Do you need to amend for tax extenders, SALT workarounds, state tax domicile and empowerment zone gains?

This tax update may give you reasons to amend your tax returns regarding the tax extenders, SALT workarounds, domicile audits and empowerment zones. Let me know if you need help.

Tax Deduction Superhero?

Tax extenders

Many tax returns were prepared assuming that Congress would pass a law for the “tax extenders” as it has in past years. However, the bill extending deductions and credits for 2018 and 2019 has not passed. Other matters have the attention of Congress.

The tax extenders include 26 tax breaks that expired at the end of 2017 and 2018. Some are for businesses, such as motor speedway depreciation, biodiesel credits, and disaster relief. Others are for individuals, such as retaining the 7.5% threshold instead of 10% for medical expenses, the private mortgage insurance (PMI) deduction, exclusion of up to $2 million from income from mortgage debt forgiveness on your home, and an above-the-line deduction college tuition and qualified expenses.

If you filed your 2018 returns relying on passage, and the extender bill does not pass, you could face an inquiry form the IRS. If you filed without relying on the extenders, and the bill does pass, you may be able to amend your 2018 filing to obtain a refund.

SALT and work around attempts by states

As you know from the first post in our series on the Tax Cut and Job Act (“TCJA”), the new tax law places a $10,000 cap on state and local taxes, or “SALT.” This includes state and city income taxes, property taxes, sales taxes and excise taxes.

Some states, including New York and New Jersey, felt that TCJA targeted them and responded with workarounds. One such measure provides that certain payments of state income taxes would be treated as charitable contributions, so that the full amount would be allowed as part of your Schedule A deductions.

The IRS reacted by indicating that only the IRS determines what are allowable Schedule A deductions and this workaround was not one of them. As Christy Rakoczy Bieber wrote recently on creditkarma.com:

If you’re counting on a SALT cap workaround from your state to keep your federal taxes low, you may face an unpleasant surprise at tax time since the IRS has made clear it won’t allow you to take deductions for charitable donations if you received tax credits.

Trying to avoid the state taxes

Some people with homes in more than one state have taken another approach to SALT limits by claiming to be residents of the state imposing less income taxes. For example, if you have homes in Massachusetts and in Florida, you would clearly pick Florida because there is no state income tax.

If you do pick a no or low-income tax state, be careful. The state that is missing out on tax revenue may conduct a domicile audit. Having the documentation to prove your residency is key. While residency is based on your “state of mind,” an audit would focus on a list of facts, including where you spend more time, the state in which you have a driver’s license and vote, where you receive your mail, and where you worship. Be sure to take the necessary steps and retain proof.

Empowerment Zone rollovers and Qualified Small Business Stock Sales (QSBS)

There are provisions for favorable treatment of certain capital gains transactions. Here are two:

  • If you purchased stock in a qualified small business, you may be able to exclude gain on the sale. The exclusion is even higher for certain empowerment zones, and;
  • You can roll over gain from certain sales into investments in an empowerment zone, delaying or even reducing the tax on the gain. There are opportunity funds into which you can invest for this deferral. If you think you need to amend, or if you have any questions on this post or any other matter, let me know. I am here to help.
thinking about a refund?

If you think you need to amend, or if you have any questions on this post or any other matter, let me know. I am here to help.

Getting unbiased advice on your finances

Unlike many sources of financial planning guidance, we do not charge a fee based on your assets or a commission for purchasing investments or insurance. We will help you set up investments and find the insurance that you need. For all our help, we simply charge for our time.

Why pay for financial advice when you can get it on the internet for free

(she’s thinking about the question)

Many investment firms have websites offering free advice on managing your finances. However, nothing on the internet is truly free. The advice may direct you to investments from which the firm receives a commission or the website may be a lead generation site.

What is lead generation?

Awhile back, I did a post on how a website that provides “free” use of a gamified retirement calculator. Using the calculator was fun and free. However, when you delved deeper, reading the company’s ADV disclosure, you learned that the website may receive referral fees from vendors for referring users to financial products, such as lenders for a user who needs to refinance her mortgage or Schwab, Fidelity or TD Ameritrade for users who want to rollover a 401(k). In other words, the site generates leads for which it gets paid. That hardly sounds free!

When to pay

If free is not the answer, that means you pay for advice. That can be good, because when you are the sole source of compensation, then planner has no hidden agenda – she serves your needs only.

I know finances are not fun and planning sounds like bad homework, so paying only makes it worse. At the same time, I see how spending the time to plan can make peoples lives so much better.

I hope you contact me and let me know what you think.

Year-end planning, 2016 version

The election of Donald J. Trump could have a significant impact on your finances. Individual and corporate tax laws may change, the Affordable Care Act may be eliminated, trade war may ensue, infrastructure building may boost jobs and sectors of the economy, and national defense and diplomacy could lead almost anywhere – your guess is as good as anyone else’s.

So then, how do you incorporate this into year-end planning? Very carefully!

Corporate Taxes

Our analysis starts with a review of his proposal to limit corporate income taxes to 15% as a way to illustrate how tricky planning is:

Analysis of the way this limit applies to pass-through entities suggests that the 10-year cost could be anywhere from $4.4 trillion, assuming owners of pass-throughs pay 33% tax, to $5.9 trillion, assuming owners only pay a 15% tax.

Those are hefty cost numbers, which is why it is tricky to assume that any major tax changes will be enacted in 2017.

Income Taxes

There could be three rates on ordinary income: 12%, 25% and 33%, with the latter starting at $225,001 for married filers and $112,501 for single filers. The 0.9% and 3.8% Affordable Care Act surtaxes on upper-incomers would be eliminated. So would the AMT (“alternative minimum tax”). The 20% maximum capital gains tax would remain. Standard deductions would go up, personal exemptions would be eliminated and breaks for dependent care would be increased.

Check here for 2017 tax rates.

Estate taxes

The President Elect has revised his estate tax proposal, calling now for pre-death tax on appreciation in assets of large estates, subject to a $10-million-per-couple exemption. This may be accomplished by limiting the step-up in basis for heirs who inherit capital assets from large estates.

Another change would be elimination of the IRS’s proposal to restrict the use of valuation discounts for gift and estate tax purposes on intrafamily transfers of closely held firms.

Investing and retirement

Infrastructure building could boost certain investments, while conflicts on trade agreements could hurt many.

His proposed tax changes for retirement plans include extending the age for which contributions to IRAs are allowed and delaying required minimum distributions (RMDs).

Okay, enough, how does one act now?

Some moves still make sense

Tax plan – deferring income into 2017 and adding deductions to 2016 should work well, unless doing so puts you in the AMT, in which case the reverse will work best.

Most of our suggestions from our 2015 year-end planning post still work, including RMDs, 3.8% Medicare surtax, itemized deductions, stock options, investment income and sole proprietor and small business income. Also check out our estate planning post for more ideas.

If your deductions include donating to charities, gifting appreciated assets leverages your donation. That is, you can avoid the income tax on capital gains while still benefiting from the charitable deduction. Watch for the rules on exceeding 30% of your adjusted gross income and donating to private charities.

Research Your Charities

Check out websites like such as ImpactMatters and GiveWell to make sure what you donate has the best impact. Other tools include Agora for Good, a tool to track donation impact over many sectors.

Investing – your strategy should not be altered in any dramatic way now.

If you do sell mutual funds, be sure to wait to buy replacement funds until after the dividend distribution date, so you do not end up with a taxable distribution on gains in which you did not participate

Summary

Many of the income and estate tax rules may change during 2017. However, for now, your safest plan is to assume little changes and stick to the “traditional” techniques outlined above.

If you have any questions, please contact me!

What is the AMT?

 Not, it is not a dyslexic version of ATM!

 Back when people could shelter almost 100% of their high income, Congress decided to make that more difficult by creating the alternative minimum tax (“AMT”), a minimum tax that all must pay with a rate of 28%. This along with sweeping changes made in 1986 made it difficult for the top taxpayers, people with income over $1 million, to get much below an average tax of 20%.

On the other hand, an AMT rate as high as 28% is still great if your marginal rate is 39%.

Why do you care? Despite the title, you do not get to pick

You must pay the higher amount determined by the regular and AMT tax calculations. If you have to pay the AMT, you are paying almost a flat rate of 26% to 28%, not a graduate rate, and you are losing the value of many itemized deductions, including state income taxes paid, most mortgage interest and miscellaneous deductions. To make sure you pay taxes, certain “preference” amounts are added to your AMT income, including incentive stock options and alternate depreciation schedules.

Data on 2012 income tax indicates that nearly every married taxpayer with income between $100,000 and $500,000 owed some AMT. Thus, the AMT is no longer just for the ultra rich!

So what do you do? Plan carefully

Make sure that efforts to reduce regular taxes do not push you into paying the AMT. Here is one example: If you have a year with high ordinary income, be sure to pay all of the state income taxes due during that calendar year, since you are less likely to be in the AMT doing so but are like to be in the AMT next year if you wait until April to pay those state taxes. The lower ordinary income of next means that you will certainly be in the AMT.

Note: some states also impose an AMT, making planning quite … er, taxing!

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Oh, that looks complicated!

Good planning pays off, as in the example above, where preserving the deduction can be a very substantial savings on your federal income taxes.

Okay then, what is a financial plan?

You may hear some argue that robo-planners will not replace individual, human planners. I call them the “There’s no app for that” group.

We do believe that “There is an app for that.”
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Well, that is not what I had in mind.

But exactly what is “a financial plan”? Finding a good, workable definition is a challenge.

Wikipedia says:

Textbooks used in colleges offering financial planning-related courses also generally do not define the term “financial plan.” For example, Sid Mittra, Anandi P. Sahu, and Robert A Crane, authors of Practicing Financial Planning for Professionals[8] do not define what a financial plan is, but merely defer to the Certified Financial Planner Board of Standards’ definition of ‘financial planning’.

Can’t we define “financial plan”?

Yes. Investopedia offers this broad definition:

While there is no specific template for a financial plan, most licensed professionals will include knowledge and considerations of the client’s future life goals, future wealth transfer plans and future expense levels. Extrapolated asset values will determine whether the client has sufficient funds to meet future needs.

And Wikipedia gives more detail:

In general usage, a financial plan is a comprehensive evaluation of an individual’s current pay and future financial state by using current known variables to predict future income, asset values and withdrawal plans. This often includes a budget which organizes an individual’s finances and sometimes includes a series of steps or specific goals for spending and saving in the future.

So you need to project where your assets can take you to be sure you meet your future in good shape. Makes sense

And what is my definition?

A to do list or “action plan” that tells you what you need to change now so you optimize the use of all your resources to achieve your major, long term goals in the future.         

So what does a financial plan look like?

If you paid to have a financial plan prepared, and have a complicated situation, you may get a glossy, bound book filled with projections, charts and graphs, plus text. While much of it may be boilerplate, it will tell you where you are going from now until you die, how your money will follow if you invest according to the plan, and what you need to change on taxes, insurance, and your estate plan.

At the other extreme, you can glean the essential steps and write them all on a PostIt note, which you then place in a spot you see often enough to remind you what to do:

  • Maximize my 401(k) contributions,
  • Set up and contribute to a Roth IRA,
  • Review my investment allocation, use ETFs,
  • Steer clear of any major credit card debt,
  • Review my beneficiary designations,
  • Sign an medical directive, and
  • Save enough for a fun (not too expensive) vacation next summer!

In the end, it doesn’t matter how many pages or what the plan looks like; what matters is that you learn from reviewing your finances and change how you manage your resources so that improve your finances.

So, yes, a simple to do list could be enough, if you follow it!