The Tax Attic — by Jerry Coon — August 26, 2010

August 26, 2010 · Filed Under Tax Attic · Comment 

Business federal tax rules revised 

The Internal Revenue Service is keeping busy this summer. In a previous article, I discussed various court cases that involved the IRS and taxpayers. Auditing taxpayers is one way the IRS keeps busy. Those audits from time to time develop into court cases.

Jerry Coon, Enrolled Agent

Another manner of staying busy is by revising the various rules under which businesses operate. They recently issued Proposed Regulation Number 153340-09 that revises, effective January 1, 2011, how businesses deposit and pay federal taxes.

Currently, businesses have four choices to pay federal taxes. First, they can take a paper coupon, a Form 8109, and a check to a federal bank. The bank processes the check and scans in the coupon. The money and the coupon are then forwarded to the IRS.

Unfortunately, errors occur in this system. Taxpayers complete the Form 8109 by hand, writing in the amount of the check and filling in a box that indicates the type of tax being paid. Anytime anyone handwrites anything, there are opportunities for error. Most people are dyslexic to some extent, and it’s very easy to write a check for $1,019.25 and enter $1,109.25 in the Form 8109 amount box. It’s also very easy to fill in the wrong box indicating the type of tax to be paid. Making either one of these errors causes all types of problems at a later time when the IRS tries to match the tax paid with the amount paid and type of tax paid on the coupon. It can and is a real mess.

Second, the business can mail the Form 8109 and a check directly to a federal reserve bank. That brings a whole new set of problems into play. It’s called the United States Post Office. In this area, we mail our checks and coupons to the Federal Reserve bank located in St. Louis, Mo. If a tax payment is due on the 15th of the month, how many days before the 15th must the check and coupon be mailed for it to make it to St. Louis by the 15th? It should be three or four days, but it could be eight or nine days. It’s better to be safe than sorry. I know the Post Office doesn’t lose many items, but it does happen once in a while. Again, there are opportunities for errors.

Third, the tax deposit can be made via the Electronic Federal Tax Payment System (EFTPS). This is the preferred option.

Fourth, if the balance due on a tax form is a minimal amount, that amount can be submitted with the tax form.

Per the proposed regulations, options one and two are obsolete as of January 1, 2011. Actually, option one, the paper coupon and check, was on its way out before Proposed Regulation Number 153340-09 was issued. Many banks had already announced that effective January 1, 2011, they would no longer be processing paper coupons.

Option two would also be obsolete at the same time. If a bank can’t accept a paper coupon, it stands to reason that a federal reserve bank would not be accepting paper coupons either.

That leaves options three and four as ways to pay federal taxes.

Option three, using EFTPS, is the preferred manner of paying taxes. In the EFTPS system, the business utilizes either a computer or telephone to initiate a tax payment. Payments can be made 24 hours a day, seven days a week. Payments can be scheduled up to 120 days in advance of the actual payment date. There are no paper coupons to make transposition errors. There is no check to get lost in the mail. Taxpayers enter the amount to be paid in their computer, the type of tax to be paid, and the date the payment is to be made. An acknowledgement can be printed before the payment is finalized just to make sure everything is correct.

Businesses can enroll in EFTPS by going to www.eftps.gov or by calling EFTPS Customer Service at 1-800-555-4477. It’s convenient and is the way of the future.

Option four is the final way to pay federal taxes. If the amount due is a minimal amount, the taxpayer can pay the balance due when mailing the return.

The proposed regulation has all of the rules laid out in fairly understandable language. The bottom line is that the IRS wants us all to use the EFTPS system. I can see why they want that to happen, because it does cut down on errors. This is Jerry Coon signing off.

Jerry Coon is an Enrolled Agent. He owns

Action Tax Service in Rockford. Contact Jerry at www.actiontaxservice.com.

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The Tax Attic with Jerry Coon

July 15, 2010 · Filed Under Tax Attic · Comment 

Regulating tax return preparers

Congress and the Internal Revenue Service are both extremely interested in regulating all tax return preparers. In fact, they are downright serious. Apparently, there are return preparers out there who don’t follow the rules, don’t know the rules or don’t choose to follow the rules. Either way, it’s a problem for not only the IRS but also for the overwhelming majority of return preparers who do follow the rules, who do know the rules, and who choose to follow the rules.

Jerry Coon, Enrolled Agent

A three step process is being put into place that will give the IRS information about preparers; will require preparers to show certain levels of competency in order to prepare returns; and will require preparers to obtain continuing education credit hours each year. The whole idea, in the end, is to get a better class of preparers.

As of this coming September, all tax preparers must register and obtain a Preparer Taxpayer Identification Number (PTIN). There will also be a fee to be paid, of course. This fee is expected to be in the $75-$300 range and will have to be paid every three years. This is the first step in finding out exactly who is preparing tax returns.

Evidently, the IRS doesn’t have a good data base of return preparers. Many preparers, such as Enrolled Agents, CPAs, and Attorneys, already have PTINs but they will still have to go through the registration process. They will be re-assigned their current number, but the information collected in the registration process is not necessarily information the IRS has right now.

The IRS wants a complete data base of return preparers and, rest assured, they will get it. The hammer the IRS has in this process is that a preparer who does not register and obtain a PTIN by January 1, 2011 will not be allowed to prepare tax returns. That’s a big hammer. Accenture, the world-wide consulting firm who quickly dumped Tiger Woods, has contracted to develop the registration system.

The second step in the process of getting return preparers is to make them show they are competent. As of January 1, 2011, all preparers will have to pass tests in order to prepare returns. There are expected to be three tests. Test One covers wage and non-business 1040 tax returns. Test Two covers wage and small business 1040 tax returns, including Schedules C, E, and F and related forms. Test Three covers business tax returns and rules. Those who register and receive a PTIN by December 31, 2010 will have three years to pass the appropriate test in order to continue preparing returns. If the preparer can’t pass the test, they are out of business. Period.

These three tests have not been finalized at this point in time, but in the spring of 2011, the IRS says they will be ready to roll out at least the first two tests and the third test will be ready after the initial three year implementation period. It appears that preparers who register for a PTIN in 2011 and years following will have to pass a test before they can prepare returns. An independent third party will be contracted to administer these tests.

Step Three involves each and every preparer having to take a minimum of 15 total hours of Continuing Education every year. I believe that Step Three will have the most profound effect on the quality of returns being prepared. Taking fifteen hours of classroom study annually on tax subjects and ethics will have a positive effect on returns prepared.

The more a preparer knows, the higher quality of return that preparer should be able to prepare. At least ten hours will have to be taken on federal tax issues; three hours on federal tax updates; and two hours on the topic of ethics. By combining all three of these steps, the IRS will know who all of the return preparers are via the PTIN registration process; will know that they can demonstrate a certain minimum knowledge of taxes via the competency tests; and will know that those preparers are taking annual classes to keep their knowledge up to date via the continuing education requirement. These are good things. This is Jerry Coon signing off.

Jerry Coon is an Enrolled Agent. He owns Action Tax Service on Northland Dr. in Rockford. Contact him at www.actiontaxservice.com.

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The Tax Attic with Jerry Coon — July 1, 2010

July 1, 2010 · Filed Under Tax Attic · Comment 

Some deductions not legitimate

In today’s tax environment, where it behooves everyone to take advantage of all legitimate deductions, from time to time a program will be developed by a promoter that will look legitimate but really steps over the edge into the illegitimate. None of us has an obligation to pay more than our fair share of tax, but all of us have an obligation to pay our fair share of tax. These programs sound legal and are basically legal, but they step over that mythical line in the sand that makes them illegal and gets people fined, thrown into jail, or perhaps both.

Jerry Coon, Enrolled Agent

A popular one that I have seen over the years deals with the reimbursement to employees for the tools of their trade. Usually the employer is in a business where the employer and the employee spend a considerable amount of money on the tools of the trade, such as the construction business, the vehicle repair business, or the tool and die business.

In the legal and allowable program, the employer sets up a reimbursement policy where the employee buys a piece of equipment and turns in the receipt to the employer. The employer reimburses the employee for the tool. This reimbursement is a non-taxable reimbursement to the employee and is deductible to the employer and is very legal. There are some rules, however, that must be followed to ensure the Internal Revenue Service will agree that the reimbursement plan is legal. I will go over those rules at the end of this article.

However, before we get to the “do’s,” let’s review what makes a legal plan illegal. First, the biggest “don’t do” is for the employer to pay the employee a flat amount whether or not the employee spends or even expects to spent an amount on tools. This is a big no-no.

The second “don’t do” is to make the reimbursement a substitute for wages, i.e. the employee is earning $20 per hour and the employer simply re-characterizes $3 of that $20 per hour as a non-taxable tool reimbursement. By doing this re-characterization, the $3 becomes not subject to regular taxes and payroll taxes and doesn’t show up on the W-2 of the employee but is still deductible to the employer. This is patently illegal.

The third “don’t do” is to reimburse too many different items under a tool reimbursement plan. Items such as automobile usage, computer usage, and cell phone usage are considered “listed property,” have special rules, are not considered “tools” and may not be reimbursed via a tool reimbursement plan. Tools are tools. Listed property, within the context of our tax system, is not considered tools.

The fourth “don’t do” is making the employee substantiate his purchases, but failing to require that substantiation be specific as to the amount of the item he purchased, the date it was purchased, and the item purchased. Allowing the employee to use anything but a legitimate bill of sale is taking a chance.

The fifth “don’t do” is giving a cash advance or allowance to the employee to help him purchase tools. The program is a reimbursement program not a cash advance program.

The sixth “don’t do” is allowing the employee to be reimbursed for personal expenses. The employee can only ask to be reimbursed for tool expenses.

Finally, the seventh “don’t do” is allowing the employee to ask for reimbursement for tools purchased before he became an employee of the employer. Only expenses incurred after the employee starts working for the employer are considered legitimate.

The “do’s” of a legitimate reimbursement plan are the opposite of the illegal plan. The employer must have a written reimbursement plan spelling out when and how a qualified employee can ask for reimbursement for a purchased tool. The written plan must have an annual limit and can have an approved vendor list. The legitimate plan has a claim form that must be signed by the employee identifying the purchase, certifying that the employee will not also claim the purchase on his individual tax return, and also that the tool purchased is required to properly complete the employee’s job.

Many employers have these types of reimbursable plans. Following the rules makes them legal, gives the employee a way to purchase the tools of his trade, and allows the employers to make these reimbursements on a non-taxable basis. This is Jerry Coon signing off.

Jerry Coon is an Enrolled Agent. He owns Action Tax Service on Northland Drive in Rockford.

Contact him at www.actiontaxservice.com.

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The Tax Attic with Jerry Coon

June 17, 2010 · Filed Under Tax Attic · Comment 

How can the Social Security system be fixed?

 

Jerry Coon, Enrolled Agent

 

Why does it need to be fixed? Without some adjustments or fixes, the system will be totally bankrupt in about 2037, even though it has a two trillion dollar surplus at this moment in time. If no adjustments are made, when the system goes bankrupt, it will be run on a money-in, money-out basis. According to projections, there will only be enough money coming in to support benefits going out at a 75% level, i.e. benefits will be immediately reduced by 25%.

There have been a number of reports issued with ideas of what can be done to put off reaching this 2037 bankruptcy date. According to the U.S. Department of the Treasury’s paper titled “Social Security Reform: The Nature of the Problem,” “Social Security can be made permanently solvent only by reducing the present value of scheduled benefits and/or to increasing the present value of scheduled tax benefits… only these changes can restore solvency permanently.”

Translation: Cut benefits and/or raise taxes. The present value of scheduled benefits is calculated to be $13.6 trillion dollars. This figure can be reduced in a number of ways. The bottom line is you and I would draw less in benefits over our retirement years or will pay more in taxes.

First, benefits can be cut by 20%. According to the experts, cutting benefits by 20% immediately would put the system on a firm footing for at least the next 75 years and perhaps permanently. No other changes would have to be made.

Second, barring this major change, the age at which retirement benefits can be accessed can be raised. Currently, the maximum full retirement age is 65 for those born in 1937 or earlier, increasing to age 67 for those born in 1960 or later. Most everyone, however, can begin drawing at age 62, albeit with up to a 30% reduction in benefits.

When President Roosevelt initiated Social Security, benefits could be accessed only when reaching age 65. Back then, coincidentally, the life expectancy was 65 so the system was stacked to not pay out many benefits. There was no drawing at age 62, even with a reduced benefit.

Theoretically, if the age 65 life expectancy had been adjusted for the increasing life expectancies, full retirement age would be closer to age 75 now. Increasing the full retirement age to 75 would dramatically decrease the $13.6 trillion present value figure.

Third, the early-drawing age of 62 could be raised to age 65, for example, or the current 30% penalty could be increased to 50%.

Fourth, the disability system could be revamped. Currently, if a taxpayer becomes disabled, the amount of benefit paid is equal to what that taxpayer would draw at full retirement age. This could be reduced to 80% or 90%.

Evidently, with the collapse of the economy and many taxpayers out of work, there are record numbers of people applying for disability. These record numbers are not factored into the $13.6 trillion dollar present value of benefits figure. It might be imperative to adjust the disability benefit figure just to keep 2037 at 2037.

Fifth, the system could implement an asset-based formula. If a taxpayer has assets above a set figure, say $300,000, benefits begin to phase out. When the assets are above $600,000, the taxpayer will not receive benefits that year. Each year stands on its own. Everyone realizes this would create an administrative nightmare, but there are a few countries in the world that seem to have transitioned to this type of system.

Of course, the flip side of decreasing benefits is raising taxes. This side of the equation does not lower the present value of benefits, but it brings in more money to pay the benefits.

First, currently, each employee pays in 6.2% of their wage into the Social Security system. The employer matches this 6.2% for a total of 12.4%. Increasing this tax to a total of 15.9%—6.95% for the employee and 6.95% for the employer—would bring in sufficient funds without cutting benefits to also put the system on firm footing for the next 75 years and perhaps permanently.

Second—and this is President Obama’s favorite—currently the 12.4% is paid on the first $106,800 of wages. Under the President’s plan, the 12.4% would be paid on all wages. There would be no maximum. Make $500,000; pay 12.4% on the full $500,000. Make $1,000,000; pay 12.4% on the full $1,000,000. In the interest of fairness, I would think these people would be entitled to higher benefits, so this would also serve to increase the present value of benefits.

Third, presently up to 85% of benefits can be taxable. With a stroke of the President’s pen, 100% of all benefits could be taxable 100% of the time. It could happen.

The only two stand-along changes available are to reduce benefits by 20% or increase payroll taxes to 15.9%. All other changes would require a little bit of this and a little bit of that. It will be interesting to see how this turns out—2037 will get here sooner than any of us ever thought. This is Jerry Coon signing off. 

Jerry Coon is an Enrolled Agent. He owns Action Tax Service on Northland Drive in Rockford. Contact him at www.actiontaxservice.com.

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The Tax Attic — June 10, 2010

June 10, 2010 · Filed Under Tax Attic · Comment 

Social Security benefits to dwindle

Since The Rockford Squire doesn’t have a writer covering Major League Baseball—and I love baseball—I’m obligated to comment on the Detroit Tigers’ Armando Galarraga’s brush with fame. Galarraga could have had a permanent piece of fame had Umpire Jim Joyce gone to that last eye doctor appointment. But alas and alack, Joyce missed the appointment and he also missed the obvious out call at first base that relegated Galarraga to a one-hitter instead of the 21st perfect game in all of major league baseball history. Oh, by the way, no Detroit pitcher in the 100-plus years of Tigers baseball has ever pitched a perfect game. Talk about a rare occurrence. All Galarraga got was his 21st regular career victory, and it’s doubtful he will get anywhere close to that perfect game for the rest of his career. Maybe in his next life, he won’t have Joyce umpiring first base when he gets to two out in the ninth and that umpire makes the right call.

Jerry Coon, Enrolled Agent

Current baseball rules just do not allow anyone, even Commissioner Selig, to change a call once the umpire says “play ball” and throws the next ball into play. The only one who could have made a difference in this whole sad state of affairs was Tigers Manager Jim Leyland. He knew or should have known that once he left the field and the home plate umpire directed Galarraga to “play ball,” the perfect game was dead. Forever. Leyland could have not left the field of play until he demanded that Joyce ask the other umpires if one of them, particularly the second base umpire, had a good look at the play. Joyce then either had the choice of throwing Leyland out of the game or asking the other umpires for help.

I’m thinking that at some point with 18,000 fans booing him, with the Tigers’ normally quiet Miguel Cabrera chewing on him, and Galarraga smiling at him, Joyce would have gotten the message that something was wrong and he would have consulted with the other umpires and ultimately the call would have been reversed. Then Galarraga’s 21st victory would have been the 21st perfect game thrown in baseball history thus assuring him of his rightful place in history. Then Joyce would continue to be known for the rest of his career as a solid, veteran umpire instead of being known forever as the blindest, worst umpire in all of baseball. All for the want of a manager who left the field after about five seconds of arguing. Shame on him.

This week, let’s continue to discuss the future of Social Security. Presently, the system has approximately a two trillion dollar surplus. Sounds like a lot of money until you look at the total amount of money due to beneficiaries over their lifetimes. The actuaries calculate that the present value of all benefits payable is 13.6 trillion dollars. Now that’s a lot of money.

In approximately seven years, in 2017 or 2018, more money will begin to flow out of the Social Security system than is going in. This year, there are 51 million recipients drawing approximately 650 billion dollars annually. There are 3.1 people paying into the system for each of the 51 million people drawing. For comparison purposes, in 1950, there were 16 people paying in for each beneficiary. Even after paying out 650 billion dollars, there is still a surplus this year of approximately 100 billion dollars.

In the next few short years, that annual surplus is gone. By around 2022 or 2023, the system will be running a 100 billion dollar deficit. There will be only two people paying into the system for each person drawing. By around 2037, 100% of the accumulated surplus of two trillion dollars is gone. If nothing is done to correct that progression, the moment the money runs out, benefits for each and every recipient will have to be cut by 25%.

We all know the federal government is good at printing money, but even it won’t be able to print that much money. Benefits will be cut by at least 25%. After the initial cut, over the next 25 years, it is projected they would potentially be further decreased by another five percent.

But there are some actions that can be taken now that will delay the 25% cut in benefits. None of them are extremely painful, and next to a 25% cut, they don’t look all that bad. Next week, I will go over those actions that can delay the cuts. This is Jerry Coon signing off.

Jerry Coon is an Enrolled Agent. He owns Action Tax Service on Northland Drive in Rockford. Contact him at www.actiontaxservice.com.

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