Michael Gray, CPA's Tax and Business Insight

November 30, 2007

© 2007 by Michael C. Gray

ISSN 1539-395X

A monthly report to help you prepare for your financial future, keep more of what you earn by minimizing your taxes, and build an extraordinary business!

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Kara Siemer's First Christmas
Kara Siemer will celebrate her first Christmas this year!

Happy Holidays!

We hope you and your family have a happy and safe holiday season!

Our office will be closed on December 24 and 25 and January 1.

Michael Gray will be out of the office from December 31 through January 4. Thi Nguyen will be able to help with most issues while Mike is away. Her telephone number is 408-918-3163.

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Adventures in the land of the polar bear.

Janet and I had a fascinating vacation. We flew to Winnipeg, Manitoba, Canada and then traveled by train to Churchill to see the polar bears. Churchill is a staging area where the bears wait for the ice to harden and then break a "walking hibernation" fast that started in July to hunt seals.

The train tracks have seriously deteriorated because the "permafrost" is melting, resulting in a very slow train trip. About 60 miles from Churchill, our train broke down. Fortunately, we had a retired engineer on board who brought the plans for the train "just in case", and was able to get the train operating to complete the trip. We were glad to have a three-hour propeller airplane flight from Churchill to Winnepeg when our time in Churchill was over.

Next Janet and I met her sister, Gail Johnston, and Gail’s husband, Lane, in Savannah, Georgia. We drove from Savannah to Edisto, South Carolina and also visited Charleston. While we were there, we visited the only tea plantation (farm) in the United States. The weather during our visit was fantastic!

We were disappointed on our return five-and-a-half hour flight on United Airlines that the crew had no sympathy for Janet’s discomfort when the row of passengers in front of us fully reclined their seats on our laps. Janet suffers from fibromyalgia. The flight attendants "ruled" that the comfort of the passenger in front of Janet "trumped" Janet’s need to move her legs to reduce her pain. Every seat was taken on the flight. Janet was forced to sit on the floor next to the restrooms in the back of the airplane. This is an unfortunate design error that makes traveling uncomfortable when traveling "steerage" (economy). There just isn’t enough room to permit passengers to recline so far.

Despite this episode, most of our memories of this journey are good ones.

polar bear
Here's a polar bear we saw on our vacation in churchill, Manitoba.

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Make your year-end planning appointment now!

The end of the year will soon be here, so make your year-end planning appointments now! Call Dawn Siemer at 408-918-3162 on weekday afternoons.

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Year-end withholding and estimated tax review.

Remember to review your withholding and estimated tax payments to be sure you avoid penalties for underpayment of estimated tax.

Withholding is considered made evenly during the year. Estimated tax payments are credited to a quarter according to when they are paid.

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Year end planning reminders.

If you itemize deductions, you can claim 2007 tax deductions for your final California estimated tax payment and the second property tax installment if they are paid by December 31, 2007. Be careful, because these items aren't deductible for the alternative minimum tax, so you could lose your tax benefit. (A good reason to schedule a year-end planning meeting!)

Rule of thumb: match the deduction for California taxes with ordinary income (like wages and interest). Since the tax rate for long-term capital gains and qualifying dividends are the same for the regular tax and the alternative minimum tax, you usually won't get a tax benefit by prepaying the California tax for these items.

If you have big capital gains to report for 2007, consider selling "loser" investments before the end of the year to offset the gains.

If you are age 70 1/2 or older, remember to take your required minimum distributions from IRA accounts and other qualified plan accounts, including 401(k) and profit sharing accounts. Remember you have a special election available for 2007 to have your distribution paid directly to a qualifying charity to avoid tax on the distribution. Be sure to get required documentation from the charity.

Consider making gifts of appreciated property before the year end. Remember that appraisals may be required. (Not required for donations of publicly-traded stock.)

Donations paid using a credit card during 2007 will be deductible on your 2007 income tax return. Be sure to give the charity enough time to process your donation, so don't wait until the last minute.

Remember that interest expense for a margin account isn't deductible unless it is paid, so be sure it was in fact paid and not just added to your margin loan balance. (Sales proceeds applied to an account balance is a "payment".)

These are just a few of the major year-end planning considerations. See your tax advisor relating to your own situation.

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Watch year-end business payments.

Remember that related-party payments must usually be made by the end of the year to be currently deductible, even when the business uses the accrual basis of accounting. This includes salary, bonuses and interest due to controlling shareholders (and their family members) of most corporations, any shareholder of an S corporation and any partner. See your tax advisor for details.

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Watch accrued compensation for employees and independent contractors.

The new deferred compensation rules are very strict and complex. Any payments for accrued wages due to employees and independent contractors should be made by the fifteenth day of the third month after the year end (March 15 for a calendar year business) in order to avoid having it deemed to be deferred compensation and subject to the deferred compensation rules.

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Remember first real estate tax installment.

If you own California real estate, remember the first property tax installment is due December 10.

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Social security tax correction.

There was a typographical error on our November 1 newsletter. The social security tax withholding rate remains at 6.2%, not 6.62%. Thanks to my old friend and former employer, Griff Lewis, CPA at Berger Lewis Accountancy Corporation for pointing this out.

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Are you getting "check images" with your bank statements?

My bank abruptly stopped including the pages of reduced "check images" with my bank statements for several bank accounts with no prior notice. I suspect this might have happened as an expense-reduction tactic.

I called and reminded them that these check copies are vital tax documents. For example, under new rules to deduct any charitable contributions, a cancelled check may be required to document the deduction. When you sign your income tax returns under penalties of perjury, you represent that you can substantiate what is on the returns.

You can print the check images from a bank web site, but it is very time consuming and uses a lot more paper than the multiple-check images that banks should provide. If you don’t print them when you receive the bank statement, you might not have access to them three years later when your income tax returns are audited.

I recommend that you insist your bank provide these critical documents, or a substitute that is acceptable to the tax authorities.

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Standard business mileage rate increases for 2008.

The IRS has announced the standard mileage rates for 2008. The business mileage rate is increasing from 48.5¢ for 2007 to 50.5¢ per mile for 2008. The depreciation considered to be allowed will be 21¢ per mile.

The standard mileage rate for medical and moving expenses is decreasing from 20¢ for 2007 to 19¢ per mile for 2008.

The standard mileage rate for charitable deductions is 14¢ for 2007 and 2008.

(IR-2007-192, Rev. Proc. 2007-70.)

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2007 alternative minimum tax is a fiasco.

Here we are at the end of the year, and we still don’t know what the AMT exemption is. The House of Representatives passed H.R. 3996, which includes an AMT "patch". If the "patch" isn’t enacted, millions more middle class taxpayers will be subject to the AMT. Tax increases are included in the bill to pay for the revenue loss. President Bush has indicated he would veto this legislation, if it is also passed by the Senate.

Under H.R. 3996, the AMT exemptions for 2007 would be $66,250 for joint filers, $33,125 for married, filing separately and $44,350 for singles.

Most tax planning software won’t be updated for the AMT change until it is enacted.

We’ll just have to make "best guess" estimates of tax liabilities based on the law as it stands, for now.

Another issue is the tax forms for next tax season. The IRS has indicated it won’t include changes in the AMT exemption on the forms because they haven’t been passed yet. There are many other expiring tax provisions involved. The late tax legislation will result in more errors on 2007 income tax returns.

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IRS disallows tool reimbursement plan.

The IRS Office of Chief Counsel advised that an employer’s tool reimbursement plan was not an accountable plan and that amounts paid to employees as reimbursement for use of their tools were subject to income and employment taxes.

The plan was administered by a promoter, who collected a 10% fee from the amounts paid for tool reimbursement. If you have a plan like this, you should review this ruling with your tax advisor. (CCM 200745018.)

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New Form 8917 released for higher education expense deduction.

As an alternative to claiming the Hope credit or Lifetime Learning credit, certain individuals may deduct certain higher education expenses for the taxpayer, his or her spouse or dependents as an "above the line" deduction to arrive at adjusted gross income. Since the deduction was renewed late in 2006, it was deducted on line 35 of Form 1040 with a code "T", and no form was available for 2006 income tax returns.

For 2007, the IRS has issued Form 8917 to claim the deduction.

The maximum deduction is $4,000 for taxpayers whose modified AGI doesn’t exceed $65,000 ($130,000 for a joint return), $2,000 for taxpayers whose modified AGI exceeds $65,000 ($130,000 for a joint return) but doesn’t exceed $80,000 (($160,000 for a joint return), and zero for other taxpayers.

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IRS grants relief to victims of Southern California wildfires.

The IRS has extended the date for individuals and businesses in the Presidential Disaster Area affected by the California wildfires for filing returns and paying taxes for items due on or after October 21, 2007 up to January 31, 2008. The extended due date is January 31, 2008. The counties affected were Los Angeles, Santa Barbara and Ventura.

The main items that may be affected include payroll and excise tax deposits and forms and income tax returns and payments for fiscal year taxpayers.

The IRS disaster hotline is 1-866-562-5227.

In addition, disaster-related casualty losses may be claimed on income tax returns for either 2007 or 2006. If the loss is claimed on a 2006 income tax return, write "California Wildfires" at the top of the form.

(IR-2007-178 (10/30/07).)

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California passes change for computing LLC fee.

California has adopted AB 198, which changes how the LLC fee is computed, effective for taxable years beginning on or after January 1, 2007. Under the changes, the fee will be computed based on gross income derived from or attributable to California. The changes were made to satisfy U.S. Consitituional objections now being litigated under the rules before the changes, because the California "fee" was computed based on total (worldwide) income regardless of its source.

AB 198 also provides that refunds of LLC fees resulting from pending litigation are limited to the amount by which the fee paid exceeds the amount that would have been assessed if the fee had been apportioned.

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IRS issues guidance for reporting non-qualified deferred compensation on 2007 W-2s.

The IRS has issued guidance to employers on reporting non-qualified deferred compensation on 2007 Forms W-2 and 1099-MISC.

The amounts deferred during the year under a non-qualified deferred compensation plan are not required to be reported for employees on box 12 of Form W-2, using code Y or for non-employees on Form 1099-MISC, box 15a.

The currently taxable income amounts are required to be reported for employees at box 12 of Form W-2, using code Z and for non-employees in box 7 of Form 1099-MISC.

The Notice also includes information on how to determine the amount to be reported.

(Notice 2007-89, 2007-46 I.R.B.)

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IRS extends transitional relief for non-qualified deferred compensation plans.

The IRS has provided additional relief to employers that need to get their non-qualified deferred compensation plans in compliance with the new rules under Internal Revenue Code Section 409A.

During 2008, taxpayers are not required to comply with the requirements of the final regulations. They are required to operate a non-qualified deferred compensation plan in compliance with the plan terms, consistent with Section 409A and applicable guidance, including Notice 2005-1, which would previously have been obsolete. If a provision of Notice 2005-1 is inconsistent with the final regulations, taxpayers may rely on either the final regulations or Notice 2005-1. If an issue isn’t addressed in Notice 2005-1 or other guidance, taxpayers must apply a reasonable, good faith interpretation of the statute.

Taxpayers may not rely on the proposed regulations for periods after December 31, 2007, except for preamble Sections II.E and VI.E relating to applying Section 409A to partners and partnerships, sections XI.C for changes in payment elections or conditions, XI.H for substitutions of non-discounted stock options and stock appreciation rights for discounted stock options and stock appreciation rights, to the extent provided in Section 3 of Notice 2006-79, as modified in Notice 2007-86.

(Notice 2007-86, I.R.B. 2007-46.)

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Ways and Means Chairman Rangel proposes repealing AMT.

House of Representatives Ways and Means Committee Chairman Charles Rangel has introduced a bill, H.R. 3970, which would repeal the alternative minimum tax on individuals, effective for tax years beginning after December 31, 2007. Since tax increases are included to make up for the lost revenue, it is highly unlikely the proposal will pass until President Bush’s term of office is over. However, the proposal might be an indication of what might happen if a President is elected who is a Democrat.

The principal replacement for the AMT would be a surtax on "modified adjusted gross income". "Modified adjusted gross income" would be adjusted gross income minus the investment interest deduction. Other itemized deductions and personal exemptions would not be considered for computing the surtax.

A four percent surtax would apply to the excess of modified adjusted gross income over an initial threshold amount. The initial threshold amount for married filing joint or a surviving spouse would be the greater of $200,000 or an amount estimated by the IRS above which at least 90% of married persons filing a joint return would be affected by the alternative minimum tax for the first taxable year beginning in 2008 if it wasn’t repealed. The thresholds for married, filing separately would be 1/2 the amount for married filing jointly, and the thresholds for singles and heads of households would be 3/4 the amount for married, filing jointly.

An additional .6% surtax would apply for modified adjusted gross income exceeding $250,000, $500,000 for married, filing jointly or surviving spouses.

The proposed legislation is 129 pages long, including a reduction in the maximum corporate tax rate from 35% to 30.5% and some severe cutbacks of business tax breaks.

This proposal is part of a continuing discussion about the AMT problem, which probably won’t be resolved until the next President takes office.

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Questions and Answers

Question

You should know about www.ReadPrint.com – a massive non-profit library similar to Bartleby, except it’s far better organized and user friendly. We’ve been using it extensively in school nowadays. It’s great for research, since you can search within the books.

Answer

Thanks for the tip!


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

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Visit our new article!

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If you have employee stock options, have you subscribed to Michael Gray, CPA's Option Alert at no charge or obligation?

To learn more, visit stockoptionadvisors.com/subscribe.shtml.

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Real estate investors, have you subscribed to Michael Gray, CPA’s Real Estate Tax Letter at no charge or obligation?

For details, visit www.realestatetaxletter.com.

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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.

P.S. Still a few months left of great weather to enjoy outdoor patio dining at Marché Aux Fleurs and AVA!

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 marcheauxfleursrestaurant.com. For the best meal of your life, call 415-925-9200 for a reservation and give them a try! For directions, visit our website at www.taxtrimmers.com/directions.shtml.

They also have a second restaurant, AVA, at 636 San Anselmo Ave., San Anselmo, California. AVA serves food and drinks produced in California. For reservations, call 415-453-3407. The web site is avamarin.com.

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Michael Gray, CPA
2190 Stokes St. Ste. 102
San Jose, CA 95128
(408) 918-3162
FAX: (408) 998-2766
Hours: 8am - 5pm PDT Monday - Friday

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