IRS Tax Tip 2011-45, March 4, 2011

Do you rent property to others? If so, you’ll want to read the following seven tips from the IRS about rental income and expenses.

You generally must include in your gross income all amounts you receive as rent. Rental income is any payment you receive for the use of or occupation of property. Expenses of renting property can be deducted from your gross rental income. You generally deduct your rental expenses in the year you pay them.  Publication 527, Residential Rental Property, includes information on the expenses you can deduct if you rent property.

1.  When to report income. You generally must report rental income on your tax return in the year that you actually receive it.

2.  Advance rent. Advance rent is any amount you receive before the period that it covers.  Include advance rent in your rental income in the year you receive it, regardless of the period covered.

3.  Security deposits. Do not include a security deposit in your income when you receive it if you plan to return it to your tenant at the end of the lease. But if you keep part or all of the security deposit during any year because your tenant does not live up to the terms of the lease, include the amount you keep in your income in that year.

4.   Property or services in lieu of rent.  If you receive property or services, instead of money, as rent, include the fair market value of the property or services in your rental income.  If the services are provided at an agreed upon or specified price, that price is the fair market value unless there is evidence to the contrary.

5.  Expenses paid by tenant. If your tenant pays any of your expenses, the payments are rental income. You must include them in your income. You can deduct the expenses if they are deductible rental expenses. See Rental Expenses in Publication 527, for more information.

6.  Rental expenses.  Generally, the expenses of renting your property, such as maintenance, insurance, taxes, and interest, can be deducted from your rental income.

7.  Personal use of vacation home. If you have any personal use of a vacation home or other dwelling unit that you rent out, you must divide your expenses between rental use and personal use.  If your expenses for rental use are more than your rental income, you may not be able to deduct all of the rental expenses.

For more information on rental income and expenses see Publication 527. This publication can be downloaded from http://www.irs.gov or ordered by calling 800-TAX-FORM (800-829-3676).

Links:  Publication 527, Residential Rental Property

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Accounting Today Magazine Online, Washington, D.C. (March 15, 2011);  Written By: Michael Cohn

The Internal Revenue Service has paid a $1.1 million reward to an anonymous whistleblower for information that exposed an alleged tax fraud scheme by Enron, Bankers Trust and others before the company collapsed.

It is one of the few whistleblower rewards the new IRS Whistleblower Office has made since Congress created the IRS Whistleblower Office and a new tax whistleblower program in 2006. The IRS made the award under the previous whistleblower program (known as the IRS 211 program), which allowed the IRS to award whistleblowers nothing or up to 15 percent of the tax funds the IRS recovered as a result of the whistleblower’s information.

The whistleblower, a Wall Street banker who has chosen to remain anonymous to protect his job and career, received the maximum reward of 15 percent. The announcement of the reward was made by the law firm that represented him, Phillips & Cohn LLP.

“Enron was able to inflate its book earnings due to abusive tax shelters allegedly set up with the help of Wall Street banks,” said Erika A. Kelton, a Washington, D.C., attorney with Phillips & Cohen. “My client’s knowledge of how Wall Street operates and his unflagging persistence in convincing the IRS to investigate Enron were instrumental in the government’s recovery.”

The whistleblower first provided the IRS with detailed information in 1999 about abusive tax shelters that Bankers Trust and other Wall Street firms allegedly helped Enron create that allowed Enron to operate tax free while lying about its reported profits for years before Enron declared bankruptcy in 2001. The shelters, including one nicknamed “Project Cochise” and another called “Project Steel,” involved artificial duplication of tax deductions so that Enron would generate fictitious pre-tax income on its financial statements.

The tax fraud allowed Enron to evade taxes on more than $600 million of taxable income, resulting in more than $200 million of federal tax savings and the bogus reporting of over $300 million of financial accounting income. The IRS was able to recover only a percentage of taxes and penalties owed due to Enron’s bankruptcy.

“If the IRS had pursued this information in 1999 when my client first informed them of these abusive tax shelters, the government might have realized the depth of Enron’s problems and perhaps taken steps that might have helped avoid a total meltdown,” Kelton said.

The whistleblower testified anonymously in 2004 before the Senate Finance Committee about problems with the IRS whistleblower program at that time. He said the greatest problem was “the agency’s resistance to take seriously outside information from knowledgeable insiders.”

“There are still pockets of strong institutional resistance to whistleblowers at the IRS,” said Kelton. “The IRS Whistleblower Office works extremely hard to investigate and pursue whistleblower claims. But they are only one office in a vast bureaucracy.”

The Tax Relief and Health Act of 2006, enacted after Phillips & Cohen’s client notified the IRS about Enron’s abusive tax shelters, requires that whistleblowers receive 15 percent to 30 percent of the amount the IRS recovers if the tax fraud or tax underpayments exceed $2 million (including penalties and interest).

As first read on: http://www.accountingtoday.com/news/Enron-Whistleblower-Scores-Reward-IRS-57636-1.html?ET=webcpa:e1343:206946a:&st=email&utm_source=editorial&utm_medium=email&utm_campaign=WebCPA_Daily_031611

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As first read on Accounting Today Magazine, Online Ed.

New York (March 14, 2011), Written By Michael Cohn

With the tax benefits of the 2009 stimulus ebbing, the tax burden is pushing slowly higher and is now at its highest level in two years, according to Deloitte. As the economy improves, more households are pushed into higher tax brackets, raising the government’s take, the firm found.

The Deloitte Consumer Spending Index rose in February, driven primarily by the slight improvements in real home prices and initial jobless claims.  The index attempts to track consumer cash flow as an indicator of future consumer spending.

“Despite the small gains in the index, the recent sharp rise in energy prices could weaken consumer purchasing power in the months ahead,” said Deloitte chief economist Carl Steidtmann, the author of the monthly index. “The stabilization in real home prices may also be temporary given the persistent strain on the housing market. On the upside, should the slow but steady improvement in employment continue, it may help offset price increases.”

The index, which comprises four components — tax burden, initial unemployment claims, real wages, and real home prices — rose to 4.02 percent, from an upwardly revised gain of 3.92 percent a month ago.

“Unsurprisingly, some retailers are concerned about rising costs and whether they can avoid passing them on to consumers,” said Deloitte LLP vice chairman and retail sector leader Alison Paul. “Retailers should consider costs across the entire supply chain, from strategic sourcing at the back end to the technologies and analysis they use for monitoring inventories and product movement at the front end.”

Initial unemployment claims continued to improve, albeit at a slower pace. The four- week average for claims is right at 400,000. Moving below this level would be a sign of significant improvement in the labor market.

Wage growth, adjusted for inflation, ticked up in February. Future gains are at risk from rising energy prices.

Inflation-adjusted prices for new homes were up slightly from a year ago. Prices for existing homes continue to be well below the replacement cost of homes, keeping a lid on home construction and new home prices.

http://www.accountingtoday.com/news/More-Households-Higher-Tax-Brackets-57614-1.html?ET=webcpa:e1341:206946a:&st=email&utm_source=editorial&utm_medium=email&utm_campaign=WebCPA_Daily_031411

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First-time homebuyer credit is really something special for 2009.  It has greatly enhanced the tax credit offered in 2008 and corrected several issues that lessened the sweetness of the 2008 credit.

• The credit for 2009 is now a maximum of $8,000.
• The timetable that it is good for is after November 6, 2009, and before May 1, 2010, for purchases of principal residences.
• If there is a binding contract before May 1, then the deal has to close before July 1, 2010.
• There is no recapture of the credit…you earn it, you keep it, unless the home is no longer your personal residence.
• If the home is more than $800,000, then there is no credit, period.
• If the home is no longer your principal residence within thirty-six months of the purchase, then there is full recapture of the credit.
• There are some AGI (adjusted gross income) limits.
• This election can be taken in the prior year: 2009 purchase can be taken in 2008, a 2010 purchase can be taken in 2009.

Now, check this out!  If you are a “long-time resident” of a home, then you may qualify for a modified credit.

• The credit is a maximum of $6,500.
• You must have lived in a prior principal residence for five of the last eight years.
• There are some AGI limits.

The IRS has already figured out that this can be abusive, so there are some special requirements for filing.

• A copy of the settlement statement must be attached to the return.
• The taxpayer must be at least eighteen.  (Apparently some kid too young for kindergarden filed for the credit.)
• The credit cannot be claimed by a taxpayer who is a dependent of someone else.

The can be a huge tax planning opportunity for many people.

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Choosing the correct business form can be a difficult task. As a CPA, I see new businesses every year.  Some could be operated more efficiently in a different business form.  This Blog will go through some of the characteristics of the various business forms and help to identify the best form for your business.

Sole Proprietorship (Schedule C). This is the easiest and simplest.

• No need to register with the IRS or the State.
• Just you, with no partners.
• If it does not work out, then it can be closed without fanfare.
• Any net income is taxed as regular income PLUS self-employment tax of just under 15%.
• Office-in-home may apply.
• The regular Form 1040, Individual Income Tax Return, is used for filing.  The business will go on a Schedule C.
• Schedule C expenses are not subject to Alternative Minimum tax.

Partnership (Form 1065). This is the “next step” if you have a partner and you still want to hold down costs and formalities.

• Generally, the net income is subject to self-employment tax.
• The business should keep a separate set of books and bank account.
• A separate Federal Tax ID number is obtained.
• There is no registration with the State (of California).
• There is generally no shelter from lawsuits.
• There can be separate splits among partners for income, losses, and equity.

So these are the two simple forms of businesses to have.  If you feel that these will work, then don’t do more that this to get your business up and running.

If you want some legal separation from yourself,  then the choices are:

• C Corporation,
• S Corporation, or,
• LLC, limited liability company.

C Corporation (Form 1120).  All corporations start “life” as C Corporations.  These are separate legal entities where they pay their own taxes.  This is where “double taxation” can occur.  The corporation pays taxes, issues a dividend to the shareholder, and he/she needs to pay taxes of this income, again.  Any month end can be chosen and there can be any number of shareholders.  Public companies generally are this form.

S Corporation (Form 1120S). Smaller corporations use this form.  The corporation pays no Federal tax and a small state (of California) tax. The business has a corporation “shell” (legal issue which is for the legal profession), but has nice tax benefits, as it does not get hit with double taxation.

LLC (Limited Liability Company). This is an entity not recognized by the Federal government, so the tax form can vary based upon the election made by the owners.  There can be good legal attributes (to be discussed by the legal profession), with the taxation not well defined.  This should be sorted out  when the entity is first formed.  An LLC can be reported on a Form 1040, 1065, 1120, or 1120S, depending on number of members and elections made.

To set up a business as a separate legal entity generally becomes a useful discussion when sales or gross income is planned to exceed $125,000 to $200,000 a year.  That is the minimum and can vary by industry or type of business.

Usually a tax projection can be developed which will show the difference among types of entities (Corporation, partnership, etc.).  This will provide a view of the financial side.  A legal professional can assist with understanding legal issues.

Many times an estimate of  the financial performance of this year, can assist in looking forward to next year.  If the result points to a new business entity form, like an S Corporation, then it is worthwhile to set it up for the new year.

Give us a call to discuss!

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If you are like most businesses, your year end is December.  That gives you a month to plan for the year end taxes.

Here is a summary check list of areas to address for begin the year-end planning process:

• Is business up or down compared to last year?
• How are the margins this year compared to last year?
• What amount of salaries have you drawn (as owner of the business)?

If the business is up compared to last year, then it is important to be looking at the “bottom line”.  If you have higher profits than last year, you may look to your overheads: expenses and cost of goods sold, to see if you can spend more before the end of the year.

If your business is down from last year, then look to the “bottom line” to see if you still have a profit.  If so, then you may not have much else to to.

If you are showing a loss, you may need to spend some more time on your year-end projections.  Can you “afford” to show a loss?  If you have creditors who you owe money to, like suppliers or banks, then they may expect you to be showing “cash flow” to cover your debt service (money you need to pay them).  Your options are to invoice out more in December to increase your Sales, and look at minimizing your expenses until the year end.  If this business approach will help you to look better by the end of the year, then that is the short-term plan.

This has been a hard year for many businesses.  The only way that the business has survived is through borrowing money.  If that is the case and there is no way that the business can show profitability, then very different tax planning may be in order.  Look ahead to next year: does it look like the business may become profitable next year?  If that is the case, then take all of your “hits” this year: do the opposite of the plan in the previous paragraph.  Don’t push to invoice out in December other than the minimum.  Take all of the expenses that you can in December.  The result will be to should a bigger loss this year, and give the business a chance to show better financial results for next year.

Planning is harder if the business is other than a “C” Corporation.  A “C” Corporation pays its own taxes.  Other entities, like LLCs, “S” Corporations, partnerships and sole proprietorships have the net income of the business linked for tax purposes to the business owner’s or owners’ personal tax returns.  Be sure to plan for both the business taxes and the personal taxes at the same time.  The objective is to minimize the overall taxes for the combined business and owners.

The purpose of this blog is to start the planning process.  The best result is to dialog with your tax professional to discuss the use of any carryovers or special tax treatments available to the business and its owners.

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Please take note of this:  I have been getting these for almost a month, and normally a couple of times a day.  The sender is Internal Revenue Service.  The e-mail is titled, “Notice of Underreported Income”. This is the body of the e-mail:

Taxpayer ID: bruce-00000XXXXXXXXXXXUS

Tax Type: INCOME TAX

Issue: Unreported/Underreported Income (Fraud Application)

Please review your tax statement on Internal Revenue Service (IRS) website (click on the link below): (I will not provide this).

It is signed “Internal Revenue Service”.

Please take note that the IRS May send out some information, but ONLY if you have subscribed to a feed yourself.  Any IRS correspondence looks just like the IRS.gov website, and always including an IRS logo.

If you connect, you will be exposing your personal information, so please put this on your Spam list and then delete it so it does not even sit in your e-mail box.

Any questions, please contact Bruce at Bruce@AndersenCPA.com.

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