Q&A: Can I deduct my leased vehicle? Did I lose my employee deductions?
If you lease a car, truck, or van that you use in your business, you can use the standard mileage rate (54.5 cents per mile in 2018)or actual expenses to figure your deductible expense.If you qualify to use both methods, you may want to figure your deduction both ways to see which gives you a larger deduction. The standard mileage rate is simple and easy to calculate. Let’s say Brooke used her leased car for business use 75% of the time and drove a total of 15,000 miles in 2018. Then she would have a car business deduction of $6,131.25 (15k x 0.545 x 0.75). If you want to use the standard mileage rate for a car you own, you must choose to use it in the first year the car is available for use in your business. Then, in later years, you can choose to use either the standard mileage rate or actual expenses. If you want to use the standard mileage rate for a car you lease, you must use it for the entire lease period.In addition to using the standard mileage rate, you can deduct any business-related parking fees and tolls(Parking fees you pay to park your car at your place of work are nondeductible commuting expenses.)
If you use actual expenses to figure your deduction for a car you lease, there are rules that affect the amount of your lease payments you can deduct. Actual car expenses include: Depreciation, Licenses, Lease payments, Registration fees, Gas, Insurance, Repairs, Oil, Garage rent, Tires, Tolls&Parking fees. If you choose to use actual expenses, you can deduct the part of each lease payment that is for the use of the vehicle in your business. You can’t deduct any part of a lease payment that is for personal use of the vehicle, such as commuting. You must spread any advance payments over the entire lease period. You can’t deduct any payments you make to buy a car, truck, or van even if the payments are called lease payments.
A taxpayer that leases a business auto may deduct the part of the lease payment representing business/investment use. If business/investment use is 100%, the full lease cost is deductible. So that lessees can’t avoid the effect of the luxury auto limits, however, they must include a certain amount in income during each year of the lease to partially offset the lease deduction, if the vehicle’s fair market value (FMV) exceeds $50,000.So, if you plan on leasing a car with a fair market value of $50,000 you will need to include a certain amount in income during each year of the lease to partially offset the lease deduction.
If you use your car for both business and personal purposes, you must divide your expenses between business and personal use. You can divide your expense based on the miles driven for each purpose.You must make a choice to use the standard mileage rate by the due date (including extensions)of your return. You can’t revoke the choice.
>Ask your Employer to set up an Accountable Plan
If you are a W-2 employee and you are required to use your car for business purposing (outside of commuting to work), then you want to make sure your employer has an Accountable Plan. Accountable plans are an IRS-approved way to reimburse employees for various business expenses in a tax-advantaged manner. Everyone wins … employees are not taxed on reimbursements (the reimbursements not even reported on W-2s) and employers don’t pay employment taxes on the reimbursements.
The Tax Cuts and Jobs Act made changes that may be favorable to your business but at the same time made one big unfavorable change for employees. The Act suspended for 2018 through 2025 the miscellaneous itemized deduction for unreimbursed employee business expenses. This deduction had allowed employees who itemized their deductions to write-off their work-related costs as a deduction to the extent they exceeded 2% of adjusted gross income (AGI). Examples of employee business expenses that fell within the 2%-of-AGI rule (and could have been deductible on employees’ 2017 returns) include:
• Car or truck expenses
• Education expenses
• Home office deduction (if the office is used for the convenience of the employer)
• Subscriptions
• Tools and equipment
• Work clothes and uniforms
• Union Dues
So for 2018 through 2025, employees who pay for these business expenses out of their own pockets get no tax deduction. This limitation applies not only to rank-and-file employees but also to owners of C or S corporations who personally pay for corporate expenses because they are employees of their businesses.
There isn’t any excuse for your employer to not adopt this because there is no IRS form for this purpose. In fact, there’s technically no requirement to have the plan in writing, but you should do so. You can use a template from a CPA firm or create your own. And if you’re incorporated, it’s a good idea to reflect the adoption of the plan in your corporate minutes.
August 2018 Market Recap: Do Midterm Elections Matter?
Since the global financial crisis, August has regularly proved difficult for financial markets. This summer was no exception. Investors had to digest the reintroduction of US sanctions against Iran, new tensions between Turkey and the US, a deterioration of trade talks between the US and China, and volatility in the Italian government bond market. Most equity markets and risk assets sold off, with the notable exception of the S&P 500, where extraordinarily strong macro data, and a general absence of any inflation concerns, once again pushed the index higher. Amid the geopolitical turmoil, the search for a safe haven helped push government bond prices up, with the 10-year US Treasury yield falling by 10 basis points (bps) to 2.86%. The labor market goes from strength to strength. The U6 unemployment rate – a broader measure of unemployment than the headline rate – dropped to 7.5% in July, its lowest level since 2001. This is considered to be one of the best measures of unemployment since it accounts for underemployment, such as those working part time that wish to work more, and those currently discouraged but considering re-entering the labor market.
With no shortage of political noise and the midterm elections quickly approaching, many investors have been asking what this means for markets. Putting political issues aside, we maintain the view that investors should work to separate the signal from the noise, and only make portfolio changes when the facts have changed. Midterm election years have historically seen worse than average returns, and these negative excess returns have typically come with a price of higher volatility. Since 1970, midterm election years have seen average annual returns of 6.1%, versus average returns of 11.9% during the full period. Furthermore, volatility has historically increased as the midterm elections approach, with S&P 500 realized volatility an average of 1.8%pts higher on average in the three months leading up to November. That said, the equity market has typically enjoyed a relief rally from September through the end of the year, rising 7.1% versus an average return of 3.7% during the full period, as uncertainty recedes and investors refocus on the fundamentals. As such, the historical data suggests that investors should not necessarily seek cover as midterm elections approach, but rather understand the market dynamics that will be at play and position portfolios accordingly.
After a solid 2017, emerging markets (EM) currencies have had a tough 2018, with the JPM EM trade-weighted currency index falling 14% year-to-date. EM economies have been stuck in a tug of war between still solid fundamentals, with economic growth continuing to improve relative to developed markets and earnings growing by 20% in the second quarter, and sentiment, which has turned much more negative. This deteriorating sentiment reflects rising trade tensions, some disappointment in Chinese data and concerns of second round effects of dollar strength, all of which have been clouding the outlook for EM investors. However, as we highlight in this week’s chart, there has been a wide difference in performance within EM, with certain currencies punished much more than others. In particular, countries with significant external vulnerabilities, such as Turkey and Argentina, and countries with limited visibility on growth, such as Brazil and South Africa, have been hit hardest. The takeaway for investors is not to view EM economies as one homogenous group but to separate those economies with vulnerable dynamics from those with stronger fundamentals in order to uncover the still present long-term investment opportunities.
Properly Title Your Real Estate into Your California Living Trust
Properly transferring your real property into a living trust ensures your desires upon death are upheld. Many people fail to file the proper deeds after establishing the trust. When this happens, the property is still subject to probate court and costs. Ultimately, the property may not go to the desired beneficiary. A California revocable living trust gives a person control of the trust assets while alive but establishes the parameters of transfer to beneficiaries after death. A trust is a unilateral contract between the grantor who owns the assets and the beneficiary receiving the assets. It is managed by a trustee. Revocable means it can be withdrawn at any time by the trustee during the grantor’s life. As such, the grantor and trustee are often the same person in a revocable living trust. Trusts allow assets to pass to beneficiaries avoiding the entire probate process as long as the trust is properly created, funded and executed.
Real estate property must be properly listed on the schedule of assets including the address, assessor’s parcel number and legal description of the property. The name on the title should match exactly the name of the grantor. Discrepancies open the door for someone to contest the trust. Trusts are often created by attorneys, but this isn’t required. As long as the elements are described, and the document is dated and notarized with original signatures, it is a legal trust. Many grantors make the mistake of never funding the trust. They think that the schedule of assets is the only thing necessary for the successor trustee to execute their wishes. This is wrong. All accounts must be renamed with the owner becoming the trust.
California law allows the use of three different types of deeds to convey title to real estate. A grant deed is the middle-level deed because it includes more guarantees of title than a quitclaim deed but few guarantees than a warranty deed. The grant deed is also sometimes known as the special warranty deed. Like a quitclaim or warranty deed, the main purpose of the grant deed is to transfer property title from one person to another, such as from a seller to a buyer. A grant deed is written evidence that you actually own your property. Additionally, the grant deed provides title guarantees to the new owner. To be legally effective, a grant deed must include certain basic information, including the name of the new owner, the signature of the person conveying title and a legal description of the property being conveyed by the deed. The person conveying title is the grantor, and the new owner is the grantee. In California, grant deeds are filed at the county assessor’s office with a Preliminary Change of Ownership Request, applicable fees and a Tax Affidavit. All must be notarized for legal transfer and recording.
The grant deed includes a significant title guarantee. Basically, the grantor under the grant deed guarantees to the grantee that the grantor has not transferred her title to anybody else first. So, if the new owner later discovers that two weeks before the grantor provided the grant deed, the grantor actually sold the title to a third party, the new owner can sue the grantor under this title guarantee to recover the value of the property. A grant deed can include exceptions to the title guarantee. The grant deed may, for example, identify an easement running across the property. Any exception listed in the grant deed will not be covered by the title guarantee, so the new owner takes title subject to those listed exceptions. A grant deed is better than a quitclaim deed because when a grantor provides a quitclaim deed you have no guarantee that an hour earlier the grantor did not give title to somebody else. However, the grant deed is not as good as a warranty deed because a warranty deed guarantees that the grantor actually has good, marketable title to the property, while the grant deed just guarantees that the grantor has not personally done anything to affect the title of the property. However, because most property owners purchase a title insurance policy, the significance of using one type of deed over any other has diminished. Most owners will sue under the title insurance policy even if they have a warranty or grant deed from the grantor.
How to Hire a Great Business Lawyer?
A good foundation is crucial in starting any business and one of the pillars that keep a business stout and upright is a great business lawyer. As a business owner, you want to allot your focus and energy in running and growing the business while someone else is on top of understanding the legalities that surround the business. Just how crucial is it to have an attorney right at the very beginning of your business journey?
The Challenge
Almost every aspect of your business would call for an effective business attorney – from choosing the business type upon putting up the company, to writing contracts, resolving business claims and issues, and navigating mergers and acquisitions, to name a few. A common mistake businesses make is holding off hiring a business lawyer until they need one. Here are some of the aspects of a business in which a business lawyer plays an integral role.
Preparing contracts with clients and suppliers. Business lawyers know how to make contracts iron-clad in order for all parties to be well-protected. When signing a contract for any reason, your attorney will be in charge of spotting issues and negotiate revisions to contracts with loopholes that can potentially put you in unnecessary liabilities in the future.
Securing intellectual properties through trademark and copyright protection. While patents and copyrights are handled by intellectual property specialists, your business attorney can help you with these as they are part of legal networks. It would be an advantage if your business lawyer can also help you acquire patents and copyrights.
Transacting with landlords and real estate sellers. In terms of dealing with properties, and this includes leasing and warehousing, a business lawyer can thoroughly review contracts and agreements to make sure that you are getting into a fair and legitimate deal with a seller. Your lawyer must have a standard “tenant’s addendum” that contains provisions in your favor, which can be included in the printed lease document.
Knowing the tax consequences of your business transactions. You want to make sure that you do not encounter unnecessary tax liabilities while on business. While your accountant takes care of preparing and filing of taxes, having a business lawyer means you have somebody who knows how to register your business for both federal and state tax IDs, and understands the tax consequences of your business transactions.
Venues for Finding an Attorney
In your search for a great business lawyer, make use of various resources. This will garner more options and give you the ability to make a valid judgement. There are many channels that you can utilize and here are some of them:
Referrals. It is important to understand that every lawyer has their own strengths, and one way to gauge whether a lawyer is best fit for your particular problem is to seek the advice of people who have experienced the same. Find out who they hired at the time, and gather leads from there. However, relying solely on referrals might not give you reliable leads as the relationship between the business owner and lawyer will depend on how they respond to each other’s style and personality.
Local Bar Association. A bar association is a professional organization of lawyers serving different purposes. Most bar associations make referrals based on specific areas of law, which can help you find a lawyer with the right expertise and area concentration. However, there are services that make referrals without concern for the lawyer’s level of experience. Seek out referral services that work under programs certified by the American Bar Association.
Online Services. Sites such as Upcounsel can aid in finding and connecting with top-rated business attorneys who can provide a wide array of business law services for startups and large businesses alike.
Caveats
Hiring a business lawyer is a major investment for any business, which is why optimal sourcing techniques are very crucial in this process. Not finding the right lawyer for your business will cost you money, and can potentially lead to long-term consequences for your company. Watch out for these red flags when making a decision:
– The lawyer is not well-versed in the language of your business. In order to properly represent you, your business lawyer must speak your language and understand the field in which you are operating.
– The lawyer is learning on the job. Your business should not be your lawyer’s on-the-job training. If you see that the lawyer is doing something completely new to him, he may not be the best candidate to
represent your business.
– The lawyer comes up with extra costs. Hiring a business lawyer should be a well-calculated move, and needless to say, it should be cost-effective. Surprise and extra costs must always be kept to a
minimum.
Choosing an Attorney
After exhausting your resources to find the right business lawyer and coming up with a short list of candidates, it is time set up interviews. In your initial meeting, be ready and upfront in describing your business and your legal needs. Make sure to express that you are interested in building a long-term relationship. Take careful notes of what the lawyer says and does during the interview, and pay attention to these aspects:
Experience. Begin by asking how long they have been practicing law and their areas of expertise. Assess whether their expertise is aligned with the needs of your business.
Ability to communicate. It is crucial that you and your business lawyer have rapport, and you can gauge this as early as your initial interview. Your lawyer must be able to express himself clearly, without the use of too much jargon or legalese.
Availability. Ask the best way to reach him and how quickly he responds to phone calls or emails. Will he be available after business hours? This is crucial in your working relationship.
References. Ask the history of business and cases he had handled in the past, and see if they are similar with yours. You can also ask for a list of clients you can contact to ask about his competence, service, and fees.
Fees. Ask about his rate and the payment terms – flat, hourly, capped, etc. It is important to get this information as you can use it when you compare your candidates. However, do not decide based on the rate alone. The lowest rate may not be indicative of quality work
Reduce Your Taxes: Make Your Spouse a Business Partner
Tax reform likely has you considering your business’s tax structure. We’ll show how you can use a spousal partnership to reduce your tax hit compared with a sole proprietorship. And here’s the real surprise: you can possibly save more money with this type of partnership compared with the S corporation.
Strategy Overview
It works like this:
1) You own an existing sole proprietorship or want to start a new business.
2) You and your spouse form a general partnership or limited liability company to manage the business.
3) You and your spouse provide cash or property for your interests in the new business.
4) Your spouse does not participate in any way in the business. He or she is merely an investor.
Here are the tax benefits to you:
– Your spouse’s income is free from self-employment tax.
– You and your spouse both still qualify for the new pass-through income deduction under Section 199A.
– The IRS audits partnerships at a much lower rate than proprietorships (Schedule Cs).
– You don’t have to worry about the costs or hassle of running payroll or determining your reasonable
compensation as you would if you operated the business as an S corporation.
Here are the potential issues:
– The passive activity rules limit your spouse’s use of any losses against regular income.
– Your cost of preparing a partnership return (but you’d have this cost with an S corporation, too).
No Self-Employment Tax?
Limited partners in a partnership don’t pay self-employment taxes on their share of partnership net income. To make your limited-partner situation crystal clear to the IRS, make sure your spouse meets the limited-partner requirements by:
– providing no services to the partnership
– complying with the limited partnership statute of your state
– and signing a document delegating management authority of the LLC to you.
Proposed regulations originally issued in 1996 would clarify who is a limited partner for self-employment tax purposes, but the Treasury Department never finalized them. Under the proposed regulations, a limited partner can’t have personal liability for the debts of the partnership by reason of being a partner, have authority to contract on behalf of the partnership, or participate in the partnership’s business for more than 500 hours during the partnership’s taxable year. (Note. Above, we recommended no participation for the spouse.)
Planning note. Although the IRS has not finalized the proposed regulations, you should follow them because they represent substantial authority and protect you from the substantial underpayment penalty.
Pass-Through Deduction
Tax reform gave you a new 20 percent pass-through deduction starting in 2018. Partnership pass-through income qualifies for Section 199A, but partnership guaranteed payments do not. Guaranteed payments compensate partners for services to the partnership and are self-employment income to the partner, and deductible as a business expense by the partnership. Unlike S corporations, which require reasonable compensation by salary for owner/employees, the tax law has no requirement that a partnership make guaranteed payments to its partners. Therefore, in your spousal partnership, you and your spouse can take cash distributions of the partnership profits and no guaranteed payments in order to maximize your pass-through deduction. Another bonus: unlike an S corporation, where shareholder distributions must be pro rata based on ownership interest, partnerships have no such requirement.
Example. Louis and Lisa, a married couple, have a partnership. Louis is a 60 percent partner and Lisa is a 40 percent partner. The partnership has net income of $100,000, and none of the Section 199A limitations apply to them. With no guaranteed payments, they get a $20,000 Section 199A deduction. If the partnership pays Louis a $50,000 guaranteed payment, then only the $50,000 partnership net income qualifies for the Section 199A deduction, reducing that deduction to $10,000 (20 percent of the net income).
Passive Loss Issues
Under the passive loss rules, a passive loss can only offset passive income. A limited partner’s interest in a partnership is automatically passive regardless of participation level. If it’s unlikely your business will suffer a loss, then this isn’t a major concern. If your business does have a loss, you’ll have to
carry forward the loss until there is passive income that can absorb it. If you have activities that create passive losses (a rental activity, for example), then the passive income created by this strategy could allow you to use your losses in the current tax year.
Example. John is a limited partner in his spouse’s business. The partnership passes through $10,000 of passive net income to John. John also owns a rental property that generates a $5,000 passive loss. John can net the partnership income and the rental loss and only pay taxes on the $5,000 of net passive income. This income offset works with privately held partnerships, but not with publicly traded partnerships, where the tax law requires separate application of the passive loss rules.
By the Numbers
Jean wants to start a graphic design business. She has three options:
1) Form a single-member LLC with herself as sole owner
2) Form a multimember LLC with her husband, Tom, who would have no involvement in the business
3) Form a single-member LLC or corporation and elect S corporation status
Let’s assume that the business nets $50,000 in the first year of operation, Jean’s S corporation reasonable compensation is $35,000, and they are in the 22 percent tax bracket. Here’s a comparison of four options.
Jean pays the least amount of taxes on the structure where her husband is a 40 percent limited partner. Note that the S corporation results in more tax than the single-member LLC taxed as a sole proprietorship because the increased pass-through deduction from the sole proprietorship negates the payroll tax savings from the move to the S corporation.
Takeaways
Tax planning after tax reform has mostly focused on C and S corporation tax strategies. But as you have just seen, in the right circumstances a spousal partnership can:
– provide optimal tax reduction over the sole proprietorship and S corporation,
– eliminate the need for payroll and reasonable compensation determinations, and
– reduce your overall risk of an IRS audit.
By running your partnership as a limited liability company, you also leave the door open to electing a different tax treatment in a later year if business changes make the S corporation a better tax strategy for you.
Tax Consequences of Crowdfunding
Crowdfunding websites such as Kickstarter, GoFundMe, Indiegogo, and Lending Club have become increasingly popular for both individual fundraising and small business owners looking for start-up capital or funding for creative ventures. The upside is that it’s often possible to raise the cash you need but the downside is that the IRS considers that money taxable income. Here’s what you need to know.
What is Crowdfunding?
Crowdfunding is the practice of funding a project by gathering online contributions from a large group of backers. Crowdfunding was initially used by musicians, filmmakers, and other creative types to raise small sums of money for projects that were unlikely to turn a profit. Now it is used to fund a variety of projects, events, and products and in some cases, has become an alternative to venture capital.
There are three types of crowdfunding: donation-based, reward-based, and equity-based. Donation-based crowdfunding is when people donate to a cause, project, or event. GoFundMe is the most well-known example of donation-based crowdfunding with pages typically set up by a friend or family member (“the agent”) such as to help someone (“the beneficiary”) pay for medical expenses, tuition, or natural disaster recovery.
Reward-based crowdfunding involves an exchange of goods and services for a monetary donation, whereas, in equity-based crowdfunding, donors receive equity for their contribution.
Are Crowdfunding Donations Taxable?
This is where it can get tricky. As the agent, or person who set up the crowdfunding account, the money goes directly to you; however, you may or may not be the beneficiary of the funds. If you are both the agent and the beneficiary you would be responsible for reporting this income. If you are acting as “the agent”, and establish that you are indeed, acting as an agent for a beneficiary who is not yourself, the funds will be taxable to the beneficiary when paid–not to you, the agent. An easy way to circumvent this issue is to make sure when you are setting up a crowdfunding account such as GoFundMe you clearly designate whether you are setting up the campaign for yourself or someone else.
Again, as noted above, as the beneficiary, all income you receive, regardless of the source, is considered taxable income in the eyes of the IRS–including crowdfunding dollars. However, money donated or pledged without receiving something in return may be considered a “gift.” As such the recipient does not pay any tax. Up to $15,000 per year per recipient may be given by the “gift giver.”
Let’s look at an example of reward-based crowdfunding. Say you develop a prototype for a product that looks promising. You run a Kickstarter campaign to raise additional funding, setting a goal of $15,000 and offer a small gift in the form of a t-shirt, cup with a logo or a bumper sticker to your donors. Your campaign is more successful than you anticipated it would be and you raise $35,000–more than twice your goal.
Taxable sale. Because you offered something (a gift or reward) in return for a payment pledge it is considered a sale. As such, it may be subject to sales and use tax.
Taxable income. Since you raised $35,000, that amount is considered taxable income. But even if you only raised $15,000 and offered no gift, the $15,000 is still considered taxable income and should be reported as such on your tax return–even though you did not receive a Form 1099-K from a third party payment processor (more about this below).
Generally, crowdfunding revenues are included in income as long as they are not:
– Loans that must be repaid;
– Capital contributed to an entity in exchange for an equity interest in the entity; or
– Gifts made out of detached generosity and without any “quid pro quo.” However, a voluntary transfer without a “quid pro quo” isn’t necessarily a gift for federal income tax purposes.
Income offset by business expenses. You may not owe taxes however, if your crowdfunding campaign is deemed a trade or active business (and not a hobby) your business expenses may offset your tax liability.
Factors affecting which expenses could be deductible against crowdfunding income include whether the business is a start-up and which accounting method (cash vs. accrual) you use for your funds. For example, if your business is a startup you may qualify for additional tax benefits such as deducting startup costs or applying part or all of the research and development credit against payroll tax liability instead of income tax liability.
Timing of the crowdfunding campaign, receipt of funds, and when expenses are incurred also affect whether business expenses will offset taxable income in a given tax year. For instance, if your crowdfunding campaign ends in October but the project is delayed until January of the following year it is likely that there will be few business expenses to offset the income received from the crowdfunding campaign since most expenses are incurred during or after project completion.
How do I Report Funds on my Tax Return?
Typically, companies that issue third-party payment transactions such as Amazon if you use Kickstarter, PayPal if you use Indiegogo, or WePay if you use GoFundMe) are required to report payments that exceed a threshold amount of $20,000 and 200 transactions to the IRS using Form 1099-K, Payment Card and Third Party Network Transactions. The minimum reporting thresholds of greater than $20,000 and more than 200 transactions apply only to payments settled through a third-party network; there is no threshold for payment card transactions.
Form 1099-K includes the gross amount of all reportable payment transactions and is sent to the taxpayer by January 31 if payments were received in the prior calendar year. Include the amount found on your Form 1099-K when figuring your income on your tax return, generally, Schedule C, Profit or Loss from Business for most small business owners.
Again, tax law is not clear on this when it comes to crowdfunding donations. Some third-party payment processors may deem these donations as gifts and do not issue a 1099-K. This is why it is important to keep good records of transactions relating to your crowdfunding campaign including a screenshot of the crowdfunding campaign (it could be several years before the IRS “catches upâ€) and documentation of any money transfers.
Don’t Get Caught Short
If you’re thinking of crowdfunding to raise money for your small business or startup or for a personal cause, consult a tax and accounting professional first. Don’t make the mistake of using all of your crowdfunding dollars on your project and then discovering you owe tax and have no money with which to pay it.
Saving for Education: 529 Plans
Many parents are looking for ways to save for their child’s education and a 529 Plan is an excellent way to do so. Even better, is that thanks to the passage of tax reform legislation in 2017, 529 plans are now available to parents wishing to save for their child’s K-12 education as well as college or vocational school.
You may open a Section 529 plan in any state, and there are no income restrictions for the individual opening the account. Contributions, however, must be in cash and the total amount must not be more than is reasonably needed for higher education (as determined initially by the state). There may also be a minimum investment required to open the account, typically, $25 or $50.
Each 529 Plan has a Designated Beneficiary (the future student) and an Account Owner. The account owner may be a parent or another person and typically is the principal contributor to the program. The account owner is also entitled to choose (as well as change) the designated beneficiary.
Neither the account owner or beneficiary may direct investments, but the state may allow the owner to select a type of investment fund (e.g., fixed income securities), change the investment annually as well as when the beneficiary is changed. The account owner decides who gets the funds (can pick and change the beneficiary) and is legally allowed to withdraw funds at any time, subject to tax and penalties (more about this below).
Unlike some of the other tax-favored higher education programs such as the American Opportunity and Lifetime Learning Tax Credits, federal tax law doesn’t limit the benefit only to tuition. Room, board, lab fees, books, and supplies can be purchased with funds from your 529 Savings Account. Individual state programs could have a more narrow definition, however, so be sure to check with your particular state.
Tax-free Distributions
Distributions from 529 plans are tax-free as long as they are used to pay qualified higher education expenses for a designated beneficiary. Distributions are tax-free even if the student is claiming the American Opportunity Credit, Lifetime Learning Credit, or tax-free treatment for a Section 530 Coverdell distribution–provided the programs aren’t covering the same specific expenses. Qualified expenses include tuition, required fees, books, supplies, equipment, and special needs services. For someone who is at least a half-time student, room and board also qualify. Also, starting in 2018, “qualified higher education expenses” include up to $10,000 in annual expenses for tuition in connection with enrollment or attendance at an elementary or secondary public, private, or religious school.
Note: Qualified expenses also include computers and related equipment used by a student while enrolled at an eligible educational institution; however, software designed for sports, games, or hobbies does not qualify unless it is predominantly educational in nature.
Federal Tax Rules
Income Tax. Contributions made by the account owner or other contributor are not deductible for federal income tax purposes, but many states offer deductions or credits. Earnings on contributions grow tax-free while in the program. Distribution for a purpose other than qualified education is taxed to the one receiving the distribution. In addition, a 10 percent penalty must be imposed on the taxable portion of the distribution, comparable to the 10 percent penalty in Section 530 Coverdell plans. Also, the account owner may change the beneficiary designation from one to another in the same family. Funds in the account roll over tax-free for the benefit of the new beneficiary.
Gift Tax. For gift tax purposes, contributions are treated as completed gifts even though the account owner has the right to withdraw them – thus they qualify for the up-to-$15,000 annual gift tax exclusion. One contributing more than $15,000 may elect to treat the gift as made in equal installments over that year and the following four years, so that up to $75,000 can be given tax-free in the first year.
Estate Tax. Funds in the account at the designated beneficiary’s death are included in the beneficiary’s estate – another odd result, since those funds may not be available to pay the tax. Funds in the account at the account owner’s death are not included in the owner’s estate, except for a portion thereof where the gift tax exclusion installment election is made for gifts over $15,000. For example, if the account owner made the election for a gift of $75,000 in 2018, a part of that gift is included in the estate if he or she dies within five years.
Tip: A Section 529 program can be an especially attractive estate-planning move for grandparents. There are no income limits, and the account owner giving up to $75,000 avoids gift tax and estate tax by living five years after the gift, yet has the power to change the beneficiary.
State Tax. State tax rules are all over the map. Some reflect the federal rules, some quite different rules. For specifics of each state’s program, see http://www.collegesavings.org.
Professional Guidance
Considering the differences among state plans, the complexity of federal and state tax laws, and the dollar amounts at stake, please call the office and speak to a tax and accounting professional before opening a 529 plan.
June 2018 Market Recap: What’s the playbook for the second half?
The U.S. economy is growing at an above-trend pace, and the rest of the world seems to be finding its footing. Meanwhile, the Federal Reserve (Fed) continues to normalize monetary policy, and it appears that other central banks are following suit. Interest rates have come down off the highs seen earlier this year, and equity valuations are no longer looking as pricey. With this as the setup, how should investors think about navigating markets during the second half of the year?
With respect to growth, the second half of this year should be better than the first. The weakening in global goods demand that led to disappointing growth metrics in the first quarter seems to have worked its way through the system, with U.S. consumption expected to have grown by nearly 4% from a year prior in the second quarter, and retail sales in Europe showing signs of stabilization. Furthermore, the Purchasing Managers Indices (PMIs) and other soft data all point to a continued improvement in growth outside of the U.S. While the hard data will need to provide confirmation of this trend, the clouds which have been hanging over the international economy for the past few months finally seem to be breaking.
Solid growth in and outside the U.S. would align with policymaker expectations, leading the Fed to continue hiking rates and the European Central Bank (ECB) to hike for the first time around the middle of next year. If these expectations are realized against a backdrop of solid economic growth, it could lead the dollar to soften, providing a boost to emerging markets and supporting a resynchronization of growth as we approach 2019. This resynchronization of global growth could help alleviate trade-related concerns, and provide support for risk assets to move higher. With earnings growth looking solid, equity valuations in-line with or below their long-term averages around the world, and interest rates still historically low, stocks should be able to rally into 2019. However, diversification should remain the central tenet of any investment strategy given the political risk premium which continues to exist in markets around the world.
Should You Pay Off Your Home Mortgage With Your 401K?
Bad idea! Looking ahead to retirement, your objective should be to accumulate a 401K nest egg of financial assets as large as possible, and pay off your mortgage as soon as possible. You should pursue these objectives independently, not sacrifice one to obtain the other. On balance, that would be a loser, for multiple reasons.
1. Early Withdrawal Costs: Paying off a mortgage balance with a 401K balance of the same amount would not be a break-even but would generate a sizeable cash outflow because it would trigger tax payments plus a 10% early withdrawal penalty if under 59 ½. While there are exceptions to the withdrawal penalty, paying off a mortgage balance is not one of them.
2. Opportunity Cost on the Existing 401K Balance: An even larger loss from liquidating your 401K is the future earnings on the funds withdrawn. These earnings accumulate tax free until you are 70 1/2, and at that point you pay taxes only on the amounts withdrawn at your tax bracket at that time – which could be a lot lower than it is now.
3. Possible Earnings Opportunity Loss on New Contributions: If your intention is to abandon your 401K after it has been depleted, given that you are still many years from retirement, the largest loss would be the tax-deferred income you could contribute plus the tax-deferred earnings on those contributions that you would be making in future years. Your major objective should be to contribute as much as possible – I have no advice on that without knowing your circumstance – and obtain as high an earnings rate as possible. I do have some thoughts about that.
4. Maximizing Earnings on 401K Accounts: Over a period of years, the rate of return on your 401K should be well above your mortgage rate. A diversified portfolio of common stock will generate high rates of return over long periods along with high short-term variability. For example, during the period 1926-2012, the median return on the common stock of large companies over 25-year periods was 11.34%. The highest 25-year return was 17.26% while the lowest was 5.62%. Even if you consider the period starting August 2000, that experienced two bear market declines of 50%, the S&P 500 Total Return Index had an average return of 4.78%.
5 Tax Breaks From Your Boat to Your Pocket
You can’t deny the allure of boat ownership: fishing, water skiing, and social day trips with family and friends. There is a kernel of truth, however, to the old saying that boats are “holes in water that you throw money into.” But if you take advantage of the tax breaks available to boat owners, you can hang onto some of your money, making your boat even more enjoyable to own.
Generally, the IRS says you cannot deduct any expense for the use of an entertainment facility. This includes expenses for depreciation and operating costs such as rent, utilities, maintenance, and protection. A boat (like an airplane, fishing lodge, or vacation home) is considered by the IRS to be an “entertainment facility. The IRS says:
An entertainment facility is any property you own, rent, or use for entertainment. Examples include a yacht, hunting lodge, fishing camp, swimming pool, tennis court, bowling alley, car, airplane, apartment, hotel suite, or home in a vacation resort.
The IRS does allow a business to deduct expenses for entertaining on your boats, such as food and beverages, catering, gas, and fishing bait (2018 Tax Reform Changes -There is 0% deduction for entertainment expense in 2018). But you can’t deduct the direct expenses of using the boat for entertainment. Here are five tax breaks to help you stay afloat this tax season.
1. Home on the Water
Deducting the interest you pay on your boat loan by declaring the boat your second home is the biggest tax deduction there is for recreational boating. All you need to have on your boat to qualify is a sleeping place, cooking facilities, and a toilet (portable ones count). If you rent your boat out to others, you need to stay on it for at least 14 nights out of the year, or 10 percent of the number of days the boat was rented. Of course, there can’t already be a second home in existence somewhere, as this would technically make a livable boat your third house, which is not covered by any IRS deduction.
You need to ask the lender with your boat loan for an IRS form 1098 to report the interest or, in most cases, you can simply get a letter from the lender. If you used an equity line of credit with your home or the boat as security, you’re entitled to deduct those interest charges. Don’t forget that you can deduct not just the interest, but also any points paid to get the loan as well as the penalty for an early payoff of the loan. Again, this is an option available to those with itemized deductions. State and local personal property taxes can be written off so long as they are annually imposed and sync up with the value of the vessel. If you work from the boat, you also have the home office deduction. Those boats that have extra rooms can be used for short-term rentals.
2. Place Your Boat into Charter
By placing your new yacht in a charter management program, you are converting it from a personal asset to a business asset, essentially an equipment rental business. The relationship between you and the charter management company is structured so that you own the yacht and they assist you in managing your yacht rental business. But you can also deduct all your business expenses as long as you’re trying to make a profit from the boat and are not using it as a hobby. You can deduct boat depreciation (over 10 years), maintenance fees, fuel, mooring costs, and any equipment you need to buy. Yachts in a charter fleet are typically washed weekly and cleaned inside and out after each charter. Routine maintenance is performed on a regularly scheduled basis and damage promptly repaired. For you, as the yacht owner, it means that you can spend your time sailing your yacht and not doing cleaning, maintenance and repairs. Yacht owners can reduce the costs of purchasing and owning their yacht by over 50% in many cases through a combination of tax deductions, new Section 179 & Bonus Depreciation, and charter income. Actual savings vary depending on the size of the yacht and the location in which it is placed in charter.
So, if you want to find ways to potentially reduce your income taxes on wages, have limited time to use your yacht and are willing to allow qualified people to charter your yacht when you’re not using it, then charter ownership might be right for you.
3. Business Transportation
Tax law classifies yachts and other pleasure boats as “listed property.” Therefore, you need to use the yacht more than 50% for business transportation. Once you beat the 50% test, your potential tax deductions include fuel costs, insurance, repairs, dock or slip fees, caretakers’ salaries, hurricane storage, and depreciation (including Section 179)—all of which is limited by tax rules on luxury water transportation. Even if you use your yacht 100% for business, one business entertainment use could sink your deductions. Tax law denies any deduction “with respect to a facility” used in connection with entertainment. And tax law classifies yachts and other pleasure boats as entertainment facilities. Obviously, if the yacht is used solely for business travel, you don’t have any entertainment that triggers the entertainment facility rules. For example, you could have a business office on Catalina island and a business office on the mainland area that would require water transportation for you to get to or from the island. You could do this in a yacht. If, at the end of a typical year you had 80% business use and 20% personal use of the yacht, you may deduct all of the yacht costs for the 80% business use, subject to the luxury water transportation limits.
Now that you have gone to the trouble to qualify your yacht for deduction, you face one final hurdle. Tax law places a daily limit on deductions for business transportation by water. The luxury water limit is double the highest per diem for federal employees traveling in the United States. For FY2017, the per diem rate for high-cost areas is $282 (IRS Pub 1542). If you use your yacht for business transportation for 45 days at double the highest per diem limit you would qualify for a tax deduction of up to $25,380. Not a bad payoff for a little tax knowledge.
4. Short-Term Rental
There are many short-term rental companies that can post your boat as a short-term rental. Much like how many people rent out their vacation homes in the mountains. The Tax Cuts and Jobs Act of 2017 also expands the definition of Section 179 property (allows a massive 1st year tax deduction) to include: Certain depreciate tangible personal property used primarily to furnish lodging (or in connection with furnishing lodging). This includes all furniture, kitchen appliances, and other equipment used in the living quarters.
5. Donating Your Boat
If you are in the market for a new boat, or if you’re done being a boat owner, consider donating your boat to charity. The IRS allows you to deduct the market value of your boat on the day you donate it (not what you originally paid for it). You can find out the fair market value of your boat by using an appraisal guide, such as BUCValu. Stipulations exist that determine how much you can deduct, however; these stipulations are based on what the charity does with the boat after donation, so be sure to read the fine print. In most cases, you can pick your favorite charity if it is qualified as a non-profit organization. Some groups, such as the Sea Scouts, are equipped to take care of all the paperwork and details involved in a donation.
Boats provide an assortment of pleasure and business opportunities for those able to own them. Tax deductions exist for both, but don’t expect anything other than a tightrope process from the IRS if you plan on writing off boat-related business expenses. The ultimate takeaway when it comes to any kind of tax deduction is that the truth shall set you free. Don’t exaggerate, misconstrue, or otherwise misrepresent the facts. If legitimate write-offs exist, take them, and never fear. Tax breaks are there for a good reason, even for boats.