She also writes the blog “CONFESSIONS OF A CPA” – a tax manager’s thoughts on life in public accounting. However I have no interest in public accounting anymore (been there – did that), so only THE TAX CPA has been added to my list of daily blog wanderings.

Taking a cue from Peter Pappas’ THE TAX LAWYER’S BLOG Monica has published her tax philosophy “in a nutshell” in her post “Bias Disclosure”.

Here is her philosophy -

“· Everyone should pay their taxes. “Taxes are what we pay for civilized society.” (U.S. Supreme Court Justice Oliver Wendell Holmes). “Taxes, after all, are dues that we pay for the privileges of membership in an organized society.” (Franklin D. Roosevelt)

· Raising taxes won’t fix all our problems. If we are to encourage innovation, industry, and entrepreneurship, we must let people keep most of their income.”

A pretty good philosophy, if you ask me. I have never actually sat down and written out my tax philosophy, but if I did it would certainly include the above items.

I would change the first item to read “Everyone should pay taxes”. As I have blogged many times before, under BO about 50% of Americans will become “tax non-payers” (it was about 40% under GWB – so the blame is not limited). And many of this group will actually “make a profit” by filing a tax return – due to refundable credits like the Earned Income Credit. The Alternative Minimum Tax should be replaced with a “True Minimum Tax”. Every American should pay something – say at least $100 – in federal income tax.

The second item reflects basically what I do for a living – making sure that my clients pay the absolute least amount of federal, state and local taxes possible under the law for their individual situation.

One might think that item #3 is not in my best interest as a tax preparer. You might say that if the average taxpayer is able to figure out their own taxes then there would be no need for tax preparers. Not so.

As I have written in the past, I am not worried about how a simpler tax system would affect the tax profession. I do not believe that such a tax system would put me out of business, or even reduce my net income. I actually welcome such a tax system.

I do not see my clients leaving me en masse to do their own returns if the system is simplified. A majority of my current clients are fully capable of preparing their own tax returns under current law. They come to me because they do not want to be bothered with the task of doing it themselves. Because my fees are reasonable it is easier, and more cost and time effective, to have me do it. Plus they want to be sure they do not miss anything.

As for the last item – like Monica I do not feel that the answer to all problems is to raise taxes. While everyone should pay their fair share I do not believe in a progressive tax system. Everyone should pay their fair share of taxes, but no one should be excessively penalized for being financially successful.

My philosophy would also contain some of the items included in the Tax Foundation in “Ten Principles of Sound Tax Policy”. Several of the principles are included in Monica’s philosophy. My philosophy would add these principles –

“2. Be neutral. The fundamental purpose of taxes is to raise necessary revenue for programs, not micromanage a complex market economy with subsidies and penalties. {The Tax Code should not be used to “redistribute” wealth – rdf}.

5. Stability matters. Tax law should be not change continuously, and tax changes Should be permanent and not temporary. {No more need for temporary one or two-year extensions of tax benefits. If a tax deduction is appropriate it should be permanent. And no more need for an annual AMT fix. Fix it for good once and for all – rdf}.”

So what is your “tax philosophy”?

TTFN

TDF is a qualified charitable organization to which contributions are tax deductible.

However the cost of my 6 raffle tickets is not deductible as a charitable contribution on Schedule A – even if I do have a hard copy receipt from TDF for my payment as well as documentation via a credit card statement.

By purchasing a raffle ticket from TDF, or any church or charity, I am not making a voluntary charitable contribution to the organization. I am gambling. I am purchasing the chance to win one of the 50 prizes offered by TDF. It is exactly the same as purchasing a NJ Lottery. By purchasing a lottery ticket I am certainly not making a contribution to the Treasury of the State of New Jersey (the last place that I would voluntarily contribute money is the Treasury of the State of New Jersey – NJ politicians are fat enough on graft and pork as it is!).

Many of the lists of charitable contributions, or receipts for charitable contributions, that clients provide me with each tax season include the cost of raffle or 50-50 tickets for their church or a charity. If they itemize I do not include these amounts in the deduction claimed for charitable contributions on Schedule A.

The cost of a raffle ticket may be deductible as a gambling loss if you are also reporting gross gambling winnings on Page 1 of your 1040. Gambling losses, only to the extent of gambling winnings, are deductible on Schedule A as a “miscellaneous” deduction – not subject to the 2% of AGI exclusion.

So if I win $1500 in the slots at Atlantic City I can deduct the $25 I paid for my 6 TDF raffle tickets as a gambling loss on Schedule A. But, to repeat, I cannot deduct the $25 as a charitable contribution.

In addition to purchasing raffle tickets I also make a contribution to TDF as part of their annual fund-raising campaign. I pay by check or via credit card charge. This payment is deductible.

The only downside is that early passage of the patch meant that Congress would not be dealing with the issue of doing away completely with, or substantially reforming, the dreaded ATM in 2009. Once again Congress took the easy and lazy way out. We can only hope that when the Tax Code is completely rewritten in 2010, as many of us expect it will, the dreaded AMT is finally put to rest.

As has been the custom with the annual AMT patches the exemption amounts are slightly increased. For 2009 the exemption amounts are –

· $70,950 for married couples filing a joint return and surviving spouses,
· $46,700 for Single, and Head of Household, filers, and
· $35,475 for married taxpayers filing separate returns.

The fix also extends and expands the ability of taxpayers to claim personal tax credits against the dreaded AMT.

CCH reports that the 2009 patch will keep about 26 Million taxpayers from falling victim to the dreaded AMT.

ARRA 2009 also excludes from taxable income up to $2,400 of unemployment compensation benefits received in 2009 only. Surprisingly there is no income limitation and no phase-out based on AGI or MAGI. So if you receive $2,200 in unemployment benefits in 2009 these benefits are totally tax-free. If you receive $3,000 in benefits only $600 will be taxed.

Historically unemployment compensation was always exempt from federal income tax. It first became partially taxable in 1979 and eventually became fully taxable, regardless of one’s level of income. When it was first taxed my mentor Jim Gill and I said to each other, “the next thing you know they are going to start taxing Social Security.” And guess what – Social Security benefits became partially taxable in 1984!

The “stimulus bill” also increases the Earned Income Credit, the biggest federal welfare program, for working families with three or more children and extends the availability of the credit for married couples by increasing the beginning point of the phase-out for tax years 2009 and 2010. Also increased for tax years 2009 and 2010 is the “refundable” portion of the Child Tax Credit. So look for increased tax fraud on 2009 and 2010 returns.

TTFN

This deduction will apply to sales or excise tax paid on a new passenger automobile, light truck or motorcycle with a “gross vehicle weight” of 8,500 lbs or less, or a new motor home, for which the original use begins with the taxpayer. It obviously does not apply to used cars. It is effective for purchases made from February 17, 2009 (the date of enactment of ARRA 2009) through December 31, 2009. Both domestic and foreign vehicles will qualify.

The deduction is limited to the taxes paid on the first $49,500 of the purchase price. So for a car purchased in New Jersey the maximum deduction will be $3,465 (7% of $49,500).

No surprise – there is a phase-out range. It is “modified” AGI from $125,000 to $135,000 for single taxpayers and $250,000 to $260,000 for joint filers.

Taxpayers still have the option of claiming either state and local sales tax or state and local income tax as an itemized deduction on the 2009 Schedule A. You can claim the total actual sales tax paid for the year based on documentation or an amount from the Optional Sales Tax Tables based on your state of residence, income level, and number of exemptions plus the actual sales tax paid on the purchase of an auto, truck, motorcycle, motor home, boat, airplane, or materials to build a home.

However if you elect to deduct state and local income tax you cannot also claim an above-the-line deduction for sales tax on a new car.

As with any situation where you are given a choice you should calculate your tax liability in both scenarios (above-the-line sales tax deduction and state income tax deduction and deducting state and local sales tax on Schedule A) and choose the option that provides the greatest overall federal, state and local income tax savings.

You should keep in mind that if the new car deduction is truly allowed “above-the-line” it will reduce your AGI and therefore has the potential for providing numerous additional “back door” tax savings.

On the other hand, the new car deduction is phased out based on income, while the itemized deduction for state and local sales tax has no income limitation (other than the normal “read my lips” reduction of total itemized deductions).

Will this new deduction cause Americans to run out en masse and purchase expensive new cars? I doubt it. But if you have been thinking about buying a new car anyway in the near future you should do so before the end of 2009 so you can get the tax benefit.

As with any decision that involves tax considerations remember that taxes are only pennies on the dollar. While tax consequences should certainly be considered, financial consequences take precedence. Don’t let the “tax tail wag the economic dog”.

TTFN

Today I would like to bring you, as a supplement to yesterday’s discussion, some reminders of the HOPE carryover rules that will continue to apply to the AOTC.

Continuing for 2009 and 2010, in the case of both the American Opportunity and Lifetime Learning education credits and the “above-the-line” deduction for tuition and fees the amount of qualified tuition, fees (and with ATOC required course materials) paid must first be reduced by 100% of all tax-free scholarships, fellowships and grants, employer-paid educational assistance, veteran’s education benefits, and any other nontaxable payments (other than gifts or inheritances) when determining the expenses eligible for the credit or deduction

In addition to tuition, fees and course materials in many cases the cost of attending college includes room and board, either on-campus or off-campus. Scholarships, grants, fellowships, and assistance payments are not allocated between qualified (tuition and fees and perhaps materials) and non-qualified (room and board) education expenses. To repeat, these payments are applied 100% first to qualified tuition, fee and material expenses.

Say your son’s total qualifying tuition and fees for the year is $10,000, and you pay $5,000 a year for room and board. If he receives a scholarship for $7,000 only $3,000 is eligible for a credit or deduction ($10,000 – $7,000 = $3,000). If you receive a scholarship of $12,000 then you are not eligible for any credit or deduction ($10,000 – $12,000 = $0.00).

In this situation qualified expenses paid from student loans do not affect the availability of the credit or deduction – regardless of whose name the loan is under. Monies from student loans, gifts from or payments made by relatives, and payments made from the student’s own funds are all considered to be payments made by the taxpayer(s) claiming the credit, which in most cases are the student’s parents.

FYI, expenses qualifying for tax-free distributions from a Section 529 “Qualified Tuition Program” include required books, supplies and equipment and “reasonable” room and board costs.

Any questions?

TTFN

Both the amount and the availability of the Hope Education Tax Credit are expanded for tax years 2009 and 2010 and the credit, originally named for the town of Hope in Arkansas (and not the “hope” that you kid will graduate from college), is renamed the “American Opportunity Tax Credit”.

The maximum credit is increased from $1,800 to $2,500. This is calculated as 100% of the first $2,000 of qualified expenses and 25% of the next $2,000. In order to get the maximum credit you must have at least $4,000 in qualified expenses.

Remember that a credit is a dollar-for-dollar reduction of tax. So a $2,500 tax credit will reduce a $3,000 tax liability to $500. Basically a $2,500 credit could mean $2,500 in your pocket.

The credit is available for the first four (4) years of post-secondary education in a degree or certificate program. Previously the HOPE was only available for the first (2) years of qualified education (Freshman and Sophomore at beginning of year) and could only be claimed in 2 tax years. Education after the first two years would then qualify for the Lifetime Learning Credit, which was 20% of qualified expenses up to a maximum of $2,000.

In addition to tuition and fees the credit is expanded to include required “course materials”, such as books, as qualified expenses.

The credit is phased-out for single taxpayers with “modified” AGI between $80,000 and $90,000 and joint filers with MAGI of $160,000 to $180,000. Here “modified” AGI begins with your regular AGI (i.e. Line 37 on the 2008 Form 1040) and adds back any exclusion or deduction for foreign income, foreign housing costs, income for residents of American Samoa and income from Puerto Rico.

Previously single taxpayers with MAGI above $58,000 and joint filers with MAGI above $116,000 were not eligible for any education tax credit and those with incomes above $80,000 or $160,000 were not eligible for any “above-the-line” deduction for tuition and fees.

So many of my clients who were denied any tax benefits for their kids’ college costs will be able to realize some tax savings in 2009 and 2010. This is good.

As with the HOPE credit, the $2,500 maximum is per student and not per return. So if you have two kids in college at the same time you can get up to $5,000 from “Sam”. The Lifetime Learning Credit maximum of $2,000, which would apply to graduate school, is per return, regardless of the number of students. If you had one dependent child eligible for the maximum AOTC and one dependent child in graduate school eligible for the maximum LLC you could claim a total of $4,500 in education credits on your tax return.

Generally a tax credit is only allowed up to the amount of tax liability. If your tax liability is $500 the credit is limited to $500. However up to 40% of the allowable American Opportunity Tax Credit is “refundable”. So if you have a “0” tax liability you could get up to $1,000 in your pocket as a “gift” from Uncle Sam. As with the Earned Income Credit you could “make a profit” by filing a tax return. If the student is subject to the “kiddie tax” this will affect the refundable portion of the excess credit.

You know how I feel about “refundable” credits.

When originally proposed there was talk of requiring students to engage in some kind of “community service” to be eligible for the AOTC. However the final bill merely instructs the Treasury Department to “study” the “feasibility” of requiring students to perform community service. It also directs Treasury Department studies on –

As an added benefit for college students, for tax years 2009 and 2010 computer equipment and computer “technology”, including internet access costs, will be considered “qualified education expenses” under Section 529 college savings plans. Students will be able to use tax-free 529 monies to purchase computers and pay for internet access if they are enrolled in an eligible educational institution in 2009 and 2010.

TTFN

Look what happened to a client -

+ As long as I am shamelessly “tooting my own horn” (a la TAX MAMA) I might as well also point out that THE WANDERING TAX PRO made the list of the “100 Best Financial Planning Blogs” compiled by L. Fabry at the ONLINE MBA REVIEW’s blog. Online MBA Guide ranks the best online MBA degrees and reviews top online MBA programs in the USA.

THE WANDERING TAX PRO is #89 on the list under the last category of “Specialty Blogs”. It looks like I am the only tax blog on the list!

+ A very belated thanks to Pete Pappas of THE TAX LAWYER’S BLOG for selecting my post on “The EIC and Tax Fraud” for inclusion in his “Issue # 6: Dr. Taxosphere, Or How I Stopped Worrying and Learned to Love the Tax Code”.

Pete’s comments on the subject were right on –

“My Observations: The EITC is a refundable credit. In other words, qualifying taxpayers get a check from the government regardless of whether they paid any taxes in during the year.

Like the guy who leaves his keys in his Cadillac and the driver-side door wide open, a government that makes it this easy for people to steal from it deserves to have its money stolen.”

Pete also posted about “Five Nevers from Flach”. I do agree with him about butchers and surgeons.

TTFN

I have never used a pre-packaged client questionnaire in my practice, nor did we in my mentor’s practice. We have always requested original documents from the client – W-2s, 1099s, 1098s, Closing Statements, and so on. I have several self-created worksheets for special situations – medical expenses, employee business expenses for specific professions, rental expenses – that I send to applicable clients in my January mailing. But when it comes to the important stuff – mortgage interest, real estate taxes, items of income – I want to see the original documents.

In many cases I attempt to reconcile various items on the form to supplementary information – especially in the case of mortgage statements and W-2s.

New Jersey is somewhat unique in its form of billing real estate taxes. The bill is calculated and paid on a quarterly basis. While the amount is determined by calendar quarter, the payment is due February, May, August and November. When a client buys or sells real estate, or both, I must determine the actual real estate tax paid in each property on a quarterly basis, taking into account adjustments made at closing for the number of days of ownership within a calendar quarter (except if the Closing is, for example, on June 30th).

In the case of a property with a mortgage, as I expect is the case everywhere, about 90% of the time the real estate taxes are paid from an escrow account maintained by the mortgage holder.

Several years ago, in the course of reconciling the taxes for a client who sold one home and purchased another, I discovered that she had paid real estate taxes on the home sold for one of the quarters twice – once via mortgage escrow and again as an adjustment on the Closing Statement. Her lawyer did not discover this FU, and the municipality certainly did not contact either the former or the new owner to say that the tax had been overpaid (this is New Jersey now).

I told the client of this FU and after much leg work and frustrations on her part contacting both the mortgage company and the municipality the error was finally acknowledged and she got a refund of the double payment.

As a strange coincidence, when the same client sold her home again recently the exact same FU occurred – which I again discovered. And again she was able to get a refund of the overpayment. I should go back and see if she used the same lawyer at both closings.

In both of the above instances we are talking about $1,500 – $2,000 in double payments.

New Jersey does not treat certain items of income and certain employee benefit contributions the same as Uncle Sam for purposes of the state income tax. Disability benefits, while partially or fully taxed on the federal return, are exempt from NJ Gross Income Tax. While treated as “pre-tax” for federal purposes, employee contributions to Section 125 plans for health insurance premiums or medical flexible spending accounts and contributions to 403(b), 457, 414(H) pension plans – just about any type of employer pension other than the basic 401(k) do not reduce state taxable wages.

In many cases the federal wages and NJ state wages reported on Form W-2 differ. In such a situation I try to reconcile the difference, using the final pay-stub whenever available.

A while back I sent the following message to a client after attempting to reconcile the final pay-stub to the W-2 –

“Your W-2 may be incorrect. The ‘non-tax’ amount of $5,359.00, which is deducted from your total income in determining the federal wages reported in Box 7, is $5,238.00 for your tax-deferred annuity . . . and the $120.00 ‘Section 125 Dental Insurance’. You also had $1,900.00 in “Section 125 Health Insurance”. This $1,900.00, if part of a Section 125 cafeteria plan, should be ‘pre-tax’, and should reduce your federal wages further. I suggest you check with your Payroll Department to see if there was an error made.”

The client’s response –

“Thanks for the heads up regarding my pre-tax insurance. Enclosed is my amended W-2 form. The HR Department and our new controller were impressed that you caught the mistake when they didn’t. At first when I called them they thought I was crazy. But alas, you were right, and lucky for all involved.”

The correction added $551.00 to the federal refund.

In another instance I noticed that a client’s employer, an out-of-state company for which my client was the only New Jersey based employee, did not treat the employee 401(k) contributions as pre-tax for NJ state wages on the W-2. They were also set straight.

I am not telling these tales to solicit new clients – my readers should know by now that I am not looking for any more 1040 clients (if anything I am trying to “thin the herd”). Or to, like TAX MAMA, “toot my own horn”. I just want to show you that it truly pays to use a competent, independent tax professional. Their potential value goes beyond just preparing the 1040.

No tax preparation software that I know of would have uncovered the FU’s discussed above. And no employee of Henry and Richard, Jackson Hewitt or Liberty would find such FUs – or even care – as it would not increase their fee (unless they charged a % finder’s fee).

TTFN

The credit is calculated as 6.2% of earned income.

The credit is not available for non-resident aliens, those who can be claimed as a dependent, or estates or trusts. You must have a valid Social Security number (at least on spouse on a joint return) to get the credit.

The credit is “phased-out” at the rate of 2% of the taxpayer’s Adjusted Gross Income (AGI) in excess of $75,000 for singles and $150,000 for joint filers – the same phase-out range used for GWB’s 2008 rebate checks and the second chance “recovery rebate credit” available on the 2008 tax return, although a smaller percentage (2% instead of 5%). The credit is completely phased out if AGI exceeds $95,000 or $190,000 respectively.

There is no additional credit based on “qualified” children as there was with GWB’s “stimulus” rebate. The most a family can get is $800.00 ($400.00 if a single parent).

The federal withholding tables have been revised accordingly to reflect this credit – so workers will see about $13 per week extra in their paychecks. The IRS asks that employers start using these new tables as soon as possible, but no later than April 1, 2009.

Big whoop!

It is obvious that the 2008 rebate checks were a very expensive fiasco – costing the government billions of dollars both in actual out-of-pocket expense and in uncollected outstanding taxes (as the IRS had to take employees away from collecting back taxes to man the phones to answer the multitude of questions from taxpayers), and doing nothing to “stimulate” the economy. See my guest post at taxguy “That Was the Economic Stimulus That Was”.

However, a lump-sum check of $1,200 to $2,100 or more (depending on family size) could be put to good use paying down bills or credit card debt or as an investment. Granted, as my mentor Jim Gill would say when discussing a small refund, “Better in your pocket . . . {than in the pocket of the government}”, $13.00 per week will be simply “lost in the shuffle” and not make any significant impact on anything. What will it buy – a night out for the family at McDonald’s?

At least this “stimulus” payment saves the government the cost of distributing the money – it is much more cost-efficient to have all the work done by employers. But making the pay-out through revised income tax withholding tax tables will result in many unintended consequences.

Andrea Coombes points out the major problem in her article “More Like a ‘Make Work’ Credit: New Making Work Pay Credit Makes a Check-Up on Your Withholding Essential” at MarketWatch –

“But withholding tables are a blunt instrument, unable to precisely assess taxes for millions of taxpayers’ unique situations. And employers who use the tables don’t know workers’ complete situation, such as whether an employee has a second job or is married to someone who also works. That means some workers will end up with more cash than they’re eligible for under the new credit”.

She also points out that, “People claimed as dependents aren’t eligible for the credit, but if they work it may show up in their paychecks.”

Many taxpayers will find themselves unpleasantly surprised at tax filing time next year by an unexpected balance due to “Sam” resulting from under-withholding.

Also hit with unintended consequences are retired taxpayers who do not have earned income but receive pensions. I have seen the effect on several clients already. While some retirees request a flat % withholding on their pension distributions (i.e. 20%) there are also many who use the withholding tables, claiming “Married 0” or “Single 1” just as they would if they were working. These taxpayers are not entitled to the Making Work Pay credit – but the withholding on their pensions, often just enough to cover their tax liability, will be reduced by over $50.00 per month due to the revised tables.

A significant number of individuals, working and retired, will need to revise their W-4 or W-4P to request additional withholding in order to offset the MWPC adjustments.

Totally self-employed individuals would, in theory, adjust their quarterly estimated tax payments by $100.00 or $200.00 per quarter to take advantage of the advance payment of the credit.

The credit of 6.2% comes from an earlier, non-BO stimulus proposal known as the “payroll tax holiday”. 6.2% is the tax rate for withholding for the Social Security component of the “FICA” payroll tax. The “payroll tax holiday” idea called for suspension of Social Security withholding on the first $XXXX of wages – sufficient to equal the specific dollar amount of the proposed rebate.

This method would not affect income tax, and therefore would not require a change in the income tax withholding tables. It would avoid the problem faced by retirees, but would not avoid “double-dipping” by employees with more than one job during the year or the problem of working dependents.

Recipients of Social Security, SSI, Railroad Retirement, and Veterans Benefits will receive a one-time “Economic Recovery Payment” of $250.00 sometime before the end of May (my parents just received a notice from SSA about this payment). This is a separate check issued by SSA, RR or VA. If your benefits are directly deposited to a bank account so will this $250.00. Those who are also entitled to a MWPC due to employment or self-employment must reduce their $400.00 credit by any such “Economic Recovery Payment” – so the most an employed Social Security recipient gets is $400.00 and not $650.00.

Again big whoop – but still “better in your pocket . . .”!

The IRS has a Q+A section for the Making Work Pay Credit at its website (click here), and the SSA website has a page on the Economic Recovery Payment (clock here).

So what are you going to do with your $13.00 per week “windfall”?

TTFN