SHOULD TAX PREPARERS BE REQUIRED TO FILE THEIR CLIENTS’ RETURNS ELECTRONICALLY?

Since writing to IRS Commissioner Shulman about the tax preparer e-filing mandate (see yesterday’s post DEAR COMMISSIONER SHULMAN) I have been giving the topic a great deal of thought – and I decided to share some of my thinking with you.

The requirement for filing an income tax return falls on the individual taxpayer. A person, or couple, with income that exceeds a certain threshold is required to file an income tax return.

An individual, or again couple, that is required to file an income tax return may decide to use the services of a professional tax preparer, like myself. They are hiring the preparer not to actually file the return, but to prepare the required return(s) based on the information they provide. I will prepare the return, manually in my case, and give it to the taxpayer(s), who then must sign and either mail it, or file it electronically through a service.

As a professional tax preparer, I have no obligation to assure that the return I have prepared is filed, or that any return is filed. I work for the taxpayer and not the Internal Revenue Service. I prepare an income tax return, federal and/or state, and give it to the taxpayer(s). It is then the responsibility of the taxpayer(s) to submit the return, with any necessary payment, to the Internal Revenue Service and/or the appropriate State tax authority.

So why is the requirement to transmit the tax return electronically placed upon the professional tax preparer and not the individual taxpayer?

It is true that in most cases the tax preparer will use tax return software to complete the return, and included in the software is the ability to electronically transmit the return to the IRS and state agency. And in most cases the taxpayer(s) will request or permit the tax professional to do so.

The State of New Jersey (and, I believe, other states as well) wants all sales tax and state payroll tax returns submitted electronically, so it requires it to be so. A business can no longer submit a paper ST-50 (sales tax return) or a paper NJ-927 (payroll tax return). All sales and payroll tax returns must be submitted electronically.

New Jersey does not say that all accountants, bookkeepers or tax professionals are required to submit the sales and payroll tax returns of their business clients electronically. It says that all applicable taxpayers (in this case the taxpayer is a business) must do so.

I have no problem, upon their request, submitting the sales and payroll tax returns for my few remaining business clients, returns that I had previously done by hand, online – and do so gladly. This is because I can submit these returns free of charge very easily via the NJ Division of Taxation website. And so can the business owner himself/herself, or an officer or employee of the business.

New Jersey does not require the business, or I, to purchase an expensive, otherwise unnecessary, and flawed software package, with annual updates, in order to file the required forms electronically.

Because the State requires it to be done electronically the State provides a way to do so that is free and easy. And because of that there is compliance.

Now I suppose if a business owner’s legitimate religion forbid him/her from transmitting information electronically, or if he/she had a legitimate mental disability or infirmity that caused him/her to fear electronic transmittal, or if a business owner was very seriously afraid of or opposed to transmitting data electronically the State of NJ may, after carefully reviewing the specific facts and circumstances, permit a manual return to be filed – but I cannot say for sure.

Congress, and the IRS, wants all Americans to file federal income tax returns electronically. Yet it places the requirement upon the return preparer and not the taxpayer.

And, currently, while the IRS has experimented with limited-availability “free-file” scenarios, it first requires tax preparers to apply, and be accepted, as an “Electronic Return Originator” (ERO) and to purchase expensive and flawed tax preparation software in order to transmit 1040s (and 1040As) electronically.

If Congress, and the IRS, wants all federal individual income tax returns submitted electronically then why does it not require all taxpayers to so do, as New Jersey does with sales and payroll tax returns.

I do not believe that Congress can do that yet. There are still many individuals who have serious and legitimate concerns, justified by reality or not, about the security of electronically transmitted information of such a private and personal nature.

What Congress should do is to is strongly request that all Americans file their 1040s and 1040As electronically, and assure the public that doing so is perfectly safe and secure (or as safe and secure as humanly possible). Those who do not wish to do so must attach a signed statement to the manually submitted return.

And Congress must allow all taxpayers, and their tax professionals, to submit all 1040s and 1040As free of charge directly to the IRS, without need for a middle-man or 3rd-party contractor as is the case with the “free-file” program and without special software, via the IRS website.

The State of New Jersey does exactly that with its NJWebFile program (although NJWebFile is not available for all NJ-1040s due to system deficiencies). And NJ offers an additional incentive to use NJWebFile. Manually submitted returns cannot request direct deposit of any refunds – but one can do so if the return is filed using NJWebFile. Even when direct deposit is not requested taxpayers receive refund checks quicker if the return is submitted via NJWebFile.

Congress should follow NJ’s lead, for a change (not something that I would normally recommend), and provide electronic filers with some kind of incentive – not a punishment for filing manually but a premium for filing electronically. Perhaps a $25.00 ($50.00 married filing joint) tax credit.

Why does Congress place the requirement upon the tax preparer and not the taxpayer? Because it is easier to do so, and because they can. Neither are legitimate reasons!

I will only file federal income tax returns electronically if I can do so free, and fairly easy, via the IRS website.

So – what do you think?

TTFN

DEAR COMMISSIONER SHULMAN

Here is the text of a letter I have sent to IRS Commissioner Douglas Shulman regarding the new requirement that all tax return preparers who prepare 10 or more returns must file 1040s electronically beginning with the 2010 returns filed in 2011 -

Dear Commissioner Shulman:

I can understand why the Internal Revenue Service wants all returns eventually submitted electronically, and why Congress chose to require all return preparers to do so beginning with 2010 returns filed in 2011.

Electronically submitted returns cut down substantially on IRS processing costs. There is no longer the need for a “middle-man” data entry clerk to enter information from paper returns into the IRS computer system.

Electronically submitted returns also reduce human error. Since the preparer of the return is basically entering the information directly into the IRS system one avoids the potential for errors made by the “middle-man” IRS data entry clerks.

I am not against electronically submitting income tax returns. I do so with many NJ state income tax returns via NJWebFile. I can go to a site within the NJ Division of Taxation portal and directly enter the information that normally would have been presented on the NJ-1040.

The problem with the NJWebFile system is that is has too many limitations and conditions. I cannot submit NJ-1040s that report income from self-employment, either from a federal Schedule C or a K-1. There are also limitations in the number of source information returns that can be entered. When using the NJWebFile system you do not merely enter NJ-1040 line totals, such as total wages or total interest or total dividends. You enter the information from each W-2 or 1099 separately.

In 39 tax seasons I have never used flawed tax preparation software to prepare federal or state individual income tax returns. I have no intention of starting now. I am not going to spend thousands of dollars each year, resulting in higher fees to my clients, on the initial purchase and annual update of tax preparation software.

It is my understanding that currently in order to submit federal income tax returns electronically one must use flawed tax preparation software and enroll as an Electronic Return Originator (ERO).

I will gladly comply with the Congressional mandate for electronic filing as long as I can do so at no additional cost to me, or my client, via the IRS website.

The IRS had made attempts at an online “free-file” program in the past, but its availability was extremely limited and it was done not directly by the IRS but via 3rd party contractors with conflicting profit motives.

I can understand the IRS requiring an enrollment and renewal fee for its new tax preparer registration regime. This is a minor amount that will be used to fund the program, which will provide benefits both to me as a tax preparer and the taxpaying public, as well as the Internal Revenue Service.

I do not see how Congress or the IRS can require me to spend thousands of dollars each year to purchase software to comply with this new requirement. And, if all tax return preparers are required to be registered, and all tax return preparers are required to submit returns electronically, there is no need for the additional step of becoming an Electronic Return Originator.

Will the Internal Revenue Service be providing tax preparers with a free method of submitting income tax returns online? Or will it force all preparers to choose to either purchase expensive, flawed software or request that their clients OPT OUT of electronic filing?

Thank you for your cooperation.

Sincerely yours, Robert D Flach

So what do you think?

TTFN

WHAT’S THE BUZZ? TELL ME WHAT’S A HAPPENNIN’ – WEDNESDAY EDITION

I just couldn’t stay away – and I am sure you knew it. GDEs be damned!

* This week’s article at MAINSTREET.COM is “When Is Your Small Business Really A Hobby?” (by yours truly).

* Jim Wang talks about “6 Documents You Need But Hate Thinking About” at BARGAINEERING.

Trust me, if you have elderly parents you should make sure all of these things are in order while they are still “competent” – you do not want to wait until there is a “situation” before getting thinking about them.

* Kay Bell, the Yellow Rose of Taxes, has begun her series of Mid-Year Tax Moves with “Midyear Tax Tip #1: Welcome Summer with Energy-Related Tax Breaks”.

Kay asked me to submit a mid-year move, which I did. So be on the lookout for mine.

* I somehow overlooked Kay’s 3-D (or triple-D) post from last week “Deductions Demand Documentation”. One can never over-stress this truism.

Kay’s post discusses a Tax Court case involving charitable contributions. A few items of note from the post –

(1) “The Court noted that IRS findings in such cases ‘are presumed correct, and the taxpayer bears the burden of proving error in the Commissioner’s determinations’.

Further, said the Court, ‘Deductions are a matter of legislative grace, and the taxpayer bears the burden of proving he is entitled to the deductions claimed’.

Got that? When it comes to dealing with the IRS, you're presumed guilty. That is, the IRS' position is the one the courts will believe from the get go. It's up to you to convince the tax agency's examiner and/or auditor otherwise.”

(2) “Although the panhandlers might truly need the few bucks you dispense as you wait for the traffic light to turn green, they are not an official charitable group. That means your gift to them -- or any individual, such as the family down the street whose house burned down -- is not an IRS qualified tax deduction.”

(3) “And don't forget to get a proper receipt or have some sort of acceptable substantiation, such as a canceled check or credit card statement that shows all the tax-required details of the gift.”

* Speaking of mid-year tax moves, an INC.COM article by Issie Lapowsky tells us “How to Prepare for Next Tax Season Now”.

Bloggers love lists, and accountants love acronyms. This article brings us the acronym PLAN from Miami-based public accountant Adam Spiegel -

P = “prepare your records ahead of time.”
L = “list your issues and questions.”
A = “analyze your financial statements for accuracy."
N = “note the changes in laws during the year and discuss them with your tax advisor”

* The TAX POLICY BLOG’s “Monday Map: Property Taxes on Housing by State” indicates that New Jersey is #2 on the list. Garden Staters pay, on average, 1.74% of the value of their homes in real estate taxes. I would have thought it would be the most expensive state – but it was beaten by Texas with 1.76%. CT is #8, but NY and CA are not even in the top 10.

No juvenile jokes about NJ and “#2”.

* Over at TAX GIRL Kelly Phillips Erb sets straight a taxpayer who is “leaving my full-time job 2 start grad school” and “Moving 300 miles” in “Ask the taxgirl: Moving Expenses”

* Who said life, or taxes, is fair. Joe Kristan explains that “The Geithner Rule Only Applies to Geithner” over at the ROTH AND COMPANY TAX UPDATE BLOG.

The taxpayer had very similar circumstances to those of Treasury Secretary Geithner, who got a pass on his tax FU. However, this pass is only available to the politically connected. Joe quotes the Court as saying –

“Regardless of the facts and circumstances relating to the case to which petitioner refers involving U.S. Secretary of the Treasury Timothy Geithner, petitioner is required to establish on the basis of the facts and circumstances that are established by the record in his own case that there was reasonable cause for, and that he acted in good faith with respect to, the underpayment for each of his taxable years 2005 and 2006 that is attributable to his failure to report self-employment tax.”

While I agree with the Court that the facts and circumstances of the specific case must determine the decision – it does not make the fact that Geithner got away with his tax faux pas any less wrong.

* Two items caught my attention from the ACCOUNTANTSWORLD.COM daily headline news e-letter:

(1) Despite controversial ads Yahoo Finance points out that “Pa. Collects $261 Million in Tax Amnesty Program”. And

(2) It also reports that “New Jersey Democrats Fail to Extend Millionaires Tax”. Whenever New Jersey Democrats fail it is good news. Unfortunately, any “millionaire tax” would not have applied to me.

* The CCH daily headline e-letter reports “Tax Bill in Limbo”. So the popular “extenders” are still currently unextended.

* Oops - they did it again! Another refundable credit - which means another open call for tax fraud. Bill Perez reports in "Adoption Credit Expanded for 2010" at WILLIAM'S TAX PLANNING BLOG that "The adoption credit is worth a maximum of $13,170 for 2010 and will be a refundable credit".

To quote the anti-war anthem of my youth - when will they ever learn? When will they ever learn?

TTFN

SUMMER RERUN - IN THE COURTS

This summer reruns first appeared on June 3, 2008 - rdf.

I came across an interesting Tax Court case in the June issue of NATP’s TAXPRO Monthly.

The case is David and Gail Vigil v. Commissioner (TC Summary Opinion 2008-6).

Vigil had deducted $3,463 for meals and entertainment, $12,347 for travel expenses, $7,862 for supplies, and $17,199 for car and truck expenses. In audit the IRS disallowed all of these deductions because Virgil failed to provide any substantiation.

You are allowed to deduct “all ordinary and necessary business expenses paid or incurred during the taxable year in carrying on any trade or business” under Internal Revenue Code Section 162(a). However taxpayers are also required under IRC Section 274(d) to maintain and substantiate records for such deductions claimed.

In this situation Vigil claimed that he kept a record of the various locations where he conducted his business and also of the mileage driven. He used credit cards for business expenses and kept the receipts. However he gave the original receipts and documentation to his tax preparer, a CPA, but did not keep any copies. The CPA developed a drug problem and later died. The CPA’s wife, who took over the business, also developed a drug problem. Even with the help of the local sheriff Mr. Vigil was unable to get any of his documentation back from her.

In a situation where receipts and documentation are not available you can “estimate” deductible expenses if you can produce sufficient evidence and establish a rational basis on which the estimate can be made under the famous “Cohan Rule” (Cohan v. Commissioner, 50 TC 823, 827-828). In addition you can substantiate deductions through reconstruction of expenditures through other credible evidence if your records are lost or destroyed through circumstances beyond your control (Smith v. Commissioner, TC Memo 1998-33).

The Tax Court decided for the IRS because Virgil was not able to adequately reconstruct his records and he did not provide sufficient evidence for the court to estimate the amount of his expenses.

There are two morals to this story –

(1) Make sure you have receipts and documentation (i.e. a travel diary) for all business expenses.

(2) If you give original receipts to your tax professional make sure you get them all back with the completed return. You may want to make copies just in case before handing the receipts over to your preparer.

A possible third moral – beware if your tax preparer has traces of a white powder around his nose!

Whatever you do also never give or send original receipts or documents to the IRS. Give the IRS, or state tax auditor, photocopies of your receipts and documentation - always keep the originals for yourself in a safe and secure place. You can show the IRS or state auditor originals, but do not let him/her keep them.

As an aside, in this case Virgil deducted both actual auto expenses and the standard mileage allowance. You can’t do both – it is one or the other. And there are special rules as to which you can deduct.

TTFN

SUMMER RERUN - THE K-1 BLUES

While I am working away on the GD extensions - here is the first in a series of summer reruns, originally published July 11, 2007 - rdf.

The Form K-1 for a limited partnership investment is the scourge of the tax preparer!

Over the years I have had many clients who, in addition to shares of stock or mutual funds, also owned “units” of a limited partnership venture. If you own stock or mutual funds you report on your Form 1040 any dividends received. While investors in a limited partnership may receive distributions similar to dividends, they do not report what they have received from the partnership but instead their “distributive share” of the entity’s individual sources of income, losses, deductions and credits. A limited partner receives a Form K-1 to report his/her distributive share of the income, losses, deductions and credits.

The first problem with K-1s from the point of view of a tax preparer is that they always arrive late. Unlike other tax information reporting forms, like 1099s and 1098s which are required to be sent to taxpayers by January 31st, investors do not receive their Form K-1s until the middle or end of March. Some do not come until April. The due date of the federal partnership tax return, Form 1065, is generally the same as the due date for the Form 1040. Because I do not want to work on 1040s in “installments” I cannot begin the tax return of a client with limited partnership investments until late in the season, when I am usually already backed up.

The second problem is that because limited partnerships invest in real estate, oil and gas, timber, commodities and futures, and the like they often generate unique deductions and credits that must be reported on any number of obscure supplemental tax forms and schedules. Each form and schedule takes time to complete. In most cases it seems to me that I am spending an hour or more to complete all the required supplemental forms and schedules to provide the client with a minimum effective tax savings. It costs more to prepare the multitude of forms and schedules than any ultimate tax benefits provided!

The third is that because of the nature of limited partnership investments you cannot simply take the individual items of income, deduction and credit reported on the many lines of the Form K-1 and directly transfer them to the 1040 as is – not that that is a simple process. Limited partnerships fall under the rules of a “passive investment” and as a result are limited in the amount of losses, deductions or credits that can be claimed.

An investor in a limited partnership is a “limited” partner. A “general partner” manages the business and is personally liable for the debts of the partnership. A “limited partner” is liable only to the extent of his/her dollar investment in the partnership. If a person invests $1,000.00 as a limited partner the most he can lose is the $1,000.00. The deduction of losses from a limited partnership is first limited to the investor’s “at risk” basis. Generally a limited partner with an investment of $1,000.00 can only deduct up to $1,000.00 in losses from the entity.

Limited partnership losses are also subject to the passive loss limitation rules. As a general rule passive losses are only deductible to the extent of passive income. In the acronyms of the tax world, a PAL (passive activity loss) needs a PIG (passive income generator). Losses that cannot be deducted on the current year Form 1040 are “suspended” until the investment is disposed of (you sell your units or the partnership terminates) or passive income is generated. And who do you think is going to be the one to keep track of all these suspended losses – certainly not the client!

Generally losses from one limited partnership can be deducted against income from another limited partnership. However, there is a special type of limited partnership called a Publicly Traded Partnership (PTP). You can offset losses from a PTP only against income or gain from the same PTP. You cannot apply losses from a PTP against excess gain from another limited partnership. Income and losses from a PTP are not reported on Form 8582 (Passive Activity Loss Limitations). Any net income from current year activity less prior year unallowed losses is reported as “nonpassive income” directly on Schedule E. So PTPs require even more detailed recordkeeping.

Why do individuals invest in limited partnerships? I doubt any of my clients that have owned a limited partnership investment over the years actually called up his/her broker and said, “I want to buy some units of XYZ Timber LP.” Individuals invest in limited partnerships because their brokers tell them to!

While I cannot say this with certainty, it is my belief that brokers receive a higher commission from selling limited partnership units than from selling traditional shares of stock. Similar to the fact that a broker will receive a higher commission from selling an annuity. In many cases the brokerage house will “encourage” their brokers to push a certain limited partnership in which the house has some kind of vested interest. I remember years ago when almost all my clients with accounts at Shearson (a name that has disappeared due to multiple subsequent mergers) owned a Balcor limited partnership.

As I do not own any limited partnership units myself (the only time I was tempted was when I received an offering from Broadway produced Alexander Cohen to invest in a Peter Cooke and Dudley Moore review back in the 1970s – instead I invested in my own local production of Stephen Sondheim’s COMPANY which did not show a profit, unlike the Cooke and Moore show) and I do not follow the market, I cannot say whether a limited partnership investment has the potential to return a greater profit than a stock or bond investment. I do know that several limited partnerships offer the pas through to investors of specialized tax credits – although often these credits must eventually be “recaptured”, which causes more tax preparation nightmares.

As a point of information - for a great while the IRS was not able to properly match K-1 information to 1040s, as it has been able to do with 1099 information returns for just about all of my years in “the business”. However that appears to no longer be true. Already this year I have seen IRS notices regarding income from 2006 K-1s not reported on the corresponding Form 1040.

I would certainly welcome hearing from brokers on the merits of investing in a limited partnership, and would also be interested in knowing if brokers do indeed receive a greater commission or incentive to sell such investments (you can make your comments anonymously). I want to know if the necessary additional tax preparation fees charged to clients for all the extra work and agita that comes with limited partnership Form K-1s is worth it. I also welcome comments from taxpayers who have invested in a limited partnership and from fellow tax preparers.

OI VEY!

I have been using every excuse possible to avoid working on the GD extensions that I can complete – but it must stop! I want to have nothing but “red files” by July 1st.

So I must devote the next two weeks to pretty much nothing but GDEs (and one final corporate income tax return with a fast-approaching deadline) – except for taking Wednesdays off (hey – all work and no play . . .).

Unless there is important breaking news I expect I not to be writing any new posts – including the bi-weekly BUZZ – until the GDEs are done. Instead I will publish a series of "summer re-runs".

TTFN

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

Sorry to be late in getting today’s BUZZ up. My internet connection went down on Thursday. I was finally able to trace the problem to a faulty connection that involved my Vonage phone box. I switched wires this morning and was able to get online, although my phone is still out (no loss). I may have missed some good items – but will include any I come across in next Wednesday’s edition.

* Nothing from me at MAINSTREET.COM this week, but you might enjoy an article there that discusses an online tool to “Calculate The Cost of Your Child”.

The article tells us that “a study by the U.S. Department of Agriculture estimated that it costs $222,360 to raise a child”!

It costs a lot less to raise a cat – and raising a cat generates much less agita than raising a child.

* The Tax Foundation’s TAX POLICY BLOG reports on some interesting statistics from a Joint Committee on Taxation report in “Millions Pay No Income or Payroll Taxes Thanks to Refundable Credits”. The highlights below are mine -

“In a May 28, 2010 letter to Representative Dave Camp and Senator Kent Conrad, JCT reports that between 2000 and 2006 the number of returns with refundable credits in excess of the employee's share of payroll taxes increased from 11.8 million to 16.1 million. In 2009 and 2010, those figures jumped to 23 million because of such things as the making work pay credit and the lowering of the income threshold for determining the refundable portion of the child credit to $3,000.

JCT projects that the number of returns with refundable credits exceeding the employee's share of payroll taxes will hover between 14 million and 15 million for the next ten years.”

* The WPIX morning news show led me to SEE THROUGH NY – “A Window on Your Money”.

This site gives “New Yorkers a clearer view of how their state and local tax dollars are spent. This site is sponsored by the Empire Center for New York State Policy, part of the non-partisan and non-profit Manhattan Institute for Policy Research.” The information comes from official government sources.

You can look up the salary paid to any employee in any state or local position in New York, as well as other expenditures and a special category called “Legislative Pork Barrel Member Items".

If you want to know why your property taxes as a NYS resident are so high look up the salary of your local Superintendent of Schools. The news item on WPIX showed two examples where a local Superintendent of Schools was earning more than $400,000 in salary!

I wish there were a similar site for the State of New Jersey.

* PORTFOLIO.COM tells us in “The Few, the Proud, the Tax-Free” that “The House has voted to eliminate capital gains taxes on investments in small businesses through the end of next year.”

The tax break, part of The Small Business Jobs Tax Relief Act of 2010 (H.R. 5486), only applies to investments in C corporations acquired after August 10, 1993 by a taxpayer other than a corporation, at its original issue, for money, for property other than stock, or as compensation for services other than underwriting. The stock must be held for at least 5 years. Both before and immediately after the issue date, a qualified small business corporation's aggregate gross assets cannot exceed $50 million. The maximum gain eligible for exclusion in any one year is $10 million less any gains excluded in previous years, and is further limited to a gain that is not more than 10 times the adjusted basis of the stock. Other restrictions apply.

* The extenders bill still has not passed the Senate. Kay Bell keeps us up to date on the latest “story arc” of AS THE CONGRESS TURNS in “Tax Extenders Senate Saga Continues” and “Today's Episode of Tax Extenders Folly” at DON’T MESS WITH TAXES.

* Bruce, the MISSOURI TAX GUY, comments on the new registration, testing and continuing education requirements for tax preparers in “Get This Fixed. . .”.

“Now maybe I am getting this all wrong but when we say, 'all return preparers' let’s mean all of us. CPA’s, Lawyers, EA’s and the soon to be “enrolled” and registered preparers. That would be all.”

Right on, my brother!

* Kelly Phillips Erb wonders “Do Celebs Influence Tax Policy?” at WALLETPOP. The item references the idiot known as Snookie from the steaming pile of excrement titled THE JERSEY SHORE.

I have the greatest respect for the intelligence, wit and ability of women, especially my fellow tax-bloggers of the opposite sex. You won’t catch me telling a blonde joke. However, sad as it is to say, Snookie, those allegedly “real” housewives, and any of the other females (they are too immature to be called women, and no one would ever mistake them for ladies) that populate the reality tv shows of MTV, VH1, E! and just about every other network are truly only good for one thing. And I would have to be very, very drunk to even think about it. I certainly hope nobody listens to, let alone gives any thought or weight to, the blabberings of these cafones on any topic.

TTFN

MY COUPLE OF CENTS

I believe there is nothing wrong or unethical with a tax preparer telling a client that becoming an S-corporation will reduce one’s chance of an audit.

Saying to a client, “A business organized as a sub-chapter S corporation is less likely to be audited than one organized as a regular C corporation or a sole proprietorship” is apparently merely making a statement of fact, the proof of which is readily available to the public in published IRS statistics.

I do, however, believe that tax decisions should be made based on tax law and not on potential audit risk, that organizing one’s small business as a sub-chapter S corporation is not the best option in many if not most cases, and that advising a client to organize one’s business as a sub-chapter S corporation for no other reason than to avoid an audit is terrible tax advice.

If a tax preparer is going to tell a client that a sub-S corporation has less of a chance of being audited he/she also has the obligation to tell the client that becoming a sub-S corporation, or a regular C corporation, involves substantially much more paperwork, filing requirements, expense and agita then becoming an LLC taxed as the default entity, and can have the potential for substantial additional tax at termination or, in the case of a sub-S, reclassification to a C corporation.

A good tax professional will review all the entity options available to the client, and apply the pros and cons of each option to the specific business operation and tax situation of the client. While audit potential may be a consideration in the overall decision, it is an extremely minor one.

I have always said that “an IRS audit is not something that should be avoided at all costs. Tax returns should be prepared, and decisions about choosing a business entity should be made, in such a manner as to generate the absolute least amount of federal, state and local taxes (income and payroll) within the parameters of federal and state laws. If you will pay less tax (income and payroll), fees and other costs by filing a Schedule C you should do so, honestly and ethically, and not worry about being audited. If your return is prepared correctly, and you document all items of income and deduction properly upfront, then an audit is nothing more than an inconvenience.”

I have also said -

“I believe it is bad advice to tell ALL taxpayers who have a Schedule C business to incorporate. There is no tax advice that applies to all businesses in all situations (except don’t cheat). The decision to incorporate a business requires careful review of all the specific facts and circumstances of the individual situation. And taxes are not the only consideration.”

TTFN

WHAT’S THE BUZZ? TELL ME WHAT’S A HAPPENNIN’ – WEDNESDAY EDITION

Sorry I haven’t posted this week – but I am working away on the GD extensions. Unless there is breaking news I probably won’t post again until Saturday’s BUZZ edition.

.
* Thanks to Joe of CAFETAX for including my post on “How I Got My Clients” in his BUZZ-like “Extender Update & The Around the Web”.

* While I was relaxing in Beach Haven MAINSTREET.COM published my article “Tax Tip: Deduct Your Pet”.

* Professor Mary O'Keeffe provides a great example of why the Registration and Licensure of all tax preparers is a good thing, and why tax preparers should be forbidden from offering Refund Anticipation Loans, in her post “Daddy's Money Pawn Shop Is a ‘Full-Service’ Operation--They'll Do Your Taxes Too” at BED BUFFALOES IN YOUR TAX CODE.

According to the source material for the post “Daddy” “typically takes him less than 30 minutes” to prepare each tax return. Need I say more?

* TAX GIRL Kelly Phillips Erb, writing at WALLETPOP, suggests “5 Things You Can Do Now to Get Ready for Huge Tax Hikes in 2011”.

“Thing” #2 concerns converting from a traditional IRA to a ROTH in 2010 –

“Taxpayers can opt to pay federal income tax associated with the conversion over two years, but that might not be the best idea if rates are going up. Paying up in 2010 likely means a lower tax rate. And if rates continue to go up, you can breathe a sigh of relief, since future distributions from a Roth IRA will be paid out income tax free.”

I have decided not to do what she suggests in her last “thing”.

* The last person I would listen to on anything – period - let along the subject of taxes is Snookie, the self-absorbed brain dead idiot who appears on THE JERSEY SHORE, a program that is an insult to the State of NJ (I do believe the arsehole is not even from NJ).

Kay Bell tells us that politics, and taxes, does indeed make strange bedfellows in “Snooki, McCain and IRS Talk Tanning Tax” at DON’T MESS WITH TAXES.

The next thing you know similarly self-absorbed Kate will be speaking out on the Child Care Credit. Whoever is providing child care to the “eight” has got to be better at parenting than their mother!

* Kay also tells us that the check will not be in the mail in her post “Direct Deposit to Replace U.S. Checks”.

“If you have a bank account, the your federal benefits such as Social Security, unemployment insurance, veterans benefits and railroad retirement will go there.

If you don't have an account at a financial institution, Uncle Sam will issue your benefits via plastic using the the Treasury Department's Direct Express Debit MasterCard program.”

When will this begin? “The new electronic payment rule will, for the most part, take effect in March 2011”.

Kay says this new rule will not initially apply to federal income tax refunds – although we expect it will be eventually.

* A tweet led me indirectly to “Choices For Your 401(k) When You Leave Your Job” at FREE FROM BROKE (“A Personal Finance Blog for Regular Folks”). It lists the pros and cons of the various options available in such a situation.

Whatever you do you should not “cash out”.

* Daniel Stoica has been running a series of informative posts on the taxation of “aliens” and foreigners in his unnamed blog, beginning with “Classification of Taxpayers for U.S. Tax Purposes”.

* Russ Fox wonders how the new electronic filing requirement for tax preparers, which begins with the filing of 2010 returns in 2011 (I thought I had heard from NATP that this was being pushed ahead one year?), will affect my practice in his post “Mandatory IRS eFiling Is Coming” at TAXABLE TALK.

“What’s unknown today is what impact this will have on older tax professionals. Most of the member of OCEA use software–even those preparing just a few returns a year–but there are a few individuals who don’t. Like Robert Flach they’ve never used software and see no reason to start today. I doubt the IRS is going to make a free e-file system available, so this could cause some preparers to either retire or drastically change their methodology.”

Thanks for your concern, Russ. I do not intend to retire or to drastically change my methodology. I also have no intention of spending one penny on flawed tax preparation software. If, as you suggest, the IRS will not make a free e-file system, similar to NJWebFile, available, I will just request all my clients to sign an OPT-OUT form.

If the OPT-OUT form requires a reason I will have them simply state – “The IRS does not provide a free way for my tax preparer to directly submit returns online at its website. I do not want to increase my preparer’s expenses, and ultimately my fee, by forcing him to purchase flawed tax preparation software.”

* MISSOURI TAX GUY Bruce also touches on this topic in “Electronic Filing Mandate”.

It is good to have Bruce back among the blogging.

* DOWN THE SHORE WITH JEN’s Jen Miller “turned me on to” a new website that proclaims Jersey Doesn’t Stink.

New Jersey’s politics, greedy politicians, high taxes, and obstacles for small business really do stink. And it goes without saying that excrement like THE JERSEY SHORE and JERSEYLICOUS truly stink. But the State itself does not – and has much to offer (if you can afford to stay here).

* Professor Jim Maule continues to fight the good fight with his post “Tax Credits on Parade” at MAULED AGAIN.

The Professor also speaks for me when he says -

“One of my objections to the use of credits is the fact that almost all of them have nothing to do with revenue and much to do with shifting to the IRS programs that should be, but for some reason are not, administered by other federal agencies. Another objection is the creation of more opportunities for mischief. As I noted in Congress and Tax Audits: Criticizing Others for Its Own Mess, ‘Each time the geniuses in the Congress adds another credit or deduction to appease some special interest group or to reward some constituency, it adds another opportunity for tax cheats, con artists, and tax shelter designers, who are not the intended beneficiaries of this legislative largess, to siphon tax revenue from the system’.”

TTFN

BY THE SEA, BY THE SEA, BY THE BEAUTIFUL SEA

I am back from a blessedly “totally 1040 free” but all too brief visit to Beach Haven on Long Beach Island. As usual the visit was scheduled around a musical at the Surflight Theatre (producing shows on LBI since 1949) – this time Rodgers and Hart’s ON YOUR TOES.

I once again stayed at the Coral Seas Oceanfront Motel. However I goofed in my timing – had I booked a week earlier, as I apparently did last year, I would have saved $30 (plus tax) per night for Friday and Saturday (June 11th is the date the rates begin to rise for the “season”. Plus I would have been able to secure a room with an ocean-facing terrace. When I stayed here in June of 2009 the motel was almost empty. This year it was “chock-a-block” – such that almost all parking spots were taken on Friday and Saturday. I will know better when I plan next year’s travel schedule.

The town itself was also much more populated than last year. Although on the plus side this year I was able to find an open ice cream store for an afternoon treat.

Not having a terrace I alternated my mystery reading between the bench on the walkway leading to the beach at the end of Coral Street, which this year provided me with an actual ocean view, and a gazebo overlooking the Bay next to the Municipal Boat Ramp, located behind the Schooners Wharf and Bay Village shopping malls. The weather was perfect – not too hot with lots of cool ocean and bay breezes.

I tried two new dining venues this year – Howard’s Restaurant for dinner (recommended, I think, by a client) and the popular Chicken or the Egg, or the “Chegg”, for breakfast. Great crab cakes and baked potato at Howard’s and an excellent breakfast combo at the Chegg. I returned to the Engleside Inn for my before-theatre dinner.

I knew of ON YOUR TOES (not to be confused with Cole Porter’s SILK STOCKINGS, also dealing with the Russian ballet, which is a musical version of NINOTCKA) but had never seen it. Lots of great dancing, combining tap and ballet, each Act ending with a mini-ballet (the 2nd Act ballet was “Slaughter on Tenth Ave”). But the score was not especially memorable, the only resulting standard being “There’s A Small Hotel”.

The Surflight Theatre did its usual great job. And my seat was again excellent – third row center. It was the end of the run (the last performance was Saturday evening) and there were a lot of empty seats.

This year I drove the entire 18-mile length of the island – from Beach Haven to Barnegat Light.

While I am sorry to be back in Jersey City I cannot put off the GD extensions any more – and must devote the rest of the month to getting them done and in the mail.

I will be returning to Beach Haven at the end of September for the Surflight Theatre’s production of THE MELODY LINGERS ON: THE SONGS OF IRVING BERLIN.

TTFN

WHAT FOOLS THERE "CONGRESSCRITTERS" BE!

While Congress is known for being lazy, it cannot accomplish a simple task simply.

Congress wants to extend a laundry list of expiring tax breaks that it believes are appropriate for another year, rather then making them permanent and not having to waste time each and every year extending them. This in itself is stupid – but if that is what they want so be it.

However, Congress cannot just sit down and write a bill that extends these tax breaks for another year. They have to sneak in tons of pork, either to “buy” the votes of certain members or to pay back special interests for campaign contributions and various other “gifts”. And add additional items of legislation that may not be as popular as extending the tax breaks so as to secure their enactment. And then they have to include poorly thought out income generators to pay for the pork and less popular provisions.

While we are talking about the extenders bill let’s take a look at the popular 1040 items and see if they are really worth extending -

(1) The option to deduct state and local sales tax instead of state and local income tax.

I do not understand why it must be either or – if state and local taxes are deductible (including personal property and real estate) then all state and local taxes should be deductible.

That said, this option does provide an added tax benefit for those in states with no state income tax, as well as for many retired individuals who pay no state income tax because of their status.

(2) The “above-the-line” adjustment to income for qualified tuition and fees.

BO’s new American Opportunity Credit pretty much makes all other tax benefits for the cost of a bachelor’s degree obsolete. However it does not apply to graduate school expenses. This above-the-line deduction provides some tax benefit for graduate students.

If the Tax Code must be used to subsidize higher education (and I do not believe it should – the subsidies should be provided, but done in a more appropriate way) then this deduction should be continued.

(3) The ability to make a tax-free transfer of up to $100,000 directly from an IRA to a qualified charity.

I like this greatly underused tax benefit and support its continuance. Perhaps I should “tout” it more in a future TWTP post.

• The “above the line” adjustment to income for educator expenses.

This deduction for a minor portion of a specific profession’s employee business expenses makes no sense. Besides, it comes down to nothing more than simply handing, on average, $63.00 to K-12 teachers. Big deal!

While teachers do make an important contribution to society, why are they any more deserving of this small hand-out than police officers, firefighters, nurses, or members of any other similar public service profession?

If nothing else this is a testimony to the political power of the state teachers’ unions (like NJEA). Unfortunately these unions use their power mostly for selfish purposes and not to improve the actual education of America’s students.

• The additional $500 or $1,000 standard deduction for real estate taxes paid-.

This also makes absolutely no sense. Basically what it does is to provide an additional tax benefit to senior taxpayers, who have paid off their mortgage and do not have enough other deductions to itemize. Off hand I can only think of one client not age 65 or older that benefited from this on the 2009 return.

And why are real estate taxes more worthy of this treatment than charitable contributions or medical expenses?

TTFN

FYI - I am currently relaxing in Beach Haven on LBI. There will be no BUZZ edition tomorrow (Saturday).

CONSIDERING THE HOME MORTGAGE INTEREST DEDUCTION - PART TWO

Howard Gleckman believes that the mortgage interest deduction “is not a very efficient way to encourage home ownership. Most benefits go to high-income households that would probably buy a house with or without the deduction. Since non-itemizers get no benefit from the deduction, it is not surprising that most of the subsidy goes to upper-bracket taxpayers.” His post goes on to look at the alternatives to the current itemized deduction.

While I would support doing away with the “home equity” portion of the mortgage interest deduction, I am totally against repealing the deduction for acquisition debt.

The Internal Revenue Code taxes us based on income measured in pure dollars. However it is a fact that the “value” of one’s level of income differs based on one’s geographical location. A family living in the northeast (New York, certainly New Jersey, Connecticut) that has an income of $150,000 may be just getting by, while a similar family that resides elsewhere lives like royalty on $150,000. Many components of the Tax Code are indexed for inflation, but nothing is indexed for geography. To be honest I have no idea how one would even begin to index for geography.

It costs an awful lot to live in, for example, New York, certainly New Jersey, and Connecticut. State and local income, property and sales taxes are the highest in the country. The cost of real estate is also excessively high. As a result one must earn a lot more money to be able to live in these states – and salaries are arbitrarily increased to reflect the increased cost of living. Yet $150,000 in income is taxed by the federal government at the same rate in New York City as it is in Hope, Arkansas.

Because taxes and the cost of a home, and therefore also the amount of “acquisition debt” mortgage interest paid on a residence, are higher in the Northeast, the deduction for these items helps to somewhat geographically “equalize” the tax burden. Because one is taxed on net income after deductions, the larger deductions for taxes and mortgage interest causes those in higher cost-of-living areas to pay less income tax on the same gross income.

If the mortgage interest deduction is limited to acquisition indebtedness then more needs to be written in the legislation than just doing away with the deduction for interest for home-secured borrowing that is not used to buy, build or substantially improve a personal residence. Just doing away with the deduction would put an even greater recordkeeping burden on the taxpayer, and ultimately the tax preparer.

The legislation must create special new rules for banks and mortgage companies for issuing home-secured loans.

A “mortgage” loan would only be permitted for “acquisition debt”. Interest on a “mortgage” would be fully deductible, up to the current acquisition debt limitations. “Home equity debt” would have to be a totally separate loan, and interest on this type of loan would not be deductible. A Form 1098 would only be issued for interest paid on a “mortgage” loan, and the bank or mortgage company would be required to report only interest paid on up to $1 Million of principal.

One would not be able to refinance a home-secured loan to include both types of debt in one loan. Therefore a homeowner could not refinance a “mortgage” to get additional money in hand unless he/she could prove to the lender that the money is used to “substantially improve” the secured residence. One would have to refinance the “mortgage” for the exact same principal, adding perhaps related closing costs, and take out a separate “home equity” loan to get any money in hand.

By instituting these requirements a taxpayer, or his/her preparer, could then truly just take the amount of interest reported on the Form 1098 and transfer it to Schedule A.

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So what do you think?

TTFN

I COULD NOT HELP MYSELF

I thought I had come up with the perfect description of the misnamed genre known as “reality tv”.

In this recent BUZZ comment I apply the description as a kind of reverse synonym –

“Any firm that GUARANTEES to resolve your tax debt for pennies on the dollar is full of reality tv.”

Alan Sepinwall has come up with the #2 (no pun intended) description – “Disgusting Freaks on Parade” – in his announcement of the premiere of a new VH-1 arse-dropping titled YOU’RE CUT OFF. The titled refers to what is done to a source of income, and not what most of us would love to have done to the males who populate reality tv shows.

The new show is another “parade” of self-absorbed brain-dead idiots showing off how badly they can behave.

There is no doubt that the world would be a better place if the fathers of those who appear on these displays of “disgusting freaks on parade” had done what the Vietnam War protesters of my teen years wished Nixon’s father had done.

WHAT’S THE BUZZ? TELL ME WHAT’S A HAPPENNIN’ – WEDNESDAY EDITION

Another short BUZZ.

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* Now here, from Kay Bell at DON’T MESS WITH TAXES, is a tax deduction that I have never seen anyone claim in 39 tax seasons – “Tax Deduction for Paying Down U.S. Debt”.

* And, speaking of the Yellow Rose of Taxes, don’t forget to check out Kay’s “Tax Carnival 71: Celebrating June 2010”. I am in this one!

Two entries caught my attention -

“In Defense of the IRS” from THE SUN’S FINANCIAL DIARY gives a personal example of how the IRS will actually notify you if you made a mistake on your 1040 and they owe you money (instead of the other way around). Of course the NJ Division of Taxation would never do this - they just keep your money and hope you don’t discover the error.

And then there is “Beware of the Refund Anticipation Loan” from THE DIGERATI LIFE. This is always good advice – and bears repeating. The Silicon Valley Blogger tells us that with a RAL “Taxpayers end up losing a big chunk of their money just to get cash a week or two faster than they would with direct deposit.”

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You will have to go to Kay's Carnival in order to link to these two items.

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* Actually Kay herself follows up the Carnival with a good post on the evils of Refund Anticipation Loans titled "Refund Loans and the Once-a-Year 'Rich'".

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Kay tells us that, "RALs are just one way that millions of dollars are being made off of the working poor".

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I have been saying for quite some time now that tax preparers should be prohibited from offering RALs.

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* Professor Nellen highlights some recent items that deal with Congress hiding program expenditures in the Tax Code in “Increasing Attention on Tax Expenditures (and Interesting, but Good, Irony in HR 4213)” at 21st CENTURY TAXATION.

In discussing one item the Professor correctly points out that “direct government spending which we can see as line items in some government agency's annual budget and spending hidden in the tax system (via tax deductions, credits and exemptions) achieve the same purpose. However, the tax expenditures are hidden. They do not get annual review and can easily grow and do grow.”

* The “great” State of New Jersey usually tops the lists of the highest taxes – property, income, sales, etc - in the country. However, as pointed out in the TAX POLICY BLOG’s “Monday Map: State Gasoline Tax Rates”, New Jersey almost has the lowest gas tax in the country – 14.5 cents per gallon. Only Wyoming at 14 cents and Alaska at 8 cents have a lower gas tax.

However, it is not enough to keep me from my eventual move to Pennsylvania.

FYI, California is the most expensive state at $46.6 cents per gallon, and New York is #2 at 44.6 cents.

* Bill Perez reminds us that “Next Estimated Tax Payments Due June 15th” at WILLIAM’S TAX PLANNING BLOG.

FYI – I will be relaxing in LBI for the next several days. There will be no BUZZ entry this coming Saturday.

TTFN

CONSIDERING THE HOME MORTGAGE INTEREST DEDUCTION - PART ONE

There has been a lot written lately about whether or not to do away with the deduction on Schedule A for home mortgage interest.

Howard Gleckman posed the question “Should We Dump the Home Mortgage Interest Deduction?” at TAXVOX, the blog of the Tax Policy Center.

Kay Bell added her two cents to Howard’s commentary in “Is It Time to Kill the Mortgage Interest tax Deduction” at DON'T MESS WITH TAXES.

A recent tweet led me to the article “Mortgage Deduction: America's Costliest Tax Break” By Jeanne Sahadi at CNNMoney.com from April.

The CNNMoney article tells us that – “Between 2009 and 2013, the government will lose out on nearly $600 billion because of it, according to the Joint Committee on Taxation”.

{As an aside – the article also tells us that during the same period the Earned Income Credit will cost $261 Billion. Assuming that estimates are correct and at least 30% of all EIC claims are bogus that means $78 Billion tax dollars down the drain!}

Howard begins his post by asking the question “Do we want to use the tax code to subsidize home ownership?” Apparently Congress does – as they recently gave away up to $8000 of taxpayer money to just about anyone that purchased a personal residence.

First let us look at the current deduction for home mortgage interest -

The home mortgage interest deduction is not as simple as one would think. You cannot simply just add up the amounts on 1098s issued by mortgage holders and enter that number on Schedule A – although that is exactly what is done most of the time.

The deduction of interest on borrowing that is secured by a residence is limited based on type of debt – acquisition debt or home equity debt. And for purposes of calculating the dreaded Alternative Minimum Tax (AMT) home equity debt is not deductible.

Acquisition debt is debt acquired after October 13, 1987 to buy, build, or substantially improve your main residence or a qualified second home. A “substantial improvement” is one that adds value to the home, prolongs the home’s useful life, or adapts the home to new uses. The amount of interest that you can deduct on acquisition debt is limited to $1 Million ($500,000 if Married Filing Separately) of principal. Qualified acquisition debt also cannot exceed the cost of the home plus the cost of any “substantial” improvements.

Home equity debt – debt secured by a principal residence or second home that is not used to buy, build, or substantially improve the property. There is no restriction or limitation on what the money can be used for. You can use it to buy a car, pay down credit cards, or take a trip to Europe. The amount of interest that you can deduct on home equity debt is limited to $100,000 ($50,000 if married filing separately) of principal.

If you have combined mortgage debt of $850,000. and $600.000 is acquisition debt and $250,000 home equity debt, you can only deduct interest on $700,000 (assuming we are not talking about a separate return). If $800,000 is acquisition debt and $50,000 home equity borrowings, all of the interest is fully deductible. In either case only interest on $600,000 can be used in calculating the dreaded AMT.

It is possible to deduct some of the excess interest as investment interest if you can show that the money from the borrowing was used for qualified investment purposes.

FYI, when I first started to prepare taxes professionally all interest was fully deductible on Schedule A – auto loan interest, credit card interest, pension loan interest, personal loan interest, student loan interest, etc – regardless of one’s level of income and regardless of the amount of debt. Reagan phased out the deduction for “personal” interest in the Tax Reform Act of 1986 and created the new rules for deducting interest on “acquisition” and “home equity” debt.

In the years leading up to the recent financial FU, as the market value of one’s home increased unrealistically, and banks and mortgage companies were giving away money like crazy, homeowners would constantly refinance their mortgage and use the money, perhaps initially to make home improvements, but eventually to pay down credit cards, buy cars, pay for college, and so on. Often, unfortunately, once a credit card was paid down it was “charged up” again – resulting in additional refinancing to once again pay it down. It got so that the combined mortgage principal was as much as 2 or more times the original purchase price of the residence!

To be perfectly honest, in the 25 some years since the rules for deducting interest were revised I do not know of a single homeowner who voluntarily keeps contemporaneous documentation of the use of moneys received from multiple mortgage refinancing and home equity borrowings. I dare you to show me a taxpayer, other than one who still maintains his/her initial purchase mortgage, who can tell you to the dollar exactly how much of his total mortgage principal is acquisition debt and how much is home equity debt. If any of this is being done it is being done by we tax professionals after the fact and made up for the most part using best guess estimates.

There is obviously much abuse of the mortgage interest deduction as it is currently described in the Tax Code.

To be continued . . .

TTFN

YOUR COMMENTS ONCE AGAIN WELCOME

I have reinstated the ability to submit COMMENTS to my individual posts - so you do not have to send them to me via email any longer.

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I very much want to hear your comments on my ramblings.

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Just be sure that you do not abuse the COMMENT function to try to get free specific tax advice - or to do nothing but promote your unrelated product or website. I suggest you read my post "UPDATED COMMENTS ON COMMENTS".

“JUST ONE MORE THING . . .”, HE SAID COLUMBO-LIKE

OOPS! I forgot to include an obvious but important point in my response to the email from MK –

In order to build a list of loyal 1040 clients from referrals you must know what you are doing and do it right.

You must be more than just competent in the preparation of individual tax returns, and you must keep up-to-date by taking more than a token number of federal and state continuing education classes and taking advantage of the many online tax news resources. Join the National Association of Tax Professionals (and if you do, use me as your referral).

You must show interest in and concern for your client’s tax and financial situation. Don’t simply be a data entry clerk, typing the information provided by the client into a computer program and accepting what is spit out. Dig for legitimate deductions and credits and make sure your clients take full advantage of all that is available to them in the Tax Code and state tax law.

You must act honestly and ethically with your client and with the IRS and appropriate state agencies.

As a companion to HOW I GOT MY CLIENTS I suggest you also read my post DEAR GRADUATE.

Ok, that should cover it.

HOW I GOT MY CLIENTS

Here is an email I received from a fellow tax preparing Twit and TWTP reader:

“I enjoy reading your blog, and just read your post about Twitter. I follow you on Twitter, and other tax professionals, as well as family, but I don't think I will get clients from it. I agree that Facebook would not bring me clients either.

But what do you recommend for someone who is just starting out? I don't have any of the clients from my former firm, because those clients belong to the firm. I believe I provided good service to them, but they won't recommend me personally - they'd recommend the firm.

Do you have any advice on how someone starting a practice gets those first clients, who would then refer others?

I am not a CPA yet. I've passed REG and FAR, and taken AUD but don't know if I passed yet. I've had 5 seasons of tax experience with firms.

Thank you for your advice,

MK”

Glad you enjoy TWTP.

I may not be the best person to ask how to build a practice – as the bottom of my shoes are sticky and smelly. But I will tell you what has worked for me over the years. I will be talking about building a tax preparation practice, and not an accounting one.

In my 38+ years in “the business” I have never taken out an ad – other than a “business card ad” in a charity journal. I do believe that clients who look to the yellow pages and print advertisements to find a tax preparer are “shopping” and are more driven by price rather than quality of preparation. These will not be loyal clients, and will probably leave the herd when they find a better deal.

As I have said many times before the best source of clients is referral from existing ones. While I have gotten a few “clunkers” this way, for the most part referrals from satisfied clients usually become good and loyal clients who will themselves provide good referrals.

Think of the tv ad of a few years back where “you tell two friends, and they tell two friends, and they tell two friends . . .”.

Initial referrals often come within a specific field, industry, trade or profession. So it pays to be proficient in particular types of client returns. Learn the unique deductions and loopholes available to specific professions.

Many years ago, on an escorted cross-country train trip, I met a young fireman from Newark who was just starting out in his career. I did his taxes and he was pleased. He then sent me many of the other young firemen in his company, who in turn followed suit.

But I did not get only firemen. The members of the Newark Fire Department also sent me friends and neighbors who were policemen and public works employees, and if a wife happened to be a teacher I would get referrals of other teachers.

And I also eventually “did” the parents and siblings of many of the firemen, policemen, teachers, etc.

I sat down one day and did a “tree” of client referrals, listing the various branches that “grew” from the initial Newark fireman. I turned out that almost half of my clients at the time had come either directly or indirectly from that traveling fireman.

Similarly, also many, many years ago, I did the tax return of a casual high school friend who was ordained as a Lutheran minister and was assigned a “parish” in our home town. As a result I added other Lutheran ministers in the “diocese” (not, I am sure, the correct term) to my list of clients. It seemed that when a new minister was assigned to a church in the county my business card was among the items that he was given.

I still prepare the returns for that initial fireman, and that initial Lutheran minister (who is now in Maryland).

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As soon as you are introduced to someone and you tell them that you prepare tax returns for a living you are bound to be asked for free advice. While you shouldn't "give away the store" you should not hesitate to provide basic answers. Seem interested in their situation and add something like, "I really can't properly answer that question without knowing more about your specific situation {which in most cases is actually true}. Why not stop in the office sometime and we can discuss this further?"

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{As an aside, when I met Elliot Gould's aunt and uncle on a cruise to Alaska and told them I was a tax accountant the response was in effect, "Those damned accountants stole Elliot's money!"}

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Back in the 1980s I taught courses in tax planning and tax return preparation in the evening at various Adult Schools near where I lived. Many Boards of Education will offer classes and workshops for adults in a wide variety of topics in the evening held in actual school classrooms.

My courses were not for individuals who wanted to prepare tax returns professionally, but for average middle class taxpayers who wanted to learn how to pay the absolute least amount of tax possible on their own individual 1040s. I had various models – a one session overview, a 2-3 session review of year-round tax planning techniques, and a multi-session in depth line-by-line review of the Form 1040 and Schedule A.

The pay was not great – a modest per hour or per student stipend – but the reason was not to make money as a teacher but to “spread the word” of my abilities as a tax professional.

A large percentage of my students also became clients, some who have been with me for 25+ years now.

When I first started out I had a “regular” 9-5 W-2 job - as the business manager and accountant for a suburban YWCA branch - and, during the tax season, worked for my mentor Jim Gill on week-ends. I began my own little 1040 practice by making house calls and doing “kitchen table” tax preparation, initially for co-workers from my 9-5 job. I then began teaching, as discussed above, and making house calls to my students. By the time I met the fireman I was sharing an office with a fellow accountant.

After my tenure with the YWCA I worked briefly, as a “para-professional”, for one of the then “big-eight” CPA firms – Deloitte Haskins + Sells, becoming my department’s resident tax expert. I was able to go totally on my own through contacts made during my year at DH+S. When I left I did actually take a few of my small business clients, who did not need a CPA, with me.

My mentor’s office was a storefront, initially steps from “Journal Square” in Jersey City (where the Jersey Bounce started), the city’s transportation hub (we later moved to another storefront steps from the County Courthouse and Administration Building). Because of our locations, and being a storefront, we had a steady source of walk-in clients – some of whom stayed for only a year or two (often thankfully) and some who are still with me today.

I was able to limit my practice to tax-season 1040 preparation (except for a very few select long-time year-round business clients) when my mentor (with whom I had worked for at least 25 years at the time), having turned age 75, said to me, “I’m tired of doing this. You can have the practice.”

While I no longer seek new 1040 business, because of my profile as a tax blogger I often receive emails from taxpayers asking me to take them on as clients. I am thankful but decline. Writing a tax blog, with correct advice and information, is a good way of "spreading the word" about your ability and soliciting clients.

I hope my little walk down memory lane has been helpful.

TTFN

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

* Check out my article on forming an LLC at MainStreet.com. This was my 75th item for MainStreet.

* Kay Bell offers us “Graphic Looks at Where Your Taxes Go” at DON’T MESS WITH TAXES.

* In addition to her blog Kay Bell also writes on taxes for BankRate.com – just as I write about taxes for MainStreet.com. Over at BankRate Kay has a good comprehensive article on “Teen Jobs and Tax Issues”, which discusses some of the issues I also dealt with in MainStreet items.

She tells us that some teens get a special break -

“There are special tax rules for typical teen jobs.

Individuals who provide babysitting and lawn mowing services are viewed by the IRS as household employees. In these cases, a household employee who is younger than 18 at any time during the tax year the work was performed is not subject to Social Security and Medicare taxes.

The same SE exemption also is allowed for newspaper carriers, distributors or vendors younger than 18.”

* Trish McIntire adds her voice to the discussion of the ridiculous amendment to H.R. 4213 (the American Jobs and Closing Tax Loopholes Act of 2010) in “Small S-Corps – Beware” at OUR TAXING TIMES.

Trish says (highlight is mine) -

“An argument could be made that, for many of these businesses, the ‘salary’ the owner takes is too low and if the IRS was to do a SE audit, they would be forced to take a larger salary and pay more Social Security and Medicare anyway. Maybe, but why are only certain S-corps being targeted? And why only very tiny businesses? It's like someone in Congress had this idea but didn't have the nerve to apply it to everyone and picked on the smallest and least likely to fight back.”

* And Joe Kristan continues to spread the word about this Congressional folly in “A One-Hitter is “Not Perfect’. This is Something Else” at the ROTH AND COMPANY TAX UPDATE BLOG, taking on one of the provision’s few public supporters.

Amen to – “To support the absurd and unenforceable S corporation provisions of H.R. 4213 as ‘A major step in addressing the problem, even if not perfect’ is a lame cop-out for lazy drafting and terrible tax policy.”

Thanks to Joe for continuing to fight the good fight.

And, Joe, it is indeed good to call Congress lazy idiots! As my British friends would say – call a spade a shovel.

* The IRS HITMAN reports on a recent incident where “Man Threatens IRS Office With a ‘Bomb Bag’”.

This is another case of shooting the messenger. Whatever you may say about the IRS - the Service does not write the tax law; they only attempt to enforce the oft times nonsense that the cafones in Congress come up with.

* Some tax pros oppose the new license and registration regime for preparers because they sincerely believe that the new requirements will cause tax preparation fees to increase as the additional costs are passed along to clients. I do not see this.

Russ Fox of TAXABLE TALK tells us in “Your Tax Return May Cost More” that there is something else that will cause tax preparation fees to rise -

“The Tax Extenders Bill, HR 4213, would impose a new tax on small S Corporations…like mine. If this bill becomes law, I will be forced to increase my rates. I’d guess the increase at somewhere around 10%.”

I do believe that Russ has a point.

* Kelly Phillips Erb, the TAX GIRL, sets a reader straight regarding misconceptions about the new health care “reform” bill in “Ask the taxgirl: Health Care Benefits and Taxes”.

She prefaces her answer with the spot on statement (highlight is mine) – “This is the problem with the health care bill. It’s so giant that very few people have read it (including many in Congress).”

* The NEW YORK TIMES brings us the news that “Half a Dozen States Delay Tax Refunds”.

NJ seemed to be no slower than usual in sending out state income tax refunds this year. New York told us up front that if a taxpayer does not opt for direct deposit of a refund it would be months before a paper check was received.

But even the direct deposit of NYS refunds was delayed. As the NYT article points out – “New York briefly postponed sending out half a billion dollars worth of refunds until its new fiscal year began in April.”

I had begun to get some “Hey Dude, Where’s My Refund” calls and emails from NY filers who had requested direct deposit at the beginning of April – just as I had heard on tv that NY was finally releasing refunds.

* Just wanted to remind you that, as reported in the JOURNAL OF ACCOUNTANCY, “IRS Revises Section 179 Expensing Amounts to Reflect HIRE Act Changes”

According to the article –

“On March 18, 2010, the Hiring Incentives to Restore Employment Act of 2010, PL 111-147 (the HIRE Act), extended for 2010 the increased amounts that taxpayers can expense under IRC § 179. The HIRE Act extended the $250,000 limitation on the aggregate cost of section 179 property that can be treated as an expense. It also provided that the $250,000 amount is reduced by the amount by which the cost of section 179 property placed in service during 2010 exceeds $800,000.”

* An item in the July issue of KIPLINGER’S PERSONAL FINANCE titled “A Tax Break Expires” sent me to the internet for confirmation.

According to “Intro to ESAs” at SavingForCollege.com -

“Unless Congress acts, certain ESA benefits expire after 2010. K -12 expenses will no longer qualify, the annual contribution limit will be reduced to $500 {from $2,000 – rdf}, and withdrawals will not be tax-free in any year in which a Hope credit or Lifetime credit or Lifetime Learning credit is claimed for the beneficiary.”

Currently the Coverdell Education Savings Account is the only tax benefit available for elementary and secondary school expenses. But this will not be the case in 2011, unless, as SFC says, Congress “acts”.

Don’t you know that Congress never “acts” – it only “reacts”!

* It seems that the Tax Dude does not speak often, but when THE TAX DUDE SPEAKS it is worth “listening” – i.e. his explanation of “Business Incentives Under the HIRE Act”.

TTFN

TO TWEET OR NOT TO TWEET, THAT IS THE QUESTION

I must be getting desperate for topics about which to post.

A recent tweet led me to a blog post titled “Not Worth the Time for Small Businesses to Embrace Social Media”.

I am currently on Twitter as “rdftaxpro”. I am certainly not on FACEBOOK or MY SPACE, and never will be.

On Twitter I follow only fellow tax bloggers. None of my family members are “twits”, as far as I know (and I have occasionally done a search) – at least in this sense (sorry for the bad joke), and I am not aware of any clients who tweet (also searched). I am certainly not looking to make new friends in this manner. I have plenty of friends as it is, thank you.

I use Twitter mainly as a resource for updated tax information and BUZZ items. I am not looking for new 1040 clients, or for any 1041, 1065, or 1120 clients at all. I do use Twitter to promote THE WANDERING TAX PRO, the NJ TAX PRACTICE BLOG, and my articles at MAINSTREET.COM, and to share interesting tax-related posts and online articles between BUZZes.

I will admit that I do enjoy “tweeting” with fellow tax pros and bloggers. And I do, on occasion, find tweeting as a good way of venting – although I try not to abuse the privilege.

I have absolutely no use for FACEBOOK or MY SPACE, and cannot understand why anyone who is not a high school or college student would have any. I certainly have no intention of making personal information available to the great unwashed masses. If I want to share information or pictures with family and friends I can always send them an email.

As I said, I am not looking for new clients. But if I were I certainly would not do so via these types of sites. As it is I could probably get up to 100 new clients simply by telling current ones that I am accepting referrals.

If I am looking for a plumber, or an investment advisor, or any type of consultant or vendor the last place I would look is on FACEBOOK or the like.

So, to those of you who are above the age of 21 with FACEBOOK or MY SPACE “pages”, could you please explain why (via email, please)? It is really Greek to me.

TTFN

THE CAFONES!

I have been thinking about the new IRS requirement, as per Section 9006 of the health care “reform” bill, for sending out 1099s to everyone and their brother, and about how it will affect me.

As CNNMoney’s article “Health Care Law's Massive, Hidden Tax Change” tells us (highlight is mine) - “beginning in 2012 all companies will have to issue 1099 tax forms not just to contract workers but to any individual or corporation from which they buy more than $600 in goods or services in a tax year”.

The article goes on to explain –

“Right now, the IRS Form 1099 is used to document income for individual workers other than wages and salaries. Freelancers receive them each year from their clients, and businesses issue them to the independent contractors they hire.

But under the new rules, if a freelance designer buys a new iMac from the Apple Store, they'll have to send Apple a 1099. A laundromat that buys soap each week from a local distributor will have to send the supplier a 1099 at the end of the year tallying up their purchases.”

So first, corporations are no longer exempt from receiving 1099s. And second, 1099s must now be issued for the purchase of goods as well as services. The filing threshold, which has historically been more than $600, remains unchanged. So if payments to any vendor or contractor exceed $600 a Form 1099 must be issued.

I have no problem with having to issue corporations a Form 1099 for services provided. I am a corporation, so this would mean my business clients would need to issue me a Form 1099-MISC each year. I report all my income, so this would not increase my tax burden. I would just have to add Taxpro Services Corporation to the list of 1099s I must type for each business client along with W-2s on Christmas and New Years Eve. I can count my business clients on the fingers of one hand, so my workload would not increase materially because of this change.

The problem will arise if I must issue 1099s to Staples, Office Depot, and other vendors for my own business and for all my business clients. Here is where Congress, in its wisdom (or, as is more often the case, lack of wisdom), has once again overreacted to an issue rather than responding to a problem, something they are famous for doing.

One of my clients is a tavern. So I expect they will have to issue to each and every liquor supplier a Form 1099. On the way into work the bartender will regularly stop at a local Shop Rite and purchase food and other items for the bar. Does that mean that it must also issue a Form 1099 to Shop Rite?

In my case I personally record the business checking account activity, including individual check payments, for each of my business clients on a general ledger computer program. This program not only keeps track of payments by expense type, but also by individual vendor. So in January I can print-out a report of payments by vendor, making it easy for me to determine which ones will need to be issued 1099s.

But what of businesses who keep their own books, such as they are, and do so manually? This will certainly create more work for them and their accountants, bookkeepers and/or tax professionals.

But the actual issuing of 1099s is not the real problem. The CNNMoney article quotes Marianne Couch, a principal with the Cokala Tax Group in Michigan and former chair of a citizen advisory group to the IRS on small business and self-employed tax issues, who “thinks the bigger headache will be data collection: gathering names and taxpayer identification numbers for every payee and vendor that you do business with”.

Getting EINs from Staples, Office Depot, and, in the case of the tavern, regular liquor suppliers should not be a problem. But what of local independent vendors and contractors? I expect many will be reluctant to provide such information. So W-9s will need to be issued and back-up withholding will need to occur. This will cause much more “agita” for small business than the mere need to issue 1099s.

As a long-time tax professional I can tell you, and I expect most of my colleagues will agree, that many truly small business clients do not have any contact with us during the year, and we are only given a list of expenses by category at tax time for transfer to a Schedule C. So we will have to waste valuable time during the filing season to determine if any 1099s are required and track down the necessary information well after the fact.

Luckily these new requirements will not begin until tax year 2012. So when these clients come in to have their 2011 returns prepared we will have to tell them, and remind them again several times before the end of 2012, that they need to get EINs from all vendors and contractors to whom they will pay more than $600 during the year, and that they need to get the necessary information to us as early as possible in January of 2013.

While the new rules apply only to businesses – what of the owner of rental property? Is renting not a business? Will Schedule E filers, as well as Schedule C filers, need to get this information and issue 1099s also?

I hate to say this, but members of Congress are at the very least lazy and at most idiots. They more often then not don’t fully understand all, if any, of the implications of what they are passing. I doubt they actually read any of the bills they vote on. Either that or they have absolutely no regard for the additional burden their oft ridiculous laws puts on various classes of taxpayers.

TTFN

WHAT’S THE BUZZ? TELL ME WHAT’S A HAPPENNIN’ – WEDNESDAY EDITION

Not much BUZZ – due to holiday week-end.

* I always enjoy Trish McIntire’s posts at OUR TAXING TIMES. She start’s today’s BUZZ off with a good one that involved the consequences of “Begging Forgiveness” from the IRS.

* A tweet from a fellow tax twit led me to an interesting story from the NY TIMES that concerns student loan debt titled “Placing the Blame as Students Are Buried in Debt”.

* Joe Kristan’s ROTH AND COMPANY TAX UPDATE BLOG led me to two good posts on the new rules for issuing 1099s that will begin for payments made in 2012.

In “Get Ready for Onerous New 1099 Reporting Rules” by Scott Heintzelman, the EXUBERANT ACCOUNTANT, explains the rules as they now exist and what will change under the new rules.

Among the issues that arise from these new rules –

“TINs must be obtained from your vendors to avoid having to institute backup federal income tax withholding on payments made to them. By the same token, your business must ensure that your customers have your TIN to avoid backup withholding on payments made to you.”

And –

“To compound the problems with the new reporting requirements, many businesses use accounting methods other than the cash basis. In addition, a number of businesses file their returns using reporting periods other than calendar years. In an audit, imagine your business and the IRS attempting to reconcile 1099s with these complications.”

In “As Carl Sagen Would Say ‘Get Ready for Billions of Form 1099s’” at FARM CPA TODAY author Paul Neiffer goes further to point out - “if we do not comply properly with the rules, two bad things can happen”.

What are the two bad things -

“First, if you do not report the transaction to the IRS, they can assess a penalty of $50 per form 1099 not reported up to a current maximum of $100,000. . . .

Second and perhaps more important is that if you do not provide your federal identification number to your customers, they may be required to perform backup withholding on payments to be transmitted to you. This backup withholding is usually 20% of the total sale. . . . . you have to wait until the following year {when you file your tax return – rdf} to get your money”.

* Twitter has turned out to be, if nothing else, at least a good source of BUZZ. Like “How Do You Rank as a Taxpayer?” – a tool from KIPLINGER that shows “your income status compared to your fellow Americans. . . .based on adjusted gross income (AGI) reported on 2007 tax returns -- the latest statistics available”.

TTFN