Michael Gray, CPA's Tax and Business Insight

April 2, 2008

© 2008 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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Clive Baker at Easter
Here's Clive Baker during our Easter egg hunt, 2008

Only 13 days left in tax season! Time to think about extensions.

There isn’t enough time left to give preparing tax returns the attention they deserve, but we can help a few more new clients with extensions and finish their returns later. To make an appointment, please call Dawn Siemer weekday afternoons at 408-918-3162.

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April family celebrations.

April is a big birthday month for my family. My daughter, Dawn Siemer, her husband John and daughter Kara all celebrate birthdays very close together. Kara will be celebrating her first birthday. My mother, Eleanor Gray, is celebrating her 86th birthday. Thank God she is still fairly healthy and thinking clearly. With the end of tax season and birthday celebrations, it’s going to be a busy month.

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Extensions - and when you don't have the money to pay the tax.

(This is a reprint from past newsletters.)

What do you do when you don't have the money to pay the tax?

My first recommendation is to file your income tax returns, certified mail, by the initial filing date. One of the nastiest penalties in the IRS's arsenal is for late filing - 5% per month to a maximum of 25%. Some people who owe money don't file their returns because they are afraid. THIS IS A HUGE MISTAKE! The best approach is to be honest about your situation and work with the tax authorities to resolve it.

When you file an extension, any balance of tax due when the tax return is filed represents an exposure for the late filing penalty.

Please don't misunderstand me. I regularly use extensions for my clients and myself as a workload "safety valve". We often don't have the information to complete a return by the due date. They just aren't appropriate when there will be a significant balance due that won't be paid by the original filing due date.

Remember the automatic extension of time to file for 2007 income tax returns is for six months to October 15, 2008.

Remember to state a good (high side) estimate of total tax liability for 2007 on line 4 of federal Form 4868 or the extension will be invalid. According to the Treasury regulations for the requirements to file a valid automatic extension request, "an application for extension must show the full amount properly estimated as tax for the taxable year." (Reg. § 1.6081-4(a)(4).) The regulations relating to reasonable cause for failure to file a tax return state that if a taxpayer satisfies the requirement of showing the full amount estimated as tax, the taxpayer has a reasonable cause for failure to file during the extension period provided (1) the excess of the amount of tax shown on the return over the amount of tax paid by the original filing date (including the amount paid with the extension form) is no greater than 10 percent of the amount shown on the return (restated, 90% of the tax is paid by the due date), and (2) any balance due shown on the return is paid with the return. (Reg. § 301.6651-1(c)(3).)

(For California taxpayers, the extension is paperless so the amount of the tax need not be stated. You are still required to pay at least 90% of the tax by the original due date with Form FTB 3519 to avoid the late filing penalty.)

If you have filed an income tax return for 2006, you can process your federal extension electronically (using tax return preparation software or through a tax return preparer). If you make a tax payment using a credit card, you can extend your income tax return by calling 888-729-1040 or 800-272-9829 by April 15. (For California extension payments, the extension is 1555.) Better call early to beat the rush! Mailing a paper form is still acceptable and is the only way a person who didn't file a 2006 income tax return can request an automatic extension.

You can also make a credit card payment online at www.pay1040.com or www.officialpayments.com. California also has a web payment option at www.ftb.ca.gov.

A taxpayer can still avoid the late filing penalty by demonstrating a "reasonable cause," but this can be a hassle and the taxpayer is at the mercy of the subjective judgment of a representative of the tax authority.

Should you borrow using a margin account? In most cases, this is not a good choice because of the exposure to margin calls if the market declines.

Should you use an equity advance loan, secured by your principal residence? In some cases it might be to your advantage, if you can get a favorable interest rate. Remember that interest for an equity loan not used for a home improvement is only deductible on a loan amount up to $100,000. This interest is not deductible when computing the alternative minimum tax.

Remember that IRA accounts and even other retirement accounts can be temporary sources of funds. Distributions from IRAs that aren't minimum required distributions can be rolled over to another IRA or returned to the same IRA within 60 days after a withdrawal. This exception only applies to one rollover per year. (You must wait more than one year after a rollover is completed before making another one.)1

Certain distributions from other qualified plans can also be rolled over within a 60-day period to an IRA or another qualified plan.2 Using IRAs or qualified plans as a temporary source of funds to pay taxes can be useful if the funds to complete the rollover will soon be available, such as when there is a lockout "window" that will soon be open. The cost of an error can be high, because if the rollover isn't completed before 60 days have expired, the distribution may be subject to tax as ordinary income plus a 10% early distribution penalty.3

The IRS has a form for installment agreements, Form 9465. They would prefer that you submit the form with your income tax return. You can take up to five years to pay off your tax liability. An advantage of arranging an installment agreement is the penalty for late payment of tax is reduced from 1/2% per month to 1/4% per month. In addition to penalties, interest is charged for late tax payments. The interest rate is adjusted quarterly. Recently, the rate has been eight percent.

Another alternative is to make an Offer in Compromise, Form 656. With this procedure, the IRS actually can reduce your tax based on your ability to pay. You don't have to wait until you have owed the tax a long time to use this procedure. I think it's best to work with an attorney, CPA or enrolled agent when making an Offer in Compromise. If the amount is large, an attorney is probably the best choice.

Although it may provide relief from your other creditors, bankruptcy doesn't offer much help for recent debts for income taxes. When you make payments on your tax bill, be sure to specify to apply the payments to taxes due. Penalties and interest are dischargeable in bankruptcy, but income taxes aren't.

It may be to your advantage to plan how to use regular tax or alternative minimum tax capital loss carryovers or minimum tax credit carryovers. You might need to generate capital gains, which can be difficult when you're in financial distress.

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First individual estimated tax payment is due April 15.

(This is a reprint from past newsletters.)

Remember to review your estimated tax situation for 2008.

There is no estimated tax penalty provided the taxpayer pays at least 90% of the tax (including AMT) on the current year's tax return through withholding and/or equal quarterly estimated tax payments.

For taxpayers who have no more than $150,000 of adjusted gross income ($75,000 for married persons, filing separately) on the previous year's income tax return, there is no penalty for underpayment of estimated tax provided at least the income tax on the previous year's income tax return (including AMT) is paid in equal quarterly estimated tax payments plus withholding.4 For taxpayers who have more than $150,000 of adjusted gross income ($75,000 for married persons, filing separately) on the previous year's income tax return, there is no penalty for underpayment of estimated tax provided at least, for 2008, 110% of the income tax on the previous year's income tax return (including AMT) is paid in equal quarterly estimated tax payments plus withholding.5

Taxpayers who have uneven income and deductions may also compute their estimated tax on an "annualized" basis. You multiply the year to date income and deductions to arrive at amounts for a year, compute the tax for that amount, then pay amounts to cumulatively pay in 1/4, 1/2, 3/4 and 100% of those amounts. You should probably get help from a professional tax return preparer to do this.

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First calendar corporation estimated tax payment is due April 15.

Calendar-year Corporations almost always have to pay the minimum California tax payment of $800 by April 15, 2008. In addition, regular corporations have federal and California estimated tax payments due on that date. The estimated tax payments may be based on the income tax on last year’s income tax returns, provided there was a tax on the return. If there was no tax, the estimated tax must be computed based on the current year’s income. Corporations that had taxable income exceeding $1 million in any of the last three years may only base their first estimated tax payment on last year’s income tax returns; the rest must be based on the current year’s income.

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Last chance to make an IRA or Roth contribution for 2007.

Remember the final due date for IRA and Roth contributions for 2007 is April 15, 2008. We don’t think making an election to have a tax overpayment deposited to an IRA or Roth account is a good idea for income tax returns filed during the last two weeks of tax season. It’s too easy for a refund to be delayed past the due date.

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Remember second California real estate tax payment is due April 10.

With the income tax deadline, most of us are focused on April 15, but the second California real estate tax payment is due April 10, and there is a nasty penalty for a late payment. Consider yourself reminded!

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IRS liberalizes vehicle LIFO.

The IRS has issued new guidelines permitting retail dealers and wholesale distributors to combine their new vehicle inventories (excluding heavy-duty trucks) accounted for using the last-in, first-out (LIFO) method in one pool. This is a terrific advantage to avoid recapturing LIFO benefits when the weighting of inventories is shifted from cars to trucks or the other way around. It was also becoming difficult to determine if it was more appropriate to include a particular model as a truck or a car. The new procedure is effective for tax years ending on or after December 31, 2007, so you should consider it for extended 2007 income tax returns.

(Rev. Proc. 2008-23, 2008-12 I.R.B.)

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IRS postpones segregation requirement for "bundled fiduciary fees" for nongrantor estates and trusts.

In proposed regulations, the IRS had previously said that bundled fiduciary fees charged by banks and brokerage firms should be allocated between the portion for investment management, subject to the 2% of adjusted gross income floor, and the portion for other fiduciary services, not subject to the floor.

The IRS now says it won’t enforce this requirement for tax years beginning before January 1, 2008.

(Notice 2008-32, 2008-11 I.R.B.)

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Questions and Answers

Question

I am not self employed and work from home half a day, then work at my office for the second half. Does having multiple offices (home and work) qualify me for any type of yearly tax mileage reimbursement or deduction, even though I’m not self-employed?

Answer

Our tax laws have not caught up to the trend of telecommuting. If your employer provides an office for you at its work location, then working at home generally doesn’t qualify for a home office deduction, and there is no tax deduction for commuting from your home to work and back.

Question

I am a US citizen and I would like to know what the limit is of money I can receive from my relatives abroad. Are there any tax consequences to me?

Answer

Receiving a gift is not subject to income tax.

Most gifts of intangible property by a nonresident alien are not subject to U.S. gift tax. (Internal Revenue Code Section 2501(a)(2).) Your relatives should see a U.S. tax consultant about structuring these gifts to avoid being subject to U.S. gift tax.

If you receive a gift of more than $100,000 from a non-resident alien, the gift must be reported on Form 3520. The form has the same due date as your individual income tax return. You can get a copy at www.irs.gov.


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 articles!

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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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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.

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.


1 Internal Revenue Code § 408(c)(3) return to article
2 Internal Revenue Code § 402(c) return to article
3 Internal Revenue Code § 72(t) return to article
4 Internal Revenue Code § 6654(d)(1) return to article
5 Internal Revenue Code § 6654(d)(1)(C)return to article

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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 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 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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