Student Loan Repayment

It’s finally fall. Leaves are changing color.

Children and some adults are awaiting trick-or-treat and we are working hard filing tax returns for clients on extension. And student loan payments have resumed… Putting a dent in a lot of people’s wallets after a three-year halt on repaying college debt ended. But these tax breaks can help ease the pain.

There’s a deduction for student loan interest.

And taxpayers needn’t itemize to take this write-off. Up to $2,500 of interest paid each year can be claimed as a deduction on Schedule 1 of the Form 1040. For 2023, the break begins to phase out for single filers with modified adjusted gross incomes above $75,000…$155,000 for joint filers. It ends for taxpayers with modified AGIs over $90,000 and $185,000, respectively. Parents who help a child repay student loans generally can’t take the write-off unless they are also legally liable on the loans. But, even if a parent paid the loan, a child who meets the modified AGI limits can still take the interest deduction, provided he or she isn’t eligible to be claimed as a dependent on the parents’ return. IRS treats this as if the parents gifted money to the child, who then paid the debt.

Most student loan debt forgiven in 2021 through 2025 is tax-free for federal income tax purposes.

This relief, enacted in the March 2021 stimulus law, is an exception to the general rule that cancellation of indebtedness is taxable. IRS has instructed lenders and loan servicers to not issue Form 1099-C to borrowers whose student loans are forgiven during this time period, and the discharged debt is excluded from income. Some states have different rules, which can be confusing.

Up to $10,000 from 529 accounts can be used to help pay off college debt of the account beneficiary without having to pay income tax on the withdrawals. It’s important to note that this $10,000 is a lifetime limit, not an annual limit. 529 distributions for student loan repayments that exceed $10,000 are taxable in part to the extent of the excess and are also subject to a 10% penalty.

Employers that offer qualified educational assistance programs can help. These programs can be used to pay down up to $5,250 of an employee’s college loans each year through 2025. Payments are excluded from workers’ wages for tax purposes.

Starting in 2024, relief can be offered through workplace retirement plans.

A new law will allow employer 401(k) matches conditioned on student loan repayments made by employees. IRS blessed such a program in a 2018 private letter ruling. In that situation, the firm contributed to its 401(k) plan on behalf of employees paying down their college debt. The employer matches took place regardless of whether employees also paid in. Participation was voluntary, and employees had to elect to enroll in the program. Employers have been lobbying Congress for years to enact a statute to allow them to do this without seeking a private ruling from the Service, and lawmakers obliged them last year in the SECURE 2.0 law.

How long to keep tax returns and records?

How long to keep tax returns and records?

Great question. The answer depends on the type of document and the kinds of transactions you engage in. Keep your tax returns at least three years. That’s generally how long IRS has to question items on your return and to bill you for any additional tax. It’s also the timeframe to file an amended return to seek a refund. IRS can go back up to six years if your return omits more than 25% of income. If fraud is proved, there is no limit. State tax returns may have to be retained for a longer time period.

Don’t automatically throw out all returns and records after three years.

Look over old documents to see if you might need any parts of them in the future. Hold on to records that help establish the adjusted basis of real estate. Save your settlement sheet whenever you buy real property, including your home. And don’t throw away receipts or invoices for improvements made to the property. Taxpayers who keep good records will find it easier to calculate the adjusted basis of their real estate investments compared with people who don’t maintain records. If you have multiple real estate properties, it’s best to have separate folders for each.

Retain the files until at least three years after you dispose of the property.

Ditto for securities transactions. Be sure to keep your purchase documents for taxable mutual funds, stocks and the like. Among other records to maintain: Those showing stock splits, dividend reinvestments and nontaxable distributions. If you invest in bonds or Treasury bills or notes, track when these securities mature.

If you’ve made nondeductible payins to IRAs or post-tax payins to 401(k)s…

Save records until three years after the accounts are depleted. File Form 8606 with your return for the year you make a nondeductible IRA contribution. If you don’t, those contributions will be treated the same as deductible payins when withdrawn. Retain copies of Form 8606 and your 1040s for each year that such payins are made. Also hold on to Form 5498 or similar statements reflecting the amount of IRA payouts.

If you inherit property or receive property as a gift, heed this advice:

For inheritances, you’ll need to know date-of-death value. For gifts…the donor’s cost. So keep documentation of these figures until three years after you sell the asset.

Businesses….

Should hang on to payroll tax records for a minimum of four years after the due date for filing the Form 941 for the fourth quarter of a particular year. Among the information to be retained: Wage amounts, payment dates and employee data, such as names, employment dates and Social Security numbers. Periods for which workers were paid while absent because of sickness or injury. Copies of all W-4 forms and payroll returns, and amounts and dates of tax deposits. Plus records of tips earned by workers and fringe benefits provided to employees. Records on cost of assets, depreciation, etc., should be retained for decades.

IRS Enforcement

IRS’s efforts at combating individual tax identity theft are paying off…

Thanks in large part to antifraud measures IRS uses to filter out returns. For the 2023 filing season, the agency has been using 236 computer software filters to identify potential identity theft returns and prevent payment of fraudulent refunds. Compare this with 168 filters used for the 2022 filing season. As of March of this year, IRS computers flagged 1.1 million individual returns with refunds totaling $6.3 billion for additional review as a result of those identity theft filters. Not all those returns will be confirmed as fraudulent after verifying the filer’s identity, but some will.

The Service continues to fall behind on policing the tax rules on alimony.

Taxpayers who deduct alimony must include the recipient’s Social Security number and the original date of the divorce or separation agreement on Schedule 1 of the 1040. Treasury inspectors found that the agency isn’t reviewing cases with invalid SSNs. And IRS is allowing some alimony deductions on returns showing an agreement date after 2018. Remember, alimony paid under post-2018 divorce or separation agreements isn’t deductible, and ex-spouses aren’t taxed on alimony they get under these pacts. (Older divorce agreements can be modified to follow these rules if both parties agree.) IRS says it will update its internal guidance but won’t reject noncompliant returns.

Returns claiming improper dependent care credits also vex IRS.

This break, taken by families who are working or looking for a job, helps to offset some expenses of paying for the care of children under age 13 and qualifying relatives. Taxpayers use Form 2441 to calculate the credit and must report the provider’s tax ID number on the 2441. Treasury inspectors had previously recommended several ways that IRS could improve its filters to screen erroneous credits taken on 1040 returns. In response, the Service made some changes, but it hasn’t yet gone far enough. Returns with patently invalid care-provider tax ID numbers on the 2441 sneak through.

Tax Q & A

We’ve received lots of tax questions. Here is just a sampling…and our answers.

Will the charitable write-off be expanded?

It’s possible. Under present law, only filers who itemize on Schedule A can deduct donations they make to charity. A bipartisan group of lawmakers wants to make the deduction available to everyone. More specifically, they would let non itemizers deduct charitable contributions in an amount equal to as much as one-third of standard deductions for 2023 and 2024, meaning the write-off could spike to $4,617 for single filers and $9,233 for couples for 2023 returns filed next year. The odds are low this year of passing legislation with such high deductible amounts. But there’s a bit better chance of reviving the $300/$600 write-off for non itemizers.

Can I gift an I bond before it matures and avoid an income tax hit?

No. Like most people, you’ve likely deferred reporting for federal income tax purposes the interest that you earned on the savings bond. Gifting away EE or I bonds to someone else before those bonds mature will accelerate the interest reporting. It doesn’t matter whether the bonds are reissued in the recipient’s name. You still owe U.S. tax on all the previously deferred interest in the year of the gift.

Can I get a 20% QBI deduction for the income I earn on my rental property?

It depends. Self-employed individuals and owners of LLCs, S corporations and other pass-through entities can deduct 20% of their qualified business income, subject to limitations for individuals with taxable incomes of more than $364,200 for joint filers and $182,100 for single taxpayers and head-of-household filers. Schedule E rental income may be eligible for the write-off in some cases. But applying the QBI rules to income from rentals of real estate is thorny. IRS regs say the rental activity must generally rise to the level of a trade or business, a standard which is based on each taxpayer’s particular facts and circumstances. Alternatively, there is a safe harbor if at least 250 hours a year of qualifying time are devoted to the activity by the taxpayer, employees or independent contractors. Time spent on repairs, collecting rent, negotiating leases, and tenant services counts. Hours put in driving to and from the real estate aren’t included for this purpose. Taxpayers who use the safe harbor must meet strict record-keeping requirements and attach an annual statement to their tax returns. Meeting the safe harbor will let you treat the rental activity as a trade or business for QBI purposes.

I am self-employed and pay state and local property taxes in my business. Can I deduct them on Schedule C?

Yes. Schedule A itemized deductions for state and local taxes are capped at $10,000. However, property and sales taxes are fully deductible for individuals engaged in a business or a for-profit activity. Self-employeds can write off these taxes in full on Schedule C. Farmers can take them on Schedule F. And landlords can deduct on Schedule E property taxes paid on realty.

Tax Debts

Making an offer with IRS to settle your tax debt at less than what you owe?

There are two payment options: Lump-sum cash, which requires 20% of the total offer amount to be paid up-front, with the remaining balance to be paid in five or fewer installments within five months of the date your offer is accepted. Periodic payment requires that your first payment be made with the offer, with the remainder remitted in monthly installments over a period of six to 24 months. Be sure you’ve filed all required tax returns before submitting your offer. Otherwise, the Revenue Service will return your application and the filing fee and apply any initial payment included with your submission to your tax debt. Individuals or businesses in bankruptcy can’t apply for a compromise offer. Check out IRS’s newly updated Form 656-B booklet for rules and forms. Also, IRS has an online tool for individuals to check preliminary eligibility for filing a compromise offer. Go to irs.treasury.gov/oic_pre_qualifier for details.

Beware of “offer in compromise mills,”

IRS’s term for firms and promoters that hawk tax-debt-relief plans with promises to settle your debts at steep discounts, even pennies on the dollar. Many advertise on radio and TV, charge big upfront fees and churn out applications for relief that some of their clients can’t even qualify for.

IRS gets its wrist slapped for being too inflexible about collecting a tax bill

A couple who racked up $33,000 in back taxes offered to settle their debt for $1,629. They claimed they couldn’t pay more money because they were in their mid-sixties, the husband was retired, they had lots of debt, and their finances were impacted by the COVID pandemic. But the IRS settlement officer and appeals officer wouldn’t bite, finding that the couple had enough income and home equity to pay the bill in full. The Tax Court ruled that IRS abused its discretion in outright rejecting the offer and sent the case back to the agency’s appeals office (Whittaker, TC Memo. 2023-59).

1099-K New Reporting Rules

New 1099-K reporting rules begin this year…

Unless Congress acts to thwart the changes. In 2021, Congress enacted more information reporting. Third-party settlement networks, such as PayPal, Square, Venmo and eBay, must send Form 1099-K to payees who are paid over $600 a year for goods or services. The rules first kick in for 2023 1099-Ks sent out in 2024. They were supposed to take effect for filings this year, but IRS delayed the changes.

More people than ever will receive 1099-Ks because the new rules greatly lower the threshold for 1099-K filings. Under the old rules, these 1099-Ks were sent only to payees with over 200 transactions, who were paid over $20,000.

Taxpayers will have to figure out how to report the amounts on their 1040s

Say you sell a washing machine on eBay in 2023 for $800, and you paid $1500 for it. eBay should send you a 1099-K in late Jan. 2024, reporting the $800 sales price. Even though you don’t have income, and you can’t deduct this personal loss, you’ll still have to report the transaction on your 2023 1040 that you file next year. You’d report the $800 as other income on Schedule 1, line 8z, and as other adjustments on Schedule 1, line 24z, so the two amounts offset. Say StubHub sends you a 1099-K for selling $1,600 tickets that you paid $400 for. You’d report $1,200 of capital gain on Schedule D. People in business would generally report their income on Schedule C.

The 1099-K reports only the gross amount of payments from the entity

It doesn’t account for offsets, such as fees, refunds or chargebacks. If you pay fees to an online marketing place, you would increase your cost basis in the item sold by the fee amount when figuring any gain or loss. So be sure to keep good records. Payments from families and friends should not be reported on 1099-Ks. The new reporting rules apply only to payments for sales of goods and services. So, for example, if you pay for plane tickets for two of your friends, and they use Venmo to reimburse you $900 for their share of the cost, Venmo shouldn’t send you a 1099-K.

The 1099-K changes don’t alter the taxation of the underlying transactions

Even if you don’t receive a 1099-K for moneys received through a website or an app for selling goods or services, you’re still taxed on the gain or income. However, IRS knows many people won’t report the amounts, absent receiving a 1099 form. The income misreporting rate for taxpayers who don’t get a W-2 or a 1099 is 55%.

Relaxing the 1099-K reporting rules has bipartisan support in Congress

Although it’s unlikely that the new changes will be repealed in their entirety, as many Republicans desire, the odds are better for some sort of compromise. For instance, increasing the annual monetary threshold to $5,000 or $10,000 and/or perhaps delaying the start date of the changes for another year or two. Lawmakers and taxpayer advocacy groups worry how IRS will handle the influx of 1099-K forms and the abundance of phone questions if the law isn’t tempered.

Taxes and Capital Gains

Let’s discuss the taxation of capital gains

In light of the president’s proposal to impose more taxes on the rich, including higher tax rates on their gains and subjecting some unrealized gains to income tax.

Long-term capital gains get favorable rates

Gains from the sale or exchange of capital assets held over a year are generally taxed at 0%, 15% or 20%. There’s also the 3.8% surtax on net investment income of single filers with modified adjusted gross income of more than $200,000…$250,000 for joint filers.

The rates are based on set income thresholds, which are adjusted annually for inflation

For 2023, the 0% rate applies to individuals with taxable income up to $44,625 on single returns, $59,750 for household heads, and $89,250 on joint returns. The 20% rate starts at $492,301 for single filers, $523,051 for heads of household and $553,851 for married couples filing jointly. The 15% rate is for filers with taxable incomes between the 0% and 20% break points.

The rules are set to change after 2025

When most of the provisions affecting individuals under former President Trump’s Tax Cuts and Jobs Act expire. Unless lawmakers act, starting in 2026, the rules will revert to those in place in 2017. Under pre-2018 law, long-term capital gains were taxed at 0%, 15% and 20% rates, with the rates based on your income tax bracket. The 0% rate applied to taxpayers in the 10% or 15% tax bracket, the 20% rate hit filers in the 39.6% top bracket, and the 15% rate was for people who landed in the other brackets. The 3.8% tax on NII of upper-incomers also applied under the same rules that are now in effect. GOPers want to extend the tax law changes, while Dems want higher rates on the rich.

If President Biden got his way, the wealthy would pay more capital gains tax

• First, he would tax long-term capital gains at ordinary rates up to 37% for taxpayers with taxable incomes over $1 million…$500,000 for separate filers.

• Second, he would hike the 3.8% surtax on net investment income to 5% for taxpayers with more than $400,000 of income. More specifically, the tax would rise by 1.2 percentage points on the lesser of NII or modified AGI over $400,000.

• Third, he would impose a 25% minimum income tax on the ultrarich… people with at least $100 million in wealth. The tax would apply to taxable income plus unrealized capital gains, meaning the gain on appreciated assets not yet sold or disposed of. The proposal defines wealth as the value of assets minus liabilities.

• Fourth, he would tax unrealized gains at the time of gift or death. This idea isn’t new. Biden pushed hard for it in 2021 in his failed Build Back Better plan. He’d essentially treat death or a gift as a realization event for income tax purposes… a deemed taxable sale of assets at fair market value…with a lifetime gain exclusion of $5 million. There are lots of exceptions in Biden’s proposal. Household furnishings and personal effects are exempt. Ditto for transfers to spouses or to charity. Family-owned businesses and farms would escape tax, provided heirs run them. And the gain exclusion of $250,000/$500,000 on home sales would continue to apply.

Crypto and Taxes

Let’s talk Crypto and Taxes

With the rise in popularity of cryptocurrency…

We decided to delve into the taxation of crypto. Virtual currency is treated as property for tax purposes. This includes bitcoin, ether and other forms of similar digital representations of value that act as a substitute for real currency.

Let’s first look at sales or exchanges.

People who sell crypto that they hold for investment will recognize capital gain or loss. That gain or loss is long-term for crypto owned more than 12 months before the sale. Otherwise, it is treated as short-term.

People who sell crypto at a loss needn’t worry about the wash-sale rule.

This rule bars a capital loss write-off if you buy substantially identical securities up to 30 days before or after a sale, with the disallowed loss added to the tax basis of the replacement securities. But the definition of securities for this purpose doesn’t include crypto. So, for example, if you own crypto that sharply falls in value, you can sell it, recognize a capital loss and buy the same digital currency the next day.

If your crypto becomes worthless, you can’t take a worthless securities write-off on your return.

That’s because crypto isn’t a security, so the capital loss write-off for worthless securities isn’t available to individuals who invest in cryptocurrency. IRS recently released a memo on this topic. If you receive crypto for services, you will have ordinary income that you report as wages if employed, or as Schedule C income if you are in business for yourself. The amount of income you report is the crypto’s value in U.S. dollars on the day you receive it, regardless of whether you get a W-2 or 1099 from the payer.

A hard fork of crypto may be taxable.

A fork occurs when there’s a change to the blockchain’s underlying protocol. In a hard fork, those software changes result in a complete blockchain overhaul that causes a split in the cryptocurrency, leading to new crypto. If that new crypto following the hard fork is airdropped or otherwise transferred to you, meaning you receive new crypto units, then there is a taxable event resulting in ordinary income. If, on the other hand, you don’t receive new crypto in an airdrop, etc., then you won’t have income. A soft fork is not a taxable event because it doesn’t result in new crypto.

One open issue is the taxation of staking awards, specifically the timing of when the rewards should be taxed…when they’re created or when they are sold.

This was at the heart of a 2022 court case, in which a couple filed a refund claim alleging that token awards they received through staking are created property that is not taxed on receipt, but instead on disposition. The court tossed the case on procedural grounds without even addressing the substantive tax matter. A 2022 Senate bill would clarify that crypto rewards received through staking are taxed when sold. But that proposal, even if reintroduced in the current Congress, isn’t likely to gain much traction. So it’s up to IRS to issue guidance in the area.

IRS Update

IRS vows better service this filing season.

This isn’t that difficult a promise to make, given that the 2021 and 2022 tax filing seasons were absolute nightmares, with refunds delayed for months on end, dismal telephone service, and lengthy delays on processing of paper returns and returns claiming COVID-related tax breaks.

The agency’s recent hiring spree will help.

It hired 5,000 customer service operators to answer phones. Last year, only 13% of callers reached a live person. This very low level of service was due in part to a near-record number of callers asking about COVID credits, other COVID-related tax law changes, delayed refunds and suspected identity theft.

Treasury Secretary Janet Yellen vowed to increase IRS’s phone service to 85% and cut in half a caller’s wait time on hold.

Is this too optimistic? It’s too soon to tell. We are, however, hearing anecdotal evidence from tax pros about shorter wait times on the agency’s Practitioner Priority Service phone line. More operators to answer phones is one reason. Another is due to IRS’s efforts to weed out robodialers and autodialers on the PPS line. A speech recognition system now requires callers to repeat phrases before being transferred to an operator. Also enabling a smoother filing season: No new, late-year tax changes from Congress. IRS didn’t have to quickly revise tax forms, retrain employees on new tax law or rejigger its computer systems to account for retroactive changes.

Another thing that will make this filing season a bit easier than first thought: IRS’s decision to delay a change to the 1099-K reporting rules.

In 2021, Congress enacted a law requiring third-party settlement networks, such as PayPal, Amazon and Square, to send Form 1099-Ks to payees who are paid over $600 a year for goods or services. This reporting threshold, which is much lower than in prior years, was slated to kick in for 1099-Ks for 2022, which meant that more people than ever would have gotten 1099-K forms that they’d use when filling out their 2022 1040s. This would have included, for example, someone who sold tickets to a sporting event or concert on StubHub for far more than cost, or people selling valuable toys on eBay.

The new rules will now kick in for 2023 1099-K forms sent out in 2024.

1099-Ks are still required to be sent this year to payees with over 200 transactions or who were paid more than $20,000 in 2022. Note that even if you don’t get a 1099-K for a sale of goods or services through a website or app, you’re still taxed on any gain.

Many people are facing a somber shock when filing 2022 returns this year:

Lower refunds or maybe even a tax bill, when compared with the recent past. The main culprit is the end of COVID tax breaks, which expired after 2021. Among the lapsed COVID-related breaks: The higher and fully refundable child credit. The higher earned income credit for workers without children. Stimulus payments. The $300 or $600 charitable contribution deduction for people who don’t itemize on Schedule A. Plus the larger child and dependent care credit for working parents.

Child Tax Credit Changes

The IRS's tax filing season is upon us. The agency started accepting individual tax returns for 2022 on January 23. And the filing deadline for most individual returns is April 18. As you get ready to prepare your return, or alternatively, gather your records to provide to us or other paid preparer, you'll want to keep in mind the tax changes that applied for 2022…and how they should be reported on your return. One of the most significant changes for 2022 was to the child tax credit, which is claimed by tens of millions of parents every year.

The bigger and better child tax credit that applied for the 2021 tax year is gone. The enhancements that Congress made to the child credit in the 2021 stimulus law were temporary, applying only for 2021. They all expired on December 31, 2021, including the monthly payments, higher credit amount, letting 17-year-olds qualify and full refundability. Democratic lawmakers had hoped to get these expansions extended through 2022 and beyond, touting the impact that a higher and fully refundable child tax credit would have on reducing child poverty in the United States. But they were unable to make a deal with congressional Republicans before Congress adjourned at the end of 2022. So, the rules for taking the child credit revert back to those that were in place for 2020.

This is all enough to make your head spin. But don't worry – we have answers to a lot of the questions parents are asking about the 2022 child credit, including how to report the credit on their 2022 return. Here are some of the questions we received and their answers.

Question: What changes were made to the child tax credit for 2021?

Answer: The American Rescue Plan Act of 2021 temporarily expanded the child tax credit for 2021 only. First, the law allowed 17-year-old children to qualify for the credit. Second, it increased the credit to $3,000 per child ($3,600 per child under age 6) for many families. Third, it made the credit fully refundable for families who lived in the U.S. for more than six months during 2021 and removed the $2,500 earnings floor. Fourth, it required half of the credit to be paid in advance by having the IRS send monthly payments to families from July 2021 to December 2021.

Question: What changes were made to the child tax credit for 2022?

Answer: All of the 2021 expansions are gone, with the rules reverting back to those that were in place for filing 2020 returns. For 2022, the child tax credit is $2,000 per kid under the age of 17 claimed as a dependent on your return. The child has to be related to you and generally live with you for at least six months during the year. He or she also must be a citizen, national or resident alien of the United States and have a Social Security number. You have to put the child's name, date of birth and SSN on your tax return, too.

The credit begins to phase out if your 2022 modified adjusted gross income (AGI) exceeds $400,000 on a joint return or $200,000 on a single or head-of-household return. Once you reach the $400,000 or $200,000 modified AGI threshold, the credit amount is reduced by $50 for each $1,000 (or fraction thereof) of AGI over the applicable threshold amount. Modified AGI is the AGI shown on Line 11 of your 2022 Form 1040, plus the foreign earned income exclusion, foreign housing exclusion, and amounts excluded from gross income because they were received from sources in Puerto Rico or American Samoa.

The credit is no longer fully refundable, either. Instead, only up to $1,500 of the child credit is refundable for some lower-income individuals with children. And you must have at least $2,500 of earned income to even qualify for this partial refund.

Question: Can all families claim the $2,000 per-child tax credit on 2022 returns?

Answer: No, not all families with children get the $2,000 per-child tax credit for 2022, but most do. The tax break begins to phase out at modified AGIs of $400,000 on joint returns and $200,000 on single or head-of-household returns. The amount of the credit is reduced by $50 for each $1,000 (or fraction thereof) of modified AGI over the applicable threshold amount.

For example, if a married couple has one child who is 10 years old, files a joint return, and has a modified AGI of $425,000 for 2022, they don't get the full $2,000 child credit. Instead, since their modified AGI is $25,000 above the phase-out threshold for joint filers ($400,000), their credit is reduced by $1,250 ($50 x 25) – resulting in a final 2022 child credit of $750.

Question: What does it mean that the child tax credit is no longer fully refundable for 2022?

Answer: For the 2021 tax year, the expanded child tax credit was fully refundable for families who live in the United States for more than one half of the year. This meant that people who qualified for the child tax credit received the full credit as a refund, even if they had no tax liability. This has changed. For 2022, certain low-income people can only get up to $1,500 per child as a refund, instead of the full $2,000 child credit, if their child credit exceeds the taxes they otherwise owe. Also, for 2022, partial refundability only applies to families with at least $2,500 of earned income, meaning parents have to be employed at least part-time or otherwise have earnings.

Please email us your question below.

Happy Holidays

This year has been filled with so many blessings. We wrap up 2022 with so much gratitude and appreciation for our clients. May this season bring you happiness and joy. We are excited about the future and look forward to serving you in the coming year.

Happy Holidays,

Brian, Genie, Ericka, Luz, Danielle, Baha, Linda, Tatiana, Penny, Diana, Fahmo, Jyotika, and Karen

Electric Vehicle Purchase in 2023

Thinking of buying an electric vehicle in 2023?

Take note of the changes to the EV tax credit that are included in the Inflation Reduction Act, which was signed by President Biden in Aug. Most changes apply for 2023 and later. The revamped credit is slated to go through 2032.

The maximum tax break remains $7,500. But the factors for figuring the credit are new.

• To be eligible for the full $7,500 credit, EVs put in use after 2022 must meet a critical minerals requirement and a battery component rule. If only one factor is met, then the credit is capped at $3,750. Under the critical mineral rule, a percentage of the battery’s minerals must be extracted or processed in the U.S. or in a country with a free-trade pact with the U.S. The battery component rule requires a percentage of the battery’s components to be manufactured or assembled in North America.

• The vehicle’s battery must have a capacity of at least seven kilowatt-hours. And final assembly of the vehicle must take place in North America. This rule applies for EVs placed in service after Aug. 16, 2022. The Dept. of Energy has a list of EVs that meet this requirement on its website. And there’s an online tool where you can input a vehicle identification number to see if the EV is credit-eligible.

• The manufacturer sales threshold limit is going away. Under pre-2023 rules, some popular car brands don’t qualify for the credit because it starts to phase out for vehicles manufactured by a car company that has sold over 200,000 EVs in the U.S. These include Teslas and vehicle models from General Motors and Toyota. This limitation has been removed for electric vehicles purchased in 2023 and later.

• But two new rules could prevent taxpayers from claiming the tax break: Some high-cost EVs don’t qualify. The manufacturer’s suggested retail price can’t exceed $55,000 for sedans and $80,000 for vans, SUVs and pickup trucks.

• There’s an income limit. Modified adjusted gross income can’t exceed $300,000 for joint return filers, $225,000 for heads of household and $150,000 for single filers.

• Used EVs qualify for a smaller credit, equal to the lesser of $4,000 or 30% of sales price, provided the EV is at least two years old and purchased from a dealer. There is also an income limitation. The buyer’s modified AGI can’t exceed $150,000 for joint filers, $112,500 for heads of household and $75,000 for single filers.

• One big change begins in 2024: The option for the buyer to monetize the credit by transferring it to the dealer at the time of purchase, thus lowering the amount that the buyer pays for the car. This allows buyers to take immediate advantage of the tax credit instead of waiting for the next year, when they file their tax returns.

Many changes from the newly named clean vehicle credit are complex… And are in need of IRS guidance. The Service is asking stakeholders to provide recommendations on what they want to see addressed in future rules.

Tax Questions

Summer’s almost over. School is beginning. Vacations are winding down. Pools are closing. And we’re getting lots of questions on taxes. 

Is forgiven student debt taxable? No… 

At least through 2025. As a general rule, debt cancellation income is taxable. But a 2021 law provides that most student loans forgiven from 2021 through 2025 are tax-free. President Biden’s plan to forgive up to $10,000 in student loans ($20,000 for Pell Grant recipients) for single filers with incomes below $125,000…$250,000 for others…is tax-free. Watch out for state taxes. Though many states follow federal law, some don’t. 

What is the income threshold based on for Biden’s student debt forgiveness? 

Likely adjusted gross income from your 2020 or 2021 federal tax return. For borrowers claimed as a dependent on their parents’ federal income tax return, we expect the income threshold will be based on the AGI shown on the parents’ 1040. 

Will Congress revive the charitable write-off for non-itemizers? Perhaps… 

But it’s too soon to know. On 2020 and 2021 returns, people who gave cash to charity and didn’t file Schedule A could deduct up to $300 of their donations ($600 for joint filers for 2021) on page 1 of the 1040. This easing was temporary, aimed to stimulate COVID-related donations, and it expired at the end of last year. If lawmakers do address this, it will be at year-end, with other extenders. 

Will Congress retroactively delay a narrowing of the R&D tax break? 

Odds are good, but timing is uncertain. Before 2022, companies could choose to fully expense their research & development costs in the year they incurred them. The 2017 tax law changed this rule for amounts paid or incurred in taxable years beginning after Dec. 31, 2021. Starting this year, firms must amortize their R&D costs over five years…or over 15 years for research that is conducted outside the U.S. Businesses lobbied lawmakers hard to include relief in the Inflation Reduction Act, but to no avail. Firms now hope Congress will grant them a year-end holiday wish. 

Note this rule for employers who claimed the employee retention tax credit…

the refundable payroll tax break that ended after Sept. 30, 2021, and was available to businesses financially hurt by the pandemic that kept paying wages to employees: The credit reduces the wages-paid deduction on the firm’s income tax return. What happens if a firm receives ERTC funds after filing its income tax return? This is a very common situation, given the fact that IRS had a whole bunch of Forms 941-X claiming payroll tax refunds for ERTCs from prior calendar quarters. IRS’s processing delays of these forms create a quandary for employers who paid wages in 2021, filed the 941-X in 2021 and got ERTC refunds this year. These businesses must reduce their deduction for wages paid on their 2021 income tax returns by the ERTC credit amount. If they have already filed for 2021, they’ll have to amend.

Tax Changes

Despite all of the political headwinds… 

Democrats passed a spending and tax plan. The Inflation Reduction Act is a slim version of what President Biden and Democratic lawmakers wanted, but in their eyes, it was this or nothing. Let’s take a deep dive into the tax changes. 

Start with the health premium tax credit…

The Obamacare subsidy available to eligible individuals who purchase health coverage through an exchange. Most people choose to have the credit paid in advance to the insurance firm to lower their monthly premiums. Prior to 2021, the credit was available to people with household incomes that range from 100% to 400% of the poverty level, who met other rules. Last year’s stimulus law expanded the credit for 2021 and 2022 by letting some people with incomes over 400% of the poverty line get credits and upping the credit amount.  The enhancements to the health premium credit now go through 2025. Democrats wanted the expansions made permanent, but that was too costly. 

The break for adding solar panels and the like to your home is extended through 2034.

Individuals get a tax credit for installing an alternative energy system that relies on a renewable energy source, such as solar, wind, geothermal or fuel cell technology. The cost of wind turbines, solar panels, solar electric equipment, and solar-power water heaters is eligible for the credit, whether they are installed in a primary residence or vacation home. Starting in 2023, the credit is expanded to cover battery storage technology that is installed in your residence. The credit equals 30% of the cost of the equipment and installation for 2022 through 2032. It falls to 26% in 2033, 22% in 2034 and ends after 2034. 

The credit for adding energy-efficient improvements to your main home is back.

For 2022, the credit applies to 10% of the cost of certain types of insulation, plus external windows, doors and skylights. The credit also includes 100% of the cost of electric heat pumps and water heaters, some central air-conditioning systems and similar energy-saving investments. There is a lifetime credit limitation of $500. And the credit is capped for many items: No more than $150 for hot water boilers and furnaces, $200 for a window and $50 for a furnace circulating fan, for example. This credit originally expired at the end of last year, but Congress has now revived it. 

And the credit is bigger and better for 2023 through 2032.

First, the credit percentage increases to 30% of costs. Second, the $500 lifetime limit is replaced with a $1,200 annual limit. This annual limit is lowered to $600 in the aggregate for exterior windows and skylights and $500 for exterior doors, and for other items. The annual limit increases to $2,000 for a biomass stove or hot water boiler, or an electric or natural gas heat pump put in the home. And third, you can take a credit for up to $150 of the cost of a home energy audit. 

Buyers of electric vehicles get a revamped tax credit, starting in 2023. 

Presently, for new electric vehicles that are bought and placed into service in 2022, the federal income tax credit taken on the 1040 ranges from $2,500 to $7,500.  Some car brands don’t qualify for the credit because it starts to phase out for vehicles  manufactured by a car company that has sold over 200,000 plug-ins in the U.S. As of Aug. 17, final assembly of the vehicle must take place in North America. 

Many changes to the newly named clean vehicle credit take effect next year. 

The maximum break is still $7,500, but the components that make up the credit are different. The manufacturer’s suggested retail price can’t exceed $55,000 for sedans or $80,000 for vans, SUVs and pickup trucks. Fuel cell vehicles qualify. The credit is not available to taxpayers with modified adjusted gross incomes over $300,000 for joint filers, $225,000 for household heads, and $150,000 for others. The 200,000 plug-in-sales threshold limitation by manufacturers is removed. And buyers of certain used electric vehicles can get a credit equal to the lesser of $4,000 or 30% of the car’s sales price, provided the buyer’s modified AGI isn’t over $150,000 for joint filers, $112,500 for heads of household or $75,000 for all other filers. 

One big change begins in 2024:

The option for the buyer to monetize the credit by transferring it to the dealer at the time of purchase, thus lowering the amount that the buyer pays for the car. This allows buyers to take immediate advantage of the tax credit instead of waiting for the next year, when they file their tax returns. The clean vehicle credit is slated to last 10 more years and end after 2032. 

Natural Disasters

Summer is prime time for a natural disaster…

hurricane, tornado, widespread flooding, wildfire, etc. But know the tax laws and IRS can be of help if your home, business or belongings suffer damage from a federally declared disaster this year. 

You can deduct your losses to the extent…

you are not reimbursed by insurance. Your loss is equal to the smaller of the damaged property’s adjusted basis or decline in value, less any insurance proceeds that you receive or expect to receive in the future. Use Form 4684 to calculate and report disaster losses, and enter the FEMA disaster declaration number, found at www.fema.gov/disaster. 

Only itemizers can claim a deduction for damage to nonbusiness property. 

And two offsets apply: The loss that you calculate is first reduced by $100. The balance is deductible only to the extent it exceeds 10% of adjusted gross income. (More-generous rules apply for taking losses from disasters in 2018, 2019 and 2020.)  The rules for deducting casualty losses on business assets are more liberal. A business casualty loss needn’t be attributable to a federally declared disaster. The $100 and 10%-of-AGI offsets don’t apply. And non itemizers can write off losses. 

Computing the amount of loss to your home or belongings can be difficult. 

Luckily, IRS has multiple safe harbors to help you with this calculation. For example, one method lets a homeowner with casualty losses of $20,000 or less take the lesser of two repair estimates to determine the decrease in the home’s value. Another has a table to compute the replacement cost of personal belongings destroyed in the federally declared disaster. 

2022 disaster losses can be claimed on either your 2022 or 2021 tax return.

That’s because individuals can opt to take the loss on the return for the disaster year or the return for the year preceding the disaster. If you’ve already filed your 2021 1040, you can amend it to take the write-off by filing form 1040-X. Note that for this purpose, the due date for filing the amended return is six months after the normal filing date for 2022 returns. For 2022 disaster losses, this translates to Oct. 16, 2023. 

 Remember, IRS can be your friend if you are affected by a disaster. 

It has a designated number for disaster-related questions: 866-562-5227.  You can use the free Get Transcript online tool on IRS’s website to view and immediately print a transcript, which is a summary of key data on a tax return. Alternatively, call 800-908-9946 or mail Form 4506-T to order a transcript. People seeking copies of actual returns must request them by mail, using Form 4506. There is normally a $43 fee per return, and it can take the Service up to 75 days for processing. However, if you live in a federally declared disaster area, you can get the fee waived and the agency will expedite getting the return to you. And IRS gives disaster victims more time to file returns and pay taxes.

Inflation and Taxes

Rising inflation is mixed news for taxpayers. 

Many tax breaks will be higher in 2023. Others stay stagnant, as they have for years. Here’s how inflation can affect your tax bill. 

We’ll first discuss the good news for taxpayers. 

Income tax brackets will be wider in 2023 because they are annually indexed to inflation. Other tax breaks will also soar. Among them: Standard deductions. IRA payin caps. Income limits on EE and I savings bonds used for education. Lifetime estate-and-gift-tax exemption. Income levels for figuring whether long-term capital gains are taxed at 0%, 15% or 20%. And more. 

But taxpayers will really start to see the effects of a stealth 2017 tax hike… 

Using the Chained CPI-U to adjust federal tax items for inflation. Before 2018, annual inflation adjustments for the tax brackets and other write-offs were based on the Consumer Price Index for All Urban Consumers (CPI-U). Economists argued that the CPI-U tends to overstate actual inflation because the formula doesn’t account for how people change their spending patterns as prices rise. The economists claimed that the Chained CPI-U is a better inflation measure. As a result, the 2017 tax law permanently changed the inflation indexing from the CPI-U to the Chained CPI-U. 

Using the Chained CPI-U results in lower annual inflation adjustments… And, thus, smaller annual increases to tax breaks than the regular CPI-U. We forecast that the Chained CPI-U will rise about 8.2% for the 12-month period from Oct. 1, 2021, through Sept. 30, 2022, the fiscal year for indexing 2023 tax items. Compare this with our forecasted increase of 9% or so for the regular CPI-U for the same 12-month period. This makes a tax difference, with lasting effects. 

 Many tax breaks and income levels aren’t indexed to inflation each year. 

Let’s look at two of them. First, the taxation of Social Security benefits. For decades, the income thresholds at which Social Security benefits start getting taxed have stayed static at $25,000 for individuals and $32,000 for joint filers. These amounts don’t go up with inflation, despite the fact that Social Security benefits have gone up and people are generally earning more money than they did in the past. As a result, more cumulative Social Security benefits will be taxed this year than in 2021. A House bill would hike the $25,000 and $32,000 thresholds to $35,000 and $50,000. However, it would also have the 6.2% Social Security tax for employees and employers kick in again for workers with wages over $400,000, so it’s a no-go with Republicans. 

 Second, the home-sale exclusion. Since 1997, individuals who own and use a home as their main residence for at least two of the five years before the sale can exclude from taxable income up to $250,000 of the gain ($500,000 for joint filers). These figures might seem high, but they’ve never been adjusted for the appreciation in residential real estate during the 25 years this popular tax break has been in effect.

Business Taxes

Is the low corporate tax rate triggering more accumulated-earnings-tax audits? 

It appears to be the case, tax pros say, noticing an uptick in these exams. The 2017 tax reform law lowered the C corporation tax rate to 21%. This low rate, when compared with the 37% top individual rate, makes C corp status beneficial, especially for firms that retain earnings rather than pay dividends to their owners. 

The accumulated earnings tax is 20% of earnings accumulated in excess of the larger of $250,000 or accumulations needed for reasonable business needs, such as growth of the firm, debt retirement, shoring up the firm’s pension plan or covering the loss of a principal customer. The minimum accumulation for service corporations is $150,000. Firms with excess accumulated earnings and a history of not paying dividends, or paying small dividends, could face heat. 

Be sure to document the business purpose for accumulating earnings. Include a description of plans and decision-making processes in corporate minutes and budget forecasting documents, to the extent that significant funds are set aside. 

A charity’s officer who gives online seminars isn’t an independent contractor. He or she fully controls the courses and is the only teacher. This is the group’s sole activity. The organization issued the founder a 1099 and treated him as a contractor. He or she is a statutory employee because he is an officer and his services were the sole source of the group’s income (The Redi Foundation, TC Memo. 2022-34). 

Expenses incurred before beginning business aren’t deductible right away, the Tax Court says in the case of a corporate consultant who was a full-time employee and was also in the early stages of opening her own company. She networked and participated in speaking engagements to build up clientele and her brand, she worked with a firm to set up her website, and she reported $400 in gross receipts. But that’s not enough. Her initial research and solicitation of potential customers don’t rise to the level of carrying on a business (Harrison, TC Summ. Op. 2022-6). 

Post Tax Day Questions

We’re getting lots of tax questions lately, now that the April 18 tax return filing date has passed.  We’ll relay some queries…and our answers. 

Q: I’m planning a reverse mortgage on my home. Will I have to pay tax on the money I get?

A: No. The payments you get from a reverse mortgage are treated as nontaxable loan proceeds, not income. Also, you can’t deduct the interest you eventually pay because you’re not using the proceeds to buy, build or substantially improve the home securing the loan. 

Q: I tried to e-file my 1040, and IRS rejected it, saying that I have already filed.  What should I do?

A: You may very well be a victim of tax identity theft. Every year crooks using stolen Social Security numbers claim billions of dollars in fraudulent refunds. And that’s not counting the phony refunds that IRS blocks. You have two options to report the problem to the Revenue Service. Complete the online fillable IRS Form 14039, Identity Theft Affidavit, print it out and attach it to your paper return that you mail to the Service. Or submit the 14039 online at www.identitytheft.gov, a website maintained by the Federal Trade Commission, and separately mail your return to IRS. 

Q: I’ve had a Roth IRA since 2008. I just opened and funded a second Roth IRA. Do I have to wait five years to take a tax-free payout from the second Roth? 

A: No. The five-year rule determines whether payouts of earnings are tax-free. Generally speaking, distributions of earnings from Roth IRAs are tax-free if the owner is at least age 59½ at the time of the withdrawal and at least five tax years have passed since the owner first made a contribution into any Roth IRA. The five-year clock starts the first time money is deposited into any Roth IRA, through either a contribution or a conversion from a traditional IRA. The clock does not restart for latter Roth payins or for new Roth IRA accounts that are opened. Because you funded your first Roth in 2008, you needn’t wait five years to take money from the second Roth for the earnings to be tax-free, provided you are at least 59½. Note that it’s only the Roth earnings that the five-year rule applies to. Your Roth contributions can be withdrawn tax-free at any time. But keep in mind that you would owe the 10% early distribution penalty if you’re younger than 59½. 

Q: I own a business and am considering outsourcing the payroll tax duties. What steps can I take to protect myself from payroll agent misconduct? 

A: Most important, choose a trusted payroll service. The Revenue Service has a helpful chart that describes four types of third-party payroll firms…payroll service provider, reporting agent, certified professional employer organization and Section 3504 agent. Here are a couple of more things you can do. Make sure all correspondence from IRS about payroll taxes goes to your address, not to that of the payroll agent. Also, enroll in the Electronic Federal Tax Payment System to monitor deposits.

Tax Day

Today is April 18 Tax Day, which means it’s the deadline to file and pay taxes for most Americans. Here are some tips to get you to the finish line. If you need to file and extension the IRS has a quick and easy way to file on line. Filing electrically will get you your refund faster. Some post offices are open late for the last minute flier. Check your local post office for business hours on Tax Day.

Happy Tax Day from BJ Kane & Co.