Michael Gray, CPA's Tax and Business Insight

Table of Contents

• Tax season is here.
• Corporate due date almost here.
• Did you see the news?
• "I don’t owe any tax, so there’s no penalty for filing late."
• Last chance to claim refunds for unfilled income tax returns.
• IRS regulations for bonus depreciation have some surprises.
• Effective date for "qualified dividends" changes.
• Will tax break for SUVs be repealed?
• Have you updated your estate plan?
• Will the AMT become our tax system?
• Questions and Answers
  • Could waiting to sell real estate for tax reasons cost you money?
  • Are donations for "free" software taxable?
  • What taxes must I pay if I sell my home within 2 years?
  • Can I transfer a real estate deal to a tax-deferred annuity?
  • Can I deduct the miles I commute to work?
  • How do I re-value a trip I won?
  • Can I make regular IRA contributions to a SEP account?
  • When do dividends qualify for lower rates?
  • How do I elect to have dividends taxed as ordinary income?
• Do you have employee stock options?
• PS Marché Aux Fleurs
• Subscribe/Unsubscribe from Michael Gray, CPA's Tax & Business Insight

Tax season is here. Do we have your information, yet?

We encourage clients who want avoid having the due date extended for their individual income tax returns to have their information to us by March 1. If we don't have your information yet and you want an appointment to bring it to us, please call 408-918-3162 to make an appointment now. Don't wait for that last 1099 form or K-1, get your tax return in the preparation queue now.

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Corporate due date almost here.

The due date for calendar-year corporate income tax returns is March 15.

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Did you see us in the news?

Michael Gray, CPA was quoted in an associated press article about tax return preparation work being sent overseas. The article appeared in the Business section of the February 22, 2004 issue of the San Jose Mercury News. That article led to Michael Gray being interviewed and appearing on the February 23, 2004 KRON Six O'Clock News.

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"I don't owe any tax, so there's no penalty for filing my tax return late." Right? Wrong!

As a tax return preparer, I hate it when clients don't file tax returns on time. There are severe penalties that can be asserted when a tax return isn't filed. Criminal penalties can apply if the failure to file is proven to be "willful". If you may be subject to criminal penalties, I recommend that you consult with an attorney who specializes in IRS controversies.

California has severe financial penalties when you disregard their requests for income tax returns. A penalty of up to 25% of the total tax plus an additional 25% of the tax due can apply in some circumstances.

Space doesn't permit going into detail about all of the potential penalties taxpayers may be subject to. Please, file your tax returns on time. (Extensions of time to file protect you from penalties provided the tax is paid by the original due date of the tax return and you file the return by the extended due date.)

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Last chance to claim refunds for unfiled income tax returns.

When taxpayers don't file income tax returns within three years of the original due date, the IRS gets to keep the unclaimed refund. This means to claim a refund for an unfiled tax return for the year 2000, you must file the tax return no later than April 15, 2004.

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IRS regulations for bonus depreciation have some surprises.

The IRS has issued regulations for claiming 50% and 30% bonus depreciation. The regulations have some surprising provisions. For example, when personal property is acquired in a tax-deferred exchange (such as a trade-in of equipment for new equipment), the entire basis of the replacement property, including the carryover basis for the surrendered property, is eligible for bonus depreciation. Also, 30% bonus depreciation was scheduled by the Job Creation and Worker Assistance Act of 2002 to expire on September 11, 2004. The regulations allow taxpayers to elect 30% bonus depreciation instead of 50% bonus depreciation for qualifying property acquired up to December 31, 2004. (Bonus depreciation is scheduled to expire after December 31, 2004.) (TD 9091.)

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Effective date for "qualified dividends" changes.

Responding to a request from Congress, the Internal Revenue Service has administratively adopted a provision of the Tax Technical Corrections Act of 2003 relating to qualified dividends. Under the change, "qualified dividends" received after December 31, 2002 by fiscal year estates, partnerships, S corporations and mutual funds will be eligible to be passed through to beneficiaries, partners, and shareholders to be taxed at long-term capital gains rates. The Tax Technical Corrections Act of 2003 hasn't been passed yet, but has some provisions like this one that will affect a huge number of taxpayers. The IRS is avoiding an administrative mess with this administrative announcement. (IR-2004-22.)

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Will tax break for SUVs be repealed?

A provision in a highway bill making its way through Congress would repeal the $100,000 expense limit for most sport utility vehicles. The expense election for SUVs would be limited to $25,000. The repeal would be retroactive to February 1, 2004. SUVs would still be eligible for bonus depreciation, which is scheduled to expire on December 31, 2004.

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Have you updated your estate plan?

Most people know the lifetime exemption equivalent is increasing as part of the Economic Growth and Tax Relief Reconciliation Act of 2001, until the estate tax is repealed for one year in 2010. These changes require a re-examination of your estate plan and trust documents, especially if your estimated estate exceeds $1 million. If this applies to you, you should make an appointment with your estate planning attorney.

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Will the AMT become our tax system?

According to a report by the Congressional Research Service for Congress, the alternative minimum tax (AMT) is growing out of control and supplanting the regular tax system. In 1997, about 605,000 taxpayers (1% of the total) was subject to the alternative minimum tax. If Bush's tax cuts are made permanent, 41 million taxpayers (37% of the total) will be subject to the AMT in 2013.

The AMT is a different way of figuring federal income tax for which certain items of income are accelerated, such as from the exercise of incentive stock options. Certain deductions are scaled back, such as depreciation, and certain deductions are disallowed, including the standard deduction, personal exemptions, employee business expenses, investment management expenses, state income taxes, property taxes and itemized deductions for legal fees. You pay the AMT when it is higher than the regular tax.

Repealing the AMT may be impossible. Depending on whether or not Bush's tax cuts are made permanent, repealing the AMT would cost from $640 billion to over $1 trillion between 2004-2013. According to the Congressional Research Service report, "Indeed, some projections suggest that by 2008 it would be less costly to repeal the regular income tax than to repeal the AMT."

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Questions and Answers

Question

I think your advice to wait until the end of the year to sell California real estate is a little scary. The delay of a few weeks in selling a house can make the difference in tens of thousands.

Answer

You are right. The tax tail shouldn't wag the dog. Some people have written to me that the California withholding from the sale of real estate is creating a financial hardship. When the sale is made at the end of the year, the seller may be able to recover an overpayment in a short time by claiming a refund on his or her California income tax return. People who are selling California real estate should get a projection of their cash position when they sell, and make the best decision for their circumstances. (Remember most sales of principal residences aren't subject to withholding.)

Question

Are "donations" that developers receive for open-source "free" software taxable? Does the answer change if the developer was not doing this for a living, but just on the side in his or her spare time?

Answer

Yes, the "donations" are taxable, even when received for part-time activity.

Question

I have a house that I purchased in October, 2002 for $242,600, which is my primary residence. The market is really hot and I would like to buy another house in another neighborhood. What taxes would I have to pay, since I have had the property less than two years? I expect to sell the home for $325,000, and the selling expenses are estimated to be $20,000.

Answer

You haven't met the holding period requirements to claim the exclusion from sale of a principal residence and haven't given a "reasonable cause" (such as a change in employment) to qualify for a partial exclusion. It appears your gain is $325,000 - $242,600 - $20,000 = $62,400. Using the maximum rates the federal tax at 15% would be $9,360 and the California tax at 9.3% would be $5,803. By waiting a few months, you could avoid these taxes entirely.

Question

Do you know a way to transfer a real estate deal to a tax-deferred annuity without settling up with the IRS?

Answer

No.

Question

I am a "long distance commuter" (due to the economy). I have a 120 mile commute each way. I know no deduction is allowed for mileage to and from work. Is there an exception for this situation? Also, sometimes I have to rent a room close to my workplace for time and safety reasons. Is this deductible?

Answer

Neither of these expenses is deductible. Your tax home is determined by your workplace. There is an exception for temporary work assignments, but it doesn't appear to apply to you from your letter.

Question

I won a trip to the British Virgin Islands for 10 people, valued at over $34,000, for which we just got the 1099.

I believe the fair market value is much less than $34,000. I need guidance on how to better calculate the fair market value and whether I forward my dispute with the prize giver.

Answer

The best suggestion I can give you is to ask a travel agent to help you value the prize, and write a letter of opinion. You may offer a fee for this service. You don't have to notify the prize giver of your action, but you should disclose your position on your income tax return. Attach a copy of the letter from the travel agent to your tax return. I suggest listing the 1099 amount with a subtraction on the next line for the valuation adjustment. There is a good chance you will receive an inquiry from the tax authorities about this item.

Question

Can I make regular IRA contributions to a SEP account? (I am now an employee, so my SEP is inactive.)

Answer

Plan administrators usually separately identify SEP accounts and will not accept regular IRA contributions to these accounts. Ask your plan administrator if you can roll the SEP balance to an account to which you can make regular IRA contributions.

Question

An AARP bulletin said that dividends before May 31 were not qualified dividends (eligible for long-term capital gains rates). Your articles say the new law was retroactive to January 1, 2003. Who is right?

Answer

Qualified dividends are eligible for the lower tax rates, retroactively to January 1, 2003. It could be the AARP article was referring to long-term capital gains dividends. Those dividends aren't eligible for the lower long-term capital gains tax rates until after May 31. These details are disclosed on Form 1099DIV.

Question

How do I elect to have otherwise qualifying dividends taxed as ordinary income to enable more investment interest expense to be deducted, and how do I report on Schedule B the amount included on line 1b of Form 1099-DIV?

Answer

The election is made at line 4g, Part II, Form 4952.

The qualified dividends are not separately reported on Schedule B. The total dividends are listed on that form. Total qualified dividends are disclosed at line 9b on Form 1040. Then qualified dividends are listed at line 23, Part IV, Schedule D and reduced at line 25 by the amount elected to be taxed at short-term capital gains rates.

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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 Michael Gray, CPA's Option Alert?

To subscribe or review past issues, go to http://www.stockoptionadvisors.com/optionalert/.

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P.S.

My daughter and her husband, Holly and Dan Baker, have 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 and their website address is http://marcheauxfleursrestaurant.com. They are taking a well-deserved vacation in Italy for the first two weeks of January. For the best meal of your life, call 415-925-9200 after January 12 for a reservation and give them a try! For directions, visit our website at http://www.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.