Michael Gray, CPA's Tax and Business Insight

August 1, 2012

© 2012 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 holding Minerva.
Kara Siemer holds her new baby sister, Minerva, my fourth grandchild.

Welcome, Minerva Siemer!

Minerva Siemer was born about 8:14 p.m. on August 1, 2012. She weighed about six pounds, 9 ounces and was 20 inches long. She is a beautiful baby girl with dark, curly hair. Minerva is the second child for her parents, my daughter Dawn and her husband John Siemer. She is the fourth grandchild for my wife, Janet and me. We are thrilled!

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Back to school…

It seems we were just celebrating graduations and summer vacations, and it’s already time for school to start in most of our local school districts. Be careful when driving for children who aren’t as alert for traffic as they should be.

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About the Olympics.

Maybe the British opening ceremonies weren’t as flashy as the Chinese ones four years back, but it’s great that so many countries sent athletes who walked together in peace. So many great smiling faces of young (and not so young) people who were excited just to participate in the Games. The Olympic Games are a great, inspirational event. Enjoy! They’ll be over before we know it.

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It’s time for tax planning and working on amended extended and late income tax returns.

It’s time to have a second look at income tax returns that were filed for possible amended income tax returns. Taxpayers who filed extensions are also looking for help getting their income tax returns done.

If you would like our help, call Michele Brantley on Wednesdays from 8:30 a.m. to 5:30 p.m. Pacific Time to make an appointment. Michele’s telephone number is 408-918-3162.

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August celebrations.

Janet and I are celebrating our forty-first anniversary this month. We are grateful for our blessings and still being together.

My sister-in-law, Gail Johnston, is celebrating her birthday this month. Happy birthday, Gail!

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Updated book on employee stock options to be released this month.

Employee Stock Options – Executive Tax Planning - 2012 Edition by Michael Gray, CPA will be released this month. For the month of August, 2012, you can buy it for half price - $12.49, plus shipping and handling and applicable California sales tax. Click here to print an order form to fax in. The book is 46 pages, and is packed with insights, including an Options Comparison Chart, which employees with options will find invaluable.

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The tax planning environment is cloudy.

The Presidential and other elections mean that little is likely to be done relating to expiring tax laws for this year until after the election – probably early in 2013. The alternative minimum tax exemption “patch” adjustment for inflation hasn’t been passed for 2012.

California’s recent revelation of “side accounts” for various agencies have probably reduced the likelihood that Jerry Brown will be successful in have a tax increase approved by the voters this fall.

The increased federal estate tax and generation-skipping tax exemption is an opportunity for many families to make some big gifts during 2012, possibly using a “dynasty trust”. There is a risk of “claw back” but even the 35% tax rate for taxable gifts is attractive for 2012.

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Does your child or grandchild have a summer job? Consider a gift to a Roth.

A contribution to a Roth IRA can be made up to the greater of earned income or $5,000. The account grows tax-free, and the earlier a contribution is made, the more of an opportunity for the fund to grow. The $5,000 contribution to a Roth for a child or grandchild would count towards the $13,000 annual gift tax limit.

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Deadline approaches for IRA or Roth of 2011 decedents.

The deadline for having beneficiaries set up for inherited IRAs is September 30 of the year after death. Benefits should be paid out to non-individual beneficiaries like charities by this date. You might be able to divide an account into separate accounts for individual beneficiaries to receive distributions over their individual life expectancies. See your tax advisor for details.

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Offshore dependents must be U.S. citizens for exemptions.

The Tax Court upheld the IRS in denying personal dependent exemption deductions for a U.S. citizen parent living outside the U.S., Canada and Mexico. The taxpayers were a husband and wife living in Israel. The wife was a U.S. citizen. Their six children were all born in Israel.

The children later became naturalized U.S. citizens, but they didn’t qualify as dependents for U.S. tax purposes for the years before they became citizens.

Non-citizens can qualify as dependents when they are residents of the United States or a country contiguous to the United States.

(Leah M. Carlebach and Uriel Fried v. Commissioner, U.S. Tax Court, CCH Dec. 59,127, 139 T.C. No. 1, (Jul. 19, 2012).)

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Business travel expenses disallowed for mileage to temporary work sites.

Mr. Saunders was a construction worker, who was an employee of Valley Interior Systems, in Cincinnati, Ohio. During 2007, he temporarily worked at five worksites, which were located 74 to 90 miles from his residence in Manchester, Ohio.

The Tax Court upheld the IRS in disallowing $23,121 of unreimbursed employee business expenses, principally relating to business mileage between Mr. Saunders’ residence and the work sites. He did not travel to his employer’s location before traveling to the work sites.

The Tax Court said that the work sites weren’t outside of the “metropolitan area” where the taxpayer lives and normally works.

Mr. Saunders said he should be entitled to claim the deductions because the IRS allowed similar expenses for another year.

The Tax Court said the IRS isn’t bound to allow a deduction allowed for a previous year.

(Kristopher R. Saunders and Jessika R. Saundrs v. Commissioner, T.C. Memo. 2012-200 (July 17, 2012.)

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Medicare premiums are deductible as self-employed medical insurance.

The IRS has issued Chief Counsel Advice relating to the deductibility of Medicare premiums for partners and S corporation shareholders. All medicare parts may be deducted as self-employed medical insurance, even if the shareholder/partner pays for the premiums and is reimbursed for them. The payment by a partnership is treated as a guaranteed payment and the payment by an S corporation is treated as W-2 income.

The deduction is limited to the net income from the partnership or S corporation.

The deduction is not allowed for amount paid during a month in which the taxpayer is eligible to participate in any subsidized health plan maintained by an employer of the taxpayer or of the taxpayer’s spouse.

Taxpayer who didn’t previously deduct these payments may amend their income tax returns for open years and deduct them.

(IRS Letter Rling 201228037 (May 1, 2012).)

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Wrongful termination payment for depression was taxable income.

A taxpayer suffered from emotional distress relating to a termination of employment. The employer settled for a $100,000 payment for the emotional distress under a claim of wrongful termination. The taxpayer claimed the damages should be excluded from taxable income as a payment relating to a physical injury.

The Tax Court upheld the IRS inclusion of the payment in taxable income. Emotional distress, even with physical symptoms, is not a physical injury qualifying for the exclusion.

M. Blackwood and J. Weikle Blackwood v. Commissioner, T.C. Memo. 2012-190, (Jul. 11, 2012).)

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Late discovered will saves stock from inclusion in a decedent’s estates.

Mrs. Richard passed away on October 15, 1997. Her will wasn’t submitted for probate until November, 2010. She was a resident of Florida.

Mrs. Richard’s husband, Alfred Richard, was deceased in December, 2004.

On Alfred Richard’s estate tax return, his executors included 740 shares of class A preferred stock of A.J. Richard & Sons, with a value of $740,000.

The IRS asserted a value of $142,203,000 for the shares during August, 2008, based on a control premium.

Mrs. Richard’s children (who were also her executors) discovered her will, which would have left her 140 shares of the stock to a bypass trust, not to her husband, and would reduce her husband’s ownership to a minority interest with no control premium.

The IRS said the bequest to the bypass trust should be disregarded and the shares should be included in Alfred Richard’s estate.

The Tax Court ruled that, under Florida law, Mrs. Richard’s will was effective to transfer the shares to the bypass trust as of her date of death.

(Moral – never underestimate the value of a bypass trust. A lot of time, trouble and expense would have been avoided if the will had been located and probated when Mrs. Richard passed away.)

(Estate of Alfred J. Richard, T.C. Memo. 2012-173 (June 20, 2012).)

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Is your business generating income in more than one state?

The rules for multiple state taxation are very complicated, including when your business is subject to income tax or required to collect sales tax. In California, a business can elect to base its California franchise (income) tax on only a sales factor, or on a three-factor (property, payroll and sales) formula. For service-based businesses with the single (sales) factor formula, income is sourced to the state where the customer benefits from the services. If the three-factor formula is elected, income is sourced where the cost is incurred. Obviously, there can be radically different results under the two elections.

You might have heard that internet businesses can be required to collect California sales tax if they have “affiliates” to whom they pay commissions for referral links to their web sites. The chief target of this rule is Amazon.com.

If you are selling goods or services in several states, you really should be discussing these issues with your tax advisor. If you would like to discuss them with Michael Gray, call Michele Brantley at 408-918-3162 on Wednesdays from 8:30 a.m. to 5:30 p.m. to make an appointment.

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California takes severe collection action.

The California State Board of Equalization publishes a list of the top 500 sales and use tax debtors at http://www.boe.ca.gov/cgi-bin/deliq.cgi. Beginning July 1, 2012, those on the list could lose their state-issued licenses, such as driver’s licenses and professional licenses.

(Spidell’s California Taxletter, July 1, 2012, page 15.)

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Delays in processing California statements of information causes problems.

With staffing reductions, the California Secretary of State is experiencing delays in processing Corporate Statements of Information. Some of the checks sent with the forms have expiration dates, and the forms are being returned because those dates have expired. As an alternative, consider filing your Statement of Information online at https://businessfilings.sos.ca.gov or using a form of payment that doesn’t expire.

(Spidell’s California Taxletter, July 1, 2012, page 17.)

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More internet retailers are required to collect California use tax.

The California State Board of Equalization has issued proposed 18 Cal. Code Regs. §1684, expanding the use tax registration requirements for out of state retailers, including Internet retailers that were not previously required to collect use tax on their sales to California consumers. A controversial provision extends nexus of an affiliate such as a parent company to another member of a controlled group. This is contrary to a Court of Appeals decision in Current Inc. v. State Board of Equalization.

A retailer who owns or leases real property or personal property, including a computer server in California, establishes nexus.

Having “affiliates” that refer business for which they receive a commission can also result in being subject to collecting use tax, effective September 15, 2012. The requirement would apply if:

There will probably be challenges to these new rules, but retailers should comply with them until such time, if any, they are overturned.

See your tax advisor when establishing procedures to comply with the regulations.

(Spidell’s California Taxletter, August 1, 2012, page 7.)

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Community public access television needs our help.

As you can see below, public access television is a vital part of our educational outreach to various communities. These are usually nonprofit, charitable organizations, like public television stations. Unlike those stations, most of the programming for the public access stations comes from local producers.

This programming includes the local arts, productions by students at local schools, community outreach by churches, independent local producers discussing current social issues, educational programming by local providers like ourselves and much more. In other words, public access television makes a unique, important contribution to the communities it serves.

With the difficult times we are experiencing, many public access stations are facing severe financial challenges, and might not survive without more community financial support. I urge you to consider making a donation to your local public access television station. Here is a link for a list of public access television stations in California: http://www.communitymedia.se/cat/linksca.htm

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Financial Insider Weekly broadcast schedule for August and September.

Financial Insider Weekly is broadcast in San Jose and Campbell on Fridays at 8:00 p.m., Pacific Time. You can watch it on Comcast channel 15 for San Jose and Campbell. The show is broadcast as streaming video at the same time at www.creatvsj.org.

Here are the scheduled interviews for August and September:

August 3, 2012, Judy Barber, Family Money Consultants, LLC, "The transfer of family wealth to the next generation: What's the money for?"
August 10, 2012, Judy Barber, Family Money Consultants, LLC, "Raising money-smart kids in the midst of affluence"
August 24, 2012, Gregory Carpenter, BTI Group Merges & Acquisitions, "How to buy a business"
August 31, 2012, Gregory Carpenter, BTI Group Merges & Acquisitions, "Preparing to sell a business"
September 7, 2012, Dick Blakeley, RIA, The Blakely Group, Inc., "A financial planning case study"
September 14, 2012, Craig Martin, CFP®, The Family Wealth Consulting Group, "Investing basics"
September 21, 2012, Craig Martin, CFP®, The Family Wealth Consulting Group, "Alternative investments besides stocks and bonds"
September 28, 2012, Gregory Carpenter, BTI Group Merges & Acquisitions, "Preparing to sell a business"

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!

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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.

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Visit our new article!

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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, LinkedIn, and Google+.

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

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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 michaelgraycpa.com. Check it out!

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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.

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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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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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