Archive for the 'Taxes' Category
Wednesday, November 11th, 2009
California has come up with another “creative” way to get some money from its residents. First, I had to figure out how to redeem my California IOU. Now starting back on November 1st, the state increased the income tax withholding on regular wages by 10%. There is no actual accompanying tax increase, they are just looking for an interest-free loan from now to when you file your income taxes.
According to the Franchise Tax Board, previously a single taxpayer making $51,000 a year and claiming one withholding allowance would have had $40.58 a week withheld from his or her paycheck. After Nov. 1, withholding increased to $44.64 a week, an increase of $4.06. Taking an extra $20 a month from someone making $51,000 a year seems more annoying in principal than anything else.
If you want to “undo” this gimmick, you can increase the number of withholding exemptions you claim on form DE-4, Employee’s Withholding Allowance Certificate, from your payroll department. You can also increase the exemptions on your W-4 form as well, but that just decreases the amount of federal tax withheld.
Fool around with the calculator at PayCheckCity and see how changing the number of allowances changes things (I don’t know if they’ve updated their calculators to include this change, but you’ll get the general idea). Just be sure that you’re paying enough income taxes to avoid underpayment penalties.
A much more detailed (and long-winded) article can be found at SacBee.com. Thanks to reader Sharon for the heads up.
Posted in Taxes | 23 Comments »
Sunday, September 6th, 2009
Back in July, the state of California started issuing what they called Registered Warrants, aka IOUs, to taxpayers, vendors, and local governments to whom they owed money. Due to a “cash-flow infusion” from JP Morgan Chase, the redemption date was moved up a month to as early as last Friday, September 4th. Through August 31st, the state had issued 457,238 IOUs totaling $2.37 billion. Here’s mine 
(click for larger version)Since I had to figure this out myself, I’ve tried to collect all the disparate information about how to redeem these IOUs below. The interest rate for these IOUs was set at 3.75% per year. You can estimate the interest accumulated on your IOU using this Excel calculator. Each $1,000 of IOU issued on July 2nd would have only accumulated about $6.70 of interest by now.
In Person
If you live near Sacramento, you can redeem your IOU with all accumulated interest in person for a check (not cash) at the State Treasurer’s Office located at 915 Capitol Mall, 1st floor.
Walk in hours are Monday through Friday from 8:00 a.m. to 4:00 p.m. Third parties redeeming IOUs by mail must include a notarized bill of sale signed by the person to whom the IOU was issued.
Via Snail Mail
You can also mail your IOU to the State Treasurer’s Office. According the state, IOU holders should receive their checks in a week to 10 days including mail time. Mail to:
Attention: Registered Warrant Desk
State Treasurer’s Office
915 Capitol Mall
Sacramento, CA 95814
It seems like you just mail the IOU by itself, although one press release said to be sure to include a return address. This makes sense especially if your address is different than the one printed on the IOU.
Pay Your Other Tax Bills
You can also use it as direct payment towards current and past due personal and corporate tax obligations. It is not clear if they will account for interest earned, but I can only guess that they won’t.
To pay a tax liability with an IOU, endorse the IOU on the reverse side with the phrase “Pay to the order of Franchise Tax Board” and your signature then mail it with the tax bill or estimated tax voucher. By law, FTB cannot deposit the IOU until it is payable, but FTB will credit the taxpayer’s account on the date the IOU is received to stop the accrual of interest. If the IOU is not sufficient to pay the outstanding balance, taxpayers should send an additional payment for the difference. Otherwise, the taxpayer will receive a bill reflecting the new balance due.
Deposit Directly At Bank
Some major banks with a presence in California, as well as many local community banks and credit unions are accepting these IOUs from their customers. Whether they will cash IOUs from non-customers, or if they will credit interest earned, is something to verify directly with them. If they do credit interest and you have an account with them, this would be the easiest and fastest method.
The following major banks will accept IOUs from their customers:
Bank of America (starting Sept. 9th)
Bank of the West
Citibank
Union Bank
US Bank (starting Sept. 8th)
Wells Fargo
The following major banks will NOT accept IOUs from their customers:
Chase
Wells Fargo and Bank of America have publicly stated that they will credit interest paid by the state to their customers’ accounts. BofA will accept the IOUs on September 9th, and then will credit the interest owed by the state on these items to customers’ accounts within approximately 30 days (I suppose when they redeem it themselves). WF will only credit if the interest amount exceeds $5. Wells will stop crediting customers for interest due after September 30th, but will continue to cash them for face value after that date. BofA will accept the IOUs through October 9th.
Sources: State Comptroller’s Office, CA Treasurer’s Office, Franchise Tax Board, FTB release, BofA press release, Bizjournals
Posted in Taxes | 6 Comments »
Friday, August 28th, 2009
Before you jump to an answer or nasty comment, please give me a chance to elaborate. Recently, I ran across an interesting article in the Bogleheads Wiki titled Placing Cash Needs in a Tax-Advantaged Account. Essentially, because of the way the U.S. tax code works it can often be better to keep certain asset classes like cash inside tax-advantaged accounts like IRAs and 401ks. Therefore, if your emergency fund is cash, why not put it inside as well?
I’ll use the example given. Let’s say you have a 401(k) with a balance of $10k and also taxable assets of $10k, for $20,000 total. You choose to have $10k in stocks, $5k in bonds, and $5k in cash for your emergency account. The “traditional” placement for an emergency fund is in your regular taxable account, perhaps in a bank savings account. The rest of the assets are distributed according to this tax-efficient placement chart.
However, in this scenario all your interest earned on your cash will be taxed at your marginal ordinary income tax rate, which can be as high as 35%. See table of 2009 Marginal Tax Rate Brackets. Meanwhile, your stocks will mostly give off dividends, which are taxed at a current maximum rate of 15%, and possibly quite less. So why not put the cash into the 401k?
Emergency!
You may wonder what happens if you do need access to that $5,000. You would simply sell $5,000 of the stocks in your taxable account, and simultaneously buy $5,000 of stocks in your 401k plan. This way, your final asset allocation will look exactly the same as if you just spent your cash from the traditional setup:
If you happen to sell your stocks at a loss, then you may be able to deduct a loss if you avoid a wash sale. You can do this by not purchasing a “substantially identical” security within 30 days, but you can buy something very similar. For example, you might buy the S&P 500 ETF (IVV) and sell the Russell 1000 ETF (IWB). They are very strongly correlated, as shown in this chart. This may or may not be worth the hassle depending on how big a loss you’re looking at.
If you happen to sell your stocks at a long-term gain, then you’ll again only paid long-term capital gains taxes of at most 15%. If you sell at a short-term gain (held less than a year), then you’ll have to pay ordinary taxes on the gain. So it might be good to wait a year to institute this new setup.
The Catch
So there you have it, there is an argument for some people to put their emergency funds into their 401ks! However, for most people I don’t think this idea is very practical. For one, most people have relatively small emergency funds, so the difference in taxation scenarios won’t be very high. This is especially true in the current low-interest rate environment. The highest potential tax savings would go to those with large 401k balances and high income tax brackets.
Finally, besides a few stable value funds that I’ve seen, the yields on money market funds found inside retirement plans are rarely the best available. I can usually find much higher interest rates outside my 401k, usually by at least 2% APY or more.
Posted in Investing, Retirement, Taxes | 27 Comments »
Saturday, July 11th, 2009
You may have heard that California is broke, and is sending out IOU slips instead of checks for income tax refunds. I thought that I would be safe as I usually owe taxes, but due to an amendment of my return, I ended up getting one in the mail as well. Here is a scan for historical preservation:
(click for larger version)
Of course, I receive it the day after major banks like Bank of America stopped accepting them. There are some local credit unions that still accept them from members, but as they pay 3.75% interest I might just wait and see how things go.
Hopefully this doesn’t turn out to be really historical, as in “remember when California started printing its own money and the state government imploded?”…
Posted in Taxes | 33 Comments »
Thursday, July 2nd, 2009
You may have heard the term “three-legged stool”, taken from the idea that a stool needs three legs to maintain balance. (Photographers use tripods, no duopods or quadrapods. Even a four-legged chair will likely wobble.)
Old Three-Legged Stool of Retirement
Traditionally, the components of the three-legged stool of retirement have been presented as Social Security benefits, Pensions, and Personal Savings (401k, IRA, and other assets).
This is partially supported by data from the Social Security Administration:
The Qualified Retirement Plans slice combines pensions, 401ks, and IRAs together, making it hard to see the breakdown. The Other Assets include income from other investments like capital gains or dividends from taxable accounts and real estate. We observe that a quarter of all income in retirement is still from working for a paycheck.
Shaping Your Own Retirement Legs
These are just averages, and each of us will have their own path to retirement. If you’re planning on retiring early, you won’t have Social Security yet. For people born after 1960, the full retirement age for benefits is already 67, and expect it to rise even further the younger you are. I think some form of SS will still be around when I’m 70, but who knows.
1. Flexible, reliable, part-time income
We already saw that lots of people over 65 still work. Even though I want financial independence early, I’ve also come to realize that I’ll never stop working. Ask yourself what are you really going to do in retirement? In addition, I think it would be stressful to stare at a big pile of cash and think to myself - “Crap, I hope this lasts for 30+ years!” Maintaining a part-time job and the related skills would help my cashflow, and also ensure that I could return to the workforce if disaster strikes.
I would want a part-time job that could provide some socialization and a sense of improving your community or helping others. Most of my imagined jobs involve teaching, coaching, sporadic technical consulting, or something tourism-related. It can’t be 9-5, and I’d want to be able to take months off at a time. This won’t be easy to find, so I need to start developing more “fun” skills as well as personal relationships now.
2. Personal Savings: Accumulate 30 times annual (non-housing) expenses
Without a pension or Social Security, you’ll need to live off your own savings. If you invest in a balanced portfolio of 60% stocks and 40% bonds, studies have estimated that you can have a “safe withdrawal rates” of about 4% per year. By being a bit more conservative than that, this means accumulating 30 times your annual expenses.
For example, if your annual expenses are $30,000, then you need to save $900,000. This is a very general rule of thumb. Taxes are tricky, but if your income is only $30,000 per year, you won’t be paying very much income tax. Check out the historical effective tax rate over a past 25 year timespan:
For reference in 1995, to be in the bottom 50% (safely in Q1/Q2) your adjusted gross income had to be under $31,000. And this even includes payroll taxes of about 9%, which you won’t have to pay on investment income. The result: very low taxes (possibly under 5%) if you keep your expenses down! Which brings me to…
3. A Paid Off House
I don’t think everyone needs to own a home. However, I happen to enjoy many of the intangibles of owning a home, I love my house and neighborhood, and plan on staying here a while. The cost of this leg can vary widely, from a $1,900 house in Detroit to… where I live, so choose where you want to live carefully. 
Financially, owning a home protects you from future inflation and rising rents. You are still subject to property taxes and maintenance costs.
In addition, not having to pay rent means you need less income from savings, reducing your needed nest egg in #2 above. You also pay less taxes. Withdrawing additional money from an IRA, for example, will mean subjecting them to your marginal tax rate, which could be 25% or higher. So to pay $750 in rent, you’d have to withdraw $1,000. Not very efficient.
So there, you have it, my three-legged stool. Yours may be very different - you may like renting, have a pension, own investment property, or have some other sources of income. I still worry about health insurance, but I’m still hopeful that some positive health care reform will occur that will create affordable health insurance for individuals under 65 not covered by an employer group plan.
* You can read more about the last two legs in my related post A Quick & Dirty Plan To Reach Financial Freedom.
Posted in Frugal Living, Real Estate, Retirement, Taxes | 10 Comments »
Monday, June 22nd, 2009
As pointed out by reader Jason, another consideration when evaluating the cashflow potential for a rental property is whether you can deduct the mortgage interest on your taxes. To see what the rules are, I always like to start directly at the source, which meant a stroll through those fun IRS publications.
First, I started with IRS Pub. 936, Home Mortgage Interest Deduction. There is the basic definition of a “qualified” home:
For you to take a home mortgage interest deduction, your debt must be secured by a qualified home. This means your main home or your second home. A home includes a house, condominium, cooperative, mobile home, house trailer, boat, or similar property that has sleeping, cooking, and toilet facilities.
Then there is the question of how much you live in the second home:
Second home rented out. If you have a second home and rent it out part of the year, you also must use it as a home during the year for it to be a qualified home. You must use this home more than 14 days or more than 10% of the number of days during the year that the home is rented at a fair rental, whichever is longer. If you do not use the home long enough, it is considered rental property and not a second home. For information on residential rental property, see Publication 527.
If you live in it enough, it is treated as a “vacation” property and you can deduct the mortgage interest. In general, you are limited to the interest paid on the qualified loan limit of $1,100,000 for “home acquisition debt” combined for both first and second houses.
However, for a full-time rental, we are led to IRS Pub. 527, Residential Rental Property, which states:
Generally, the expenses of renting your property, such as maintenance, insurance, taxes, and interest, can be deducted from your rental income.
Interest expense. You can deduct mortgage interest you pay on your rental property. Chapter 4 of Publication 535 explains mortgage interest in detail.
Okay, now I’m off to IRS Pub. 535, Business Expenses, specifically the section on Interest.
You can generally deduct as a business expense all interest you pay or accrue during the tax year on debts related to your trade or business. Interest relates to your trade or business if you use the proceeds of the loan for a trade or business expense. It does not matter what type of property secures the loan. You can deduct interest on a debt only if you meet all the following requirements.
* You are legally liable for that debt.
* Both you and the lender intend that the debt be repaid.
* You and the lender have a true debtor-creditor relationship.
There are special rules for the capitalization of interest if you actually build the home yourself.
Summary
I am not a tax professional, but from reading the above publications, it appears that mortgage interest on a 100% rental home is not tax-deductible as an itemized deduction as your primary house may be.
However, chances are that it is an eligible expense that can offset your rental income and still reduce your tax burden in a similar manner. If you made $10,000 in annual rental income but paid $8,000 in mortgage interest, and ignoring other factors like depreciation, you’d only owe income taxes on the difference of $2,000. (Dealing with writing-off rental losses is for another post.) The amount paid that lowers your loan principal is not an eligible expense.
As long as you have adequate rental income, this would make the mortgage interest as an expense better than just an itemized deduction, since everyone gets the standard deduction. For 2009, the standard deduction is $5,700 for single filers, and $11,400 for married filing jointly. Only total itemized deductions above that amount would provide added savings.
Posted in Real Estate, Taxes | 16 Comments »
Thursday, April 30th, 2009
More changes… WaMu bank accounts are gradually being converted into Chase accounts, and customers will have to log in at Chase.com with new usernames. Mine is switching over May 22nd. The popular WaMu Free Checking account becomes the Chase Free Extra Checking account, and keeps a lot of the useful perks. I received another mailed pamphlet from Chase outlining all the details, but I couldn’t find a link online, so I typed out the highlights below.
Benefits
- No monthly service fee, no minimum balance requirement.
- No fee for money orders, cashier’s checks and travelers checks.
- No Chase fee for non-Chase ATM withdrawals.
- No fee for Domestic Outgoing for Foreign Outgoing Wire Transfers.
- You will continue to receive your discounted or free check orders when ordered from us.
- One insufficient funds/Returned Item Fee will be refunded annually. However, the refund will no longer be automatic, you must call in and specifically request it. Also, it will no longer carry over if unused.
Changes
- The 0.03 Cash Back debit rewards program is discontinued.
- We may change your account to a Chase Better Banking Checking account when you do not have at least one customer-initiated transaction over the past six monthly statement cycles (which has a $12 monthly fee if minimum balance is not met).
The WaMu Online Savings account will be converted to a Chase Premier Savings account, with the monthly fee “waived at this time”. I could not find any information on the interest rate, but I have a feeling this account will not return to its former high yields.
Added: According to the letter I received, the account numbers, checks, and ATM/debit cards will remain the same and active.
Posted in Banking, Taxes | 50 Comments »
Monday, April 13th, 2009
Despite the current financial funk, I still desire financial freedom. The general idea is simple; I need to generate enough income from my assets to pay for my expenses. Here is how I’ve been framing the problem in my mind recently. I’m 30 now, let’s say I want to be “retired” by age 50.
Part 1: Accumulate 30 times annual (non-housing) expenses
There are numerous studies about the “safe withdrawal rate” from a portfolio, and they usually end up at around 3% to 4%. This usually means that with $1,000,000 dollars, you have a high (say 99%) chance of being able to produce $30,000 to $40,000 of income each year plus inflation adjustments for a long period of time (30+ years).
This is the same as saying you need to save 25 to 33 times your annual expenses.. If you’re conservative (or young), I’d go with a higher number, so I picked 30. Multiply your annual expenses by 30. You need that much money to retire. All of these are based on historical numbers, so this is only an estimate.
Right now I’d estimate our annual non-housing expenses at about $24,000 per year ($2,000 per month). Previously I’ve found that we spend about $18,000 per year, but that neglects a few things like health insurance and car deprecation. (Again, health insurance for those that retirement very early and are not healthy might be a bogey.)
$24,000 x 30 = $720,000.
At about $200,000 in non-housing assets right now, that leave me $520k left. Divided by 20 years and assuming no investment return, that would require $25k per year (not inflation-adjusted). At a 3% annual real return, I’d still need to save nearly $20k per year.
Remarks
With this part, you can see the power of frugal living, or the damage done by lifestyle inflation. $500 a month is $6k per year. $6k x 30 = $180,000.
So if I could cut $500 a month in my expenses, I’d need to save $180,000 less. On the other hand, if I grow some bad habits and start spending $500 more a month, I’d need to save $180,000 more. Either way, that’s a big number! This is why I still need to complete my line-by-line examination of expenses.
Part 2: Own my house / Pay off mortgage
I currently have 29 years left on a 30-year fixed mortgage. For us, that would mean another ~$470,000 in mortgage principal, but more when you count in all that interest.
According to this mortgage calculator, if we make one extra monthly payment per year (simulating a bi-weekly acceleration plan), that’d give us about 24 years before we’re done. If I made two extra monthly payments per year, it’d be shaved down to 20 years, which has the house paid off at age 50. Lots of other considerations, but I’m strongly leaning towards it.
Remarks
I know that you could easily roll up “housing” costs into Part 1 above, but I didn’t for a few reasons. For one, housing is one of the few expense areas where you can essentially “buy” all future costs. For example, you can’t pay a lump sum in exchange for all the electricity you’ll consume in your lifetime. Same thing for your grocery bill, or even a car since you’ll have to replace it. But if you own your house, you’ve basically cut out rent forever (just left with maintenance and property taxes). It also reduces the danger of inflation eating up your spending power.
The second reason is lower taxes. Owning your own house not only saves you from have to pay a housing payment, but also keeps you from having to earn the gross income needed to generate that after-tax amount. Ignoring house, I saw above that I only need to generate $24,000 of income per year total. The income taxes on that amount is very, very small. Using current numbers it might be less than 5% overall, with my marginal tax bracket at a mere 10% after taking out the personal exemptions and standard deductions.
But if I need to generate another $24,000 of income to cover housing ($2k per month in rent), then that additional $24k would be taxed at much higher rate of 15%. With state tax, the difference might be another 5%.
Try out this method with your own numbers, and see what happens. When I run the numbers like this, I know that I could retire much earlier if I moved to a cheaper place upon retirement. But is it worth it? It’s all about priorities…
Posted in Real Estate, Retirement, Taxes | 41 Comments »
Friday, April 10th, 2009
It’s almost April 15th, and you haven’t done your taxes yet. Time to file an extension! The IRS automatically grants a 6-month extension, as long as you ask. Websites like FileLater.com will charge you $17.95 to file the form for you. But below are two ways that anybody can e-File for free. Apparently, the only thing keeping these sites in business is lack of education! However, they do have a helpful section on state tax extensions.
Method #1: TaxAct
This is how I did my extension last year. Just sign up with TaxAct and e-file your extension for free through them. You don’t even need to actually use them to file your taxes later. TaxAct is already free for federal taxes with e-File regardless of income*, and is only $13.95 for state returns with free e-File. That’s cheaper than TurboTax or TaxCut, although if you’re already familiar with those programs it may be worth the extra bucks to stick with them.
Method #2: Free File Fillable Forms
Go to the Free File Fillable Forms site (say that 5 times fast) and click on “Start Free File Fillable Forms”. Click “Sign-in” on the top left, and create a new account.
After you’re signed in, click on “Continue” and pick your form. Go with 1040. On the top right, you should see an icon with the label “File an Extension”.
This will bring up Form 4868, Application for Automatic Extension of Time to File U.S. Individual Income Tax Return, a long title for a really short form. You’ll need to estimate your total tax liability for 2008. This form only extends the time to file, not the time allowed to pay. Overestimate your tax liability to avoid penalties. Here is how I estimated my tax liability last year.
You can even request your estimated tax payment to be withdrawn electronically by supplying your bank’s routing and account numbers. For identification purposes, you’ll need your adjusted gross income (AGI) from your 2007 tax return.
* Here are some more free tax filing options, along with any restrictions.
Posted in Taxes | 20 Comments »
Monday, March 9th, 2009
A lot of states are struggling these days, including the Golden State. Even though California already had the top marginal personal income tax rate and highest base sales tax rate in the country, they are getting even higher. According to a legislative study, the following four tax increases will make an average family of four with an annual income of $75,000 pay $963 more a year in taxes. Here’s how it breaks down:
#1 - Sales Tax
Starting April 1st, the base sales tax rate will rise from 7.25% to 8.25%. While this is only one additional penny per dollar, relatively it is a 12% increase in sales taxes. The base rate doesn’t include taxes added by individual cities and counties. For example, the total sales tax rate in San Francisco will now be 9.5%. In some cities it will break 10%.
#2 - State Income Taxes
Personal income taxes would increase across the board by 0.25 percent on taxable income for 2009. The highest bracket is now 10.55%. A single person with more than $47,055 in taxable income will be in a marginal bracket of 9.55%. Remember, this is on top of Federal income taxes.
Examples: This equates to an additional $125 for taxpayers filing jointly with $50,000 in taxable income, $250 for taxpayers filing jointly with $100,000 in taxable income, and $1,250 for taxpayers filing jointly with $500,000 in taxable income.
If California receives $10 billion or more in certain types of assistance from the federal stimulus package, the tax increase would drop by half to 0.125 percent. However, a recent study by the state Department of Finance has found it unlikely that this level will be reached ($2 billion short).
#3 - Annual Vehicle Licensing Fees
These fees will double, to 1.15% of the car’s value each year. On a new car valued at $25,000, the vehicle license fee will be $288. The increased fee is effective on registrations beginning May 19.
#4 - Dependent Tax Credit
This tax credit will be reduced by $210 (for each dependent).
Sources: LA Times, SF Chronicle, Sacramento Bee.
Posted in Taxes | 53 Comments »
Thursday, February 26th, 2009
Still lots of questions about the $8,000 First-Time Home buyer Tax Credit. Here are some answers:
What is the definition of a first-time home buyer?
You are considered a first-time homebuyer if:
- You purchased your main home located in the United States after April 8, 2008, and before December 1, 2009.
- You (and your spouse if married) did not own any other main home during the 3-year period ending on the date of purchase.
Do I have to pay the homebuyer tax credit back? How much is the credit for? $7,500 or $8,000?
It depends. For homes purchased in 2008, the $7,500 credit (or 10% of purchase price, if less) operates much like an interest-free loan. You generally can repay it equal installments over a 15-year period unless you move out or sell the home earlier than that. The maximum credit is reduced to $3,750 for married individuals filing separately.
For homes purchased in 2009, you must repay the $8,000 credit (or 10% of purchase price, if less) only if the home ceases to be your main home within the 36-month period beginning on the purchase date. The maximum credit is reduced to $4,000 for married individuals filing separately.
What is the definition of main home? Does a condo count? How about an RV?
Your main home is the one you live in most of the time. It can be a house, houseboat, housetrailer, cooperative apartment, condominium, or other type of residence.
What if I don’t owe or pay any income taxes?
This is a refundable tax credit, which means that even if you don’t owe any taxes, you will receive the credit amount via check or other means. For example, if before this credit you had a tax liability of $5,000 and withheld $4,000, you would owe the IRS $1,000. If you qualify and claim a $8,000 tax credit, you would now receive $7,000.
What are the income restrictions?
The amount of the credit begins to gradually phase out for taxpayers whose adjusted gross income is more than $75,000, or $150,000 for joint filers. It is completely phased out when your AGI is $90,000, or $170,000 for joint filers.
Can I just buy a home from a relative and pocket the $8,000?
You don’t qualify for the tax credit if you bought the house from a “related person.” According to the IRS, a related person includes:
- Your spouse, ancestors (parents, grandparents, etc.), or lineal descendants (children, grandchildren, etc.).
- A corporation in which you directly or indirectly own more than 50% in value of the outstanding stock of the corporation.
- A partnership in which you directly or indirectly own more than 50% of the capital interest or profits interest.
How do they determine the purchase date as applied to the cutoff dates?
If you bought an existing home, the date of purchase is your closing date, not the day that you sign a purchase contract or enter escrow. If you constructed a new home, you are treated as having purchased it on the date you first occupied it. (Seems like some wiggle-room here.)
What IRS Form Do I Have To Fill Out? Can I File For 2008 or 2009 Tax Years?
That would be the new revised version of IRS Form 5405 (where most of this information is from), which you fill out and attach to Form 1040. Any updated tax preparation software should be able to handle this. If you already bought your house in 2009, you can file either on your 2008 or 2009 tax returns. (Why not get it now?)
What if two unmarried people buy a house together?
If two or more unmarried individuals buy a main home, they can allocate the credit among the individual owners using any “reasonable” method. The total amount allocated cannot exceed the smaller of $7,500 ($8,000 if you purchased your home in 2009) or 10% of the purchase price. A “reasonable” method is any method that does not allocate all or a part of the credit to a co-owner who is not eligible to claim that part of the credit.
I am not a U.S. citizen. Can I still claim the tax credit?
If you are a resident alien according to IRS Pub 519 and satisfy all the other requirements, then yes you can claim the credit. Nonresident aliens are not eligible.
Posted in Real Estate, Taxes | 169 Comments »
Friday, February 13th, 2009
I am the President and CEO of a uni-national corporation. A one-person S-corporation, to be exact. I chose this over an LLC for a variety of reasons (most of which I don’t remember anymore), but one of them was - what else? - to save some money. I wrote a relatively wordy post a few years back on Forming An S-Corporation To Reduce Self-Employment Taxes. But I just read this e-mail from MyCorporation* that has a concise example with a nifty graphic thrown in:
In an S-Corporation, only earnings paid to an owner as salary is subject to payroll taxes. Any money left in the business for reinvestment or distributed to the shareholder as a dividend is not subject to self-employment tax.
Maria is a sole proprietor bringing in sales of $90,000. After she pays her costs & expenses, her profit is $60,000. As a sole proprietor, she is required to pay self- employment tax of 15.3% on this entire $60K of profit, which equates to $9,180.
Now, let’s assume Maria formed an S-Corporation for her business, and chooses to pay herself $35K for the year in salary, and take the remaining $25K of profit through a distribution. She still earns the same $60K in profit. But, let’s look at the tax situation. Because corporations only pay Social Security & Medicare taxes on salaries, she’s only liable for $5,355, saving over $3,800 in taxes!
If you have a single-person LLC, the tax situation is usually very similar to that of a sole-proprietorship. (I should add that in some states you can also choose to have the LLC taxed as an S-Corporation. I would consult a local attorney for more details on this.) Now, the salary has to be “reasonable” based on the compensation of similar work elsewhere, so don’t get too crazy with this.
The catch? As an employer, the S-Corporation has to pay unemployment taxes. The exact rate varies from state to state, but the federal minimum is about $450 per year if your annual income is at least $7,000. However, as both the employer and employee, it is very difficult for me to actually “lay myself off” and claim unemployment benefits. So this fact cuts slightly into potential tax savings.
* I actually used LegalZoom to file my incorporation papers, but right now their competitor MyCorporation is still offering free LLC or corporation filing with promo code MYFREE (same thing costs $139 at LegalZoom). You still have to pay the registration fees charged by your state.
Posted in Self-Employment, Taxes | 97 Comments »
Friday, February 13th, 2009
The House and Senate have reached an agreement on the American Recovery and Reinvestment Act of 2009, better known everywhere as “that huge stimulus bill“. I couldn’t stop myself from taking a peek. Here are some details that directly affect most taxpayers:
“Making Work Pay” Tax Credit: $400 per person, $800 per family
Apparently it won’t be sent out as a lum-sum check this time, but will directly increase your paycheck as an extra $13 a week in take-home pay starting in June (since it is retroactive to 2009), falling to about $8 a week in January 2010. I tend to think a lump-sum would have more “bang”. Starts to phase out at $75,000 modified adjusted gross income for single filers, $150,000 for married filing jointly.
“Not Working” Tax Credit: $250 per person
For retirees, disabled individuals and others who don’t work, they will receive a one-time $250 payment. This will probably be a check in the mail.
$8,000 First-Time Homebuyer Tax Credit
Although there was talk of a $15,000 tax credit for all homebuyers, it looks like it was greatly reduced and still restricted to first-time homebuyers. Starts to phase out at $75,000 modified adjusted gross income for single filers, $150,000 for married filing jointly.
If you bought your house between April 9, 2008 and December 31st, 2008, the first-time homebuyer tax credit remains at $7,500 and you will have to pay it back over 15 years, or when you sell the house. If you bought your house after January 1st, 2009 and before December 1st, 2009, the credit is now increased to $8,000 and you will not have to pay it back as long as your live in it for 3 years.
New Car Tax Deductions
If you buy a new car, you can deduct the interest you pay on your loan as well as the taxes you paid on it (on up to $49,500). Starts to phase out at $125,000 modified adjusted gross income for single filers, $250,000 for married filing jointly.
…and a whole lot more, including expanded unemployment benefits. An example of a tiny tidbit that got mixed in? In 2009 and 2010, you can now use your 529 plan money to pay for “computers and computer technology”, which could include peripherals, software, and even broadband internet fees.
Posted in Taxes | 43 Comments »
Thursday, February 5th, 2009
Due to a combination of owning a corporation, moving mid-year, and all the residency and payroll rules attached to assigning incomes between states, we are hiring a CPA this year. This MSN Money article says that 62% of Americans pay a professional to do their taxes. I’m actually surprised by this number, as I think most people can get by just fine by using current tax software. I’ve certainly been happy to do so for the last decade.
Below are several free ways to get your taxes done, besides of course using old pen n’ paper. As you’ll see, for just about everyone there is at least one option for completely free Federal filing with E-file. And even if you add in State, it shouldn’t cost more than $14 with E-file.
IRS Free File - Income Restricted
If your 2008 adjusted gross income of $56,000 or less, there are a variety of options from 20 different software companies available from the Free File Alliance at IRS.gov.
Free File Fillable Tax Forms [IRS]
If you already know which tax forms you need to fill out, the IRS now lets you fill them out electronically and file them electronically for free. This is not the same as the income-restricted “Free File” above. Via Consumerist.
TurboTax
You can use the TurboTax Free Edition if you have a simple tax return, for example one that only requires the 1040EZ return with no itemized deductions. State is $25.95.
TurboTax Business
If you have a corporation, partnership, or multi-member LLC and think you can handle it yourself, you can get TurboTax Business for Federal filing free with Federal E-file included.
H&R Block TaxCut
The free version of TaxCut is also restricted to those with simple returns.
Not quite free, but you can also get TaxCut standard for Federal for $1 with free Federal E-file at Dollar Tree stores. It has no income restrictions and handles itemized deductions. State return is the upsell, at $29.99 extra (see below for more options).
TaxAct
Competing well with the big boys is TaxAct Free, which offers a free federal return for everyone with no restrictions, with free Federal E-file included. State return is $13.95 with E-file included.
The TaxAct “Ultimate” Bundle is $16.95, includes data importing, and the state return. However, there is a returning customer’s offer that gives you 30% off, bringing the total cost to $11.90. The link does not appear to actually discriminate between new and returning customers.
State Income Taxes
Many states also offer their own online income tax filing programs. I don’t have time to compile all the links this year, but use this old list as a starting point, or just Google your own state’s tax website. In many cases, filing a state return manually is not very difficult.
Posted in Deals & Offers, Taxes | 40 Comments »
Thursday, January 22nd, 2009
Why the interest in 401k limits? Well, we found out that my wife now gets a company match to her 403b retirement plan. Score! I then wanted to explore how to maximize both our $16,500 401k limits and the company match.
Example: Maxing Out But Missing Out Too
You make $120,000 per year and get a full 3% company match during each pay period. Let’s just say you get paid $10,000 gross monthly. However, you are a really motivated saver and can defer 20% of your income each month into the 401k.
For the first 8 months of the year, you put away $2,000 (20% of $10,000) and the company matches $300 (3% of $10,000). That’s brings you to $16,000 in salary deferrals. On the 9th month you can only contribute $500, which the company also matches $300 again. On the remaining 3 months of the year, you can’t contribute at all, so there is nothing to match! Even though you contributed significantly more than 3% of your salary, you’ll miss out on $300 x 3 = $900 of free money.
Solutions and Potential Problems
The solution is usually given to space out your salary deferrals evenly throughout the remainder of the year. For the above example, you would divide $16,500 by 12 = $1375 each month. If you can only set percentages, you’d set aside 13.75% each month ($1,375 / $10,000).
The problem with this is that for those people who earn hourly wages, overtime, or bonuses, it can be hard to synchronize. Get paid too much, and you’ll lose match again. Get paid too little, and you might max out your match, but not fully reach the $16,500 limit. Also, if you quit or are laid off before the end of the year, you might not be able to reach the limits either.
My tweaked solution. I would vary the percentage so that you always contribute at least 3% each pay period the entire year, but otherwise front-load contributions early on. Again with the example, you could set aside the $2,000 per month for 6 months, and then put in $750 per month for 6 months. Percentage-wise, this is 20% for first half the year, and then 7.5% for the last half. This way, you are balancing getting your annual limit maxed out as closely as possible, along with getting all the available match.
True-Up Contributions
But before going too far, you should ask your benefits administrator whether they offer what is called “true-up” contributions. What this does is compare your year-to-date (YTD) contributions to your YTD salary. If you contributed at least 3% of your YTD salary, but did not receive a 3% company match, then they will send in an additional contribution to “true-up” the numbers.
Some companies perform this true-up calculation after every pay period, while others wait until the end of each year. If they true-up every pay period, then it would seem to be a good idea to contribute as much as you can as early as you can - you’ll get the full year’s match early this way.
Our company does one true-up after the end of the year, and the credit doesn’t show up until March. However, I was also told that if you aren’t employed in March, you won’t get this credit. So again, the front-load with minimum method might be the best idea to get your match as it comes available.
As I write this, I realize that I really overthink some of this stuff. What can I say, I’m excited about our new match, and I just can’t help myself!
Posted in Retirement, Taxes | 19 Comments »
