund.  For this reason, it makes sense to use more than one insurance company in order to reduce the risk of loss if an insurance company goes bankrupt.  Longevity insurance policies are relatively new to the financial landscape, and it is anticipated that the policies will improve once more competition arrives.

In the past, purchasing a longevity annuity in an IRA or 401(k) plan has been problematic because of the start of the required minimum distribution (RMD) rules at age 70 ½.  If the RMD isn’t distributed on time, a 50% penalty applies.  Since the longevity annuity doesn’t typically start paying until well after the age of 70 ½, this financial product didn’t fit well within these plans.  However, the government just issued new regulations permitting IRA owners and 401(k) plan participants to invest in qualifying longevity annuity contracts (QLAC) inside their retirement accounts without having to worry about the RMD rules.  In essence, the value of the QLAC is removed from the year-end account value used each year in calculating RMDs.  However, the regulations limit the amount that may be invested in a QLAC to 25% of the account balance or $125,000 whichever is less.  The QLAC must be a fixed annuity but may be adjusted for inflation.  The $125,000 ceiling will be adjusted for inflation in $10,000 increments.  The 25% limit for IRAs is applied by aggregating the account values of all traditional IRAs as of December 31^st of the year before the year the premium is paid.  The QLAC must begin payout no later than age 85.  Each spouse can have his or her own QLAC without impacting the limitations on the other spouse’s IRA or 401(k).  Because Roth IRAs are not subject to the RMD rules during the account owner’s lifetime, there appears to be no limitation on the amount or percentage of a Roth IRA that can be used to purchase a longevity annuity.

IRS Again Revises its Offshore Voluntary Disclosure Program

The Federal government is continuing to use its power to catch taxpayers who did not report their foreign financial accounts and/or pay income tax on the income derived in those accounts.  The U.S. taxes worldwide income of its citizens and residents and requires the disclosure of certain foreign financial accounts and assets.  The rules for determining who must report and what must be reported are exceedingly complex.  Many taxpayers have been blissfully ignorant of the rules.  The government is using the threat of large penalties to encourage taxpayers to catch up on accounts that haven’t been reported in the past.  In the past these threats have not distinguished between taxpayers who ignorantly omitted their foreign disclosures and taxpayers who have willfully concealed their accounts.  Responding to some criticism of their approach, the IRS has revised some of the rules pertaining to the offshore voluntary compliance program.  See their statement dated June 18, 2014.  There appear to be four programs currently in place as described on the IRS website.  Various financial penalties apply.

1.     The Offshore Voluntary Disclosure Program (OVDP) is a voluntary disclosure program specifically designed for taxpayers with exposure to potential criminal liability and/or substantial civil penalties due to a willful failure to report foreign financial assets and pay all tax due in respect of those assets.  OVDP is designed to provide to taxpayers with such exposure (1) protection from criminal liability and (2) terms for resolving their civil tax and penalty obligations.  A special rule under this program requires taxpayers to comply with an August 3, 2014 deadline.  This is the date that FBAR non-filers  who have foreign bank accounts with a foreign financial institution that has been publicly identified as being under investigation, or is cooperating with a government investigation.  See the list here.  If such individuals voluntarily come forward by the deadline, their penalty is reduced to 27.5% of the account balance instead of the 50% penalty that will be imposed if they voluntarily come forward after this date.

2.     “Streamlined” filing compliance procedures are available to taxpayers certifying that their failure to report foreign financial assets and pay all tax due in respect of those assets did not result from willful conduct on their part.  The streamlined procedures are designed to provide to taxpayers in such situations (1) a streamlined procedure for filing amended or delinquent returns and (2) terms for resolving their tax and penalty obligations.  These procedures will be available for an indefinite period until otherwise announced.  The IRS definition of “streamlined” does not mean that a lot of work isn’t necessary to comply with the requirements.

3.     Delinquent FBAR Submission Procedures.  Taxpayers who do not need to use either the OVDP or the Streamlined Filing Compliance Procedures to file delinquent or amended tax returns to report and pay additional tax, but who:  (1) have not filed a required Report of Foreign Bank and Financial Accounts (FBAR) (FinCEN Form 114, previously Form TD F 90-22.1), (2) are not under a civil examination or a criminal investigation by the IRS, and (3) have not already been contacted by the IRS about the delinquent FBARs should file the delinquent FBARs according to the FBAR instructions and include a statement explaining why the FBARs are filed late.

4.     Delinquent International Information Return Submission Procedures.  This program pertains to foreign reporting for forms other than the FBAR.  Taxpayers who do not need to use the OVDP or the Streamlined Filing Compliance Procedures to file delinquent or amended tax returns to report and pay additional tax, but who:  (1) have not filed one or more required international information returns, (2) have reasonable cause for not timely filing the information returns, (3) are not under a civil examination or a criminal investigation by the IRS, and (4) have not already been contacted by the IRS about the delinquent information returns should file the delinquent information returns with a statement of all facts establishing reasonable cause for the failure to file.  As part of the reasonable cause statement, taxpayers must also certify that any entity for which the information returns are being filed was not engaged in tax evasion.

The IRS states that simply filing amended tax returns to correct past problems won’t protect taxpayers from penalties and possible criminal prosecution.  The IRS wants taxpayers to come in under one of the above programs and pay the financial penalty associated with the program.  This type of threat is not normally associated with amended tax returns filed to correct mistakes, and it shows the attitude of the government towards taxpayers who have not timely reported foreign financial accounts.

U.S. Supreme Court Rules that Inherited IRAs are not Protected from the Claims of Creditors

On June 12, 2014, the U.S. Supreme Court unanimously held in Clark v. Rameker that the protection afforded individual retirement accounts under the Bankruptcy Code is lost once such accounts are inherited.  The reason given is that the account loses its traditional character as “retirement funds.”  While it seems clear that an IRA inherited by a non-spouse is now no longer protected, it is unclear whether the protection is also lost if a spouse inherits the IRA.

The Court concluded that an inherited IRA did not constitute “retirement funds” in the hands of the beneficiary by citing the following limitations imposed on inherited IRAs.  Such limitations do not exist for IRAs that are owned and not inherited.

1.     The beneficiary cannot contribute money into the inherited IRA.

2.     The beneficiary must begin minimum required distributions from the inherited IRA and cannot wait until the beneficiary’s own retirement.

3.     The beneficiary may withdraw the entire inherited IRA balance without an early withdrawal penalty if under age 59 ½.

A spouse beneficiary has the ability to roll over the inherited IRA to his or her own personal IRA, whereas non-spouse beneficiaries are unable to do so.  This fact brings up a few important questions: Will this rollover allow the inherited funds to be protected under the Bankruptcy Act?  Or, will the protection not be permitted because the spouse did not set aside such money him or herself?  We may not know the answer to these questions without future litigation.

IRA owners should now consider naming a discretionary trust as beneficiary.  Giving the trustee discretion on how and when to make distributions to beneficiaries may enhance creditor protection.  The trust must be properly drafted to qualify as a designated beneficiary to avoid unfavorable income tax results upon the IRA owner’s death.

This case deals with Federal bankruptcy law.  State law may nevertheless provide some protection to an inherited IRA.  Individuals with large IRA balances who are concerned about asset protection should consult with their attorney.

2013 Foreign Bank Account Report (FBAR) Must be Electronically Filed by June 30, 2014, Using New FinCEN Form 114 (Form TD F 90-22.1 is Obsolete)

U.S. persons having interests in or signature authority over a foreign financial account must file an annual report with the U.S. government if the maximum value of all foreign accounts exceeds US$10,000 on any day during the calendar year.  A foreign exchange rate is used for conversion purposes.  Conversion rates as of December 31^st should be used and they are published here.

New for 2013 is that the old paper-filed Form TD F 90-22.1 has been replaced by new FinCEN Form 114 which must be electronically filed.  FinCEN stands for Financial Crimes and Enforcement Network.  The foreign bank and financial accounts report, or FBAR, must be filed by June 30, 2014 through the BSA E-Filing System here.  BSA stands for Bank Secrecy Act.  You may file your FBAR by using the services of a third-party upon granting the proper permission.  An attorney, CPA, or enrolled agent may act as an account holder’s representative.

No extension of time is permitted.  Significant penalties exist for late or non-filing.  Such penalties can range from $500 to the greater of $100,000 or 50% of the account balance.  In addition, criminal penalties can range from a fine of up to $500,000 plus 10 years in jail in some situations.  Clearly the US government is serious about forcing FBAR compliance.  You should consult legal counsel if you have serious concerns about any delinquency.

Owners of entities that are required to file an FBAR must also file an FBAR at the owner level if they have more than a 50% direct or indirect ownership interest.  So-called “disregarded entities” for income tax purposes are not disregarded for this purpose and must file the report.  Records of accounts required to be reported on the FBAR should be kept for five years from the due date of the report.

Be sure to also check the appropriate boxes at the bottom of Schedule B, Form 1040, and to include any account earnings in your U.S. income tax return.

For more information, consult the IRS’ online FBAR Reference Guide here.

Tax-Exempt Organization Tax Return Filing Deadline Approaching

Tax-Exempt Organizations using a calendar year are required to file 990-series returns by May 15. However, not all organizations are required to file the same form.  The 990-series includes Forms 990, 990-EZ, 990-N and 990-PF, and are not technically income tax returns but are rather informational returns.  However, private foundations are subject to excise taxes on investment income and all exempt organizations are subject to tax on unrelated business taxable income.  In addition to financial information, organizations must describe their organization’s mission and charitable activities. These forms must be filed annually, and organizations that fail to file for three consecutive years will have their federal tax-exempt status automatically revoked.

Depending on the size and type of your organization different forms are required.  Small tax-exempt organizations with average annual receipts of $50,000 or less may file Form 990-N, also known as an e-postcard.  The 990-N filing is only available online, and asks for some basic information regarding your organization.  Organizations that file Form 990-N are not required to file Form 990 or 990-Z.  However, the 990-N is not allowed an extension, and as such must be filed by May 15 if your organization operates on a calendar year.

Form 990-EZ is a shorter and simpler version of Form 990 that can be used by smaller organizations that have average annual receipts of less than $200,000 and less than $500,000 of assets.  Form 990 is required for all exempt organizations with average annual receipts of $200,000 or more and assets of $500,000 or more.  Private Foundations must file Form 990-PF regardless of the amount of receipts or assets.

The due date for filing Forms 990-EZ, Form 990 and Form 990-PF may be automatically extended 3 months by filing Form 8868.  However, a filing extension does not extend the payment due date if any taxes are owing.  If an additional filing extension is required, page two of Form 8868 may be submitted, but reasonable cause must be given as the second extension request is not automatic.

How Many Income Tax Systems Do We Have?

Now that the 2013 tax filing season is over, it is time to consider just what income taxes you had to pay.  Our income tax system is more complex than what many people believe.  One major reason for the complexity is that a brand new income tax system, created by the Affordable Care Act (Obamacare), came into being in 2013.  So, you might wonder, how many income tax systems do we have?  The answer:  we have four parallel income tax systems.  See below. We pay all four taxes when they apply.  The first three starting from the left are federal taxes and are combined on your federal income tax return.

Each of the tax systems have their own definitions of income, deductions, credits, and tax rates.  They apply when taxpayers have certain types of income or deductions in sufficient amounts.  Taxpayers with similar overall income levels can pay very different amounts of income taxes depending upon the make-up of their income and deductions.

For example, some tax-exempt interest not taxable under the regular tax system or under the net investment income tax (NIIT) system might be taxable by the alternative minimum tax (AMT) system and by your state income tax system.  Another example is that not all itemized deductions allowed for regular tax purposes are deductible under the AMT or NIIT systems, and if your income is too high in Utah, none of your itemized deductions are permitted.

Tax planning is difficult to get right if you don't consider all four of these income tax systems.  Tax planning requires the use of sophisticated software and the analysis must consider at least the current and the subsequent tax year.  Now that your 2013 tax return has been filed, consider how these four parallel tax systems impacted your tax expense, and how you might better arrange your financial affairs to reduce their impact on your 2014 income tax.

Tax Court Limits IRA Rollovers, IRS Grants Transition Relief

The IRS recently issued an announcement that will impact taxpayers’ use of IRA rollovers.  An IRA rollover is technically a receipt of funds from one IRA followed by a contribution to another IRA within the 60-day period beginning the day after the date of receipt.  If the rollover is accomplished within the 60-day period, the receipt of the IRA funds is not taxable.  If the contribution to the second IRA occurs after 60 days, the receipt of the IRA funds is considered a taxable distribution (with a 10% early withdrawal penalty if the owner is younger than 59 ½) and the contribution to the second IRA will generally not be permitted and will be counted as an excess contribution subject to penalties.  A similar result occurs if more than one rollover is made within 12 months.  The 12-month period is measured beginning on the date of receipt. 

The 12 month provision discussed in IRC §408(d)(3) has been interpreted by IRS Publication 590 and Prop. Reg. 1.408-4(b)(4)(ii), which state that the once-every-12 months IRA rollover provision be applied on an IRA-by-IRA basis.  On January 28, 2014, the Tax Court ruled in Bobrow v. Commissioner, T.C. Memo. 2014-21, that the once-every-12 months IRA rollover provision applies at the taxpayer level and not at the IRA level.  This decision greatly disrupts the commonly accepted interpretation of the tax law.  On March 20, 2014, the IRS issued Announcement 2014-15 stating that it will follow the Tax Court’s decision and revise Publication 590 and the regulation.  The announcement grants transition relief applying the former interpretation to IRA rollovers made through December 31, 2014, to give IRA owners and custodians time to change to the new procedure.

A direct transfer by one IRA custodian to another IRA custodian is termed a direct “trustee to trustee” transfer and is not considered a rollover for this purpose.  Therefore, the practical implication of this new ruling is that taxpayers should move IRA funds by arranging for the direct transfer from one institution to another institution, rather than receiving the funds and then depositing the funds within the 60-day period.

New Obama Budget Proposal Includes Old Tax Increases and Some Surprises

Pres. Obama released his fiscal year 2015 budget proposal on March 4, 2014.  Most commentators view the proposal as a political document designed for the elections this fall.  Nevertheless, some tax proposals have a way of finding themselves law in the future and so it is important to be aware of the proposals.

The following tax increases are proposed:

·       Increase IRS funding by 6.3% to increase the number of tax audits.

·       Reduce the tax rate benefit of itemized deductions to 28% (which impacts taxpayers paying tax at the higher 33%, 35%, and 39.6% rates).

·       Implement the so-called “Buffett Rule” to require millionaires to pay no less than a flat 30% tax on income after the deduction of charitable contributions.

·       Prevent individuals from saving additional money in tax-preferred retirement accounts once their accumulated balances exceed roughly $3.2 million per person.

·       Require non-spouse beneficiaries of IRAs and qualified plans and annuities to fully distribute the inherited account by the end of the fifth year.
·       Require Roth IRAs to make lifetime minimum required distributions when the account owner turns age 70 1/2 (currently only Roth 401(k) accounts are required to make lifetime MRDs).

·       Increase the estate, gift, and generation skipping tax (GST) rate from 40% to 45%.

·       Lower the estate tax and GST exemptions from $5.34 million to $3.5 million.

·       Lower the gift tax exemption from $5.34 million to $1.0 million.

·       Require grantor-retained annuity trusts (GRATs) to have a minimum 10-year term and to have a remainder value greater than zero.

·       Eliminate the benefits of sales to “defective” grantor trusts by coordinating the income tax rules with the transfer tax rules.

·       Limit the duration of the exemption from GST tax to 90 years for “dynasty” trusts created after the date of enactment.

·       Eliminate the unlimited number of permitted annual gift tax exclusions for gifts of present interests of $14,000 in favor of a flat $50,000 per donor for all gifts.

·       Require professional service business profits to be subject to Social Security and Medicare taxes regardless of whether the business is conducted through an S corporation, an LLC, or a limited partnership.

·       Repeal the last-in, first-out (LIFO) method of inventory tax accounting.

·       Limit the amount of real estate like-kind exchange gain that can be deferred to $1 million per taxpayer per year after 2014.

·       Tax “carried interests” (partnership or LLC profits interests) as ordinary income instead of long-term capital gain.

·       Eliminate the specific identification method and require the average cost method for identifying the cost basis of stocks purchased after 2014.

Several new tax-cut proposals are proposed:

·       Permanently increase the Section 179 equipment expensing limit from $25,000 to $500,000.

·       Permanently extend the research and experimentation tax credit (expired after 2013).

·       Permanently increase the exclusion for qualified small business stock to 100%, and extend the time for tax free reinvestment from 60 days to 6 months for stock held for more than 3 years.

·       Make the expanded American Opportunity Tax Credit for college costs permanent.  It is currently scheduled to revert to the lower credit amount after 2017.

·       Allow non-spouse beneficiaries of IRAs and qualified plans to rollover the inherited balances within 60 days (presently only spouse beneficiaries can do so).

·       Eliminate required minimum distributions for those who attain age 70 ½ if the IRA balance is $100,000 or less.

·       Establish the MyRA savings bond announced in the state of the union address.