Don't miss the deadline!

If you are like 40% of the population, you will file your tax return as soon as you possibly can in order to

A) get it over with and/or
B) receive your refund more quickly.

More than thirty-eight million taxpayers in the United States file by the end of February.

However, if you are one of those lifelong procrastinators who always waits until the last minute… This is your year!

When are taxes due for 2011? Instead of Tax Day falling on the usual 15^th day of April, this year your 2011 tax return will not be due until Tuesday, April 17^th, 2012.

Due to a combination of interesting circumstances, we all get a three day extension to file our federal income tax returns. In the United States, the tax deadline can never fall on a Saturday or Sunday. If April 15^th lands on a weekend, taxes will not be due until the following Monday. Tax Day can also not be on a federal holiday.

Filing Taxes Due Date

What’s interesting about April 16^th, 2012, is that it isn’t a weekend or a federal holiday. This year Washington, D.C., will be celebrating Emancipation Day on the 16^th, thus bumping our federal tax due date to Tuesday the 17^th.

Emancipation Day is the anniversary of the Compensated Emancipation Act; that is, the day Abraham Lincoln freed 3,100 slaves in the District of Columbia – making them the first to be freed by the federal government. Emancipation Day was made an official public holiday in 2005.

Thanks to President Lincoln and the weekend rule, we all have a few extra days to figure out our taxes.

Note: Since you’ve been giving a few extra days to file, I would encourage you to not put it off too long. Their are penalties and fines if you don’t file your tax return or even file it late.

Reasons to File Your Taxes On Time

Although we have all been given this three day reprieve, taxpayers should still try to get their tax returns filed expediently for several reasons.

Remember, most other federal income tax deadlines remain the same. For example, state income tax returns are still due on April 15^th and the overseas exception due date is still June 15^th, 2012. However, any taxpayer needing to file an individual federal income tax return extension will have until October 15^th.

Becoming self-employed can be very exciting and financially rewarding. However, there are plenty of financial issues that can overwhelm you.

Here are 5 tips to cut through the confusion of starting your own business:

Tip #1: Find an Accounting Professional

When you start working for yourself, you typically have to wear many different business hats. All of a sudden you’re the CEO, CFO, and are also running the legal and sales departments!

I can tell you from personal experience that when you go into business, one of your new best friends should be a Certified Public Accountant (CPA). Find a local professional that you can meet face-to-face and who seems to understand the kind of work you do. A good accountant can save you money by making sure you plan accordingly for taxes and write off as many business expenses as possible.

Tip #2: Be Prepared for the Self-Employment Tax

Something that can take new entrepreneurs by surprise is the self-employment tax. Here’s why: When you work as an employee, you only pay for half of your Social Security and Medicare taxes and your employer pays the other half. When you become your own boss, you have to pay 100% of these taxes and it can be a lot more than you think.

The self-employment tax for 2011 is 13.3% (10.4% for Social Security and 2.9% for Medicare). The first $106,800 of your combined wages, tips, and net earnings for the year are subject to the Social Security tax—but all of it is subject to the Medicare tax.

You file self-employment tax on Schedule SE with your Form 1040. Remember that if you don’t report all your self-employment income, your future Social Security benefits will be reduced.

Tip #3: You Must Pay Estimated Taxes

In addition to self-employment tax, you also have to pay federal and state income tax 4 times a year based on how much you think you’ll earn, even if you’re just working part-time at your business. The IRS requires estimated tax so you don’t spend money that really isn’t yours. Otherwise, you could find yourself unprepared to pay a huge tax bill at the end of the year. An accountant can help you calculate the amount you should pay in estimated taxes each quarter.

Tip #4: Deduct Business Expenses

Even though you have to pay more in taxes when you’re self-employed, you’ll have the benefit of being able to deduct qualified business expenses. Those are all the common and necessary costs of running your business, such as office supplies, computer software, liability insurance, entertaining, or travel, for instance.

You can deduct all or a portion of qualified expenses from your taxable business income, which reduces the amount of tax you owe. For more information refer to IRS Publication 334, Tax Guide for Small Business.

Tip #5: Use Financial Software

There are many software programs and online services that can help you keep up with your business expenses and tax deadlines so your business runs smoothly. QuickBooks is the most popular desktop accounting software. If you prefer to work in the cloud, check out QuickBooks Online, FreshBooks, and Outright, which are paid and free online accounting programs.

Successful entrepreneurs know how to leverage their unique skills and abilities. If keeping up with the financial details of your business isn’t one of your strengths, be sure to leave it to a professional. Instead, use your time to refine what you do best, so you can grow your business.

photo credit: Sharon Drummond

From devastating tornadoes, to flooding, to an unexpected earthquake on the East Coast, it’s been a big year for disasters. So far, hurricane season hasn’t been as a huge a deal as one might expect (although my husband’s grandmother’s house was destroyed by Irene), but we still have a few months to go. If you have been affected by a disaster, the IRS allows you to deduct some of your losses.

If You Live in a Federal Disaster Area

One of the most important designations when it comes to getting help with a tax deduction is being in an area designated as a federal disaster area. When you live in an area that is has been offered the “federal disaster” designation, you can actually amend your previous year’s tax return. So, if you were hit with a disaster this year, you can amend your 2010 tax return to reflect the loss — and get a refund this year. You will need to use IRS Form 4684 (Casualties and Thefts) in order to claim your deduction.

Of course, you don’t have to amend your tax return if you don’t want to; you can claim the loss on your 2011 taxes, to be filed in early 2012. Realize, though, that you can’t claim your loss twice. Once you claim it on one tax return, you can’t claim it on future tax returns. Keep that in mind.

Deduction for Any Disaster Loss

You don’t have to be in a federal disaster area to deduct your losses, though. You can still claim losses from the current year on your next tax return. You would still file Form 4684. Realize, though, that whether your home is in a federal disaster area or not, you can only claim losses that are not covered by your insurance. If you have disaster insurance, or if your homeowner’s insurance covers the disaster, you can’t deduct those losses. You can only deduct what your insurance company doesn’t cover, and then your claim has to be more than 10% of your Adjusted Gross Income (AGI).

In order to figure a deduction for disaster loss on your home, you need to determine the adjusted basis. This is represented by the purchase price plus improvements, or by the reduction in fair market value after your loss. Your adjusted basis will be considered whichever of these is less. Once you have the adjusted basis, you subtract the amount of money your insurance company paid to help offset the loss. Then, you have to subtract $100. Finally, you determine whether the result is at least 10% of your AGI. If it is, you can take the difference between 10% of your AGI and what your figure to come up with your deduction.

As an example: Your home is damaged by a flood. You document that your cost basis is $20,000 less than the fair market reduction of $50,000 that your home received. You have flood insurance, and it covers $13,000 of your damage. You subtract the $10,000 from your insurance company from the $20,000 to arrive at $7,000. Next, you subtract $100, leaving $6,900. Next, you have to look at your AGI. If your AGI is $58,000, 10% would be $5,800. That’s less than the $6,900, so you can subtract it from that number to figure your deduction, which is $1,100.

Before you take this deduction, it might be a good idea to consult with a tax professional or financial professional, and look at Publication 547 from the IRS.

All American citizens who are employed by a business or self-employed and meet the IRS requirements are required to file a tax return. A tax return will state any income you made for the year, any deductions you are entitled to, any tax credits allowed to you and any monies you may owe to the government. Almost all types of income you receive throughout the year are required to be reported on your tax return.

Earnings

Wages that you earn throughout the year must be reported on your tax forms. This type of income includes any monies made from any services that you have provided in relation to your occupation. It is required that your employer must withhold income from your wages for Medicare, Social Security and income tax. A W-2 form must be placed in the mail no later than January 31st of each year from your employer. This W-2 form is necessary to report your wages on your tax return. Self-employed individuals are also required to report wages to the federal government. Those who are self- employed need to keep accurate records of any income and may be required to report income and pay taxes to the IRS on a quarterly basis.

1099 Forms

The federal government requires that you must report any interest payments that you received as income. These types of payments come in the form of interest earned on savings and bank accounts, retirement accounts, any royalties received from a business and any interest received from business investments. Any form of income that is received as investment interest or a dividend is considered taxable income that also needs to be reported on your tax filings. Companies that issue payments on these forms of interest must send you a 1099 form which can differ in relation to the types of interest you are receiving. If you earn more than $10 in any sort of banking account, you will be issued a 1099 but any funds received as interest must be reported, even those under $10.

Social Security

When receiving Social Security benefits, it may be necessary to report those benefits to the IRS while filing your tax returns. Starting in 2011, the Social Security benefits must be reported that includes any other above related income totaling your return above $25,000 as an individual and $32,000 as a married person. You will want to use either a 1040 or 1040A form to report this type of income.

Random Income

This type of income includes any funds that you do not receive on a regular basis. Examples include funds received for hosting a party, life insurance or death benefits, unemployment and any contributions made through a campaign. For instance if you sell a piece of jewelry on EBay, you are required to report the proceeds as income. The fees charged by EBay are for use of their service, not for purposes of paying taxes. Or if you win a gift card in a raffle, this money is also to be reported as income. All of these types of random income must be reported to the IRS.

photo credit: Dave Dugdale

There was a brief moment in college that I considered becoming a CPA – that is until I took Business Tax – yikes!  While I lost the desire to become a CPA, I never questioned their importance. Having a good CPA is essential in having a successful business as mine has been there every step of the way.   It also makes sense for many families to have a CPA to help them navigate through the ever evolving tax code.

Then one day I was introduced to the title Enrolled Agent and, I have to admit, I had no clue what it meant.   I knew what a CPA was, but did not know the difference between a CPA and an Enrolled Agent.  

What is an Enrolled Agent?

An Enrolled Agent (EA) is a tax practitioner authorized by the United States federal government to represent tax payers in affairs with the Internal Revenue Service (IRS). The United States Department of Treasury empowers EAs to represent taxpayers for any audits, appeals or collections. This occupation is and has been regulated by Congress since 1884. It was originally established to investigate questionable and fraudulent claims that were submitted in the wake of the Civil War. Congress decided to regulate persons who were given the task of representing citizens in affairs with the United States Treasury.

How Do You Become An Enrolled Agent?

In order to become an enrolled agent, you must pass the Special Enrollment Examination or be able to provide enough documentation to show that your experience qualifies you for this position. The applicant will have to pass an extensive background examination that includes investigation of the applicant’s tax history. The examination is comprehensive and covers all facets of the tax code.

What Does the Enrolled Agent Do?

Enrolled agents are given the authority to prepare tax returns, advise and represent individuals, estates, corporations, partnerships and trusts. EAs are experts who keep up with the ever changing area of taxation. EAs are therefore effectively able to represent persons who are audited by the IRS. EAs are required to show they are competent in tax laws before they can represent a tax payer before the IRS. EAs receive their license from the federal government while Certified Public Accountants and attorneys are usually licensed by the state in which they reside.

Certified Public Accountant (CPA)

A Certified Public Accountant (CPA) is a person who is extremely knowledgeable in accounting practices and applications and is able to apply laws and regulations in practice.

How Do You Become A CPA?

Becoming a CPA requires passing a state exam and sustaining continuing education requirements throughout your profession. Many states have their own boards of accounting/accountancy that control the issuing of the CPA license. Qualifying in one state does not automatically mean that you are qualified to practice in another state.

The continuing education classes often require 120 hours of class time every three years through class room attendance, web seminars or online courses. Usually the minimum is 20 hours a year. Many states also require an ethics course to be taken for the renewal of a license.

What Does A CPA Do?

Many CPAs will prepare individual and business tax returns. They will attest to the truthfulness of disclosures made in tax statements and adhere to current tax laws.  My CPA was instrumental in helping me in my transition from W-2 employee to the realm of the self-employed.   I rely on him for many aspects for my business.

CPAs can work in finance fields such as:

• Corporate finance
• Estate planning
• Government affairs
• Financial planning
• Income tax
• Information technology as applied to finances in a business
• Tax preparation
• Management

CPAs are also commonly employed in large corporations as Chief Financial Officers or Chief Economic Officers. These CPAs represent the corporation and apply their business knowledge to the businesses financial needs. They do not offer services directly to the public, such as preparing tax statements.

photo credit: CIMA gallery

As the host of the Money Girl podcast, one of the most common questions I get from show listeners is about claiming the mortgage interest tax deduction–like this one from Alice:

If my husband and I forgot to take tax deductions for the past couple of years for our mortgage interest, what can we do? Is there a statute where you must use it or lose it?

What is the Mortgage Interest Tax Deduction?

If you’re not familiar with the mortgage interest deduction, it’s a great tax benefit for homeowners because it allows you to deduct the amount of mortgage interest you pay from your taxable income. If you’re a typical homeowner, you’re probably paying big bucks for your mortgage each year—so this tax deduction can save you a chunk of change by substantially lowering your tax liability.

Who Can Claim the Mortgage Interest Tax Deduction?

But not every homeowner is eligible to take the mortgage interest tax deduction. My first response to Alice’s question is to make sure that she and her husband are eligible to claim it. Here are the two major hurdles you have to jump over in order to take advantage of the mortgage interest deduction:

Rule #1: You must have secured debt on a qualified home in which you have an ownership interest.

Rule #2: You must file your federal income taxes using Form 1040 and itemize deductions on Schedule A.

What Is Secured Debt?

The first rule above has two parts that I’ll define: “secured debt” and “qualified home.” According to the IRS, a secured debt is one in which you sign an instrument—like a mortgage, deed of trust, or land contract—that :

• makes your ownership in a qualified home security for payment of the debt,
• provides that your home could be sold to satisfy the debt, and
• is recorded under applicable state or local law.

In other words, your home must be on the line as collateral if you don’t pay the mortgage. In general, the only time a mortgage might not be secured is if you have a wraparound mortgage, purchase with owner financing, or borrow funds to buy a home from a friend or relative.

Can You Deduct Interest on a Mortgage Refinance?

There are two types of debt that qualify for the mortgage interest tax deduction: acquisition debt and equity debt. Acquisition debt is any secured loan you get to buy, build, or remodel your main or second home. It includes refinanced debt up to the amount of your old mortgage balance just before doing the refinance. The total amount of interest you can deduct for acquisition debt is limited to one million dollars for your main and second home (or $500,000 if you’re married filing separately).

Can You Deduct Interest on a Home Equity Loan?

Equity debt, as I mentioned, also qualifies for the mortgage interest deduction. Equity debt is any loan secured by your main or second home that you took out for a reason other than to buy, build, or remodel. It could be money you spent to start a business, pay for education, or to take a vacation, for instance. It has a much lower limit than acquisition debt for claiming the interest deduction: $100,000 (or $50,000 if you’re married filing separately).

What Is a Qualified Home?

Now, let’s discuss the definition of a “qualified home” in the context of the mortgage interest deduction.  According to the IRS, a qualified home can be your main home and a second home. Either property can be a single family residence, condo, cooperative, mobile home, trailer, time-share arrangement, or even a boat, as long as they have sleeping, cooking, and toilet facilities.

If you’re married and file a joint tax return, your qualified home(s) can be owned by just one spouse or owned jointly. If you’re married and file separate returns, you can each claim the mortgage interest for one qualified home only—unless you consent in writing that one spouse can claim the deduction for both homes.

So, assuming that Alice does indeed have secured debt on a qualified home, she must also comply with the second IRS rule for claiming the mortgage interest deduction, which is itemizing deductions on Schedule A.

What are Itemized Deductions?

Itemized deductions are eligible expenses that you can report on your federal tax return to decrease your taxable income. You have the choice each year to claim either a standard deduction for your tax filing status or to add up all your actual deductions and claim them on Schedule A of Form 1040.

For example, if Alice and her husband file taxes jointly, their standard deduction for 2011 is $11,600. If they have more than $11,600 in total deductions to itemize, they’ll come out ahead by itemizing as compared to taking the standard deduction. Since most homeowners pay a boatload of mortgage interest each year, it’s likely that Alice’s family is no exception and would have plenty of deductions to make itemizing worthwhile.

How to Claim a Forgotten Mortgage Interest Deduction

So what should Alice do if she and her spouse were eligible for several years’ worth mortgage interest deductions, but they slipped up and didn’t claim them? That could mean they overpaid taxes for years. Any time you discover an error on your tax return that’s due to your income, tax deductions, tax credits, or tax filing status, you should amend it using Form 1040X. You must file a separate Form 1040X for each year you amend and it must be a paper form because the IRS doesn’t allow amended returns to be filed electronically. Also remember that your state tax liability may change if you amend your federal return.

Generally, to claim a tax refund you must file Form 1040X within three years from the date of your original return or within two years from the date you paid the tax, whichever is later. That means Alice can probably amend her returns for 2010, 2009, and 2008 and reclaim her precious but forgotten tax breaks.

Who’s entitled to the deduction if you own a home with multiple people or are not on the mortgage or title? When you sign up at SmartMovesToGrowRich.com one of the free gifts you’ll receive is the “Mortgage Interest Tax Deduction FAQ Video” that I created to answer those common questions and more.

photo credit: Great Beyond

Most investors realize that when it comes to return on your portfolio it’s all down to bottom line.  What did I make net of cost and income tax? After factoring in federal income and capital gains taxes, the alternative minimum tax and potential state and local taxes, your investment returns in any given year may be reduced by 40% or more. Luckily, there are tools and tactics to help you manage taxes and your investments.

1. Invest in Tax-Deferred and Tax-Free Accounts

Tax-deferred investments include company-sponsored retirement savings accounts such as traditional 401(k) and 403(b) plans, traditional individual retirement accounts (IRAs) and annuities. In some cases, contributions to these accounts may be made on a pretax basis or may be tax deductible. More important, investment earnings compound tax deferred until withdrawal, typically in retirement, when you may be in a lower tax bracket. Contributions to nonqualified annuities, Roth IRAs and Roth 401(k) savings plans are not deductible. Earnings that accumulate in Roth accounts can be withdrawn tax free if you have held the account for at least five years and meet the requirements for a qualified distribution. Unless certain criteria is met, Roth IRA owners must be 59 ½ or older and have held the IRA for 5 years before tax-free withdrawals are permitted.

2.Don’t Forget About the Muni’s

Municipal bonds, or “munis” as they are frequently called, are bonds issued by state or local municipalities to fund public works projects such as new roads, stadiums, bridges or hospitals. A municipal bond can also be issued by legal entities such as a housing authority or a port authority. For this reason, municipals can be an excellent way to invest in the growth and development of your community.

In addition, because the interest earned on municipal bonds is exempt from federal income taxes and may be exempt from state and local taxes (if they are purchased by residents of the issuing municipality), munis have the potential to deliver higher returns on an after-tax basis than similar taxable corporate or government bonds. What this means is that although the interest paid on municipal bonds is typically a lower percentage than is paid on taxable bonds, because it is tax free, it is, in effect, not as low as it appears. A simple calculation known as the “taxable-equivalent yield” can be used when considering an investment in a municipal bond.

For instance, if your income tax rate is 35%, a municipal bond paying 5% interest is actually a better investment than a taxable bond paying interest at 7.7%. Thus, for investors in a high tax bracket, the benefits of using municipal bonds in a fixed-income portfolio can be significant. Municipal bonds are subject to availability and change in price. Subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rate rise. Interest income may be subject to the alternative minimum tax. Federally tax-free but other state and local taxes may apply.

3. Be Tax Conscious With Your Investments

Tax-managed investment accounts are managed in ways that can help reduce their taxable distributions. Your investment manager can employ a combination of tactics, such as minimizing portfolio turnover, investing in stocks that do not pay dividends and selectively selling stocks that have become less attractive at a loss to counterbalance taxable gains elsewhere in the portfolio. In years when returns on the broader market are flat or negative, investors tend to become more aware of capital gains generated by portfolio turnover, since the resulting tax liability can offset any gain or exacerbate a negative return on the investment.

4. Take A Loss

At times, you may be able to use losses in your investment portfolio to help offset realized gains. It’s a good idea to evaluate your holdings periodically to assess whether an investment still offers the long-term potential you anticipated when you purchased it. Your realized losses in a given tax year must first be used to offset realized capital gains. If you have “leftover” losses, you can offset up to $3,000 against ordinary income. Any remainder can be carried forward to offset gains or income in future years.

5.  Get Organized

Keep records of purchases, sales, distributions and dividend reinvestments so that you can properly calculate the basis of shares you own and choose the most preferential tax treatment for shares you sell.

Keeping an eye on how taxes can affect your investments is one of the easiest ways to help enhance your returns over time. For more information about the tax aspects of investing, consult a qualified tax advisor.

photo by curious_spider

You work, you save, you retire – it’s the American way, right?  But what happens when you have done a good job saving and get to be one of the lucky ones to retire early – are you still subject to the IRS rules of being age 59 1/2  before you can touch your money? (Side rant: what the heck is up with the IRS and these 1/2 ages anyway? This concludes my rant.)  If you are stressed about having to pay the 10% early withdraw penalty, don’t freak out just yet.   The IRS – believe it or not – does allow methods to withdraw funds from your 401k without penalty.  Just make sure you follow the rules before you claim your prize.

A few notes before hand…

1. You always have the option to take a 401k loan (if your plan allows it).  Does that mean you should take it?  I’m hoping that you have ample emergency funds that you can tap first. Stated another way and more blunt: You BETTER have enough emergency funds. Got it? If not, make sure you know the 401k hardship rules.
2. Before you make any withdraws at of your 401k, do more than just read this post.  Consult your financial advisor and/or tax professional to make sure you have your bases covered.

Another thing, the methods shared below allow you avoid the 10% penalty, but they do not….I REPEAT…..do not prevent you from having to pay the tax.   Now that we have that taken care of, let’s see how you can withdraw funds from your 401k penalty free….

1. A Visit From The Grim Reaper

Okay, I’m sure that death is probably not the option that you wanted to hear.  I guess technically you don’t benefit.  Rest assure that your family will benefit in that they can use your retirement funds to cover burial expenses and supplement other income needs now that you’re not around.   Just make sure to update your beneficiaries << you have been warned.

2. Qualifying Disability

If you have been deemed to be disabled either buy an insurance company or Social Security, then you are entitled to withdraw from your 401k penalty free.  You’ll have to provide a disability letter to your 401k custodian to verify your status and avoid the penalty.

3. Medical Bills

A visit to the emergency room can add up really quick nowadays.  Our middle son banged his head on our bathroom doorway and we found that out really quick.  CHA-CHING!  If you don’t pay them, next thing you know you have debt collectors hounding you.   To avoid the penalty a few things have to occur:

1. Withdraw Same Year. You have to take the money out in the same year you incurred the medical bills.
2. 7.5% Rule. Take 7.5% of your AGI (Adjusted Gross Income) and that’s the to the extent that the unreimbursed medical bills that you’ll be allowed to claim penalty free from your 401k.

On a side note, it is not required to itemize your deductions to qualify for this.  If you don’t know what that means, then you better pay somebody to do your taxes for you.

And if you think that I had to tap my 401k to pay for my son’s emergency room visit, get your head out of the gutter.

4. Disaster Relief

With all the storms and flooding that have hit the U.S. recently, it’s a comfort knowing that if your area is deemed for disaster relief you can tap your 401k for necessary expenditures.

5. 55 and Separated From Service

According to the IRS, those that retire early or force out may have access to their 401k early.   This is their wording:

“Made to a participant after separation from service if the separation occurred during or after the calendar year in which the participant reached age 55″

You can take a distribution from a qualified defined contribution plan, i.e. 401(k), and avoid the 10% penalty. A couple key things to note on doing this is that it must be from the 401(k), 457 or 403(b), to avoid the 10% penalty. This actually happened to my father in law as his company went through a buyout and he was offered an early retirement package at the age off 55.  We ended up taking a distribution from his 401k to have some cash on hand and then rolled the rest into his IRA.

Don’t miss this important point: DO NOT roll over to an IRA if you think you may need some money.

If you have already done a 401(k) rollover into a traditional IRA, you have already missed this opportunity. Once you hit the IRA and you take a withdrawal, you are then assessed a 10% penalty.  Rolling to an IRA might make sense later on, but until you know for sure – don’t do it.

6. Stay Equal and Periodic With 72t

Another more complex strategy – that I’m not very fond of – is the little know rule of 72(t).  Why am I not fond of it?  Because 1. it locks you in for long time and 2. it’s too complicated for most.

What is the rule 72(t)?  The rule of 72(t) states that withdrawals from your 401k have to be “substantially equal periodic payments. You must use one of the three methods that the IRS has determined and then take your payment on a set schedule for a specific time period. It is required that you take those payments for either 5 years or when you turn 59 1/2 , whichever comes later.

Example of 72(t)

Let’s say you retire at the age of 53 and you elect to do 72(t) then you must take equal payments for 7 years.  If you happen to need more money during that 7 years stretch, then you’ll have to go back and pay the 10% penalty on everything taken out to that point.   Now do you see why I’m not a big fan?

If you start later on, say 56, then you’ll have to take it for 5 years till the age of 61 even though you’ve already hit 59 1/2.

401k Penalty Free Withdrawals

As you can see, there are ways to tap your 401k penalty free.  Just make sure you follow the rules.

2011 is well under way and there is much to report regarding this years tax law changes. Congress has restored the estate tax, cut the payroll tax and retained and/or restored a variety of tax breaks.

Here’s a look at some recent developments in federal tax law – not just the changes for 2011-2012, but also the decisions (some quite recent) that may impact your 2010 return. This is by no means a tax planning guide, just an update on what has changed and what hasn’t.

Here’s a look at the numerous revisions, alterations and restorations to federal tax law affecting tax years 2010, 2011 and 2012.

1 The federal income tax brackets remain at 10%, 15%, 25%, 28%, 33% and 35% for 2011-2012.

The ordinary taxable income brackets for TY 2011 are set as follows, reflecting minor COLAs:

• Single Taxpayers:
  • 10% bracket has a ceiling of $8,500
  • 15% bracket starts @ $8,501
  • 25% bracket starts @ $34,501
  • 28% bracket starts @ $83,601
  • 33% bracket starts @ $174,401
  • 35% bracket starts @ $379,151

• Married Filing Separately:
  • 10% bracket has a ceiling of $8,500
  • 15% bracket starts @ $8,501
  • 25% bracket starts @ $34,501
  • 28% bracket starts @ $69,676
  • 33% bracket starts @ $106,151
  • 35% bracket starts @ $189,576

• Head of Household:
  • 10% bracket has a ceiling of $12,150
  • 15% bracket starts @ $12,151
  • 25% bracket starts @ $46,251
  • 28% bracket starts @ $119,401
  • 33% bracket starts @ $193,351
  • 35% bracket starts @ $379,151

• Married Filing Jointly or Qualifying Widow/Widower:
  • 10% bracket has a ceiling of $17,000
  • 15% bracket starts @ $17,001
  • 25% bracket starts @ $69,001
  • 28% bracket starts @ $139,351
  • 33% bracket starts @ $212,301
  • 35% bracket starts @ $379,151²

2 The payroll tax paid by employees and the self-employed has been reduced by 2.0% in 2011.

This means many Americans will effectively get a 2% raise this year. The reduced withholding could mean as much as $2,136 in savings, as earnings up to $106,800 are subject to payroll tax. No phase-outs apply, and if taxpayers are married, both spouses can get the individual deduction.^3,4

Two related notes:

• The partial credit for payroll taxes paid by employers is gone this year.⁵
• As a result of this payroll tax holiday, the Making Work Pay credit is gone for 2011. However, many taxpayers can still claim the Making Work Pay credit for 2010 ($400 for individual taxpayers, up to $800 for taxpayers married filing jointly, income phase-outs applicable).⁶

3 The estate tax is back for 2011- 2012.

For this year and next, the federal estate tax is set at 35% with a $5 million individual exemption.⁴ Please note that:

• The $5 million individual exemption is portable. This means that an executor may elect to transfer an unused $5 million individual estate tax exemption (upon the death of one spouse) to the surviving spouse. So with this new portability, a married couple could potentially transfer up to $10 million of assets without incurring federal estate tax.⁷
• In 2011, an executor of an estate for a decedent who died in 2010 may choose between two options in administering said estate. That executor can elect to

1. Subject the estate to the 2011 federal rules (35% estate tax, $5 million estate exemption, stepped-up basis for appreciated assets per IRC rule 1014).
2. Subject the estate to the 2010 federal rules (0% estate tax and the $1.3 million modified carryover basis for appreciated assets in the estate, which becomes $3 million for assets passing to a surviving spouse).⁸

4 The estate tax, the gift tax and the generation-skipping tax (GST) have all been reunified for 2011-2012.

They all have top rates of 35% with $5 million individual exemptions. The individual estate and gift tax exemptions are portable between married couples; the GST exemption is not. The GST has been restored for 2011; it was 0% in 2010.^4,8

The annual gift tax exclusion remains at $13,000 per donor in 2011. A single taxpayer may gift up to $13,000 to an unlimited number of individuals. The lifetime exclusion (see above) is $5 million.⁴

In addition to the annual exclusion, an unlimited gift tax exclusion is allowed for amounts paid on behalf of a donee directly to an educational organization for tuition. Likewise, amounts paid directly to health care providers also qualify for the unlimited gift tax exclusion.⁹

5 Tax rates on capital gains and dividends haven’t been hiked.

In 2011 and 2012, the long-term capital gains rate is

• ^· 0% for taxpayers in the 10% and 15% brackets.
• ^· 15% for everyone else.⁴

6 Traditional IRA owners who go Roth this year can’t defer income resulting from the conversion into subsequent tax years.

In 2010, you had that option; this year, you don’t. If you went Roth in 2010, you have until October 17, 2011 to choose whether you wish to divide the income from the conversion between your 2011 and 2012 federal returns.⁴

7 High earners won’t be bitten by “stealth income taxes” during 2011-2012.

The Pease and PEP limitations – repealed for 2010 – are now on holiday through 2012. A quick explanation if you’ve never heard of them: the Pease provision cancels out up to 80% of the amount of a taxpayer’s itemized deductions if his or her AGI exceeds a certain level. In other words, you can deduct the full amount of your itemized deductions in 2011. The PEP (personal exemption phase-out) whittles away at the personal exemption benefit for taxpayers who reach certain AGI levels.^4,10

8 The charitable IRA rollover is back – at least for 2011.

In federal tax law, this is known as a Qualified Charitable Distribution – a tax-free donation of IRA proceeds to a qualifying charity or nonprofit. Given the generous $5 million individual estate tax exemption now in place, there may be less impetus to make such gifts – but nonprofits are just glad the opportunity is back.

To be tax-free, the donor must be 70½ or older and the donation has to take the form of a direct transfer (a rollover) from your IRA trustee to the qualifying charity, nonprofit foundation or nonprofit organization. (You can also make a tax-free donation of IRA proceeds to a fund held by a community foundation, but not a donor-advised fund.) You cannot claim a charitable tax deduction from this move.¹¹

Will this opportunity stick around after 2011? We don’t know. It is set to sunset at the end of the year.

• The Tax Relief Act of 2010 gives donors who make such Qualified Charitable Distributions before through January 31, 2011 the option to have them treated as QCDs on their 2010 federal tax returns.¹¹

9 The Small Business Jobs Act of 2010 extended some tax breaks and put some tax changes into play for small companies in 2011.

The SBJA was passed into law during September 2010, and its recently enacted laws will affect both 2011 and 2010 federal returns.

• Full business expensing is permitted for 2011, just as it was in 2010. The IRC Section 179 expense deduction limits of 2010 remain in effect this year. A small business can write off 100% of the expense of qualifying equipment or computer software made in 2011 with a $500,000 limit. The capital expenditures can be on new or used equipment. Your company has to be profitable in order for you to take full advantage of the write-off, and you can’t take complete advantage of it if you have spent more than $2 million on qualifying capital in the given tax year.^12,13

• 100% exclusion possible on gains from small business stock. If you bought such stock after September 27, 2010, any gain may qualify for a 100% exclusion under IRC § 1202.).¹³

• The bonus first-year depreciation has been extended. If your company purchases new tangible or intangible property in 2011 (which includes buildings, machinery and equipment, vehicles, furniture, software and even patents and copyrights), your company can claim 100% of its cost as long as your business uses the property before 2012. This 100% depreciation also applies for tangible or intangible property bought after September 8, 2010. You can also claim 50% depreciation on purchases of this kind made from January 1 – September 7, 2010 as long as the tangible or intangible property is put into service prior to 2013. (Real property is not eligible for this tax break.) ^12,13

• The deduction for start-up expenses has doubled. The Small Business Jobs Act of 2010 raised it to $10,000 for 2010 and subsequent tax years. Phase-outs on this deduction now kick in at $60,000 worth of startup expenditures (previously, it was $50,000).¹³

• Some businesses may be able to claim a major health care tax credit. Does your business have 25 or fewer full-time employees? Are you paying most of them less than $50,000 annually? Do you pick up the tab for 50% or more of their health insurance premiums? If so, you may be able to deduct up to 35% of the money you spend on those premiums in tax years 2010-2013. To get the full 35% credit, you must have 10 or fewer full-time employees with annual wages averaging $25,000 or less. Above that, phase-outs apply. The tax break is unavailable if you have more than 25 full-time employees or if you pay your full-time employees average wages of more than $50,000.^12,13

• The carryback period for eligible small business credits under IRC § 38 was extended from 1 year to 5 years. This was put into effect for the 2010 tax year. Such credits may be used to offset both regular tax liability and AMT liability.¹³

• The depreciation deduction has increased for business-owned vehicles. The SBJA increased the maximum deduction for a passenger automobile first placed in service in 2010 to $3,060. The maximum deduction for a truck or van first placed in service in 2010 increased to $3,160. Remember that the car or truck has to be totally used for business purposes to take full advantage of the deduction.¹⁴

• In 2011, the holding period for S corporations is reduced by 2 years. The SBJA cut the holding period from 7 years to 5 years for 2011. So if your C corp elected to convert to an S corp as recently as 2006, it can sell appreciated assets this year without paying the built-in corporate level tax. This provision only applies in TY 2011.¹⁵

10 Employers must begin reporting employee health care benefits on Form W-2 in either 2011 or 2012.

This is an effect of the Affordable Care Act. For informational purposes, employers are now required to report the value of the health insurance coverage they offer to employees on W-2s. The IRS is offering employers a one-year grace period, however: it has deferred the reporting requirement for TY 2011, so this year it is optional. Reporting the value of the health care coverage to the IRS will not affect the taxable income of your employees.¹⁶

11 Landlords must abide by new IRS reporting requirements.

Prior to 2011, only full-time property managers and some lessors had to file 1099 forms with the IRS as a consequence of doing business. The Small Business Jobs Act of 2010 changed that.

Anyone who receives rental income in 2011 has to file a Form 1099 for all payments of $600 or more made to service providers – handymen, plumbers, carpenters, landscapers, electricians, any individual or company providing a service linked to your residential or commercial rental property. You don’t need to file 1099 forms for purchases of goods for your rental property, only services. Only aggregate annual payments of $600 or more for services have to be reported.

Unless Congress intervenes, such reporting will be demanded of all businesses, self-employed individuals and independent contractors come 2012.¹⁷

12 The first-time homebuyer credit is gone.

It expired at the end of September 2010. You can take advantage of the credit on your 2010 federal return if you closed escrow on a home before October 1, 2010 and had a binding contract in place prior to May 1, 2010.¹³

13 The personal exemption and standard deduction amounts have (barely) increased.

For 2011, the personal exemption amount increases by $50 to an even $3,700. Standard deductions are as follows for 2011:

• Single Taxpayers: $5,800
• Married Filing Separately: $5,800
• Head of Household: $8,500
• Married Filing Jointly or Qualifying Widow/Widower: $11,600²

14 The AMT has again been patched.

As part of the Tax Relief Act of 2010, the Alternative Minimum Tax exemptions were increased to these levels for 2011:

• Single Taxpayers and Heads of Household: $47,450
• Married Filing Separately: $36,225
• Married Filing Jointly or Qualifying Widow/Widower: $72,450¹⁸

15 The self-employed may be able to use the self-employed health insurance deduction to reduce their SECA taxes in 2010.

This was a mid-year tax law change that happened as a result of the SBJA. For TY 2010, self-employed business owners may deduct the cost of health insurance for themselves and their family members as a business expense when calculating self-employment tax. (You can do this on Schedule SE, Line 3.) Prior to 2010, the self-employed could only deduct health insurance costs for income tax purposes (on Form 1040, Line 29). A worksheet on all this accompanies IRS Form 1040. The health coverage must be arranged under the umbrella of your business, and you must not be eligible to participate in an employer-sponsored health plan.¹⁸

16 If you have a Flexible Spending Account, you can no longer use your FSA funds to pay for most over-the-counter medicines.

Insulin is a notable exception to this new rule. You can still use your FSA money for non-prescription medical or medically related items like crutches, wigs, contact lens solution and other items detailed within IRS Publication 502.⁴

17 Investment brokers have to provide the IRS with cost-basis reporting in 2011 when it comes to the sale of certain assets.

They must report the original purchase price of stocks, REIT shares and foreign securities to the IRS in 2011 when these assets are sold. In 2012, they will have to follow new rules for cost-basis reporting for mutual funds, bonds, options and many ETFs.⁴

18 If you own more than $50,000 in foreign financial assets, you may be subject to a new IRS reporting requirement.

You may have to meet additional reporting and disclosure requirements in 2011 in addition to filing an FBAR (Report of Foreign Bank and Financial Accounts). This new reporting requirement may impact hedge fund investors who previously didn’t have to file FBARs. Consult your tax advisor.⁴

19 The state and local sales tax deduction option is back for 2011 (and you can also claim it on your 2010 return).

Do you live where there are no local or state income taxes? Once again, you have the choice of taking a deduction for state sales taxes instead of the state income tax deduction for 2011 (and 2010).¹⁸

20 The $250 classroom supplies deduction for teachers is back for 2011 (and may be claimed for 2010).

Are you a K-12 educator who pays for classroom expenses out-of-pocket? Then you are able to take an above-the-line deduction to offset up to $250 of such costs.¹⁸

21 The higher education tuition and fees deduction is back for 2011 (and may be claimed for 2010).

The limit on this deduction is $4,000. (And if you’re reading this item, don’t forget about the American Opportunity Credit, a credit of up to $2,500 that can be used for the first four years of college and applied to the tuition costs and other higher education expenses.)^18,19

22 The adoption credit is larger – and it has been made refundable.

As you file your 2010 return, note that it is now $13,170 per child as opposed to $12,150 in 2009. As it is refundable, an eligible taxpayer can qualify for the credit even if he or she doesn’t owe any federal income tax. The adoption must be documented, so that means you can’t claim this credit via eFile.¹⁸

23 The Earned Income Tax Credit eligibility limit has increased to $48,362 and the Child Tax Credit has been expanded.

The result: more middle class and working class families may qualify for these credits. The CTC is a credit of up to $1,000. Under the new laws, you can claim the CTC if a child was no older than 16 in 2010 lived at home for more than half of 2010, and is claimed as a dependent on your 2010 federal return.¹⁹

24 If you bought a home in 2008 or 2009, you may have to repay up to 100% of any federal homebuyer credits related to the purchase on your 2010 Form 1040.

This is more likely if you bought your home during 2008. Most taxpayers will merely have to repay 1/15 of their credit in 2010. Consult your tax advisor.²⁰

25 Most unemployed individuals will have to report 100% of their 2010 federal jobless benefits as taxable income.

Not everyone who is unemployed realizes this. In 2009, the first $2,400 of federal unemployment insurance came to you tax-free. There was no such tax break offered for 2010.²⁰

26 No more real estate tax deduction for those that don’t itemize.

This is just a reminder that you can’t claim this deduction on your 2010 federal return. The additional standard deduction for property taxes went away at the close of 2009.²⁰

27 No more sales tax deductions for buying a new car or truck.

You won’t be able to claim these tax breaks for 2010, as they faded away at the end of 2009.²⁰

Citations.

• 1 irs.gov/newsroom/article/0,,id=233910,00.html [1/4/11]
• 2 irs.gov/pub/irs-drop/rp-11-12.pdf [12/10]
• 3 bloomberg.com/news/2011-01-18/it-s-not-too-early-to-think-about-2011-taxes.html [1/18/10]
• 4 online.wsj.com/article/SB10001424052748703675904576063903166546250.html [1/8/11]
• 5 turbotax.intuit.com/tax-tools/tax-tips/IRS-Tax-Return/Summary-of-Federal-Tax-Law-Changes-for-2010-2017/INF12041.html#2011 [1/19/11]
• 6 walletpop.com/2011/01/19/dont-forget-about-the-making-work-pay-credit/ [1/19/11]
• 7 naepc.org/journal/issue07a.web [12/20/10]
• 8 blogs.forbes.com/hanisarji/2011/01/02/new-year-different-rules-2011-estate-tax-gift-tax-gst-tax-rules/ [1/2/11]
• 9 turbotax.intuit.com/tax-tools/tax-tips/Tax-Planning-and-Checklists/The-Gift-Tax/INF12036.html [1/27/11]
• 10 taxpolicycenter.org/press/press-resources-pease.cfm [1/18/11]
• 11 ctphilanthropy.org/s_ccp/bin.asp?CID=14889&DID=45124&DOC=FILE.PDF [12/17/10]
• 12 money.cnn.com/2011/01/17/smallbusiness/small_business_new_tax_credits/ [1/17/11]
• 13 journalofaccountancy.com/Web/20113750.htm [1/14/11]
• 14 irs.gov/formspubs/article/0,,id=177054,00.html [10/14/10]
• 15 s-corp.org/2010/09/28/president-signs-big-relief/ [9/28/10]
• 16 irs.gov/newsroom/article/0,,id=220809,00.html [1/14/11]
• 17 realtor.org/wps/wcm/connect/f9c47a804427e7068bf5eb34cafa6d66/government_affairs_issue_brief_rep_rules_1099rev.pdf [1/18/11]
• 18 irs.gov/newsroom/article/0,,id=233927,00.html [1/4/11]
• 19 bloomberg.com/news/2011-01-18/children-can-mean-extra-tax-deductions-and-credits.html [1/18/11]
• 20 smartmoney.com/personal-finance/taxes/whats-new-on-the-2010-form-1040-1295384880669/ [1/20/11]
• 21 montoyaregistry.com/Financial-Market.aspx?financial-market=finding-a-tax-preparer&category=31 [1/28/11]