Archive for March, 2012

As we’ve discussed previously, there are but a few things the entire tax community can agree on as being essential to tax reform, but included among them are the following:

1. The Internal Revenue Code is in desperate need of simplification.

2. The endless cycle of “enact temporary provision-allow provision to expire-retroactively re-enact said provision” has to stop.

3. In order to rejuvenate the economy and promote job growth, any reform needs to target small businesses.

So what do the nation’s leaders offer in the form of their most recent tax proposals? More complexity, more uncertainty, and more provisions benefiting huge corporations.

Two weeks ago, we covered a proposal made by House Republicans that would provide a deduction equal to 20% of profits to businesses with fewer than 500 employees, a plan billed as targeting “small businesses” that in reality would benefit 99.7% of the companies in the United States. This bill has been panned by Democrats as catering to the wealthy, but is still set to be pushed through the Ways and Means Committee today.

In response to the House bill, Senate Democrats have unveiled their own small business solution: a proposal that would resuscitate 100% bonus depreciation for 2012 while also providing a 10% tax credit for the first $5 million that a company adds to its payroll this year, either through wage increases or hiring.

First things first, it’s hard to see where the Senate proposal shifts a greater portion of the resulting tax benefits to small businesses, as large corporations would also be eligible for 100% depreciation and the payroll tax credit. In addition, small, profitable corporations already have Section 179 at their disposal, reducing the benefit of the 100% bonus provisions.

The details of the bill, however, are not what is troubling. What is frustrating is that the Senate bill represents yet another short-term band-aid rather than a concerted effort to institute permanent code reform and simplification. One quarter of 2012 is already in the books, meaning in a mere nine months, small businesses will again be left playing the “will they or won’t they?” game with regards to possible extensions of these provisions into future years. This constant uncertainly will handcuff business owners, just as it did at the end of 2011, when certain provisions expired that are still rumored to be retroactively extended.  

Needless to say, we’re not alone in feeling this way. Todd McCracken, president of the National Small Business Association in Washington, had this to say about the Senate proposal to Bloomberg:

“All the temporary tax provisions that we’ve seen enacted and talked about the last few years really has crystallized in small business owners’ minds the need for a total overhaul of the tax code,” he said. “You realize more and more this is no way to run a railroad.”

Having been presented with these maddeningly oblivious House and Senate bills, we’re left to conclude that both Democrats and Republicans have chosen to ignore the foundations for reform valued by many. Lucky for us, to quote Douglas Holtz-Eakin, who previously advised presidential candidate John McCain on economic policy, “Neither has a snowball’s chance in hell of being passed.”

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The opening day of the Supreme Court’s hearings on the Patient Protection and Affordable Care Act went pretty much as expected, with 90 minutes spent arguing semantics; specifically, whether the tax penalty imposed by I.R.C. § 5000A on individuals who fail to procure health insurance is more “tax” than “penalty.”  

As a reminder, today’s debate could have ended the highly anticipated hearing on the constitutionality of the individual insurance mandate before it began. If the I.R.C. § 5000A penalty was found to be a “tax,” then the Supreme Court would be barred from ruling on the  constitutionality of the insurance requirement by the Anti-Injunction Act — a 145-year old law — until after the tax has been imposed and collected — 2015 at the earliest. If the penalty is truly a “penalty,” however, then the Court can move forward with the argument everyone is longing to hear and determine the fate of Obamacare.

Well, we’ve perused the transcript from today, and while this is nothing more than our opinion, it appears that the majority of justices are in favor of settling the constitutionality debate sooner rather than later. If you’re scoring at home — and if you are, your loneliness saddens me — it would appear from the transcript that Justices Ginsburg, Scalia, Breyer, Kagan and Sotomayor are in favor of addressing whether Obamacare is constitutional now, while Justices Roberts and Alito would prefer to apply the Anti-Injunction Act and table any constitutionality discussion until 2015. It should be noted that it doesn’t appear that politics were the overriding motivation for any of the justice’s positions, as both conservative (Scalia) and liberal (Kagan) seemed to agree that the Anti-Injunction Act did not apply to I.R.C. § 5000A.

Perhaps the most fascinating aspect of the day was the unenviable position in which the government’s attorney -U.S. Solicitor General Donald Verrilli — found himself. Today, Verrilli vehemently argued that the I.R.C. § 5000A charge was not a tax but a penalty, and thus the Supreme Court was not prohibited from ruling on the provision’s constitutionality prior to the date the tax is collected. Verilli’s argument was made all the more difficult by the fact that everyone in attendance was keenly aware that tomorrow, when justifying the insurance mandate as constitutional, Verrilli would be back in the very same court room arguing that the I.R.C. § 5000A charge is in fact a tax, and is imposed as part of Congress’s taxing authority. Verrilli articulated his dueling positions thusly:  

Congress has authority under the taxing power to enact a measure not labeled as a tax, and it did so when it put section 5000A into the Internal Revenue Code. But for purposes of the Anti-Injunction Act, the precise language Congress used [calling it a penalty, rather than a tax] is determinative.

Verrilli wasn’t the only one in a tough spot on Monday. While the various states challenging the law are chomping at the bit to challenge the constitutionality of the insurance mandate, because both sides would prefer to determine the fate of Obamacare soon, no one was jumping at the chance to argue that the I.R.C. § 5000A tax penalty is in fact a tax, and thus subject to the Anti-Injunction Act. So to facilitate debate, the Supreme Court brought in their own attorney to do so, Robert Long.

Mr. Long — likely longing for his care-free days as a member of the popular rap group Black Sheep[i] — was stuck spending 30 minutes trying to convince some of the brightest people on the planet of something they appeared to have already decided they wouldn’t be convinced of. To be fair, the justices went easy on him., but there can’t be anything fun about getting hired to engage in an argument you know you can’t win.

Up today is the main event: the discussion of whether Congress has overstepped its taxing authority in requiring all American’s to obtain health insurance or suffer a tax…penalty…whatever. We’ll let you know how it goes.

[i] Not verified. May be an entirely different Mr. Long.

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The U.S. Supreme Court is typically charged with determining the victor of the country’s most important debates, such as Roe v. Wade, religion v. science or, which shape marshmallow should be added to boxes of Lucky Charms. So when the high court goes slumming, setting aside three days to hear debate with potentially major implications on the tax law, it’s incumbent upon every CPA to stand up and take notice.

Of course, it’s a rather busy time of year, and given the pile of Form 1040s overwhelming your desk, the events transpiring in D.C. are probably the least of your concerns. So as a bit of a public service, we’ve put together the following “heads up” for our industry peers, hopefully giving you the information you’ll need when your clients inevitably ask you for your take on the Supreme Court’s review of “Obamacare.” You can thank us after the 17th.

Q: What’s Obamacare? It sounds like a charitable organization to which I don’t contribute.  

A: On March 23, 2010, President Obama signed into law the Patient Protection and Affordable Care Act, a 2700-page bill that took aim squarely at the country’s health care practices. The reform would extend health insurance to an additional 32 million Americans while revamping one of the nation’s largest industries: prohibiting insurance companies from denying coverage due to preexisting conditions, expanding the Medicaid threshold to 133% of the poverty line, and eliminating the ability of insurers to cap an insured’s “lifetime limit” of benefits.

Q: I didn’t hear anything about tax in there, so why do I care?

A: The Act also contained several major tax provisions, one of which set off a firestorm of debate regarding its constitutionality. Beginning in 2014, I.R.C. § 5000A will require taxpayers to purchase or retain health insurance that qualifies as minimum essential coverage, and to report this information on their federal tax returns, subject to certain codified exceptions. If the taxpayer fails to maintain adequate insurance, a monthly “penalty” is imposed equal to the greater of a flat dollar amount (phased in starting at $95 in 2014) or a percentage of the taxpayer‘s income (phased in starting at 1% in 2014).

Q: Where does the “constitutionality” come in?  

A: Twenty-eight states have filed suit seeking to overturn this individual insurance mandate, challenging whether Congress is overstepping its taxing powers by imposing a penalty on individuals for failing to obtain insurance. In 2010, a Virginia federal court ruled the individual mandate unconstitutional, striking it from the Patient Protection Act but allowing the rest of the act to stand. The case was later overturned on appeal.

In early 2011, however, a Florida district court also held the individual insurance mandate unconstitutional, but refused to sever the provision from the rest of the Act, rending the entire Act unconstitutional. This time, on appeal, the verdict stood, but the appeals court disagreed on the severability of the individual mandate, allowing the rest of the Act to remain. The Department of Justice asked the Supreme Court to hear the case, which brings us to today.

Q: So what’s the Supreme Court going to decide?

A: Over the next three days, the U.S. Supreme Court will begin its review of Obamacare, an unprecedented act in the sense that it is the first time the high court has considered striking down a president’ signature legislation in the midst of his re-election campaign.  Here’s how the next few days are expected to shake out:

Today: Before the discussion of constitutionality can even get off the ground, the Supreme Court must determine whether the “penalty” under I.R.C. § 5000A for filing to obtain insurance is a “tax” or a “penalty.” If it’s truly a tax, then the current debate might be over before it gets started, courtesy of this old-timey law as explained by Bloomberg:

A 145-year-old law, the Anti-Injunction Act, says courts can’t rule on the legality of federal taxes until they are imposed. For the no-insurance penalty in the 2010 health care law, which takes effect in stages, that comes in 2015. The justices may decide it’s too soon to rule on the health law’s constitutionality.

In other words, if the penalty under I.R.C. § 5001A is held to constitute a tax, the Supreme Court might be barred from deciding the constitutionality of the insurance tax until it is actually imposed beginning in 2015.

Tomorrow: Assuming today’s hearings don’t render the remaining debate moot, tomorrow is likely to contain the most spirited arguments, as the Supreme Court will hear debate on whether the Constitution allows the government to require Americans to either get insurance, or pay a penalty.

Q: What will each side be arguing?

A: Similar to the state courts, the argument is likely to consist of the following positions:

On one side, detractors of the Patient Protection Act will insist that Congress has no authority to order someone to give up their own desire not to buy a commercial product and force them into a market they do not want to enter. The federal government, on the other hand, will defend the new law as being allowable under the Commerce Clause, the Necessary and Proper Clause, and the taxation power of the General Welfare Clause.

Q: What’s left to hear on Wednesday?

A: Wednesday could actually have far-reaching effects on the tax world. The court will hear debate about what should happen to the rest of Obamacare should the individual insurance mandate be found unconstitutional. If the Supreme Court were to strike down the entire Patient and Protection Act because the individual insurance mandate was found unconstitutional, the remaining tax provisions would die with it. As a reminder, some of the other significant tax provisions found in the Patient Protection and Affordable Care Act include the following:

  •  Starting in 2014, pursuant to I.R.C. § 4980H,  applicable large employers must provide minimum essential coverage to each full-time employee and their dependents. Failure to comply with the employer mandate will result in a penalty equal to one-twelfth of $3,000 for each month multiplied by the applicable number of full-time employees. In general, an “applicable large employer” is any employer with a work force in excess of fifty full-time employees.
  • Higher Medicare taxes will be imposed upon wealthy taxpayers beginning in 2013. Section 3101(b)(2)will be amended to include an additional tax of 0.9 percent on all income in excess of $200,000 or $250,000 for joint filers.
  • 2013 will also add to the Code I.R.C. § 1411, which creates a 3.8 percent Medicare tax on investment income in excess of $250,000 for joint filers, $125,000 for married filing separately, and $200,000 ―in any other case.

We’ll do our best to keep you apprised of any big developments.

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A few things you may have missed this weekend while watching Tiger Woods make news for reasons other than rampant infidelity or hilariously filthy text messaging for the first time in nearly three years. Of course, the real winner on the weekend was Tiger’s ex-wife, Elin, who’ll surely see a good piece of that $1,000,000 prize purse.  

Spend enough time in your Unabomber-style shack in upstate Vermont, and you’re likely to conjure any number of farcical legal arguments for not paying your income tax. Unfortunately, none of them will convince the IRS, and you’ll end up sharing a cell with Wesley Snipes.   

If you’re wealthy and have a portfolio full of dividend-paying stocks, it’s time to acknowledge that for the wealthiest individuals, tax rates on dividend income are set to triple in 2013, and maybe its time to start selling some of your high-yield holdings. Caveat: everything I know about the stock market I learned from the movie Trading Places, so I may not be the best source of advice.  

Fact: 60% percent of individual taxpayers with 2010 AGI > $1,000,000 were audited by the IRS. No joke there; if you’re pulling down over a million a year, you’d better have your ducks in a row.

Here’s 5 “smart” ways to spend a $1,000 tax refund. Personally, I’d recommend the George Best approach: Blow as much of it as you can on booze and fast women. The rest of it, feel free to just waste.

Lastly, little known fact: This woman was previously a Junior Vice President at Tax Masters.[i]

[i]  Not true. Don’t sue me.

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If you’re the highly suggestible type, like I am — or so I’ve been told, and I totally believe it — an election year can leave your head spinning. Both sides of the partisan equation make compelling arguments, and when you don’t blindly toe a party line, sifting through the rhetoric in search of the truth can be a daunting task.   

Take, for example, the recent budget proposal fronted by House Republican Paul Ryan, discussed here. To quickly summarize, Ryan’s plan would produce a 10-year deficit of $3.13 trillion, less than half the amount to be complied under President Obama’s budget. It accomplishes this despite making sweeping tax cuts, including reducing the top individual and corporate tax rates to 25%. So if tax revenue is presumably going down, how does the deficit shrink under Ryan’s plan? By dramatically reducing government spending, with much of the cuts aimed at Medicare and other “safety net” programs.

Is Ryan’s plan a “good” thing for America? Hell if I know, because quite frankly, I’ve spent the past three decades so wrapped up in a Chuck Klosterman-like obsession with sports and music, I’ve failed to gain any semblance of an understanding of the inner workings of the government. But I will say this: if you’re willing to read arguments from both sides without any preconceived partisan leanings, they both sound pretty damn convincing.

If you don’t believe me, check out these dueling point/counter-point columns regarding Ryan’s proposed tax reform published on Forbes this week.

The first, authored by Peter Ferrara, lauds Ryan’s plan as forward-thinking, with Ferrara opining, “…the plan would help produce millions of new jobs, and the restoration of traditional American prosperity.”

Published one day later, Howard Gleckman’s column takes the polar opposite view of the Republican proposal, deriding it as “more big tax cuts for the rich.”

So who’s right? You decide.

From Ferrara:

Unlike President Obama, Paul Ryan in this budget shows the leadership to propose both sweeping tax reform and sweeping entitlement reform. Instead of raising tax rates as Obama has proposed, and indeed already enacted under current law, Ryan proposes to consolidate the current 6 individual income tax rates, ranging up to 35%, to just two rates of 10% and 25%.

President Obama, by contrast, is already raising the top marginal tax rate at least to 45%, even without any of the new tax increases he has proposed. Ryan has indicated the 10% rate would apply to families making less than $100,000 per year, with the 25% rate applying to families making over that, with sharply increased personal exemptions ensuring no tax increase for anyone from current law. But the actual parameters would be finalized based on what is necessary to make the reform revenue neutral.

Even with all of those tax reductions, federal revenues under Ryan’s budget would nearly double by 2022 compared to 2012. But federal taxes would still be $3.27 trillion less over the next 10 years than projected under President Obama’s budget. This reflects the basic truth that America suffers from soaring federal deficits and debt not because we are taxed too little, but rather because the government spends too much.

From Gleckman:

No surprise here, but the tax cuts in Paul Ryan’s 2013 budget plan would result in huge benefits for high-income people and very modest—or no— benefits for low income working households, according to a new analysis by the Tax Policy Center.

TPC looked only at the tax reductions in Ryan’s plan, which also included offsetting–but unidentified–cuts in tax credits, exclusions, and deductions. TPC found that in 2015, relative to today’s tax system, those making $1 million or more would enjoy an average tax cut of $265,000 and see their after-tax income increase by 12.5 percent. By contrast, half of those making between $20,000 and $30,000 would get no tax cut at all. On average, people in that income group would get a tax reduction of $129. Ryan would raise their after-tax income by 0.5 percent.

Nearly all middle-income households (those making between $50,000 and $75,000) would see their taxes fall, by an average of roughly $1,000. Ryan would increase their after-tax income by about 2 percent.

In truth, unless Republicans raise taxes on capital gains and dividends, it is hard to imagine the highest income households getting anything other than a windfall from this budget. Other tax preferences, such as the mortgage interest deduction, are just not that valuable to them.

And since no high-profile Republicans want to raise taxes on gains and dividends (and many would cut investment taxes even further) this budget would likely result in a huge tax cut for those who need it least. That’s not a great way to start an exercise whose stated goal is to eliminate the budget deficit

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Obama’s proposed tax reform would result in a tax cut for all taxpayers compared to the previous president, so long as that previous president was named Eisenhower.

Have we seen the end of Tax Masters and Patrick Cox, in all his bearded glory?

The biggest hurdle facing the new IRS SWAT team? Sewing pocket protectors onto all those bullet-proof vests. HI-YO!!!

Difficult as this may be for most parents to fathom,  little Jimmy probably won’t be earning that full athletic scholarship, regardless of how sparkling a second base he plays for his Little League team. So you better start planning.

NASA employee puts plans to colonize Mars on hold just long enough to suffer crushing defeat in Tax Court. In bizarre post-trial rant, blames his loss on those damn, dirty apes.

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If you’ve got teenaged kids who aren’t cut out for life in the carnival, you’re probably starting to stress about funding their college education,  particularly in light of the fact that the average four-year education at a private university will run you upwards of $120,000.

Hopefully, you started socking away money long ago, so your primary concern at this point is maximizing your eligibility for financial aid. If that’s the case, then it’s high time you start paying attention to your tax returns, as the information included on your Form 1040 will, in large part, determine just how much you’re entitled to in educational handouts.

William (don’t call me Billy) Baldwin over at Forbes has published a wonderful column detailing the numerous tricks a taxpayer can employ to “manage” their adjusted gross income for several different reasons, one of which is to maximize educational assistance. Your first order of business? Start thinking outside the typical “defer income/accelerate deductions” box:

Accelerate income.Most taxpayers would like to defer income and the tax bill that goes with it. But it makes sense to go the other way if your tax bracket is headed upward or if you will be filling out college aid forms two years from now or if you are planning a joint replacement next year. If your child is going to college in fall 2015 and you’re going to sell some appreciated stock to cover the costs, you should probably sell that stock now so that it doesn’t inflate the 2013 income shown on your financial aid application, says Barry Picker, a Brooklyn, N.Y. CPA.

As Baldwin points out, additional dollars of taxable income during your application years will cost you dearly:

Who’s the tax collector with the stiffest rate? For many middle-class families the ogre is a college bursar. Take home an extra $100 and the financial aid ­formula will snatch $37 away. That makes income planning a powerful idea for taxpayers with kids likely to qualify for tuition breaks. The idea is to shrink your income in the years that will show up on any aid application.

Carefully choosing your deductions can also mean more cash come college time. Baldwin explains:

Some things that lower your adjusted gross income also lower the income measured by aid formulas. One is the deduction (up to $7,250) for contributions to a health savings account. But some things that work fine with federal taxes don’t cut any ice with aid officers, warns Troy Onink, a FORBES contributor whose Strategee.com gives advice on financing education.

A deductible contribution to a 401(k), for example, reduces your AGI and thus your federal tax bill. But it gets added back in the income measure used by colleges. Perversely, colleges do count retirement assets going the other way. If you withdraw from a tax-deferred account or convert it into a Roth, the aid formula will treat the money as if it were lottery winnings.

What to do?

First, fund your retirement accounts to the max when your kids are young. Assets parked in retirement accounts are beyond the reach of aid officers.

Next, be careful about converting to a Roth if you have kids aged 16 to 21. It may cost you in reduced aid more than it saves over the years in federal taxes.

Finally, if you have a child in college and are contributing pretax money to a 401(k), think about switching to an aftertax (i.e., Roth) contribution. That will raise your 2012 taxes, lower your taxes in retirement and—surprise—increase the aid you get in 2013. That’s because aid formulas do deduct current tax bills in computing disposable income.

It is somewhat paradoxical that converting is bad, but electing a Roth for new money is good. Here’s the arithmetic. If you are in a combined 40% state and federal bracket, then converting $10,000 raises your tax bill by $4,000 and lowers your aid by $2,220. Switching from a $10,000 pretax to a $10,000 aftertax contribution raises your tax bill by $4,000 and raises your aid by $1,480.

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