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• Thanks for a great tax season.
• It's time for tax planning and estate planning.
• "Tax Planning for Employee Stock Options" CD.
• "Will you make these mistakes handling an estate or trust after a death?" CD.
• We can track mortgage rates for you, so you don't have to.
• Damages received for emotional distress excludable.
• IRS explains tax relief for military persons.
• Current deduction allowed for asbestos abatement.
• Questions and Answers

  What happens if I withdraw money from my SARSEP?

  Will California forcibly withhold 3 1/3% from the sale of our home?

  Can I claim my parents as dependents if they come to live with me?

  Where can I find a good audit representative?

• Do you have employee stock options?
• PS Marché Aux Fleurs
• Visit our new articles
• Subscribe/Unsubscribe from Michael Gray, CPA's Tax & Business Insight.

Thanks for a great tax season.

Most of our clients made the effort to get their information to us before March 1, which makes processing so much easier. Thanks to you whose tax returns we prepared. We really appreciate your business. Thanks to you who referred family, associates and friends to us as new clients. We really appreciate your confidence and support.

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It's time for tax planning, estate planning and finishing extended income tax returns.

It's easiest to implement tax planning ideas by starting the process as early as possible. Why not make a "tax tune up" appointment today?

Clients with extended income tax returns should get the rest of their information to us as soon as possible so we can eliminate any uncertainty about the balances of tax due, refunds and estimated tax payments.

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"Tax Planning For Employee Stock Options" CD.

We have a recording of a presentation by Michael Gray on February 1, 2003. If we prepared or are preparing your 2002 income tax returns, you can get a copy as our gift to you. Just call Dawn Siemer at 408-918-3162. If we didn't prepare your tax returns and you would like a copy, you can order it at stockoptionadvisors.com/planning.shtml or call Dawn Siemer.

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"Will you make these mistakes handling an estate or trust after a death?" CD.

We have a recording of a presentation by Michael Gray on March 3, 2003. If we prepared or are preparing your 2002 income tax returns, you can get a copy as our gift to you. Just call Dawn Siemer at 408-918-3162. If we didn't prepare your tax returns and you would like a copy, the investment is $19.95 plus $1.65 sales tax for California residents and $2 shipping and handling. Fax your name, address, telephone number and credit card information to 408-998-2766, mail the information with a check to Michael Gray, CPA, 1265 S Bascom Ave., Ste. 106, San Jose, CA 95128, or call Dawn Siemer.

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We can track mortgage rates for you, so you don't have to.

This is still a great time to refinance, whether to get cash for remodeling your home, to finance a new business, to buy your dream yacht, or to just save interest dollars.

At no charge or obligation, we can track your home mortgage and notify you when refinancing is to your advantage.

Remember, we offer home mortgages as a service to our clients and newsletter subscribers located in California through our strategic partner, Wymac Capital. We specialize in financing with no points and no costs, if certain conditions are met.

To find out if we can reduce your home mortgage costs or help provide financing for education, home improvements, a vacation, or a new home, please call Michael Gray at 408-918-3161. There is no fee or obligation for this service.

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Damages received for emotional distress excludable.

Norman Forste was a Korean War veteran who developed a severe fear of flying from his experiences in the Air Force. After leaving the Air Force, he went to work as an accountant at Deloitte, Haskins & Sells (DH & S), which later became Deloitte & Touche. DH & S initially agreed to work around Forste's fear of flying, but later insisted that he fly for assignments or leave the firm. As a result, Forste experienced stress, anguish, anxiety, fear, anger, sleeplessness and nightmares. His psychiatrist diagnosed his fear as an incurable condition, "delayed stress syndrome."

Forste filed suit against DH & S for tort and non-tort causes of action, including the intentional or negligent infliction of emotional distress. Forste and DH & S reached a settlement of $45,615, which Forste excluded from income as damages received on account of personal injuries. The IRS argued the payments were taxable retirement benefits.

The Tax Court found that Forste provided credible evidence that $25,130 of the payments were for personal injuries. The balance was taxable income. (Forste v. Commissioner, T.C. Memo 2003-103.)

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IRS explains tax relief for military persons involved in Operation Iraqi Freedom.

The IRS has provided guidance about tax relief for military and support personnel involved in Operation Iraqi Freedom. The relief includes exclusion of military pay received for serving in the combat zone and extensions of deadlines for filing income tax returns and paying tax. Taxpayers claiming the relief should write "Combat Zone" in red at the top of their returns and correspondence with the IRS.

All of the military pay for a month is excluded from tax for taxpayers who served in the Arabian Peninsula combat zone as an enlisted member or as a warrant officer for part of the month. The monthly exclusion for commissioned officers is capped at the highest enlisted pay, plus any hostile fire or imminent danger pay received. For 2002, the most a commissioned officer can earn tax-free each month is $5,532.90, or $5,382.90 highest enlisted pay + $150.00 hostile fire or imminent danger pay. The most a commissioned officer can earn tax-free each month for 2003 is $5,882.70. (Notice 2003-21.)

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Current deduction allowed for asbestos abatement.

The Court of Claims recently ruled in favor a taxpayer relating to asbestos encapsulation or removal in a commercial structure which was built by the taxpayer in 1972. The court ruled the $800,000 expense was currently deductible as ordinary and necessary maintenance of the building. It said this work was similar to other corrective work, such as repairing leaks in pipes. It distinguished this work from other environmental remediation expenses that are required to be capitalized. If you have a similar situtation, you and your advisors will want to study this case carefully. (Cinergy Corp., Fed. Cl March 10, 2003.)

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Questions and Answers

Question

I have $10,000 currently in a SARSEP. Due to an emergency, I may have to withdraw a portion or all of it.

1. Can I withdraw a portion of it, subject to the 10% federal penalty, or do I have to withdraw all of it?
   
   
2. Don't I have to pay state tax as well? If so, what is the tax percentage? I live in New Jersey.
   
   
3. Are the taxes due immediately or can I defer paying them for a certain period?

Answer

A SARSEP is a type of individual retirement account (IRA), and subject to the same rules for distributions as IRAs.

1. You are not required to distribute the entire account balance. If you can either redeposit the amount of the distribution to the same account or to another IRA account within 60 days, the distribution is a rollover and not subject to tax.
   
   
2. Yes, the distribution will be subject to state tax. The tax rate will depend on your income level. The maximum New Jersey individual income tax rate for married, filing jointly with taxable income over $150,000 is 6.37%.
   
   
3. The "default" provisions are for income taxes to be withheld on distributions from an IRA. However, you can elect to have no withholding. The tax will be due on the regular tax due date, April 15 following the year of distribution. Whether there will be a penalty for underpayment of estimated tax depends on whether you meet those requirements, which I'm not going to detail here. (See the instructions for Form 1040-ES.)

Question

My wife and I purchased our present home in December, 2001 after having rented for the previous 5 months. Before that we owned a home where we lived for 3 years, which we sold.

Due to changes in our personal economic situation, we have just put our current house on the market, and have decided to rent again for a while. We have lived here 17 months, and we do not own any other property.

Our real estate agent just informed us that, since we have owned our home for less than 2 years, the State of California will forcibly withhold 3 1/3 % percent of the sales price of the home should we show any profit. We expect to make about $2,000 after all is said an done. If our real estate agent is correct, this small profit will result in the State of California withholding over $30,000 of money that we need until we file next year.

Is this correct?

Answer

Maybe.

First, check your figures. In order to have $30,000 withheld, your sales price would be about $900,000.

In order to avoid withholding, you need to correctly check box 2 on Form 593-C. That question is, "Does the property you are selling qualify as your principal residence within the meaning of Internal Revenue Code Section 121?"

An issue may be the sale of your previous residence. According to §121(b)(3), the exclusion can only apply if it hasn't previously been used within two years of the current sale.

If you fail either the 24-month residency requirement or the 24-months after previous sale requirements, you might still qualify for a partial exclusion under §121(c). The conditions are explained at temporary Treasury Regulations §1.121-3T. The sale or exchange is by reason of a change in employment, health, or unforeseen circumstances. For the change of employment exception to apply, the place of new employment must be at least 50 miles farther from the residence sold or exchanged than the previous place of employment. There is another specific event safe harbor under temporary regulations §1.121-3T(e)(2)(C) that could help you. If there is a change in employment or self-employment status that results in the taxpayer's inability to pay housing costs and reasonable basic living expenses for the taxpayer's household, you may qualify for the partial exclusion.

The partial exclusion is computed by making a ratio, the numerator being the shortest of the period of time the taxpayer owned the property during the 5-year period ending on the date of the sale or exchange, or the period of time between the date of a prior sale or exchange of property for which the taxpayer excluded gain under section 121 and the date of the current sale or exchange. The numerator of the fraction may be expressed in days or months. The denominator of the fraction is 730 days or 24 months. The ratio is multiplied times the maximum exclusion amount ($250,000 or $500,000 for married, filing jointly) to determine the exclusion that applies to the sale.

If the partial exclusion applies to you, ask if a letter from a CPA or attorney stating that you qualify will satisfy the escrow company processing the withholding form. Then you can answer "yes" for box 2 and avoid the withholding.

If this approach doesn't work, you have several choices to avoid the withholding. One is to simply reduce your sales price to net zero gain. Another is to take the home off the market until you meet the 24-month residency requirement. If you need some cash, you could refinance your home or get a home-equity line of credit to tide you over this period.

I hope this helps.

Everyone is unhappy about withholding being required based on the selling price of real estate, but the alternatives proposed so far haven't been acceptable to the real estate industry. The State of California is dealing with a severe budget crunch and desperately needs the money. Of course, the current rules aren't "fair" and will eventually be repealed, but we have to live with them for now.

Question

I am a United States citizen. My parents live in India. I want them to come and live with me here in the U.S. They have no income other than rental property. The annual rents are under $2,000.

If they come on visitor visas, while their applications for permanent residence are in process, can I claim them as dependents? I expect them to become permanent residents within 6 months.

Answer

In order to qualify as a dependent, your parents must be residents of the United States by the end of the year. (I don't think a visitor's visa will qualify.) You must also provide more than one-half of their support. They may not file a joint income tax return.

Question

My wife and I are being audited for 2000. The tax returns were prepared by a company that has since come under investigation by the IRS for allegedly inflating tax deductions. We are looking for someone to represent us. Any suggestions?

Answer

Since the company who prepared your returns may be under criminal investigation, you should find a tax attorney who specializes in IRS disputes to represent you. You can call your local bar association for a referral. You can also try calling some local CPA firms and ask them for a referral to a tax attorney who specializes in IRS negotiations. Good luck!

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Michael Gray regrets he can no longer personally answer email questions. He will answer selected questions in this newsletter.

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If you have employee stock options, have you subscribed to the ESOAA Option Alert?

To subscribe, go to www.stockoptionadvisors.com. You can review our last issue at www.stockoptionadvisors.com/optionalert/news.shtml.

Advisors may find information about joining the Employee Stock Option Advisors Association, LLC and training materials about tax planning for employee stock options at www.stockoptionadvisors.com/seminar.shtml.

Employee option holders may find information about self-study materials relating to planning for employee stock options at www.stockoptionadvisors.com/seminar.shtml.

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Visit our new articles!

• "'We'll Make It Up With Volume' - Not!"
• 2239 Tested Secrets for Direct Marketing Success Book Review

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P.S.

My daughter and her husband, Holly and Dan Baker, have opened a Southern French Restaurant at 23 Ross Common, Ross, California, about 15 minutes north of the Golden Gate Bridge. The name of the restaurant is Marché Aux Fleurs. For the best meal of your life, call 415-925-9200 for a reservation and give them a try soon! For directions, visit our website at taxtrimmers.com/directions.shtml.

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P.P.S.

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IRS Circular 230 Disclosure: As required by U.S. Treasury Regulations, you are hereby advised that any written tax advice contained in this communication was not written or intended to be used (and cannot be used) by any taxpayer for the purpose of avoiding penalties that may be imposed under the U.S. Internal Revenue Code.