Michael Gray, CPA's Tax and Business Insight

March 3, 2010

© 2010 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 hiding
Peekaboo Grandpa! (Kara Siemer)

March 2 is Read Across America Day.

In honor of Dr. Seuss’s birthday, the National Education Association has declared March 2 Read Across America Day. Let’s all support literacy and encourage reading at home and in our communities!

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Family and firm celebrations.

My brother-in-law, Wade Allison, will celebrate his birthday on March 16. My sister, Arlene Gray McLean, will celebrate her birthday on March 26.

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Tax season is here! Make your appointment now!

There is less than a month and half before April 15.

To have us prepare your income tax returns, start with the online Tax Notebook organizer. Call Dawn Siemer at 408-918-3162 for instructions to get started. We also have a paper organizer, if you prefer. We still need your documents (W-2s, 1099s, receipts for donations) to prepare your income tax returns.

We can prepare most income tax returns using information provided online and by mail. If you wish a personal meeting, please call Dawn Siemer at 408-918-3162 to schedule an appointment. Our calendar is filling up fast!

We expect to file for extensions when we receive clients’ tax information after March 15.

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Corporate due date for calendar year returns is March 15.

The due date for 2009 calendar year corporate income tax returns, including for S corporations, is March 15. Although many corporations will apply to extend the due date for their income tax returns, there is no extension for paying the tax. That means they need to have a pretty good estimate of what their income is before that due date. Now is the time to get those extension computations in process with your tax return preparer.

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Time to revisit your home loan?

Home loan interest rates are still low. The refinance loans that we offer are mostly on a no-points, no-fees basis. This gives the homeowner more flexibility for refinancing again in a short time. For example, one of our clients closed a mortgage with a 5.375% interest rate on September 26, 2009. Recently, the client locked a 4.875% interest rate for refinancing the same loan, for a half percent rate reduction with no points and no fees. It doesn't happen often, but it's possible.

For many homeowners, there is a refinancing opportunity now. We provide home loan brokerage services through our strategic partner, Wymac Capital, Inc. To explore whether we can help get financing for your new home, reduce the interest rate on your mortgage, or convert an adjustable rate mortgage to a fixed-rate mortgage, call Michael Gray at 408-918-3161.

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IRS to require businesses to disclose uncertain tax positions.

The IRS has announced a proposal to require corporations and other businesses to report directly on their annual income tax returns any "uncertain tax positions" determined under FIN 48 or similar financial accounting standards. The IRS has recently been criticized for seeking access to the auditor’s financial statement workpapers. The IRS says that requiring disclosure of the uncertain tax positions on the income tax return should eliminate the "problem." (Gee…Thanks!)

Reporting will apply to a business with total assets exceeding $10 million if the taxpayer, or a related entity, prepares financial statements that include tax reserves for uncertain tax positions. The IRS says that 25% of its time when auditing large corporations is spent searching for issues. (Isn’t that what an audit is supposed to be for?)

Isn’t this a directive to self-incrimination? Does the 5th Amendment mean anything anymore?

The audit firms have expressed concern about the increasingly adversarial relationships with their clients. The reliability of financial statements depends on the company being forthcoming with information about these uncertain positions. Now companies have good reason to seek legal counsel about what to disclose.

(IR-2010-13, Announcement 2010-9.)

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Taxpayers penalized for early retirement distributions.

A taxpayer retired at age 52. He received lump-sum distributions from qualified retirement plans, which he rolled over to two qualified individual retirement annuities.

Then he took a series of monthly distributions and a hardship distribution from the annuities. The plan administrators issued Forms 1099-R, indicating the distributions were early distributions for which there was no known exception to the 10% penalty tax for early distributions.

The taxpayers failed to report all of the distributions as subject to income tax and failed to report the penalty tax.

The Tax Court upheld the IRS in assessing the penalty tax plus an additional penalty for understating tax liability.

The taxpayers failed to show the distributions met an exception from the early distribution penalty, such as distribution over life expectancy. They also failed to show why a portion of their distribution shouldn’t be taxable.

(Prough v. Commissioner, Dec. 58,124(M), TC Memo 2010-20.)

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Mileage deduction disallowed.

The Tax Court upheld the IRS in disallowing an individual’s deductions for business use of his vehicle for improper substantiation. The taxpayer was self-employed in the business of selling merchandise for resale. He drove to his customers’ places of business in four states.

The taxpayer kept a log of his travel, noting the beginning and ending mileage each day, but omitting places he stopped and the business purpose of the stop. The IRS challenged the deductions for three years at issue. The taxpayer lost the log for the first year, and provided the logs for the second and third years.

An accuracy-related penalty was also assessed based on the taxpayer’s negligence. The Tax Court found he didn’t act with reasonable cause or in good faith.

This is a disheartening decision. The taxpayer actually kept a log and yet he didn’t act in good faith? Maybe we don’t know all of the facts and he might not have presented himself well to the Tax Court.

This is a reminder that good records are required to substantiate business use of a vehicle. Even though a log is supposedly not required and alternative evidence can be presented, I don’t think there is a substitute for a very detailed log.

(Royster v. Commissioner, Dec. 58,119M), TC Memo 2010-16.)

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Deductions for farm disallowed to CPA.

A certified public accountant acquired a farm in satisfaction of a debt. His forensic consulting business was his primary occupation. The farm was located 150 miles from his residence. The farm was operated by a tenant of the property on a sharecrop basis for 2002.

The Tax Court upheld the IRS in finding the taxpayer’s farm-related activities weren’t sufficient to constitute a trade or business, and disallowed his deductions for the farm.

In December 2003, the taxpayer purchased equipment to raise and harvest Bermuda grass. The Bermuda grass was to be planted during spring 2004. The Tax Court said even if the operation qualified as a farm, those expenses would be disallowed as pre-production expenses.

So much for Michael Gerber’s E Myth philosophy that a business should be able to operate without you! According to the Tax Court, if you’re not there planting and cultivating the seeds and harvesting the crops, it’s not a business for which losses can be claimed. Of course, the IRS would have assessed self-employment taxes on business income if the operation made a profit! It seems the IRS could have found an alternative approach to this issue, such as the passive activity loss rules, to suspend the deductions instead of disallowing them.

Even a CPA couldn’t defend himself in this case, and the Tax Court imposed a 20% accuracy-related penalty to boot!

(Vianello, TC Memo 2010-17.)

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Tax Court upholds Family Limited Partnership.

(Finally, a taxpayer-friendly verdict in a Tax Court Memorandum decision!) The Tax Court ruled against the IRS in finding that assets in a family limited partnership were not includable in a taxpayer’s estate under Internal Revenue Code Sections 2036 or 2035(a). The Tax Court found that the transfer to the family limited partnership was a bona fide sale for full and adequate consideration because the transfer was made for good, non-tax business purposes, including:

  1. protecting the assets from the litigious environment in their state;
  2. providing for their heirs;
  3. easing the management of the assets; and
  4. reducing the estate.

The decedent received an interest in the FLP that represented full and adequate consideration because:

  1. the participants in the FLP received interests proportionate to the value of the property each contributed;
  2. the respective contributed assets were properly credited to the transferors’ capital accounts;
  3. distributions required negative adjustments to distributee capital accounts; and
  4. there was a legitimate and significant nontax reason for formation of the FLP.

Therefore, the fair market value of the decendent’s interest in the FLP, instead of the fair market value of the assets that she contributed to the LLC, was includable in her taxable gross estate.

(Estate of Charlene B. Shurtz, Deceased, v. Commissioner of Internal Revenue, T.C. Memo. 2010-21 99 T.C.M. 1096 (Feb. 3, 2010).)

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Financial Insider Weekly broadcast schedule for March and April.

Financial Insider Weekly is broadcast in San Jose and Campbell on Wednesdays at 4:30 p.m., Pacific Time. You can watch it on Comcast channel 15 for those cities. The show is broadcast as streaming video at the same time at www.creatvsj.org.

Here are the scheduled interviews for March and April:

March 3, David Beck, CFP, "Applying for financial aid for higher education"
March 10, John Herzog of Valley Community Bank, "Small business financing"
March 17, Tom Anderson of Pensco, "Real estate investments in your IRA or Roth account"
March 24, Tom Anderson of Pensco, "Alternative investments in your IRA or Roth account"
March 31, John Olagues, "Employee stock options – the basics"
April 7, John Olagues, "Employee stock options – hedging strategies"
April 14, Lori Greymont of Summit Solutions Team Corp., "Real estate investment strategies I"
April 21, Lori Greymont of Summit Solutions Team Corp, "Real estate investment strategies II"
April 28, James Quillinan, Esq. of Hopkins & Carley, "California real estate change of ownership rules in estate and business planning"

Financial Insider Weekly is also broadcast as follows:

Past episodes are available at https://www.youtube.com/user/financialinsiderweek.

Let me know any ideas that you have for topics or guests. Guests will usually have to be located in or near the Silicon Valley in California.

Hope you can watch or record the show. Please tell your friends about it!

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

For your questions about dependent exemptions, see IRS Publication 501 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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Follow me on Twitter!

If you enjoy Twitter, please follow me at www.twitter.com/michaelgraycpa. I would especially appreciate retweets of our messages announcing episodes of Financial Insider Weekly.

I'm also on Facebook and LinkedIn.

you can also follow me on other social media sites, Facebook and LinkedIn.

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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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Check out my blog.

I have also started a blog at www.michaelgraycpa.com. Check it out!

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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.

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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.

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Michael Gray, CPA
2482 Wooding Ct.
San Jose, CA 95128
(408) 918-3162
FAX: (408) 938-0610
Hours: 8am - 5pm PDT Monday - Friday

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