Surprise! The Mutual Fund Tax Trap

Too often taxpayers receive tax surprises at year-end due to actions taken by mutual funds they own. What can add insult to injury is the unsuspecting taxpayer who recently purchases the shares in a mutual fund only to be taxed on their recent investment. How does this happen and what can you do about it?

Tax surprises

Towards the end of each year, many mutual funds pay a dividend to the holders on record as of a set date. The fund might also distribute funds deemed as capital gains based upon buying and selling activity that takes place in the fund throughout the year. This can create many problems:

• Taxable paybacks. If you purchase shares in a mutual fund just before a distribution of dividends, part of your purchase includes the dividends that are effectively paid right back to you. Not only will the asset value of your recently purchased shares in the mutual fund go down after the distribution, but you will owe tax on a distribution that is effectively your own money!
• Kiddie tax surprise. Many taxpayers purchase mutual funds in their children's names to take advantage of their lower-tax rates. By keeping their child’s unearned income below $2,100 the tax is low or non-existent. A surprise dividend or capital gain could expose much of this unearned income to higher tax rates.
• The $3,000 loss strategy. Each year, you may take a net of up to $3,000 in investment losses. Your losses can offset high rates of income tax with correct tax planning. But first, these losses need to offset capital gains. If you receive a surprise capital gain, you could be reducing the effectiveness of this tax strategy.

What to do

Here are some ideas to help reduce this mutual fund tax surprise provided by your Blue Springs financial advisers office of Alliance Financial & Income Tax.

• Limit year-end activity. Plan your mutual fund moves with this year-end surprise in mind. Consider reviewing and re-balancing your funds at the beginning of the year to avoid fund purchases just prior to dividend distributions.
• Research your mutual funds. If you wish to avoid a year-end surprise, do a little research on your mutual funds to anticipate what will happen with the fund. Check out the historic trends of your funds to determine which are most likely to issue a surprise Form 1099 DIV or Form 1099 B (capital gain/loss).
• Use the knowledge to your benefit. If you like a fund and it has a practice of creating taxable events each year, consider investing in these funds within a retirement account. That way the tax implications can be part of your retirement planning.

No one likes a surprise at tax time. The best course of action regarding your mutual funds is to consult with an tax expert who can help you navigate the options that are best for you.

Five Reasons Why the IRS Will Audit You

Each year, the IRS audits over 1 million tax returns. With agency resources shrinking, the IRS is more selective when choosing tax returns to audit. Knowing what the IRS is looking for can help you understand and reduce your audit risk. Here are five of the biggest reasons the IRS may choose to audit your return, provided by your Blue Springs income tax services firm of Alliance Financial & Income Tax.

1. Your income is high or low. The reasoning is simple – higher earnings may lead to bigger errors and lower earnings may mean incorrect deductions. The adjusted gross income (AGI) range with the least audit risk is $25,000 - $200,000. As your income moves toward the extremes in either direction, the chance of audit increases.
   
2. You fail to report all your income. The IRS Automated Underreporter Program matches W-2 and 1099 information with the information you report on your tax return. When a mismatch occurs, expect to receive an automated CP2000 notice from the IRS notifying you of the additional amount due.
3. You own a business. Rules regarding business deductions are confusing and constantly changing. The IRS knows this. Incorrectly deducting personal expenses or having your business classified as a hobby, thereby eliminating deductions, can get you in trouble with the IRS. Cash heavy businesses are under increased scrutiny due to higher fraud rates. Solid tracking processes and good records are necessities for income and expense substantiation.
4. You make a math error. The IRS identified over 2.5 million math errors on 2016 returns. The biggest culprits are tax and credit calculations. Math errors can create a two-fold problem for you – additional tax owed and more scrutiny applied to other parts of your tax return.
5. You claim the Earned Income Tax Credit. According to a report by the U.S. Treasury Department, 24 percent or $16.8 billion in EITC payments were issued improperly in Fiscal Year 2016. Numbers that large are sure to get the IRS’s attention. Eligibility confusion and calculation errors are mostly to blame.

While some of the risk factors are out of your control, many can be minimized. If you are chosen for an audit, don’t deal with the IRS alone – please call for help.

Tax reform brings changes to qualified moving expenses

For businesses that have employees, there are changes to fringe benefits that can affect a business’s bottom line and their employee’s tax liabilities. One of these changes is to qualified moving expenses.

Under previous law, payment or reimbursement of an employee’s qualified moving expenses were not subject to income or employment taxes.

Under last year’s tax reform legislation, employers must include all moving expenses, in employees’ wages, subject to income and employment taxes.

Exception
Generally, members of the U.S. Armed Forces can still exclude qualified moving expense reimbursements from their income if:

• They are on active duty
• They move pursuant to a military order and incident to a permanent change of station
• The moving expenses would qualify as a deduction if the employee didn’t get a reimbursement

Transition rule
There is a transition rule under the new law. Under this rule, certain payments or reimbursements aren’t subject to federal income or employment taxes. This includes amounts that:

• An employer pays a third party in 2018 for qualified moving services provided to an employee prior to 2018.
• An employer reimburses an employee in 2018 for qualified moving expenses incurred prior to 2018.

To qualify for the transition rule, the payments or reimbursements must be for qualified expenses which would have been deductible by the employee if the employee had directly paid them before Jan. 1, 2018. The employee must not have deducted them in 2017.

Corrections
Employers who have included amounts covered by the exception or the transition rule in individuals’ wages or compensation can take steps to correct taxable wages and employment taxes.

6 Last-Second Money-Saving Tax Moves

As 2018 winds down, there is still time to reduce your potential tax obligation. Here are some ideas to make your 2018 tax return less of a burden on your wallet from your Blue Springs income tax services firm Alliance Financial & Income Tax.

1. Accelerate expenses. Individual taxpayers are on the cash basis for income tax purposes. This means your income is taxable when you receive it and expenses count when you pay them. Depending on your situation, shifting deductions between years can make a big difference on your tax bill. With this knowledge, making additional deductible payments prior to the end of the year may be a good idea. Examples include property tax payments, mortgage interest payments and charitable donations.
2. Make effective use of capital losses. Up to $3,000 in capital losses can be claimed each year to reduce your ordinary income. This loss limitation is calculated after netting all your capital losses against any capital gains. When you have more losses than gains, up to $3,000 can be used to reduce your other income. With careful planning you can take advantage of this loss amount each year.
3. Fund tax-deferred retirement accounts. An easy way to reduce your taxable income is to fully fund retirement accounts that have tax-deferred status. The most common accounts are 401(k)s, 403(b)s and various IRAs (traditional, SEP and SIMPLE).
4. Take advantage of the annual gift exclusion. For 2018, you may provide gifts up to $15,000 to as many individuals as you wish without tax consequences. This could include gifts of cash or property, including investments. Taking advantage of the annual exclusion is a great way to lower your taxable estate.
5. Give to charities. Consider making end-of-year donations to eligible charities. Donations of property in good or better condition and your charitable mileage are also deductible. Receiving proper documentation that acknowledges your contributions is important to ensure you obtain the full deduction. Have a plan by knowing your total deductions for the year to help you decide how much to donate. Pulling some donations planned for 2019 into 2018 may be a good strategy.
6. Donate appreciated stock. By donating appreciated stock owned one year or longer to a favorite charity, you receive two benefits. First, you will not have to claim the capital gain on the appreciation of your investment. Second, you can claim the higher market value of the stock as your contribution amount. The procedure you need to follow to qualify your donation of appreciated stock is fairly strict. Ask for help from your broker and the charitable organization to ensure it is done correctly.

This is a short list of some of the ideas you can use to lower your tax obligation in 2018. If interested, please call for help with reviewing your situation.

It’s that time of year...

It’s that time of year, advertising by the big box tax franchises, trying to convince you to spend your hard earned dollars with them. They “offer” gimmicks, deals, etc. The millions of dollars spent in advertising has to be recouped somehow, and that’s exorbitant prices and suspect “customer service”.

Alliance Financial & Income Tax has been in business since 2002, we offer no gimmicks, “deals”, etc. We don’t have to recoup millions in advertising dollars and we offer true customer service. If you’re tired of just being a number and want to be truly taken care of, call us at 816-220-2001 or schedule online.

We provide income tax services and financial services in Blue Springs and surrounding areas.

America's Tax Experts; The Enrolled Agent

An Enrolled Agent (EA) is a federally-authorized tax preparer who has technical taxation expertise and who is empowered by the U.S. Department of the Treasury to represent taxpayers before all administrative levels of the Internal Revenue Service for IRS audit help, collections, and appeals.

What does the term "Enrolled Agent" mean?

"Enrolled" means to be licensed to practice by the federal government, and "Agent" means authorized to appear in the place of the taxpayer at the IRS. Only enrolled agents, attorneys, and CPAs may represent taxpayers before the IRS but Alliance Financial & Income Tax represents tax payers with enrolled agent certification. The profession of an enrolled agent began around 1884 after questionable claims had been presented for Civil War losses. Back then, Congress acted to regulate the profession that represented citizens in their dealings with the U.S. Treasury Department.

How do you become an enrolled agent?

 The enrolled agent license is earned in one of two ways, by passing a comprehensive examination which covers all aspects of the tax code to receive an enrolled agent certificate, or having worked at the IRS for five years in a position which regularly interpreted and applied the tax code and its regulations. All candidates must pass a rigorous background check conducted by the IRS.

How can an Enrolled Agent help me?

Enrolled agents advise, represent, and prepare tax returns for individuals, partnerships, corporations, estates, trusts, and any entities with tax-reporting requirements. An enrolled tax agent maintains expertise in the continually changing field of taxation, enabling them to effectively represent taxpayers audited by the IRS.

Privilege and the Enrolled Agent

The IRS Restructuring and Reform Act of 1998 allow federally authorized tax preparers, defined as those bound by the Department of Treasury’s Circular 230 regulations, a limited client privilege. This means that confidentiality is required between the taxpayer and the enrolled agent under certain conditions. The privilege applies to situations in which the taxpayer is being represented in cases involving audits and collection matters. It is not applicable to the preparation and filing of a tax return. This privilege does not apply to state taxes, although a number of states have an accountant-client privilege.

Are Enrolled Agents required to take

continuing professional education?

In addition to the stringent testing and application process, the IRS requires enrolled agents to complete 72 hours of continuing professional education, reported every three years, to maintain their enrolled agent designation. NAEA members are obligated to complete 90 hours per three year reporting period. Because of the knowledge necessary to become a tax enrolled agent and the requirements to maintain the license, there are only about 46,000 practicing enrolled agents.

What are the differences between Enrolled Agents

and other tax professionals?

Only enrolled agents are required to demonstrate to the IRS competence in matters of taxation before they may represent a taxpayer before the IRS. Unlike attorneys and CPAs, who may or may not choose to specialize in taxes, all enrolled agents specialize in taxation. Enrolled agents are the only taxpayer representatives who receive their right to practice from the U.S. government (CPAs and attorneys are licensed by the states).

Are Enrolled Agents bound by any ethical standards?

Enrolled agents are required to abide by the provisions of the Department of Treasury’s Circular 230, which provides the regulations governing the practice of enrolled agents before the IRS. NAEA members are also bound by a Code of Ethics and Rules of Professional Conduct of the Association.

Why should I choose an Enrolled Agent who is a member of the

National Association of Enrolled Agents (NAEA)?

The principal concern of the National Association of Enrolled Agents and its members is honest, intelligent and ethical representation of the financial position of taxpayers before the governmental agencies. Members of the enrolled agent association must fulfill continuing professional education requirements for tax planning that exceed the IRS’ required minimum. In addition, NAEA members adhere to a stringent Code of Ethics and Rules of Professional Conduct of the Association, as well as the Treasury Department’s Circular 230 regulations. NAEA members belong to a strong network of experienced, well-trained tax professionals who effectively represent their clients and work to make the tax code fair and reasonably enforced.

What the New Tax Bill Means for You

As we have said for years, on January 1^st we will
become historians regarding the tax and financial decisions you made in
2018.  Look at this article to learn more
about tax law changes that may affect your situation.  We still have time to adjust if necessary.  Have questions?  Call us at 816-220-2001  What the New Tax Bill Means for You: What does the Tax Reform and Jobs Act mean for you?