Tuesday, November 22, 2011

e-YWM Alert #21- How to Shift Income

One of the most commonly used methods of tax planning revolves around the shifting of revenue recognition between years. A taxpayer who on the basis of income projections, marital status, etc., for 2011 and 2012 will be better off taxwise by deferring income from this year to next should consider acting along the lines explained in the following paragraphs.

Under current law, tax rates in 2012 will remain the same as they are this year. Therefore deferring income from 2011 to 2012 will not cause it to be taxed at a lower rate, but will only delay its recognition, unless the taxpayer expects to be in a lower tax bracket in 2012. (Note that while tax rates will be the same in 2012, the point at which each of the higher tax brackets begins generally will be slightly higher for 2012 than for 2011 as a result of inflation adjustments.)

High income taxpayers should be wary of deferring income past 2012, because of the danger of being subject to a higher bracket. Without Congressional intervention, after 2012 the tax brackets above the 15% bracket will revert to their pre-2001 levels. That means the top four brackets will be 39.6%, 36%, 31%, and 28%, instead of the current top four brackets of 35%, 33%, 28%, and 25%. The Administration has proposed to increase taxes only for wealthier taxpayers, but it is difficult at this point in time to predict who will get hit by higher rates.  

Income-shifting by cash basis taxpayers.


A cash basis taxpayer can postpone income to the next year as long as it isn't actually or constructively received this year. Income is constructively received if there is no substantial restriction on the time or manner of payment.

Income the taxpayer earns by rendering services isn't taxed until the client, patient etc., pays. If the taxpayer holds off billing until next year-or until so late in the year that no payment can be received in 2011-he won't have taxable income this year.

In some cases, income can be deferred by arranging to have payment of a bonus earned in 2011 delayed until 2012.

Income-shifting by accrual-basis taxpayers.


The mere fact that the receipt of cash is delayed doesn't defer taxable income for an accrual-basis taxpayer. As soon as an accrual-basis taxpayer's right to the income is fixed, and its amount can be determined with reasonable accuracy, it's taxable. Because of this, generally the only way an accrual-basis taxpayer can postpone income (other than by using the installment sale method) is to defer the actual right to payment for the services or merchandise delivered.

One way to do that would be to postpone completion of a job until 2012 so as to have the right to income arise only in 2012, even though most of the actual work is done in 2011. (Note, however, that some special rules apply to certain long-term contracts for the manufacture, building or construction of property, which often require the recognition of income on a percentage-of-completion basis.)

Another way would be to hold up deliveries where that would defer accrual. This would be the case where the seller's right to payment is contingent on delivery of the property to the buyer. In fact, delaying delivery until 2012 can defer accrual even where an advance payment for the merchandise is received in 2011. Advance payments against the sale of merchandise generally don't give rise to income until the payments are otherwise properly accruable under the taxpayer's own method of accounting.

Other ways to defer income are by postponing the closing of a sale, or by delaying the settlement of a pending dispute over an item of income.  

Special accounting rule defers employee recognition of taxable fringe benefits.


The value of taxable fringe benefits (e.g., the personal use of a company car) must generally be included in the employee's income for the tax year in which the benefit is received. However, employers may treat fringe benefits provided in the last two months of the calendar year as having been provided to the employee in the following year. Thus, if the employer makes the election, the employee can defer paying taxes on two months' worth of benefits received in 2011 until 2012. If an employer uses this rule, it must notify each affected employee between the time of the employee's last pay check and at or near the time that the Form W-2 is provided.

Employers can allow employees to shift FSA funds to 2012.


A flexible spending arrangement (FSA) is a form of a cafeteria plan that allows employers to offer their employees a choice between cash salary and nontaxable benefits without being subject to the principles of constructive receipt. FSAs are commonly used, for example, to reimburse employees for medical expenses not covered by insurance. However, FSAs may be used to provide other qualified benefits, such as dependent care or adoption assistance.
At one time, FSAs were required to operate on a strict use-it-or-lose it basis. Employees were required to forfeit any amount contributed to the plan for a 12-month coverage period that exceeded reimbursable expenses actually incurred during the coverage period. However, employers now have the option of having their FSA documents provide for a 2 1/2 month grace period immediately following the end of the plan year. Qualified expenses incurred during the grace period may be paid or reimbursed from funds remaining in an employee's FSA at the end of the prior plan year.
IRS says an employer can adopt a grace period for the current plan year (and for subsequent years) by amending the cafeteria plan document before the end of the plan year. Thus, a calendar year plan that wants to extend the deadline for using 2011 FSA contributions until Mar. 15, 2012, must have a plan amendment in place by Dec. 31, 2011.

Adoption of the grace period will obviously be beneficial for employees who participate in FSAs. However, there are some drawbacks for employers. FSA administration will be more complicated since an employer will have to monitor carryover amounts during the grace period and keep them segregated from current year contributions. In addition, many employers count on forfeitures to offset part or all of their administration costs. If the grace period reduces forfeitures, an employer will have to pay for these costs from other funds.  

Some taxpayers may want to accelerate income.


While most taxpayers look to defer income recognition at year-end, others may be in situations where the opposite strategy is advantageous. This could be the case, for example, for taxpayers who expect to be in a higher tax bracket in 2012 than in 2011 or to have fewer deductions, or whose filing status will change to their detriment. These taxpayers should do the opposite of those who are acting to defer receipt of income, e.g., move up the closing date for asset sales, bill clients as early as possible, etc.
Accelerating installment sale gain. If a taxpayer has unrealized profit on obligations arising out of installment sales made in prior years and finds it desirable taxwise to accelerate income into 2011, he should consider selling part or all of the obligations, or negotiating with the buyer for accelerated payments.

Recognizing savings bond interest. A taxpayer who wants to accelerate income into 2011 can do so by redeeming U.S. Saving Bonds. Or, for unmatured Series EE or I bonds, he can elect to report interest each year as it accrues. That way, he has all of the income accrued through the end of 2011 (including interest that accrued in earlier years) taxed in 2011. But note that this election can't be reversed without IRS consent. In the future, the taxpayer must pay tax annually on the income as it accrues, and not in the year the bonds mature or are redeemed.

All information presented above is generic, if you would like to know how this may be applied to your specific situation please give us a call at 303-792-3020 or reply directly to this email.  Additional resources are always available at our website, www.ywmcpa.com.

Tuesday, November 15, 2011

e-YWM Alert #20- Corporation and Partnership Tax Planning Moves

While there is a great deal of time spent on making the appropriate individual tax planning moves, we felt it would be helpful to include some tips and ideas on moves that can be made related to your ownership in Corporations, S-Corporations or Partnerships. The actions of these entities can all have a direct impact on your 2011 tax liability.


Accrual basis corporation can take 2011 deduction for some bonuses not paid until 2012.

An accrual basis corporation can take a deduction for its current tax year for a bonus not actually paid to its employee until the following tax year if (1) the employee doesn't own more than 50% in value of the corporation's stock (however, see below for a S-Corporation), (2) the bonus is properly accrued on its books before the end of the current tax year, and (3) the bonus is actually paid within the first 2 1/2 months of the following tax year (for a calendar year taxpayer, within the first 2 1/2 months of 2012). For employees on the cash basis (for income that was deferred before it was earned), the bonus won't be taxable income until the following year. The 2011 deduction won't be allowed, however, if the bonus is paid by a personal service corporation to an employee-owner, or by an S corporation to any employee-shareholder, or by a C corporation to a direct or indirect majority owner.


Taking S corporation losses.

A shareholder can deduct his pro-rata share of S corporation losses only to the extent of the total of his basis in (a) the S corporation stock, and (b) debt owed him by the S corporation. This determination is made as of the end of the S corporation tax year in which the loss occurs. Any loss or deduction that can't be used on account of this limitation can be carried forward indefinitely. If a shareholder wants to claim a 2011 S corporation loss on his own 2011 return, but the loss exceeds the basis for his S corporation stock and debt, he can still claim the loss in full by lending the S corporation more money or by making a capital contribution by the end of the S corporation's tax year (in the case of a calendar year corporation, by Dec. 31, 2011).


Handling partnership losses.

A partner's share of partnership losses is deductible only to the extent of his partnership basis as of the end of the partnership year in which the loss occurs. The amount of this basis can be increased by a capital contribution, or in some cases by the partnership itself borrowing money or by the partner's taking on a larger share of the partnership's liabilities before the end of the partnership's tax year.  

If a partner anticipates a loss this year in excess of his partnership basis, he can choose to take the loss this year by increasing his basis by the end of the partnership tax year (in the case of a calendar year partnership, by Dec. 31, 2011). On the other hand, if he does not have sufficient other income to make use of the loss this year, he can carry it to 2012.

All information presented above is generic, if you would like to know how this may be applied to your specific situation please give us a call at 303-792-3020 or reply directly to this email.  Additional resources are always available at our website, www.ywmcpa.com.

Friday, November 11, 2011

e-YWMnews-November 2011 Website Update

Newsletter Updates- The following articles can be found at our website at http://www.ywmcpa.com/newsletter . This month our articles include: 

  • Inflation adjustments may generate tax savings in 2012
  • The tricky distinction between employees and independent contractors
  • Year-end charitable giving can benefit your 2011 tax bottom-line
  • How do I? Avoid pitfalls within a flexible spending account?
  • FAQs: When can I deduct job-hunting expenses?
  • November 2011 tax compliance calendar
If any of these articles are of interest to you be sure to visit our site during the month of November as these articles change monthly.

As always, if you have any questions or comments to make our site even better, please don't hesitate to contact us. All information on our website is generic, to determine how this affects your specific situation please give us a call at 303-792-3020 or reply directly to this email.
Yanari Watson McGaughey P.C.

Monday, October 24, 2011

e-YWM Alert #19- Year End Retirement Planning Moves

Over the next few weeks we will be sending a series of emails regarding different tax planning strategies that can be implemented before year end. These emails are overviews of often complicated strategies. If you feel one of these may be of use to you or you have questions about any of them please contact us.
Below please find a number of strategies related to the use of Retirement Plan's as a tax strategy. Additional information on Roth to IRA conversions can be found at our e-alert archives at http://thegrossprophet.blogspot.com/  in E-Alert #5 sent in November of 2010.

Roth Conversion:

Taxpayers may convert funds in traditional IRAs to Roth IRAs regardless of their income level.
Individuals considering whether to roll over or convert for 2011 should keep in mind that unlike the usual IRA rollover, a switch from traditional IRA or qualified plan to a Roth IRA is not income tax free. Instead, it is subject to tax as if it were distributed from the traditional IRA or qualified plan and not recontributed to another IRA.  However this rollover to a Roth IRA is not subject to the 10% premature distribution tax.
Why make a traditional IRA-to-Roth IRA conversion? Roth IRAs have two major advantages over traditional IRAs:
(1) Distributions from traditional IRAs are taxed as ordinary income (except to the extent they represent nondeductible contributions). By contrast, Roth IRA distributions are tax-free if they are "qualified distributions".
(2) Traditional IRAs are subject to the lifetime required minimum distribution (RMD) rules that generally require minimum annual distributions to be made commencing in the year following the year in which the IRA owner attains age 70 ½. By contrast, Roth IRAs aren't subject to the lifetime RMD rules that apply to traditional IRAs (as well as individual account qualified plans).
There are other tax advantages: Because distributions from Roth IRAs are tax-free such distributions:
  • may keep a taxpayer from being taxed in a higher tax bracket that would otherwise apply if they were withdrawing taxable distributions,
  • don't enter into the calculation of tax owed on Social Security payments, and have no effect on AGI-based deductions.  
  • Allow the benefits of a Roth IRA to flow through to beneficiaries of Roth IRA accounts, who also can make tax-free withdrawals from such accounts (they are, however, subject to the same annual post-death minimum distribution rules that apply to beneficiaries of traditional IRAs).
Who should make traditional IRA-to-Roth IRA conversions? The consensus view is that the conversion route should be considered by taxpayers who:
1. Have a number of years to go before retirement (and are therefore able to recoup the dollars that are lost to taxes on account of the conversion);
2. Anticipate being taxed in a higher bracket in the future than they are now; and
3. Can pay the tax on the conversion from non-retirement-account assets (otherwise, there will be a smaller buildup of tax-free earnings in the depleted retirement account).
Timing of rollover/conversion. A conversion from a traditional IRA to a Roth IRA is taxed in 2011 if it takes place before the end of the year. As far as rollovers are concerned, even though a distribution in 2011 from a traditional IRA is taxed in that year, the distributee has 60 days to roll over the distribution to a Roth IRA even if the rollover isn't completed until 2012
Backing out. A taxpayer who rolled over or converted from a traditional IRA to a Roth IRA earlier in 2011 may find that the move wasn't wise after all because the Roth IRA account has declined in value. The taxpayer can back out of the transaction by recharacterizing the rollover or conversion, i.e., transferring the converted amount (plus earnings, or minus losses) from the Roth IRA back to a traditional IRA via a trustee-to-trustee transfer. This must be done by the due date of the return (including extensions) for the year of conversion.  So for 2011, you have until October 15, 2012 if you extend your return to redo the conversion.

Losses on Investments held by Roth IRAs.
Losses on investments held within a Roth IRA aren't recognized when the losses are incurred. However, if the taxpayer liquidates all of his Roth IRAs, a loss is recognized if the amounts distributed are less than his unrecovered basis, namely his regular and conversion contributions, all of which are nondeductible contributions. The loss is an ordinary loss but it can only be claimed as a miscellaneous itemized deduction subject to the 2%-of-AGI floor.

Example: Early in 2011, Anne, a single taxpayer who is age 60, converted her traditional IRA with a $50,000 balance into a Roth IRA and invested the money in an aggressive growth fund. The traditional IRA was funded entirely with deductible contributions. Now the Roth IRA is worth only $25,000. A rough estimate for the year shows that Anne will have $100,000 of AGI and taxable income of $80,000 without factoring in the loss, putting her in the 25% tax bracket for 2011. Anne sees little hope for a recovery of the investment in the near future. She has no other Roth IRAs.
If Anne liquidates her Roth IRA (and has no other miscellaneous itemized deductions), she can claim $23,000 of the loss as a miscellaneous itemized deduction on Schedule A, Form 1040 ($25,000 less $2,000, which is 2% of her $100,000 AGI). The deduction will mean $5,750 in tax savings for Anne (25% of $23,000). In essence, that cuts her economic loss to $19,250 ($25,000 loss less $5,750 tax savings).

Caution: The tax savings may diminish (or even disappear) if the taxpayer is subject to the alternative minimum tax (AMT). That's because miscellaneous itemized deductions can't be claimed for purposes of calculating the AMT. Additionally Taxpayers who are thinking of liquidating their Roth IRAs should keep in mind that they will be giving up the opportunity to eventually withdraw any future gains tax-free.
Unexpected tax trap for Roth IRA owners. For IRA owners that made a traditional-IRA-to-Roth-IRA a 10% premature withdrawal penalty tax applies if the owner withdraws converted amounts within the five-tax-year-period beginning with the tax year in which the conversion took place. Because the penalty tax applies to a distribution to the extent that the converted amount was taxable when the conversion took place, a taxpayer could wind up paying a penalty tax even though none of the distribution is includable in income.

Self-employeds should establish a retirement plan before year-end.
A self-employed person who wants to contribute to a Keogh plan for 2011 must establish that plan before the end of 2011. If that is done, deductible contributions for 2011 can be made as late as the taxpayer's extended tax return due date for 2011. However, a self-employed person who misses the year-end deadline to establish a Keogh plan has until his extended 2011 return due date both to establish and to make deductible contributions to a Simplified Employee Pension (SEP) for 2011. Keogh plans, however, can be designed to provide more flexibility for a self-employed business owner than a SEP can provide. 

All information presented above is generic, if you would like to know how this may be applied to your specific situation please give us a call at 303-792-3020 or reply directly to this email.  Additional resources are always available at our website, www.ywmcpa.com.


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