TaxConnections Blogger Chris Wittich Posts about Quilting and Taxes“Q” is for Quilting.  I tried to find a tax term that didn’t start with the word Qualified or Qualifying and there just aren’t any so what the hell  –  let’s make this post about Quilting.  I can’t imagine I’m going out on a limb by saying that quilting is just a hobby for most people.  So what happens when you sell your quilt to a friend?  What happens when you start selling them at art shows?  At what point does a hobby turn into a business?  That can be a tough question to answer.  Essentially it comes down to when does Quilting the Hobby become Qualified Quilting the Business?  For those keeping score at home, yes, I just invented the phrase “Qualified Quilting”.

Qualified quilting is going to involve filing the income and expenses as part of your tax return on a Schedule C.  In order to be a qualified quilting business you need to have a business plan, some profit motive and then keep good records of your income and expenses throughout the year.  Making quilts with $100 of materials and selling them to friends / relatives for $100 does not have a profit motive because a profit is not even possible.  If you are going to be running a quilting business you should consider setting up an LLC, getting a tax ID number, keeping a separate bank account for the business, etc.

So what if quilting is just a hobby?  What do you have to report then?  Hobby income is still income for your tax return, but it is not subject to self-employment taxes because you aren’t employed in a business.  Hobby expenses are allowed only to the extent you have hobby income.  That means your quilting hobby with $200 of income can’t Read More

TaxConnections Blog Post - Chris Wittich about Property Taxes“P” is for property taxes.  In the May tax bill passed by the MN legislature, the property taxes were part of the bill.  Income taxes went up 2% on the taxpayers with more than $250K of taxable income, but the property taxes went down for all homeowners.  This brought the total tax bill down closer to 1/3 each for property, sales, and income taxes.  Depending on your spending habits, that 1/3 breakdown might not be true, but that was part of the Governor’s intention with the May tax bill.

Property taxes are deductible on the federal return for taxpayers that itemize their deductions.  That doesn’t do much good for people who rent, but the tax playing field is tilted toward home ownership with the taxes and interest being deductible for homeowners while nothing is deductible for renters.

Property tax refunds can be claimed in MN for homeowners with household income of less than roughly $100K and for renters with household income less than roughly $35K.  The items of household income include non-taxable Social Security, non-taxable scholarships, other tax free payments and the income of any other individuals residing in the home.  The tax bill also changed the formulas which calculate the M1PR refunds.  The bill increased the likelihood that a refund will be available and for many taxpayers it increased their maximum M1PR refund amount.

Taxes A to Z – still randomly meandering through tax topics, but at least for 26 posts in an alphabetical order.

In accordance with Circular 230 Disclosure

TaxConnections Tax Blog - Charitible Organizations and taxes“O” is for organizations.  There are many kinds of organizations, but they can be handled in very different ways for tax purposes.  Charitable organizations are tax-exempt and contributions to those organizations are deductible for taxpayers.  How can you tell if an organization qualifies as tax exempt?  Everyone knows the United Way is a qualified charitable organization, but what about the Wayzata Orchestra Boosters?  Many booster clubs are set up as charitable organizations, but others are not.  It turns out the Wayzata Orchestra Boosters is a qualified public charity, meaning contributions to that organization are deductible.  So where can you look that up?

http://www.irs.gov/Charities-&-Non-Profits/Exempt-Organizations-Select-Check

That link is the Internal Revenue Service site where you can search by name and state for a charitable organization.  Before you make any large charitable contributions, it might be worth checking them out to make sure they are legitimate charities.

It is especially important to check the tax-exempt status of political organizations.  Some are organized for the benefit of candidates and a contribution to those organizations is not tax-deductible.  Others may seem political but they are organized and run as a charitable organization on behalf of a specific issue instead of a specific candidate or party.  Some of those organizations could be receiving tax deductible contributions.  The best thing to do is go the IRS site and check them out.  Better safe than sorry when donating to organizations.

Taxes A to Z – still randomly meandering through tax topics, but at least for 26 posts in an alphabetical order.

In accordance with Circular 230 Disclosure

TaxConnections Picture - Time and Money“L” is for Late Fees, which can be substantial.  There are late fees for everything when dealing with tax returns.  It’s not fun to be late with your return or late with your payment; the sooner you can get current, the better off you will be.

One of the somewhat hidden late fees is for a late filed Partnership or S Corporation return.  The IRS charges a penalty of $195 per shareholder per month for a late filed 1065 or 1120S return.  So if you have 5 partners and you fail to file an extension and then filed the return in September that would be 6 months late x 5 partners x $195 which equals $5,850.  Yikes!  I would not suggest filing a 1065 or 1120S late as you can see the penalties add up in a hurry.

There are also fees for filing your tax return late or even if you filed for an extension if you have a balance due on your extended return there are penalties for paying late.  An extension is only an extension of time to file your return, not an extension of the time to pay the tax.  If you file on time but don’t pay on time the penalty is ½ of 1% of the tax owed for each month.  If you owe tax and you don’t file your return on time it gets worse and the penalty is 5% of the tax owed for each month.

Anytime there is a penalty for paying something late, there is also going to be interest charged.  The IRS charges interest based on the current interest rates so the IRS rate changes every month.  Since interest rates are low right now the IRS is usually charging 2% to 3% which isn’t too bad, but it can still add up.  To be fair, the IRS also pays you interest when you file amended returns to claim refunds from prior years.

Taxes A to Z – still randomly meandering through tax topics, but at least for 26 posts in an alphabetical order.

TaxConnections Picture - Varsity letter K“K” is for Kids on the payroll.  Putting your kids on the payroll sounds like a shady topic, but it’s a legitimate way to save taxes and invest in their future.  First you need to have a business and that business needs to hire the kids.  If you work for 3M you might have a hard time hiring your kids at work, but for people with a small business or that work for a small business, hiring your kids is a real possibility.

Often there are administrative tasks, janitorial services or basic job functions which can be done by your children.  It’s a good way to introduce them to working or to introduce them to the family business.  The key here is that the kids need to be actually working for the business.  Paying them to do chores around the house like cleaning their room and washing the dishes is not the same as paying them for providing services to a business.

One tax benefit is you can open an IRA for the child and contribute to the extent they have earnings.  The annual limit for an IRA is now $5,500 so a child with $4,000 of wages could contribute $4,000 to a Roth IRA which can serve as a great vehicle for tax-free savings.

The second big benefit of having kids on the payroll is that there are no payroll taxes when you hire your children that are under the age of eighteen.  Considering the 2013 standard deduction is $6,100, the first $6,100 of earnings for your kid will have no income tax and no payroll tax which is a pretty good deal.

Taxes A to Z – still randomly meandering through tax topics, but at least for 26 posts in an alphabetical order.

TaxConnections Picture - His Hers“I” is for Innocent and Injured Spouse.  The Innocent Spouse program and the Injured Spouse program are similar but different ways for spouses to keep their tax situation separate from each other.  Trust me when I say you don’t want to be involved in these.  It can be a messy, complicated, time consuming process to reach a fair conclusion. It is much better if you don’t need to avail yourself of the Innocent or Injured Spouse provisions. The next post is “J for Joint Liability”; I suggest you read that one as well.

Innocent Spouse relief is when one spouse thinks they should be absolved of the joint tax liability.  These are extreme situations and many times involve an ugly divorce.  One example the Internal Revenue Service gives is a couple files a return owing $5,000 then get divorced.  The tax bill wasn’t paid and part of the divorce declares the spouses will split the tax.  If one spouse gives the other $2,500 but the other spouse never remits anything to the IRS, this would be a situation where the spouse who did provide their $2,500 should be allowed to be released from the tax debt.  Most situations are much trickier and difficult on both parties.  It can take months or years to get it resolved, but it does provide at least the chance to make things right.

Injured Spouse Relief is a much easier concept to understand and to implement.  If one spouse has prior tax debts or child support liabilities, there are two ways to keep the current year taxes separate.  The couple can file two separate returns but that is normally a tax disadvantage and more work, so enter the Injured Spouse Relief.  If you include Form 8379 with a joint return, the IRS calculates the current year refund for each spouse.  Instead of a joint refund of $8,000 all being taken by the IRS and applied to prior liabilities for one spouse, Form 8379 allows the IRS to calculate the refund attributable to each spouse.  If the spouse with no outstanding liabilities would have a refund based on their own income and their own payments, that spouse will receive a check for their portion of the refund while the remainder is applied against the one spouse’s prior liabilities. Read More

TaxConnections Picture - Money Egg“E” is for the elderly.  Some of my favorite people are elderly, but instead of singing the praises of my grandma, I suppose I will discuss the tax implications of being old.  There aren’t really tax credits for being old.  There is a slightly increased standard deduction for taxpayers over 65, but that’s not really noteworthy.  Being old does have its perks though.  For one it means you are retired, and with retirement comes Social Security.  Social Security is up to 85% taxable depending on your income level.  For some thoughts on when to claim Social Security, check out my posts from June.

The other part of retirement is the ability to withdraw money from IRAs and 401(k)s.  Taxpayers older than 59½ can take distributions without penalty from IRAs and 401(k)s.  Anyone younger than that is going to have a 10% early distribution penalty on the withdrawal.

Being old can also work against you with those IRA and 401(k) accounts.  When you reach 70½ you will be forced to take money out of your traditional IRA and 401(k) plans whether you want to or not.  They are called Required Minimum Distributions and it’s based on your age.  At 72 it’s about 4% of the balance of your account.  By the age of 78 the RMD is roughly 5% of the balance each year.  If you make it to 92 you are looking at 10% of the account balance every year. Read More

TaxConnections Picture - Letter D“D” is for deemed distribution.  Many of the topics I blog about are tax deductions or credits or planning opportunities  –  good things.  A deemed distribution is something to be avoided.  It is definitely not a good thing.

A deemed distribution means that even though the money wasn’t originally intended to be a distribution, rules were broken and the IRS has reclassified the money as a distribution, which is to the detriment of the taxpayer.  The most common example is a loan from your 401(k).

You are allowed to take a loan from your qualified plan as long as you agree to pay it back within 5 years and make substantially equal payments on the loan.  Taking the loan is not a taxable transaction, it’s just a loan.  When you fail to make the payments, essentially breaking the agreement, the loan becomes a deemed distribution.

The IRS will reclassify that loan as a distribution from the qualified plan since you failed to live up to the agreement.  So what exactly does that mean?  It means when the loan was taken out, it is instead a taxable distribution and the early distribution penalties would apply.  Making the “loan” taxable and applying a 10% penalty is obviously going to have a huge negative tax consequence.

I don’t recommend taking loans from qualified plans because that money should be set aside for retirement.  The deemed distribution rules are a harsh penalty if you fail to live up to the loan agreement.  That’s why money in qualified plans should absolutely be the last resort when you are in need of cash.

Taxes A to Z – still randomly meandering through tax topics, but at least for 26 posts in an alphabetical order.

iStock_ car XSmall“C” is for cars which can have a wide variety of tax implications.  If you commute with your used car to your W-2 job there isn’t a lot of tax implications, but for people who use their vehicle as part of a small business or self-employment, the tax implications are important.

The tax basics of cars are deducting the auto tabs each year and claiming mileage for volunteering efforts.  If the car is used for business, it gets more complicated.  You have the option of claiming either the standard mileage or the actual expenses for the vehicle.  With either method you choose, make sure to keep track of your miles driven.  The standard mileage is just that – a standard amount multiplied by the business miles driven.  For 2013 the standard mileage rate is 56.5 cents per mile.  The standard mileage rate is adjusted every six months by the IRS based on inflation and the price of gas.

Standard mileage is the easier method.  You don’t need to keep track of receipts, but you do need to keep careful track of the miles driven for business and personal use.  I would recommend writing down the odometer reading at the beginning of the year, and then keeping a log of the business miles driven.  Keep a pad of paper in the car and write down the date and the miles driven when you are driving for business reasons.  If you get pulled for an audit, the IRS is definitely going to look at your business miles.  If you don’t have good records it’s going turn your audit into a big hassle. Read More

“B” is for bad debt expense.  As the name suggests, it is a debt that goes bad because the party who owes the money is unable to pay.  It is similar to a stock investment that goes bad because the company goes bankrupt.  If you buy a stock for $10 a share hoping the company will be profitable and you will be able to get your money back, but if they go bankrupt, the stock is worth $0.

Companies have bad debt expense when their customers can’t pay for the goods they have purchased.  For tax purposes the bad debt expense can be claimed when the receivable is written off.  Often times companies use an allowance to estimate the amount of bad debt that they will incur.  Maybe the estimate is 5% of accounts receivable.  That can be helpful for understanding the true financial position of a company, but for tax purposes, creating an estimate of the bad debts is not deductible.  It is only a tax deduction when the specific receivable is written off and you are not on the cash basis.

Individuals have a few different types of bad debt expense.  If I loan my friend $100 and then my friend is unable to pay me back I have lost my $100, but that is not a tax deduction.  That is a personal transaction which won’t affect the tax return.  If you are making investments that generate capital gains, then a bad debt would generate a capital loss.  If instead you are operating more like a bank and you are in the business of lending money, the investments would generate ordinary income (and self-employment taxes) so a bad debt expense would be an ordinary tax deduction.  When in doubt remember this one thing: the character of the bad debt expense is going to match the character of the income.

Taxes A to Z – still randomly meandering through tax topics, but at least for 26 posts in  alphabetical order.

iStock_his hersXSmall“A” is for alimony.  I hope you live happily ever after with your first spouse, but statistics suggest divorces do happen about half the time.  When there is a divorce there is often alimony as part of the divorce decree.  A divorce decree often has several items with tax implications depending on the family situation.  It’s important that you understand those tax implications before you sign the divorce decree.

Alimony is a fixed sum of money paid from one spouse to the other spouse.  If it is defined as alimony in the divorce decree, it is ordinary taxable income for the spouse that receives the alimony.  Since it’s income for one spouse, the spouse paying the alimony gets an above-the-line tax deduction.  If it’s not defined as alimony or spousal maintenance in the divorce decree, then it’s probably going to be child support.  Obviously having children is the key to having child support.  The lower income spouse receiving the payments will want them to be child support with no income tax to pay, so the two parties have inverse desires to classify payments as child support or alimony which is why the resulting compromise is often some of each.

Any property settlements or lump sum payments as result of the divorce are going to have no tax consequences.  The other thing that will have some tax consequence is claiming the kids.  The divorce decree will indicate which spouse can claim the children as dependents, which can make numerous differences on their tax return.  If the noncustodial parent is going to claim a child as a dependent, the custodial parent will need to complete Form 8332, and the divorce decree might make that form part of the requirements of the custodial spouse. Read More

Top_Blogger_EmblemTaxConnections is pleased to announce the Worldwide Top Tax Blogger Awards for the second quarter 2013.  With thousands of readers spending more than twenty minutes on each visit to TaxConnections Worldwide Tax Blogs, we recognized it is the quality our tax experts advisors that attracts readers. Our mission is focused on promoting the technically talented tax bloggers on TaxConnections Worldwide Tax Blogs. Four times a year, each quarter, we count the number of blog posts submitted by each tax expert and we award the highest contributors. The second quarter Top Tax Blogger Awards go to the following tax advisors:

1) Brian Mahany, Managing Partner, Mahany & Ertl, Milwaukee, WI  Click To View Brian’s Posts

2) Deleted at Author’s request

3) Harold Goedde, Tax Practitioner, Clifton Park, New York – Click To View Harold’s Posts

4) Claire McNamara, Principal, Dublin, Ireland – Click To View Claire’s Posts

5) Chris Wittich, Tax Supervisor, Boyum & Barenscheer, Minneapolis, MN – Click To View Chris’ Posts

We are very excited to have these very talented tax bloggers in our Tax Blogosphere. We suggest you read the posts they have contributed this quarter because they are highly informative and interesting. Talented tax advisors like this you should follow, so we encourage you to read their posts.