HORN TOOTIN’

THE WANDERING TAX PRO made the FIRE FINANCE Top 100 Personal Finance Blogs for May 2008 which is based on April 2008 data.

I was #42 in the SiteMeter rankings and #64 in the Quantcast rankings. The only other tax blog on the list was Kay Bell’s DON’T MESS WITH TAXES at #14 in SiteMeter and #24 in Quantcast.

TTFN

FYI – due to my end of week trip I will be posting WHAT’S THE BUZZ tomorrow.

HEY DUDE, WHERE'S MY REBATE?

I have heard from two separate 1040 clients whose Social Security numbers end in “00 thru “09”. According to the IRS Rebate Payment Schedule their individual “stimulus” rebate checks should have been mailed out “no later than” May 16th – which means they should have received them by now. They have not.

Neither client requested direct deposit on their Form 1040. One is married and his wife is a US citizen with a bona fide Social Security number (actually we all went to high school together a long time ago).

I went to the IRS website to check on the status of the two rebates and in both cases the response was:

“We are sorry. Specific information about your Stimulus Payment is not available.”

These two taxpayers have something in common. Each had a balance due on their 2007 Form 1040 and, because they both owed “Sam”, each mailed their 1040 either on or just days before the April 15th filing deadline.

The only thing I can think of is that the IRS is overwhelmed by the mechanics of processing this poorly thought out election year gimmick and, similar to me during the last weeks of the tax season, their “eyes were bigger than their stomach” so-to-speak and they are unable to meet their hoped for deadline.

Have any of my colleagues out there come across a similar situation?

TTFN

FYI – I am off to Newburgh New York for a long-overdue and much-needed rest. “Talk” to you when I get back.

WHY DOES MY BROTHER-IN-LAW ALWAYS GET A BIGGER REFUND THAN ME?

Over the years I have gotten lots of different reactions from clients when I tell them the “bottom line” on their federal and state tax returns.

Some clients breathe a sigh of relief – “At least I don’t have to pay.”

Some are not surprised by the result – “I figured I would owe this year.”

Some are actually giddy when I tell them the amount of their refund.

I remember the response from one of my mentor’s clients many, many years ago – “Gott in Himmel!”

And there are always a few who are never satisfied and complain, “Is that all I am getting back!?!”

This reaction is often followed by, “How come [my brother, my neighbor, or my co-worker] always gets back more than I do?”

The client is convinced that you have done something wrong because his brother, neighbor or co-worker makes exactly the same as he does and is in exactly the same situation as he is and yet gets a much larger refund.

Well for one thing, how do you know your brother, neighbor or co-worker always gets back a lot more? Have you actually seen his tax return each year? And how do you know just what he makes or what situation he is really in?

Maybe this person is just practicing “one-upmanship” and tells you he gets back a lot more just to bust a certain part of your anatomy.

Even if this person to whom the client is referring has a base salary similar to that of the client and lives in a similar home in a similar community there are a variety of reasons why the refund is different.

· Your refund is a factor of the tax withheld. Perhaps this person has much more tax withheld.

· This person’s spouse may not work, while the client’s does. Or the client and/or his spouse may have a second job.

· This person may pay lots more in real estate tax (the amount of tax paid on a similar house can vary substantially from town to town) or have a much larger mortgage and/or more home equity borrowing. He may have a vacation home which generates additional expenses or rental property that produces a tax loss.

· This person may have a lot of out of pocket expenses connected with his job and be able to claim them as a miscellaneous deduction – or he may have excessive medical or dental expenses well in excess of the AMT exclusion amount.

· Perhaps this person has kids in college and can claim an education tax credit or tuition and fee deduction. Or his kids are under age 17 and eligible for a Child Tax Credit.

· This person or his spouse may have a sideline start-up business that generates losses.

· Or maybe this person lies through his teeth on his tax return while the client’s return is prepared honestly and correctly!

My response to this question from a client is – “Show me his tax return and I will tell you why.”

TTFN

TAX BENEFITS FOR COLLEGE TUITION – MORE STUFF

It doesn’t matter who actually pays the qualified tuition and fees to the school. The education tax credit or Deduction for Tuition and Fees is claimed by either the student himself, who is claiming himself/herself on his/her own tax return, or to the person(s) who is claiming the student as a dependent. In the case of education for the taxpayer or a spouse, it is obvious that the credit or deduction is claimed on the single or joint return (but not on a separate return). If the student is a dependent child, the parents who claim the child as a dependent get the tax benefit.

What if grandparents pay the expenses directly to the college or university for a grandchild who is claimed as a deduction on his/her parents’ joint tax return? The parents get the credit or deduction and not the grandparents.

What if the dependent child, or his/her parents, takes out a student loan to pay for the tuition and fees? If the parents claim the child as a dependent on their return they get the credit or deduction. It makes absolutely no difference if the proceeds of the loan are paid directly to the school or first to the student, or who will ultimately pay off the principal on the loan.

A direct payment to a school by a “third party” is treated as if the money was given to the student and the student paid then paid the school.

What if the student himself/herself actually pays the school costs out of his own pocket? If he/she is claimed as a dependent on his parents’ joint return the parents get the credit or deduction.

IRS Field Service Advice FSA 200236001 addresses a special situation that provides an opportunity for some tax planning. It discusses whether a dependent can claim an education tax credit.

James Q Taxpayer, the 19 year old son of John Q and Jane Q, is an unmarried full-time college student who had net taxable income for the year in question. John and Jane provided more than half of James’ support for the year and are entitled to claim him as a dependent.

During the year James incurred expenses that qualified for the HOPE education tax credit. However, John and Jane's modified Adjusted Gross Income (MAGI) was in excess of $160,000.00, and could not claim the credit (nor the deduction).

James' tax liability, before any credits, was more than the amount of tax savings John and Jane would have realized by claiming James as a dependent. For example James’ tax liability is $1,100 and the tax benefit to John and Jane for claiming James as a dependent would be $952 ($3,400 x 28%) – or less if the exemption was partially phased-out due to excessive AGI. Or "0" if John and Jane are victims of the dreaded Alternative Minimum Tax (AMT).

John and Jane, although entitled to, did not claim James as a dependent on their 1040. James filed a tax return, but, because he qualified as a dependent of John and Jane, did not claim an exemption for himself. James did, however, claim the HOPE Scholarship credit on his return.

It is important to note that because the parents (John and Jane) could claim a dependency exemption for the "child" (James), he (James) could not claim an exemption for himself. IRC Section 151(d)(2) states that a child cannot claim a personal exemption for himself/herself if the parent(s) is eligible to claim that child as a dependent.

But the FSA affirms that, as the parents did not claim the child as a dependent, the child (James) was entitled to claim the HOPE Scholarship credit on his return if he met the other eligibility requirements.

Using the number above the net federal income tax savings by using this strategy is anywhere from $148 to $1,100! Of course state tax consequences would also have to be considered. This tax planning opportunity also applies to the “above-the-line” deduction for student loan interest.

In these posts on education tax benefits I have frequently referred to a “modified” Adjusted Gross Income, or MAGI (no gift from this Magi). For purposes of the education tax credits you begin with the AGI and add-back any foreign earned income exclusion, foreign housing exclusion or deduction, and American Samoa, Guam, Northern Mariana Islands and Puerto Rico resident income exclusions. In the case of the Deduction for Tuition and Fees you also add back the “Section 199” deduction for “domestic production activities”. As you can see, for most taxpayers the actual AGI will apply.

Any questions?

TTFN

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PS - Check out today's posting at ANYTHING BUT TAXES to find out how to solve the NJ budget crisis.

WHO SAID TAXES WERE EASY?

Testifying about educational tax incentives at a hearing of the House Ways and Means Select Revenue Measures Subcommittee Karen Gilbreath Sowell, Treasury Deputy Assistant Secretary for Tax Policy, pointed out that the federal tax code includes credits, deductions, exclusions and deferrals that are numerous, overlapping and complex. Constipation, Mr. Holmes.

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"The incentives vary in terms of who may receive benefits, which expenses may be covered, and how large an exclusion, deduction, or credit may be allowed," she told the subcommittee. She also testified that the complexity of the educational tax incentives increases the record-keeping and reporting burden on taxpayers, and makes it difficult for the IRS to monitor compliance.

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There is indeed a laundry list of tax deductions, credits and exclusions that related to educational expenses. Most apply to “post-secondary” (after High School) tuition, but some benefits can be used for “primary and secondary” (K-12) education and for books, supplies, room and board.

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For example a recent post told you that withdrawals from a Coverdell Education Savings Account can be used for “tuition for any public, private, or religious school that provides elementary or secondary education (kindergarten through grade 12), as determined under state law”

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The major tax benefits that relate to the costs of a college (post-secondary) education for yourself, your spouse, or a dependent are the HOPE and Lifetime Learning education tax credits and the “above-the-line” Deduction for Tuition and Fees. As with any item where you are given options you should compare these three tax benefits to see which provides the greatest tax savings.

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The availability and amount of all three of these tax benefits is based on AGI. The phase-out range for these credits are available on the WHAT’S NEW FOR 2007 and WHAT’S NEW FOR 2008 pages of my website.

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The Deduction for Tuition and Fees is limited to $4,000 for Married Couples with a “modified” AGI of under $130,001 and Single and Head of Household filers with a MAGI under $65,001, and $2,000 with corresponding MAGIs under $160,001 and $80,001. No deduction is allowed for couples with a modified AGI over $160,000 and individuals with a MAGI over $80,000. FYI, this deduction “expired” on December 31, 2007, but legislation has been introduced to extend it for at least tax year 2008.

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None of these tuition tax benefits are available if you are married and filing separate returns.

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The HOPE credit, named for Hope, Arkansas and not “I hope I graduate”, is limited to the first two fiscal years of postgraduate education. As of the beginning of the tax year the student must not have completed the first two years of college – the freshman and sophomore years. While this fiscal period can occur over three actual calendar years (the calendar year the student starts college as a freshman in the fall, the calendar year the student completes his freshman year and begins his sophomore year, and the calendar year the student finishes his sophomore year) the HOPE credit can only be claimed in two tax years for any individual student.

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The maximum HOPE credit is $1,650 – based on $2,200 of qualified tuition and fees. It is determined as follows – 100% of the first $1,100.00 of tuition and 50% of the second $1,100.00. If the total tuition paid is $2,000 the HOPE credit is $1,550 ($1,100 + $900 x 50%). If the total tuition is $1,000 the HOPE credit is $1,000.00.

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The Lifetime Learning credit is 20% of the first $10,000.00 of qualified tuition and fees – up to a maximum credit of $2,000. If the tuition and fees paid is $6,000 the Lifetime Learning credit is $1,200.

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A student who began college in the fall of 2007 has two options for claiming the credit for 2008. If his total tuition for the year is $5,000 he would by better off with the HOPE credit, which would be $1,650. If his tuition for that year is $9,000 the Lifetime Learning credit would be $1,800 – which is "more better" than $1,650.

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Remember that a credit is a dollar-for-dollar reduction of tax liability. So a $1,650 tax credit means $1,650 in your pocket – assuming the tax liability after other credits is at least $1,650 (the education tax credits are not “refundable”).

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Also remember that the amount of the credit allowed is phased-out as AGI exceeds a certain amount. You may be entitled to a maximum $2,000 credit based on the amount of tuition paid, but your AGI may limit the amount of credit allowed to $1,000.

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The Deduction for Tuition and Fees is an “above-the-line” adjustment to income. It is a tax deduction, not a credit, which reduces your Adjusted Gross Income and ultimately your Taxable Income. So your base tax savings from claiming this deduction is determined by your tax bracket. A taxpayer allowed a $4,000 deduction who is in the 25% tax bracket will save at least $1,000 in federal income tax. A $4,000 deduction for a person in the 28% bracket puts at least an additional $1,120 in his/her pocket.

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In the case of both the credits and the deduction the amount of qualified tuition and fees paid must be first reduced by 100% of all tax-free scholarships, fellowships and grants, employer-paid educational assistance, veteran’s education benefits, and any other nontaxable payments (other than gifts or inheritances). These payments are not allocated between qualified (tuition and fees) and non-qualified (room and board, books and supplies) education expenses. So if your son’s total qualifying tuition and fees for the year is $10,000 and he receives a scholarship for $4,000, only $6,000 is eligible for a credit or deduction.

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You also cannot “double-dip”. You cannot claim an education credit or tuition and fee deduction for qualifying expenses paid for by a tax-free distribution from an Education Savings Account or a Section 529 qualified tuition program. You cannot claim a Deduction for Tuition and Fees if a Hope or Lifetime Learning education credit is claimed for the same student.

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Let us look at a couple whose modified AGI is below the beginning of the phase-out range for the education tax credits - which also means that the MAGI is less than $130,001. The couple paid $10,000 in qualifying tuition and fees for the calendar year. The student, a freshman at the beginning of the calendar year received a $5,000 scholarship and is reimbursed $1,000 from his father’s employer-paid education assistance program. This makes a total of $4,000 in available tuition and fees ($10,000 - $5,000+$1,000).

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The amount of Lifetime Learning credit that can be claimed is $800 ($4000 x 20%). However, as the student is in his first fiscal year of college he/she is entitled to a HOPE credit of $1,650. The taxpayers are in the 25% federal tax bracket, so a $4,000 tax deduction would result in $1,000 in federal tax savings. In this situation it is clear that the HOPE education credit puts the most money in the taxpayers’ pocket.

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However, if the student starts the year off as a junior, or if the taxpayers had claimed a HOPE credit for the two previous tax years, the Deduction for Tuition and fees would result in $200 more in tax savings than a Lifetime Learning credit. This is because the deduction provides a 25% savings on the $4,000 in qualified tuition while the credit provides only 20%. $4,000 x 5% = $200.

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I recently began work on the GD extension for a new client (I know I say “read my lips, no new clients” – but this taxpayer technically qualified as he is the “child”, albeit in his 50’s, of an existing client). As usual with a new client I asked to see the prior two tax returns (in this case 2005 and 2006). I noticed that on the 2005 return he claimed a Lifetime Learning education credit for tuition and fees paid for the final (senior) year of his daughter’s college.

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The tuition on which the credit was claimed was slightly less than $2,000. His MAGI was less than the amount required to receive the benefit of 100% of the credit, and he was in the 25% tax bracket by a little over $3,000. He should have claimed a Deduction for Tuition and Fees instead of the Lifetime Learning credit – as it would have reduced his tax liability by an additional $70+ (25% vs 20%). I will be preparing an amended return to do just this (there was also another error that I picket up – so that it is financially worthwhile to amend the return).

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I have found that most taxpayers, as well as many tax preparers, will automatically claim an education tax credit if the MAGI is under the threshold amount. They will not check to see if the deduction is “more better”. Don’t make this mistake – calculate your 1040 tax liability claiming an education credit and calculate it again taking a Deduction for Tuition and Fees and see which results in the least tax liability. Also make sure to take into consideration resident and non-resident state and local taxes.

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There may be an added benefit to claiming the deduction instead of the credit. A taxpayer in the 25% bracket who claims a deduction for $4,000 in tuition can save more than just $1,000 ($4,000 x 25%). Because the deduction reduces the taxpayer’s Adjusted Gross Income (AGI) it could also increase a multitude of other tax deductions and credits, and therefore reduce the tax liability by additional amounts.

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More on claiming a deduction or credit for qualified tuition and fees tomorrow!

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TTFN

STELLA!!!!!!!!!

Check out today's post at ANYTHING BUT TAXES to find out the winners of this year's STELLA AWARDS!

TTFN

WHERE THE FAKAWI: ENOUGH IS ENOUGH IS ENOUGH!

As I was finishing up a GD extended Form 1040 late this morning I found myself starting to nod off in mid signature. It was a sign that enough is enough is enough. It is time to officially end the tax filing season - and to spend “a week without 1040s” to recuperate.

It is a good stopping point – as all that is left at this point is red-files (need more information).

The number of sets of individual returns that I have done so far this year is now at 375. I have completed 30 sets between April 16 and May 18. I will have no problem living up to my “boast” of doing 400 sets of returns per year.

I look forward to at least a full week “1040 Free”!

TTFN

WHAT’S THE BUZZ – TELL ME WHAT’S A HAPPENNIN’

* Here is an older post that I missed. Jim of BLUEPRINT FOR FINANCIAL SECURITY listed “50 Fun Facts About Taxes” in his April 15th post. Included –

“When you buy an illegal drug, like marijuana or even moonshine, in Tennessee, you have 48 hours to report it to the Department of Revenue to pay your tax and get a stamp for the substance.

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There were 402 tax forms in 1990, by 2002 that number had jumped to a staggering 526.

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The Cato Institute estimates that there are approximately 1.2M tax preparers in the country.

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According to the Joint Committee on Taxation, in 2006, 53.7% of all federal income taxes were paid by those earning $200k+. Those between $100k and $200k paid out 28.3% of income taxes. That means 82% of taxes paid are by those making more than $100k.”

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* TAX GIRL Kelly Phillips Erb reports that the “Overwhelming Majority of Americans Cynical About Tax Rebates”.

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“According to a poll conducted by CNN/Opinion Research Corp., a whopping 82% of Americans believe the stimulus package won’t work. This is up sharply from 70% of Americans who said the same thing in February.”

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* Speaking of TAX GIRL - there can never be too many post to warn you about “Scams, Schemes and Tomfoolery”, as KPE does regarding the “stimulus” rebates.

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Kelly reiminds you, as I have said here many time before, that the IRS will never “send you email or phone you without your first contacting them”. She also quite rightly warns, “do not believe anyone who tells you that they can get your rebate to you ‘faster’ - this is not true. As slow as the IRS is moving to get those checks out, there is no private service that can speed it up.”

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* In “Calling All Small Business Owners” A Tax Consultant for All Seasons reports that the IRS is offering a phone forum on May 21. All you need is internet access and a separate phone line. Click here for registration information.

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* Kay Bell of DON’T MESS WITH TAXES reports that the IRS is stepping up efforts to root out offshore tax evasion by enforcing a law originally enacted in 1970 to help detect laundered drug money aggressively and appling stiff new penalties to taxpayers who don’t file disclosures required under the law.

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The disclosure to which Kay refers is IRS Form TD F 90-22.1, officially known as a Foreign Bank and Financial Account Report, or FBAR (not to be confused with FUBAR, a term that could also be applied to the IRS on occasion). A question at the bottom of Schedule B asks “At any time during [the tax year] did you have an interest in or a signature or other authority over a financial account in a foreign country, such as a bank account, securities account, or other financial account?” If you answer “yes” you must complete Form TD F 90-22.1.

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In my 37 tax seasons I have only come across one taxpayer who checked yes and completed the disclosure form. He was an officer at a NYC branch of a Swiss bank and in this capacity had signature authority on foreign bank accounts.

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I often ask clients if they have money in Swiss accounts, telling them that the IRS asks the question on Schedule B – but none have ever admitted having any such accounts.

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* An article from Smart Pros, included in Friday’s daily AccountantsWorld.com “Headlines” email, indicates that “Up to 350,000 households aren't getting the $300 per child owed them as part of their economic stimulus rebate payments”.

For example - a couple with two qualifying dependent children (under age 17) received a check for, or direct deposit of, $1,200.00 instead of $1,800.00. It seems the problem involves taxpayers failing to check a box on their paper tax returns – at Line 6c it is item (4) - and to two computer software systems that weren't capturing the information needed to trigger the payment. Just another reason not to rely on tax software.

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“IRS spokesman Terry Lemons said the agency was confident it had identified all the people affected by the mistake. He said the IRS will send letters to those who missed out on the refund and that checks for the child credit will be mailed out in July. People need not contact the IRS or file additional paperwork, he said.”

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* Joe Kristan of the ROTH AND COMPANY TAX UPDATE BLOG excellently sums up the entire “stimulus” rebate election year bribe program, especially in light of recent reports of multiple FUs –

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“Bad ideas, badly executed. Bipartisanship at work!”

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‘Nuff said!

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TTFN