Michael Gray, CPA's Tax and Business Insight

August 8, 2019

© 2019 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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My granddaughter, Minerva Siemer, in a hollow redwood tree at Henry Cowell Redwoods State Park

School Days, School Days, dear old Golden Rule days...

It's hard to believe, but summer vacation is almost over and most children will be be back in school by the end of August! Please drive carefully and enjoy your end of summer activities!

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Family celebrations.

August is a month with many celebrations for my family.

Minerva Siemer, who is Dawn's daughter and my granddaughter is celebrating her birthday this month. My sister-in-law, Gail Johnston, is also celebrating a birthday.


Janet and I are celebrating our 48th wedding anniversary during August. We consider ourselves blessed in sticking together through good times and bad times - mostly good.

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My schedule.

I (Michael Gray) will be away from my office after August 9, returning August 15.

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It's time for cleanup and extensions.

Maybe you have an issue for which you would like a second look on the income tax returns you just filed. Maybe you have extended income tax returns that you need to have prepared. Or maybe you have some planning issues for which need advice. To make an appointment, call Thi Nguyen, CPA at 408-286-7400, extension 206.

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Attention CPAs.

Do you need help writing content for your web site, books to promote your CPA firm, your CPA firm newsletter or promotional communications? Maybe I can help. Call me, Michael Gray, at 408-918-3161 or email mgray@taxtrimmers.com.

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September 16 due dates.

The due date for extended income tax returns for calendar-year partnerships and S corporations is September 16.

Federal estimated tax payments for individuals are also due September 16. There is no California estimated tax payment due September 16 because estimate payments for April and June are "front loaded."

The federal estimated tax payment can be based on the income tax reported on the 2018 federal income tax return. If the 2018 federal adjusted gross income was more than $150,000 (or $75,000 if married filing separately), the payment can be based on 110% of the income tax on the 2018 federal income tax return. Alternatively, the payment can be based on 90% of the actual tax for 2019. Although the tax payment is 25% of the annual tax liability, the computations can be made using income and deductions through August 31.

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Heterosexual couples under age 62 can now be registered domestic partners in California.

Governor Newsom approved Senate Bill No. 30 on July 30, 2019. The bill was authored by Senator Scott Weiner (Democrat state senator from San Francisco). Under the new law, California's Family Code is amended to allow heterosexual couples (a man and a woman) under age 62 to be registered domestic partners.

Before the change, only same-sex couples and heterosexual couples age 62 and greater could be registered domestic partners in California.

This change is important because registered domestic partners have essentially the same legal rights as married couples in California (including community property rights), and the relationship is not recognized as being married by the federal government. THEREFORE, HETEROSEXUAL COUPLES WHO ARE CALIFORNIA REGISTERED DOMESTIC PARTNERS CAN AVOID THE FEDERAL INCOME TAX MARRIAGE PENALTY.

The federal marriage penalty means that a couple that files their income tax returns as married persons generally pays more income taxes than they would as unmarried persons. The federal marriage penalty was increased under the Trump tax legislation, the Tax Cuts and Jobs Act of 2017. (Consult with your tax advisor to find out if you actually have a marriage penalty.)

Registered domestic partners are treated the same as married persons for California income tax reporting.

Be aware that registered domestic partners don't qualify for some federal tax benefits that married couples do qualify for. For example, gifts to a spouse who is a U.S. citizen qualifies for an unlimited marital deduction. A bequest to a spouse who is a U.S. citizen also qualifies for an unlimited marital deduction. The executor of a deceased spouse can elect on an estate tax return to give any unused lifetime exemption of the deceased spouse to a surviving spouse. Only married persons are allowed to treat property settlements incident to a divorce as tax-free.

Heterosexual couples who are California residents and are planning to be married should consider being registered domestic partners, instead.

Heterosexual married couples who are California residents and who are paying a substantial federal marriage penalty should consider terminating their marriages and becoming registered domestic partners.

I recommend consulting with a lawyer that specializes in family law and estate planning before making your decision.

(California S.B. 30, July 30, 2019.)

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IRS sends letters to virtual currency owners.

The IRS is sending thousands of letters to taxpayers who failed to report virtual currency (such as Bitcoin) transactions. Buying and selling the currency can result in taxable income. The IRS is encouraging taxpayers to file amended income tax returns to report the transactions.

If you have traded Bitcoin or other virtual currency, you might want professional help preparing your amended income tax returns.

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IRA with a trust beneficiary could be divided.

The IRS privately ruled that an inherited IRA for which a trust was a beneficiary could be divided into four separate inherited IRA accounts for which the beneficiaries would be the trust for the benefit of each of the trust beneficiaries. The distribution period for each of the accounts would be the life expectancy of the oldest beneficiary as of the date of the death of the IRA owner. That is the rule when there are multiple individual beneficiaries of a trust.

By dividing the IRA into four separate accounts, each beneficiary could decide how that beneficiary's share is invested and each beneficiary could decide whether to take distribution greater than the required amount.

(PLR 201924013, June 14, 2019.)

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Employers will be able to use truncated identification numbers on Form W-2.

The IRS has issued final regulations to permit employers to voluntarily truncate employees' social security numbers on the copies of Forms W-2 that are furnished to the employees. The Forms W-2 filed with the Social Security Administration still must include complete social security numbers. The complete social security number is also required to be included on the employee copy of Form W-2 when third-party sick pay is reported on the form.

The new regulations apply to returns, statements and other documents required to be filed or furnished after December 31, 2020, except for the copies provided to the IRS (requirement unchanged.) This will give software providers time to change their software for the new rules.

(T.D. 9861, July 3, 2019.)

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Taxpayer First Act enacted.

President Trump signed the Taxpayer First Act of 2019 (P.L. 116-25) on July 1, 2019. This new law establishes some new administrative rules for the IRS, including establishing an IRS Independent Office of Appeals.

The details of this legislation are beyond the scope of this newsletter. Tax advisors who handle IRS appeals should study it.

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Partners in a partnership that owns a disregarded entity are subject to self-employment tax.

The IRS has finalized temporary and proposed regulations issued in 2016 that state that partners in a partnership that owns a disregarded entity are subject to self-employment tax, and are not treated as employees of the disregarded entity. An example of a disregarded entity is a single-member LLC owned by a partnership.

The regulations were issued because of confusion caused by other regulations that say an LLC is treated as a corporation for employment tax purposes. (Treasury regulations § 301.7701-2(c)(2)(iv)(B).) That rule doesn't apply for self-employment tax purposes.

Some taxpayers have permitted partners to participate in certain tax-favored employee benefit plans. Since the partners aren't employees, they aren't eligible to participate in those plans.

(TD 9869, July 2, 2019.)

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Insurance arrangement was "substantially similar" to a reportable transaction.

The Court of Appeals for the 9th Circuit affirmed a district court decision upholding a penalty for failure of a taxpayer to disclose a reportable transaction. The taxpayer participated in an arrangement where an employer purchased life insurance for its employees, deducted the premiums paid, and failed to report the payments as compensation income for its employees.

The IRS identified this type of arrangement as a listed (reportable) transaction in Notice 2007-83.

The IRS imposed a $40,000 penalty on the taxpayer for years 2008 - 2011.

The taxpayer tried to assert constitutional arguments that it shouldn't be subject to the penalty. The courts rejected those arguments.

(This is a good reason for taxpayers to have their income tax returns professionally prepared. A professional tax return preparer should be alert for listed/reportable transactions that are required to be disclosed.)

(Interior Glass Systems, Inc., 123 AFTR 2d ? 2019-813, June 26, 2019.)

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Proposed regulations provide guidance about PFIC ownership rules.

Certain offshore investments, called passive foreign investment companies or PFICs, require special disclosure and might require passthrough reporting of income when certain investments are made. The IRS has issued proposed regulations about whether a foreign corporation is a PFIC and whether a U.S. person that directly or indirectly holds stock in a PFIC is treated as a shareholder of a PFIC.

If you have direct or indirect ownership in a foreign corporation, you should consult with your tax advisor about how these rules affect you. (Anyone with this type of investment should have their federal income tax returns prepared by a professional income tax return preparer who is familiar with the rules that apply to them.)

(REG-105474-18, July 11, 2019.)

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IRS removes regulations for advance payments for sales of goods and long-term contracts.

The IRS issued final regulations to remove regulations § 1.451-5, relating to accounting for advance payments. That regulations section was superseded by legislation in the Tax Cuts and Jobs Act of 2017. Under the new legislation, any revenue not recognized for income tax reporting in the year of receipt of an advance payment is recognized no later than the next tax year. See your tax return preparer for details.

(T.D. 9870, July 15, 2019.)

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Draft Form 1040 released.

The IRS has released draft versions of Form 1040 for 2019 and the related schedules. The "postcard tax return" idea has been abandoned. The six schedules for 2018 income tax returns have been condensed to three schedules for 2019.

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Draft simplified tax forms for seniors released.

The IRS has released a draft of a simplified individual income tax form, Form 1040-SR, which may be used by taxpayers age 65 and over for tax year 2019 and future years. The new form is similar to discontinued Form 1040-ES, but without the limitations that restricted the use of Form 1040-EZ.

Form 1040-SR is two pages long.

Taxpayers may only use the form when they have income from wages, salaries, tips, investments, IRA distributions, pensions, annuities and social security benefits. Taxpayers are allowed to use the form when they have dependents and may either use the standard deduction or itemized deductions.

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Draft of new Form 1099-NEC released.

The IRS has released a draft of a new form, Form 1099-NEC, Nonemployee Compensation, to report nonemployee compensation paid in 2020. Nonemployee compensation was previously reported on Form 1099-MISC, Miscellaneous Income.

The following payments must be reported on Form 1099-NEC starting 2020:

  1. The payor made the payment to someone who is not the payor's employee.
  2. The payor made the payment for services in the course of the payor's trade or business.
  3. The payor made the payment to an individual, partnership, estate, or certain corporations (medical or legal fees).
  4. The payor made payments to the payee of at least $600 during the year.

The due date to submit Form 1099-NEC to the IRS for 2020 will be February 1, 2021.

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Draft of forms for qualified business income deduction released.

The IRS has released a draft of new forms for computing the 20% deduction for qualified business income. Form 8995 is a simple one-page version for taxpayers with low income (up to $160,700 for singles, $321,400 for married filing separately and $421,400 for married filing jointly) and Form 8995-A is a three-page version (including Schedule A) for taxpayers subject to more complex rules.

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Discharge of indebtedness had to be reported by the creditor.

Under the laws of some states, a creditor is prohibited from collecting a deficiency for an indebtedness if the creditor sends a notice that doesn't strictly comply with the state's notice requirements.

The debtors of a certain creditor filed a nationwide consumer class-action lawsuit, claiming notices issued by the creditor were defective, rendering their debts unenforceable as a matter of law. A court agreed with the debtors. Under a settlement agreement, the creditor agreed to write off all remaining absolute bar state debt balances.

The creditor asked the IRS if it was required to issue information returns for the cancellation of indebtedness. The IRS said that rendering the debts as unenforceable under state law was an identifiable event requiring reporting the debt cancellation on information returns.

(PLR 201927005, July 5, 2019.)

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IRS gives actuarial factor for gift of a life estate.

An individual who was terminally ill disclaimed life estates in favor of the remainder beneficiaries. Usually, the value of the disclaimed interest is determined based on IRS tables. The IRS says using the tables when the person making the disclaimer is terminally ill may not be appropriate. (In this case, the person making the disclaimer died five days after the event.) The IRS determined an actuarial factor of .00043 to be used to value the disclaimed interest. (This was a reduced taxable gift value.)

If you ever deal with a situation like this, remember the IRS will provide an actuarial value upon request.

(PLR 201928003, July 12, 2019.)

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US worker in Afghanistan wasn't eligible for the foreign earned income exclusion.

A U.S. citizen who worked in Afghanistan and lived on military bases while working there wasn't eligible for the foreign earned income exclusion. The taxpayer claimed the exclusion because she was present in a foreign country during at least 330 days in a twelve-month period.

In order to qualify for the exclusion, a taxpayer must also have a tax home in a foreign country.

The taxpayer still maintained an abode in the United States while working in Afghanistan. The taxpayer kept a US bank account, maintained a residence for her family, and was registered to vote in the U.S.

The Tax Court wouldn't accept the taxpayer's reliance on information received from her employer as a reasonable cause to avoid penalties for understatement of tax. There was no reason to think the employee who communicated with the taxpayer was qualified to give tax advice.

(Haskins v. Commissioner, TC Memo 2019-87, July 11, 2019.)

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Partnerships allowed to file amended K-1s.

Under new rules establishing a centralized partnership audit regime under the Bipartisan Budget Act of 2015 prohibit partnerships subject to the regime from amending the information required to be furnished to their partners after the due date of the return. 2018 was the first year that the centralized partnership audit regime was mandatory.

Some partnerships filed their income tax returns by the initial filing date (March 15, 2019 for calendar year partnerships) and did not request extensions of their filing dates. They might have made errors, including not properly reporting all of the required information on the Schedules K-1.

The IRS is giving relief to those partnerships by accepting amended partnership income tax returns, including amended Schedules K-1, up to the extended filing date as if an extension was requested (September 15, 2019 for calendar year partnerships).

(Revenue Procedure 2019-32)

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Consider setting up a Roth IRA for your child or grandchild.

A Roth contribution can be made on behalf of an individual up to the lesser of $5,500 or amount of his or her earnings. You can count the earnings from a summer job. (A Form W-2 will have to be issued for the job.) There is no tax deduction for this contribution, but future earnings for the account will be tax-free, provided the account isn't disturbed for five years.

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Remember summer day camp costs qualify for the dependent care credit.

When a dependent child goes to day camp and both parents or a single parent work, the expense qualifies for the dependent care credit. Expenses for summer school, tutoring programs and overnight camps don't qualify.

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How to make a retroactive small business accounting election for California.

The Franchise Tax Board has released preliminary guidance about how to make a small business accounting election on a 2018 income tax return. California recently passed legislation, the "Loophole Closure and Small Business and Working Families Tax Relief Act of 2019", adopting some of the provisions of the federal Tax Cuts and Jobs Act of 2017, including elections for certain small businesses that were previously required to use the accrual method of accounting to use the cash method and other accounting simplification measures. The effective date for these accounting changes is for years beginning on or after January 1, 2019, but taxpayers may elect to apply the changes for years beginning on or after January 1, 2018.

Until formal procedures are issued, taxpayers may make the election by providing the following information to the Franchise Tax Board:

  1. A statement with the original or amended California income tax return stating the taxpayer's intent to make a small business accounting election and which election(s) the taxpayer is making;
  2. On the top of the first page of the original or amended tax return, write "AB 91 - Small Business Accounting Election" in BLUE INK; and
  3. Mail the return to:
    Franchise Tax Board
    PO Box 942857
    Sacramento, CA 94257-0500

Note: These returns must be PAPER-FILED.

(Spidell's Flash E-mail: How to make a retroactive small business accounting election, July 31, 2019.)

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Amending a California individual income tax return.

The California Franchise Tax Board issued a reminder that, effective for 2017 income tax returns and later, Schedule X has replaced Form 540X. Taxpayers who wish to amend income tax returns for years 2017 and later should only send a corrected form (540, 540 2EZ, 540NR) with supporting documents and Schedule X. They should NOT include a copy of the original income tax return. Some tax return preparation software can be used to e-file amended California income tax returns.

(State of California Franchise Tax Board Tax News, August 2019, p. 2.)

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Some California employers should plan for CalSavers.

California private employers that don't offer a retirement plan could have to provide for their employees to enroll in a CalSavers account. Employers won't have to enroll employees who opt out and employers with less than five employees won't be subject to the requirement.

The CalSavers account is a Roth IRA that is administered by the State of California. If an employee isn't eligible to have a Roth IRA, that employee also won't be eligible for a CalSavers account.

Participation isn't mandatory until 2020. The program will be phased in over a three-year period. Employers with

Employers may voluntarily register at any time beginning July 1, 2019.

Here is a link to a disclosure booklet describing the program: https://cdn.unite529.com/jcdn/files/CAER/pdfs/program_documents.pdf

For more details, go to the CalSavers website at www.calsavers.com.

(Spidell's California Taxletter®, August, 2019, p. 7, "California is going forward with CalSavers".)

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Property expensed under the de minimis safe harbor election isn't eligible for sales tax exemption.

A glass manufacturing company couldn't claim the partial sales and use tax exemption for molds used in its manufacturing process because the taxpayer elected to expense the molds under the tangible repair regulations de minimis safe harbor instead of depreciating the molds.

The manufacturing exemption only applies to the state portion of the tax, currently 3.9375%.

The taxpayer could have made a separate election to not use the de minimis safe harbor for California, and possibly elected to expense the molds under § 179, which would have qualified for the sales tax exemption. (Note the limitation for § 179 expensing for California is only $10,000.)

(Spidell's California Taxletter®, August, 2019, p. 14, "Property expensed under the de minimis safe harbor".)

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Software as a service might be subject to state sales tax.

Although California does impose sales tax on software as a service (SAAS), some other states do. Thanks to the Supreme Court's Wayfair decision, it's now easier to establish nexus in a state and so be subject to sales tax in a state. If your business electronically distributes its products or provides software as a service, you should consult with your tax advisors about whether you should be collecting and remitting sales tax for the various states where you have customers.

(Miles Consulting States of Affair, July, 2019, "What You Need To Know About The Taxability Of SAAS In 9 Western States".)

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Please share your good experiences with Michael Gray, CPA.

As you know, more and more people are going to the internet to find information about service providers. We hope you will share some good words about experiences that you have had with our firm<. Some of the sites where you can share your experiences include yelp.com and siliconvalley.citysearch.com.

We use Angie's List to assess whether we're doing a good job keeping valued customers like you happy. Please visit AngiesList.com/Review/4258970 in order to grade our quality of work and customer service.

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Financial Insider Weekly past episodes

After eight years of production, I have discontinued producing new interviews for Financial Insider Weekly. Doing the show has been a rewarding experience and I consider back episodes to be my legacy of financial literacy education to our community. Back episodes available at https://www.youtube.com/user/financialinsiderweek.

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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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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.

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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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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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Michael Gray, CPA
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