Renting out a spare room and taxes – everything you need to know.

Tax Tips For Landlords

If you have decided to join the sharing society and rent out a room or part of your home, either through a service like AirBnB or independently, you should inform yourself about the implications of renting out a room and taxes.

Renting a room requires some work up-front, and ongoing management. You have several tasks ahead of you. You will most likely want to spruce up the place with comfy furnishings and linens, and maybe a fresh coat of paint. Check the legal regulations for renting in your local area, you may discover there are limitation on the type of rentals you can offer, be they short-term or long term.

And then, there’s landlord tax. Running afoul of the IRS can potentially wipe out any financial gains you may reap from opening your home to complete strangers – be sure to abide by the laws of landlord tax. Fortunately, you can reduce your potential tax bite with diligent record keeping. Here is everything you need to know about renting out a room and taxes.

The 14 Day Rule & Paying Rental Income Taxes

The most convenient and potentially lucrative scenario would be to completely avoid reporting or paying income taxes on the income you earn from renting out your couch or your spare room. Well, you can, if you meet two relatively easy requirements set by the IRS.

First, you must use the residence as a home at least 14 days out of each calendar year. Second, you must limit the time that you rent any part of the residence that you use as a home to 14 days or less each tax year. That’s it.

So if you have a primary residence plus a vacation home where you spend at least two weeks of the same year, you could rent out rooms in both and collect rental revenue for 28 days (14 days for each residence) completely tax free. It gets better: the IRS places no upper limit on how much income you earn as long as you don’t exceed 14 total days of rental per property. (IRS.gov)

If you live near the town where the All-Star game for a major sport is being played that year, you could rent out one room or the entire place for the week, rake in major cash and never report a dime on your tax return. Pretty sweet. But if a renter burns a hole in your floor, you are stuck paying for the repairs.

What if I Rent My Room for More Than 14 Days?

Should you exceed the 14-day threshold, matters become somewhat more complex. First, you must determine whether you or one or more family members resides in the residence or uses it for personal purposes for at least 10 percent of the time that you rent at fair rental price. You don’t have to be there at the same time you’re renting, but your time in the residence must equal at least 10 percent of the total rental time. So if you rent out your vacation home for 300 days each year, you or another qualifying person will need to live there for at least 30 days during the same year for the IRS to qualify the residence as a home. For the purposes of this article, the assumption will be that the residence qualifies as a home for IRS purposes. (IRS.gov)

The rules differ for rental properties that are used for what the IRS calls “personal purposes” rather than as residences. There are also different regulations that apply if you use the rental property as a residence, but don’t live there enough of the time for the residence to qualify as a home. To sort out those types of issues, consult with a professional such as an attorney with Optima Tax Relief.

Which IRS Form Do You Need to File Rental Income?

As a contractor with AirBnB living within the United States, you would complete Form W-9, Request for Taxpayer Identification Number and Certification. You would also receive Form 1099, Miscellaneous Income before you file your federal income tax return for the following year. (International contractors complete different forms.) If you operate as an independent, you will need to maintain your own records for rental income and expenses, preferably separate from your personal household expenses.

If you provide sleeping space, but no frills, report income and losses on Schedule E, Supplemental Income and Loss, attached to Form 1040, Form 1040NR or Form 1041. If you splash out on fluffy towels, turn-down service, and catered breakfast in bed for your guests, report income and expenses through Schedule C, Profit or Loss from Business, also filed with Form 1040, Form 1040NR or Form 1041.

In either case, you are also allowed to deduct the costs of repairs, depreciation (by filing Form 4562, Depreciation and Amortization), uncollected rents and actual operating expenses. But if a renter trashes the place and you file Schedule E, you will also need to complete Form 6198, At-Risk Limitations or Form 8582, Passive Activity Loss Limitations. If you’re not sure which form you should complete, consulting a tax professional is your best strategy.

Fair Rental Prices and How it’s Calculated

If you live in the heart of Manhattan or in a condo overlooking Lake Michigan in Chicago, you might think that setting your rents at bargain basement levels would help you beat the competition. If you set your prices too low, you may well attract the unfavorable attention of the IRS.

That doesn’t mean that you must charge exactly what every other landlord or private renter in your area charges for rent. It does mean that you must set prices for your rental that are comparable to the going rent for similar properties in your area – what the IRS calls “fair rental price.”

If you fail to charge fair rental prices or if you never report a profit from your rental, the IRS may decide that you’re not serious about making money. You don’t have to show a profit every year, but he IRS assumes that you have a genuine profit-making motive if you show gains during at least 3 of the most recent 5 years, including the current year. (IRS.gov)

The Hobby Loss Rule

If you fail to show profit, you could be hit by the so-called “hobby loss rule,” which prevents you from using losses related from your venture to offset other income on your federal tax return. Instead, you use must losses related to your rental activities as itemized deduction on Schedule A. Deductions would be limited to the following strict limitations.

  • Deductions such as mortgage interest and taxes are allowed in full
  • Deductions like advertising, insurance and premiums are allowed only to the extent that gross income exceeds deductions from the first category
  • Deductions such as depreciation and amortization are allowed only to the extent that gross income exceeds the amount of deductions taken for both of the prior two categories.

How the Sharing Economy Works

Knowing the ins and outs of renting out a room and taxes can be tricky. However, this article is not intended to discourage you from renting out a room in your home, being a live-in landlord, or otherwise participating in the sharing economy. It’s a potentially exciting way to meet interesting people from all over the country or even other parts of the world.

But just as you want your house or apartment to look its best, you’ll also want your financial house to be in order, too. That way you can concentrate on being the best host you can be, without being hit with unpleasant surprises at tax time.

Need some help with landlord tax? Consult one of our tax professionals to learn more about renting out a room and taxes.

Corp vs LLC – Which One is Right for You?

When you first went into business, you may have operated as a sole proprietor or as a partnership. However, as your operation has grown, a more formal business structure has become necessary.

Depending on your personal circumstances and the nature of your business, you may reorganize as a Limited Liability Company, or LLC, an S-corporation (S-Corp), or a C-corporation (C-Corp). Each business structure has benefits and disadvantages concerning taxes and liability for adverse legal and financial circumstances.

What is an LLC?

Limited Liability Companies, better know as LLCs, are simple to organize and run. The owners (known as members) of an LLC can distribute revenues generated by the company among themselves — there are no shareholders demanding dividends. LLCs also provide a shield against legal liability for adverse actions taken against the company.

In plain English: if your LLC is sued, you won’t lose your shirt (or your house, car or any personal possessions that are not tied to the LLC as collateral) if the person filing the suit wins in court.

However, the Internal Revenue Service does not recognize LLCs as separate entities for federal income tax purposes. Each member of an LLC pays individual federal income taxes on any revenue received from the LLC. In addition, revenue generated by an LLC is also subject to self-employment taxes.

Why Choose an S-Corp?

In many ways, S-corporations represent the best of both worlds.  S-corporations, or an S-Corp, are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes.

If an S-corporation is sued, its officers are generally shielded from personal liability. This is because S-corporations, like C-corporations, are technically owned by shareholders who entrust officers (such as a CEO) to run the company in the best interests of those shareholders. As a result, the IRS considers S-corporations to be separate tax entities. Officers of S-corporations are also exempt from self-employment taxes. Also, S-corporations are exempt from the double taxation that the IRS imposes on C-corporations.

However, the IRS limits S-corporations to 100 or fewer shareholders. Non-resident aliens cannot be shareholders in an S-corporation. Certain types of companies, such as insurance agencies, are not allowed to organize as S-corporations. In addition, profits from S-corporations that are not distributed as income to officers must be distributed as dividends to shareholders.

Why Choose a C-Corp?

When people refer to “corporations,” in most cases, they are referring to C-corporations.  A C corporation (or C-Corp) is a legal structure for a corporation in which the owners, or shareholders, are taxed separately from the entity. Like S-corporations and LLCs, C-corporations shield officers from financial and legal liability for the actions of the corporation. The IRS also considers C-corporations to be separate entities for tax purposes, which means that the officers of C-corporations are not subject to self-employment taxes.

However, much of the revenue that C-corporations generate is subject to double taxation – taxed once through corporate income taxes and again when profits of the corporation are distributed as dividends to shareholders. As separate tax entities, C-corporations must file separate income tax returns to the IRS. In addition, shareholders must declare dividends as personal income on their individual income tax returns.

Corp vs. LLC – Which is Better for Taxes?

In considering whether to organize as an LLC, S-Corp or C-Corp, consider whether flexibility, exemption from self-employment taxes or avoiding double taxation is more important. If you want flexibility in operating your company, an LLC is a good option. If avoiding both self-employment taxes and double taxation is your main goal, and if your company is eligible, consider forming an S-corporation. For larger companies, organizing as a C-corporation is almost always a necessity. However, you should consult with an attorney or CPA who specializes in corporate tax law before making a final decision.

Looking for some assistance with your taxes? Optima Tax Relief offers a range of professional tax services, including help with S-Corp, C-Corp, and LLC tax preparation. Consult with one of our licensed professionals to learn how we can help you today.

What Does IRS Code 9001 Mean?

There are still many IRS terms and codes that are a mystery to the average taxpayer. Tax terms can be confusing, whether you’re a first-time tax filer or have been filing tax returns for years. IRS Code 9001 is a common error code, but many people don’t know what it means. We’ll explore what the IRS Error Code 9001 is, and how to avoid it.

IRS Code 9001

You filed your federal income tax return a while ago and you are expecting a refund. You can check the status of your return and your refund check (for paper returns) or direct deposit (for electronic returns) at the IRS.gov website. The “Where’s My Refund?” portal also provides an estimate of when you should expect your refund.

If you receive an error code such as IRS Code 9001 when you check the status of your return, you may worry that your return has been flagged for an audit. Relax. In fact, IRS Code 9001 is one of an entire set of codes that are included within the Internal Revenue Manual, or IRM, which is the set of guidelines used by the IRS. This is not an audit flag, but rather an error code generated when taxpayers attempt to access return or refund results using the wrong Social Security number or TIN.

Where’s My Refund?

The IRS established the “Where’s My Refund?” portal to allow taxpayers to check the status of their federal income tax return and refund. To access the portal you need three pieces of information: your Social Security Number or Taxpayer Identification Number (TIN), your filing status and amount of the refund that you are expecting. This refund amount should be listed in whole dollars and must match the amount listed on your tax forms exactly.

Taxpayer Identification Number (TIN)

Most taxpayers include a Social Security number on their tax returns. But certain taxpayers, such as resident and nonresident aliens, are not eligible to get one. The Taxpayer Identification Number (TIN) is designed to allow individuals to file federal and state income tax returns, without an SSN.

How To Fix a IRS Error Code 9001

In most instances, when you check the status of your return on the “Where’s My Refund?” portal, you will receive a message stating that your return is being processed or that your refund is on its way. Occasionally, you may receive one or more error codes, including IRS Code 9001: “Taxpayer accessed Refund Status using a secondary TIN. Refund Status could not be returned. Get a Primary TIN Analyze account and follow appropriate IRM.” The fix is simple – enter the proper Social Security number or TIN into the “Where’s My Refund?” portal. If you still receive error messages, contact the IRS or an expert such as an attorney with Optima Tax Relieve for further assistance.

Wondering where your tax refund is? Read our dedicated blog to learn more. If you need tax help, contact us for a free consultation.

Tax Tips: How to Get a Copy of Your IRS Transcript

Getting a copy of your IRS transcript is easy and can be done entirely via the IRS.gov website. Follow these simple steps to retrieve your tax transcript.

Keep in mind that only transcripts for filed taxes are available. For example, if you did not file in 2003, there won’t be a tax transcript for that year. Also, if the IRS has not finished with your taxes, the transcript will not be available until they have completed those taxes.

What is an IRS Transcript used for?

IRS transcripts are typically used to validate past income and to prove income to lenders. They are often used to determine status for mortgage, student, and small business loan applications and help with tax preparation.

How to get your IRS Transcript Online

  1. Visit the IRS website at IRS.gov.
  2. Look under the Tools tab that is part way down the web page. Click: Get transcript for your tax records.
  3. Once you reach the transcript page, you can request to get them by mail or continue getting them online by clicking on the box to the left, Get transcript online.
  4. If you have gotten transcripts before, you can sign in. If not, you will need to click on the right side to create an account: Sign up.
  5. Complete the sign up process and log in.
  6. The next page will show a drop-down menu and ask why you need the transcript. Choose the answer that best fits your needs and continue. They ask you what you need it for so they can help you pick the right transcript.
  7. The next page lists all your transcripts, in four different categories for all the years you filed. These include Tax Return Transcript, Record of Account Transcript, Account Transcript, and Wage and Income Transcript.
  8. Select the transcript you need for the right year.
  9. The site will automatically generate a PDF file of your transcript. Print it and save it.
  10. Log out completely or close the browser when you are finished.

Make sure your pop-up blocker is off for the IRS site. It can cause errors when trying to retrieve your transcripts. If you chose mail, allow 5 to 10 business days for them to arrive before requesting another.

If you have problems navigating the website, you can contact the IRS for further assistance at 1-800-829-1040. For further assistance or help with a different tax issue, contact Optima Tax Relief. Optima Tax Relief offers a comprehensive range of tax relief services. Schedule a consultation with one of our professionals today.

California Tax Rates, Incentives & Exemptions

As the most populous state in the union, California attracts new residents from all over the country and around the world. From the glow of Tinseltown to the technological buzz of Silicon Valley, dreamers and entrepreneurs alike are drawn to the state. But California is also one of the most expensive states to call home – 3rd highest to be exact. California tax rates are some of the highest in the nation.

Businesses in California are not spared from the tax hammer. California imposes corporate income taxes on “C” corporations and limited liability companies that operate like corporations. As a result, many entrepreneurs who operate small businesses in California are subject to quadruple taxation – double taxation from Uncle Sam and double from California.

But as of 2014, California has enacted a series of tax breaks which will award millions of dollars in tax credits to qualifying businesses. These tax incentives were designed to lure businesses to re-locate or keep their base of operations within the state.

Aerospace Industry Gets a Break with State Tax Credits

One business field seeing some high-profile tax breaks in California is the aerospace industry. California was at one point in time the center of the aerospace industry, before the US government was forced to make drastic cut-backs in the 1990’s, essentially reducing the workforce by more than 50% of its workers. California Governor, Jerry Brown, has been trying to put together an incentive package of sorts to entice some of the larger employers to come back to the state, which would improve employment rates, bring a huge influx of new business and cash flows, as well as help off-set the current financial problems that California is facing.

The Aerospace Tax Clarification Act, which was passed in April, cleared up some ambiguity regarding the classification of rocket propulsion systems. This new act clarifies that these rockets qualify for an existing business tax exemption, rather than being classified as a taxable business supply as the prior law read.

“The space commercialization industry is not only developing some of the most advanced space vehicles in the world,” stated Assembly member Al Muratsuchi, “but is also creating thousands of local, high-paying manufacturing jobs.” This law was a direct nod to the Space Exploration Technologies Corporation, a Los Angeles based enterprise founded by Tesla billionaire, Elon Musk. The bill was also supported by Northrop Grunman, the Commercial Spaceflight Federation, Aerojet Rocketdyne Inc., a division of GenCorp Inc. and Lockheed Martin.

Governor Brown is also pushing for the aerospace bill to be expanded to cover the automotive industry. California is one of several states currently bidding for Tesla to build its proposed $6 billion factory to manufacture a new auto battery, known as the “gigafactory”, here in the state. This addition to California would mean the creation of at least 6500 new jobs as well.

Additionally, Governor Brown signed a law in July 2014 which grants a 17.5 percent tax credit on wages for workers hired to build aircraft. The bill serves as an incentive to score lucrative contracts for high-paid aerospace jobs within the state. There was also a 10-year tax exemption granted for the manufacturing of equipment used for the space travel industry.

Is there a tax credit for small businesses in California?

Under the California Competes program, a full 25 percent of the $29 million in tax credits will be reserved to small businesses with gross receipts of less than $2 million annually. Huge corporations are not the only beneficiaries of the new tax incentives in California. The state recently instituted the California Competes tax credit program, designed to provide financial incentives for businesses to relocate to California or for businesses within the state to remain and add jobs.

The California Competes tax credit program replaces the former Enterprise Zone program, which was eliminated in 2013 due to it being wasteful and inefficient. Credits allocated by the program are tentatively set at $30 million for fiscal year 2013/14, $150 for fiscal year 2014/15 and $200 million for each fiscal year after that through 2018. The state’s website lists the following criteria by which California Competes tax credits will be awarded:

  • The number of jobs created or retained
  • Total compensation, including wages and fringe benefits
  • Investment in the state
  • Unemployment or poverty rates where businesses are located
  • Other state and local incentives available to the business
  • Incentives from other states
  • Duration of commitment of the business or project
  • Overall economic impact
  • Strategic importance of the business to the state, region, or locality
  • Future growth or expansion opportunities
  • Expected benefit to the state in excess of benefit to the business from the tax credit

The California Competes Tax Credit is a non-refundable tax credit, meaning that businesses cannot receive cash back even if the credit is greater than what they would otherwise owe in corporate income taxes. But excess funds from the credit can be carried forward for as long as five years, or until the excess funds are exhausted, whichever is sooner.

Other Business Tax Incentives in California

Other tax incentives for businesses that locate or expand within the state of California include the Manufacturing Equipment Sales Tax Exemption and the New Employment Credit program. Each program is for businesses located within designated Enterprise Zones, or areas that are struggling economically.

The sales tax exemption allows eligible businesses to exclude the State’s portion of the sales and use tax (currently 4.19%), from the first $200 million in equipment purchases made between July 1, 2014 and June 30, 2022. This program will generate significant savings for eligible businesses, allowing them to pay a reduced sales and use tax rate of 3.3125% on qualifying equipment purchases.

The New Employment Credit program allows eligible businesses to receive a credit that may be taken against corporate income tax. This credit may be taken for all qualified employees hired on or after January 1, 2014. The amount of the tax credit equals 35% of the qualified wages paid for each new full-time employee hired, making a potential tax break of up to $56,000 or more per new employee over a five-year period.

For a newly hired employee to qualify the business for the New Employment Credit, they must fall into one of the following categories:

  • Unemployed for 6 months or more (excluding students and self-employed workers) either without a degree or having completed a degree more than 12 months before being hired
  • Veterans separated from active duty for less than 12 months
  • Earned Income Tax Credit (EITC) recipients during the previous year
  • Ex-offenders convicted of felonies
  • Current CalWORKS or county general assistance recipients

Attracting New Business with Tax Incentives

Many Californians approve of Governor Brown’s latest attempts to keep California in the running when it comes to attracting new businesses and keeping the existing ones from moving to another state that offers better business incentives. California is beginning to offer many appealing incentives to businesses, including State Tax credits, new employee credits, green tax incentives, as well as energy and transportation credits. When combined with available Federal tax credits and discounts, California can be a very profitable place for business owners to call home.

Below is a list of some additional tax incentives and tax credits currently offered in the state of California.

California Tax Programs, Credits, and Incentives Benefits to Businesses
California Competes $29 million in various tax credits to businesses who create or retain jobs within the state of California
Aerospace Tax Clarification Act Qualifies rocket propulsion systems for an existing business inventory tax exemption
California Motion Picture and Television Production Credit (AB-1839) 20% of expenditures for a qualified motion picture and 25% of production expenditures for an independent film or a TV series that relocates to California
Manufacturing Equipment Sales Tax Exemption Allows businesses to exclude the state share of sales tax (4.19%) from the first $200 million equipment purchases.
SB 1309 Tesla bill to include tax credits, workforce training grants and streamlined permitting and environmental reviews
New Employment Credit 35 percent of wages between 1.5 and 3.5 times the minimum wage for a period of five years.
California Research and Development  Tax Credit Credit for costs attributable to research activities conducted in California
California Capital Access Program Collateral Support (Cal-CAPS CS) Pledges cash (up to 40% of loan) to cover collateral shortfall of loans of $100,000 or more in Severely Affected areas
Small Business Loan Guarantee Program Enables small businesses to obtain a loan it could not otherwise obtain
Industrial Development Bond Provides manufacturing and processing companies low-cost, low-interest financing for capital expenditures
Employment Training Panel Helps assist with post-hire training reimbursement
Community Development Financial Institutions Investment Credit 20% of qualified investments made into a community development financial institution
Disabled Access for Eligible Small Businesses  (FTB-3548) $125 per eligible small business, and based on 50% of qualified expenditures that do not exceed $250
Enhanced Oil Recovery  (FTB 3546) 1/3 of the similar federal credit but limited to qualified enhanced oil recovery projects located within California
Environmental Tax (FTB 3511) $0.05/each gallon of ultra-low sulfur diesel fuel produced during the year by a small refiner at a California facility
Low-Income Housing (FTB 3521) Similar to the federal credit but limited to low-income housing in California
Manufacturing Enhancement Area Hiring Hiring credit for Manufacturing Enhancement Area
Prison Inmate Labor (FTB 3507) 10% of wages paid to prison inmates
Targeted Tax Area Hiring (FTB 3809) Business incentives for trade or business activities conducted within a targeted tax area

 This article was written by staff writers Audrey Henderson and Jennifer Leonhardi. Consult with Optima’s Tax Relief  professionals to learn more.

How To File Taxes For The Unemployed : 10 tax Tips

If you lose your job unexpectedly, your first reaction may be to panic. Your second reaction may be to despair about whether you will ever work again. Unemployment brings many challenges and money considerations. What you may not consider are the implications for federal and state income taxes. But you will have to deal with your taxes sooner or later. Fortunately, the IRS provides tax breaks that may ease the blow of losing your job and make the task of seeking a new job easier. Here is everything you need to know about filing taxes unemployed.

How Do You File Taxes if You Don’t Work?

1. Don’t Forget to File Your Return

This may seem painfully obvious, but in your efforts to deal with reduced (or no) income, resumes and job interviews, tasks like filing your income tax return can be shoved to the side. You still need to be filing taxes unemployed. Depending on how long you’ve been unemployed, you may qualify for a sizeable tax refund, which would provide much needed cash. If you lose your job right before the filing deadline, and you really just can’t handle filing a return, file a request for an automatic extension to give yourself an extra six months. But don’t forget to pay at least an estimated amount of taxes that you owe to avoid underpayment penalties. If you’ve got some time to plan before you file then be sure to research the benefits and tax credits that may be available to you.

2. Utilize Free Income Tax Filing Services

If you never took advantage of free tax filing services before, now is the time to check out this benefit. The IRS allows taxpayers with adjusted gross incomes under a certain amount ($58,000 for 2013 tax returns) to file their federal returns for no charge through the Free File program. Many states also allow taxpayers to file their income taxes for free. Depending on your circumstances, you may also qualify for face-to-face assistance in filing your income tax returns from nonprofit agencies in your area.

3. Keep Track of Job Search Expenses

If you always just take the standard deduction on your return, you may wish to reconsider that position when filing taxes unemployed. That’s because job search expenses for a position in your present line of work are tax-deductible, but only if you itemize your deductions. Job search expenses must exceed 2 percent of your adjusted gross income to be deductible, but if you are receiving unemployment or no income at all, this hurdle is relatively easy to overcome. Expenses such as printing and mailing resumes, travel expenses for job interviews, employment agency fees and career counseling add up quickly.

4. Medical Expenses May be Tax Deductible

Clearing the hurdle of 7.5 percent of adjusted gross income necessary to deduct medical expenses is ordinarily a tall order, barring major surgery or catastrophic illness. But if your income is reduced due to job loss, clearing that hurdle may be easier. Save receipts for doctor visits, prescriptions, and over-the-counter medications just in case.

5. Take the Health Insurance Tax Credit if You Qualify

If you lost your job as a result of a foreign trade agreement, you may be able to claim the Health Insurance Tax Credit. You must be receiving Trade Adjustment Assistance benefits to qualify. The HITC covers 80 percent of your health insurance premiums, which can free up a significant amount of cash for other areas of your budget.

6. Consider Your Retirement Plan

If you have an employer-sponsored 401(K), you will need to roll those funds into a traditional IRA or other qualified retirement funds to avoid paying taxes on the money. If you already have a traditional IRA, it may make sense to convert the account to a Roth IRA while your income is lower. You will have to pay income taxes on the funds that you convert, but you may still come out ahead financially in the long term. Consult with Optima Tax Relief to determine the best strategy for you.

7. Take Advantage of Tax Breaks for Low and Moderate Income Earners

Since you lost your job, your income has likely decreased dramatically, while many of your expenses have remained the same. Tax credits like the Earned Income Tax Credit (EITC), the Child Tax Credit, Child and Dependent Care Credit and Savers Credit allow low and moderate income taxpayers to reduce the amount of income that they must declare on their federal income tax returns and in some cases, such as with the EITC, receive a tax refund, even if they don’t actually owe federal income taxes.

8. Don’t Get Blindsided by Taxes on Severance Pay or Unemployment Insurance

It is a cruel irony that unemployment insurance and severance pay are considered taxable income. As painful as it may be, plan to set aside funds from each unemployment check or your severance check to cover your estimated federal income tax liability if at all possible. The IRS receives copies of Form 1099 which reports unemployment income and Form W-2 which reports income – including severance pay – from your former job. Underreporting this income or failing to pay the taxes you owe could land you in serious trouble. The risks simply aren’t worth it. Bear this in mind when filing taxes unemployed.

9. Get to Know Schedule C

While your ultimate goal may be to find another full-time or part-time job, you may take temporary jobs or self-employment to fill gaps in your income during your search. Income and expenses from self-employment are calculated on Schedule C, which is filed along with your federal income tax return. Deductions and credits differ significantly for income from self-employed workers and small business owners than for wage earners.

Depending on how long you remain unemployed, you may be able to claim tax breaks through Schedule C that would be difficult or impossible to claim as a wage earner itemizing your deductions on Schedule A. In particular, self-employed workers can claim tax breaks on health insurance premium payments without itemizing deductions. Who knows, you may decide to ditch the job search in favor of full-time self-employment.

10. Withdraw from Your Retirement Fund Only as a Last Resort

When the balance in your bank account shrivels and your bills begin to pile up, funds that you have set aside for your kids’ education or for your retirement begin to look like a lifeline. If you are really hard up for money and you must choose between Junior’s education fund and your traditional IRA as a source of much-needed cash, deplete Junior’s college fund first. This is not to punish Junior, but because resources such as grants, scholarships, loans, and part-time work are available to help college students with financial need. If all else fails, Junior can attend a community college for a year or two before transferring to a four-year institution.

On the other hand, draining your retirement fund deprives you of funds that you may or may not be able to replenish. Even if you can replace the funds you withdraw, it is unlikely that you will ever be able to make up for the earnings that those funds would have generated had they remained in your account. Worse, you may have to pay a stiff tax penalty for early withdrawal from your traditional IRA. That said, the IRS allows unemployed taxpayers or their heirs to make hardship withdrawals from traditional IRAs before age 59 ½ without paying a tax penalty under strictly defined circumstances.

Do You Get a Tax Break For Being Unemployed?

Yes, you can get tax breaks if you’re unemployed. Taking advantage of tax breaks designed to assist job seekers and other taxpayers with moderate or reduced incomes may help you provide your family’s basic financial necessities until you are back on the job. Losing your job and going through the grind of seeking work can wear on even the most determined job seeker. While it’s tempting to give up, you should do whatever you can to continue your search. If you’re one of many American’s who lost their jobs or were furloughed in 2020 during the Covid-19 pandemic you may be eligible for additional relief. See our dedicated content for additional information on Coronavirus Tax Relief and benefits.

If you need tax help, contact one of our dedicated tax experts for a free consultation.

Deducting Your Gambling Income & Losses

 

We all know the thrill of winning from gambling whether you’re an avid gambler or the occasional one. But did you know that all winnings are fully taxable? No matter how small your gambling winnings, they must be reported on your tax return. Gambling income includes- but not limited to- winnings from lotteries, keno, slot machines, table games (i.e. poker, craps, roulette, blackjack, etc.), racing or sports betting, and bingo.

Are gambling losses deductible?

Yes, and here’s where the deductions on your gambling losses come in – you may be entitled to a deduction if you had any gambling losses come tax filing season, but only up to the extent of your winnings for the year. For example, if you won $3,000 from gambling for 2016, the most you can deduct on your 2016 tax return is $3,000, no matter how much you lost. Gambling losses must be reported on Schedule A as an Itemized Deduction, which are separate from winnings. Continue reading for important facts about claiming your gambling losses on your tax return.

Five important facts about deducting gambling income and losses:

  1. You must report the full amount or your winnings as income and claim your losses (up to the amount of your winnings) as an itemized deduction.
  2. You cannot reduce your gambling winnings by your gambling losses and then report the difference.
  3. Claim your gambling losses on Schedule A, Itemized Deductions, under ‘Other Miscellaneous Deductions’.
  4. The IRS recommends that you keep written documentation, like a notebook or a diary, for proof in case of an audit and to keep winnings and losses separate and organized. According to the IRS Publication 529 Miscellaneous Deductions, your notebook should contain at least the following:
    • The date and type of your specific wager or wagering activity.
    • The name and address or location of the gambling establishment.
    • The names of other persons present with you at the gambling establishment.
    • The amount(s) you won or lost.
  5. According to the IRS, you should also have other documentation for additional proof through the following:

Form W-2G (if given), certain winnings; Form 5754, statement by person(s) receiving gambling winnings; wagering tickets; canceled checks; substitute checks; credit records; bank withdrawals; and statements of actual winnings or payment slips provided to you by the gambling establishment. Learn more about how gambling impacts your taxes with Optima Tax Relief. To keep up to date with gambling winnings tax laws and your responsibilities as a taxpayer, please refer to the IRS Help & Resource page or consult your local CPA or tax attorney.

What are the Common IRS Audit Triggers?

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.Two words that strike anxiety into even the most honest taxpayer? Tax audit. In reality, the odds of being audited by the IRS are slim. While the IRS is diligent about collecting the revenues which it is owed, the old days of the IRS driving honest taxpayers and their families to financial ruin are largely a thing of the past.

Related article: 5 Steps to Surviving an IRS Audit

Nonetheless, many taxpayers wish to eliminate even the remote chance that they will face an IRS audit. While there is no absolute guarantee that you will avoid an audit, steering clear of these dozen common IRS audit triggers will place the odds firmly in your favor.

Common IRS Triggers

Too Much Income

Just like old-time bank robbers, the IRS is more likely to target high-income taxpayers because they are more likely to have financial resources that can be collected. But this doesn’t mean that you should make less money to avoid an IRS audit. It does mean that if you are a high net worth individual, you should be extra diligent about record-keeping to avoid triggering an audit

Too Little Income

Low-wage workers are not necessarily targets for tax audits by the IRS. But taxpayers who report incomes far below what others in their profession earn might raise flags and audit triggers. For instance, physicians who report less than high five-figure incomes may raise suspicion, unless they work in areas of extreme poverty.

Unreported Income

This is a no-brainer. The IRS receives notification of income for wage earners from Form W-2. Non-wage income is reported on form 1099. It really isn’t very smart to underreport your income. Of course, if you have legitimate deductions and tax credits that reduce your adjusted gross income, that’s fine. Just be prepared to verify the tax breaks that you claim in case the IRS inquires.

Rounded Numbers

Did you really make exactly $50,000 last year? If so, be ready to prove it to the IRS. Otherwise, don’t round or average numbers, because doing so sends a signal to the IRS that the rest of your return might be less than accurate. Discrepancies between State and Federal Returns Get this one wrong and you may wind up with double trouble: inquiries from Uncle Sam and from your state. Plain and simple, the income that you report to the IRS must match the income that you report to the state. Of course, deductions can and often do differ between the federal government and the state, so differences there are fine.

Unexplained Variations in Income

Your income jumps after you graduate from college and get a great job. Or you lose your job and spend a year searching for a new job. Those kinds of variations don’t generally raise red flags with the IRS. Likewise, self-employed workers need not lie awake nights worrying that their fluctuating income might trigger an audit. But regular wage workers who stay on the job with a single employer tend to have fairly steady wages. Reporting otherwise without supporting documentation may well trigger an audit. Related article: 10 Tax Preparation Tips For The Self Employed

Unusually Large Losses

If your house burned down last year, claim the full amount of your losses. Likewise, if your retirement fund was severely affected by a dip in the stock market or by other factors, go ahead and report the decline. But have documentation ready to back up your claim. Don’t claim you have unusually large losses if you don’t have paperwork to prove it.

Larger-than-Average Deductions

Charitable deductions that are out of proportion with your income are a red flag for the IRS. Likewise, self-employed workers who earn much more from their clients or customers than they report in income on Schedule C should brace themselves. If you really are giving away a large proportion of your net worth, keep meticulous records of your gifts and their net worth. Entrepreneurs who record large capital investments in a single year should maintain invoices and other documentation to explain where so much of their income went.

Home Office Deductions

If you’ve been working from home during the COVID-19 pandemic, then you may qualify for a home office deduction. In the 2013 tax year, the IRS instituted a much simpler means of claiming the home office deduction. In order to qualify for this deduction, a taxpayer must have a dedicated area in their home that is exclusively used for conducting business on a regular basis. The office in a home must serve as the taxpayer’s principal place of business and must not overlap with any other outside activities. (IRS.gov)

Sloppy or Incomplete Returns

The IRS makes it really easy to e-file your income tax returns, and for the majority of taxpayers, e-filing is free. You should take advantage of this convenience. E-filing features double-checking capabilities that minimize common mistakes. Placing entries on the wrong line or skipping important entries altogether is rare when e-filed. You also receive a timely alert when the IRS accepts your return and you receive any refunds that you are due in days or weeks, rather than months.

Adoption Tax Credit

The IRS provides a generous credit for adoption. For 2019, the credit is up to $14,080 per child, for up to 3 children. Qualified adoption expenses can be placed on a tax return if they are a reasonable and necessary adoption fees, court costs and attorney fees, traveling expenses and other expenses that are directly related to and for the principal purpose of the legal adoption of an eligible child.

Straight Up Tax Scams

You should not refrain from claiming any of the tax credits or deductions listed above out of fear of being audited. There is no reason not to claim every tax break to which you are legitimately entitled. But frivolous claims such as paying income tax is voluntary or that federal income taxes are unconstitutional are a fast track to an IRS audit. Likewise, unscrupulous tax preparers that jack up your refund with questionable tax credits and deductions should raise major red flags for you, not to mention the IRS.

Need some tax relief assistance? Optima Tax Relief offers a comprehensive range of services. Schedule a consultation with one of our tax professionals today to receive expert advice.

What Does Voluntary Compliance Mean in Regard to Taxes?

The United States federal income tax system is operated under a system of voluntary compliance. This innocuous sounding term actually packs quite a potent punch –  there is little that is voluntary about the federal tax system, at least where paying taxes is concerned. Many celebrities and ordinary citizens alike have learned this lesson the hard way, almost always at great financial cost.

Voluntary Compliance and Audits

The “voluntary” nature of taxation relates to the method of submitting and paying income tax obligations. The Treasury department places the burden of figuring, reporting and paying income taxes in the hands of its citizens, rather than automatically collecting the revenue. In contrast, sales taxes and other use taxes are involuntary. Whenever you buy an item or service that carries sales tax, you not only pay the price of the merchandise or service, but the tax as well.

Although the IRS collects taxes under a voluntary compliance system, the assumption is that most of the population will fail to pay its full tax burden, either by mistake or by deliberate attempts at tax evasion. To remedy the resulting shortfall, the IRS has instituted a system of tax audits. A majority of audits are triggered by suspicious items included or omitted from tax returns. Other tax audits are generated because taxpayers who should file tax returns fail to do so or file so-called frivolous returns. An unfortunate minority of taxpayers are flagged for audits by random selection – just plain bad luck.

Celebrity Tax Evasion & Frivolous Tax Returns

Throughout history, famous and infamous figures have been caught in the net of failure to comply with the “voluntary” system. Notorious gangster Al Capone died in prison as a result of a conviction of income tax evasion. More recently, celebrities like Martha Stewart, Wesley Snipes and Marc Anthony have been snared by convictions for federal income tax evasion. One persistent but thoroughly discredited strain of tax protest arguments claim that federal income taxes are unconstitutional, or that taxpayers can eliminate their federal income obligations by filing “zero” tax returns. Snipes was one of the more famous figures taken in by this line of reasoning, and as a result was convicted of misdemeanor tax evasion in 2008 and sentenced to 3 years in prison. As of 2014, the movie star was back on the silver screen, headlining in the action feature Expendables 3. Presumably, Snipes will pay a rightful proportion of his earnings from the film, marketed as a summer blockbuster, to the IRS. The IRS exercises little patience with taxpayers filing what it concludes to be frivolous returns. It imposes an array of civil penalties, listed below:

  • Accuracy-related penalty under section 6662 (20 percent of the underpayment attributable to negligence or disregard of rules or regulations)
  • Civil fraud penalty under section 6663 (seventy-five percent of the underpayment attributable to fraud)
  • Erroneous claim for refund penalty under section 6676 (twenty percent of the excessive amount)
  • Fraudulent failure to timely file income tax return (triple the amount of the standard failure to file addition to tax under section 6651(a)(1))
  • Frivolous submissions other than tax returns under the Tax Relief Health Care Law of 2006 ($5,000 penalty)

Is Tax Evasion a Felony?

Criminal penalties for tax evasion based on frivolous tax returns can be severe. Both fines and jail time may be imposed upon conviction. Specific penalties are listed below.

  • Felony for attempting to evade or defeat tax under Section 7201 provides as a penalty a fine of up to $100,000 ($500,000 in the case of a corporation) and imprisonment for up to 5 years with optional additional fine up to $250,000
  • Felony for willfully making and signing under penalties of perjury any return, statement, or other document that the person does not believe to be true and correct as to every material matter under section 7206 is a fine of up to $100,000 ($500,000 in the case of a corporation) and imprisonment for up to 3 years with optional additional fine up to $250,000
  • Felony for promoting frivolous arguments and assisting taxpayers in claiming tax benefits based on frivolous arguments under section 7206(2) may be fined up to $100,000 ($500,000 in the case of a corporation) and imprisonment for up to 3 years with optional additional fine up to $250,000

How Do Corporations Avoid Paying Taxes?

Individual taxpayers are far from alone in their attempts to minimize their tax burdens. Complex accounting maneuvers with names like the Double Irish or Dutch Sandwich allow major corporations like Apple and Google to evade the 35 percent US corporate tax. But unlike tax evasion or frivolous tax returns, corporate tax dodges are largely perfectly legal – for now. Governments around the world have begun to put measures in place designed to curb offshore tax havens and other corporate tax evasion strategies.

Fair Tax System

The voluntary compliance system is far from the only viable system of income taxation. The so-called fair tax system is based on imposing use taxes – the more goods and services a person uses, the more taxes he or she pays. But fair use systems often impose a heavier burden on low-income taxpayers because they pay a higher proportion of their income use taxes. For this reason, fair use taxes are often labeled as regressive — and aggressively unfair.

Simple Tax System

Supporters of a so-called simple tax system include tax expert Austan Goolsbee and policy wonk Ezra Klein. Under a simple tax system the IRS would calculate taxes, credits and deductions and provide taxpayers with a copy of the completed return. Taxpayers who agree with the IRS’s calculations could simply accept the return, while taxpayers who disagree could file their own returns.

The simple tax system has obvious advantages. The IRS has a good idea of what many taxpayers earn and owe anyway, thanks to Form W-2 and various versions of Form 1099. The simple tax system would also ensure nearly 100 percent compliance, since the IRS would be supplying tax returns rather than individual citizens.

As one might expect, the tax preparation industry (including TurboTax) largely disfavors the simple tax return system. Approximately 60 percent of all Americans contract with outside tax preparers to file their federal and state income tax returns. Implementing something like the simple tax system would cut deeply into that percentage.

While the simple tax return system is indeed simple, there are potential pitfalls. First, many taxpayers may accept the IRS’s version of their returns whether it is accurate or not from inertia, laziness or fear of reprisal. Second, even if the IRS and its agents were totally diligent in calculating the maximum credits and deductions, human error must still be considered.

Death and Taxes

Given the present financial and political climate, it is unlikely that the voluntary compliance tax system will change in the foreseeable future. It’s also a safe bet that attempts to evade taxes will continue, including extreme cases such as Facebook co-founder Eduardo Savarin, who renounced his American citizenship in 2012 shortly before the social media giant launched its IPO. In the face of such tax evasion attempts, the IRS will also undoubtedly continue its enforcement strategies, including the dreaded audit.

Considering a tax consultation? Optima Tax Relief offers a range of services discussed in our free consultation. Our award winning staff of tax professionals provide comprehensive tax relief services to help you resolve any tax issue. Speak to us today.

Do You Need a Tax Relief Lawyer?

The IRS is always prepared, shouldn’t you be as well? Do you need a tax relief lawyer?

Yes, absolutely.

This is a blog for a tax relief company with a small army of tax lawyers, so that’s what we’re paid to say, right? Well, yes, but it doesn’t make it any less true.

Benefits of Using a Tax Relief Lawyer: True Stories

A tax relief lawyer is a wise decision. In January, 2014, Forbes reported that Beanie Beans founder Ty Werner was convicted of evading $5.5 million dollars in taxes owed on the $27 million in interest accrued from millions of dollars stashed away in a Swiss bank account. The sentence? Two years on probation and some hefty fines, which were small change for a billionaire like Werner.

Unrelated, and a couple of months earlier, Daniel Thody, a defense contractor was found guilty to five counts of tax evasion for failing to report $15,000 and $50,000 in taxes from $1.8 million earned as a contractor for the Department of Defense. He faces up to 25 years in prison, 5 years for each count.

Which one do you think hired a tax relief lawyer and which one thought representing himself would be the smarter option? The old adage that he who represents himself has a fool for a client may be a cliché, but that doesn’t make it any less true either.

We’ve already shared the 10 benefits of working with a tax relief firm, but here are a few good reasons you should lawyer up when dealing with the IRS.

What Can a Tax Attorney Do For You?

A tax attorney will ensure that you are treated better. It’s unfair, even illegal, but it’s also human nature. IRS agents are flesh and blood and if they can get away with bullying someone into their interpretation of the law, they probably will. A tax lawyer can ensure the IRS is playing by the rules and treating you fairly. IRS investigators are much more careful about asking inappropriate questions or wasting your time with unnecessary requirements if they know they are dealing with a tax attorney.

That was the finding of an investigation into nine groups in Ohio and Kentucky that sought nonprofit status. Organizations that didn’t have legal representation were more likely to have their applications stalled and receive inappropriate or unnecessary questions from the IRS.

You don’t have to worry about an IRS agent getting upset with you for hiring a tax relief lawyer either. The good ones prefer dealing with tax professionals because they don’t have to waste their time and patience explaining to you the ABCs of a tax audit or the basic IRS guidelines for a criminal investigation. In fact, hiring an experienced tax relief lawyer is generally seen as a sign of good faith to resolve your tax issues.

A few bad eggs may resent you hiring a lawyer and try to dissuade from doing so, but that’s when you really need a lawyer in your corner. The IRS’s own Declaration of Taxpayer Rights clearly states that “If you are in an interview and ask to consult such a person [a lawyer, agent or accountant], then we must stop and reschedule the interview in most cases.” Be suspicious if an IRS agent prefers not to deal with a tax professional.

Can the IRS See My Foreign Bank Account?

The IRS is a behemoth of an agency, one of the most powerful organizations on the planet. From 2008 through to 2014, over 50 bankers from Switzerland, India, Israel and other countries have been indicted for helping rich Americans squirrel billions of dollars into offshore accounts.

In 2013, the IRS also cracked the code of silence of Swiss financial institutions and got UBS, the largest Swiss Bank, to divulge confidential information on American tax evaders, and pay a $780 million penalty.

Even the IRS Thinks You Need a Tax Lawyer

The Taxpayer Advocate Service is an independent organization within the IRS which has the job of ensuring that you are treated fairly and helping you resolve problems with the IRS. Although it’s unlikely a Taxpayer Advocate Service lawyer will protect your interests quite as aggressively as a regular tax attorney, they are better than nothing, if you can’t afford to pay one.

If money is an issue, there is another option: Low Income Taxpayer Clinics. Although these clinics are partially funded by the IRS, they are completely independent and are operated by nonprofit organizations and academic institutions.

Only a Tax Attorney Can Represent You in a Criminal Investigation

Certified Public Accountants are great. When it comes to tax planning, business budgeting and asset management, a CPA is – all things being equal – more useful than a tax attorney is. But when you have a dispute with the IRS, especially if you’re accused of tax fraud or tax evasion, a tax relief lawyer is the only intelligent choice. Tax attorneys are the only ones who can represent you in a court of law and provide you the legal advice and analysis you need.

If that is not reason enough, I have two and a half words for you: attorney-client privilege. Unlike CPAs and accountants, attorneys cannot be subpoenaed to testify against a client in a criminal procedure.

Is it Worth it to Hire a Tax Attorney?

Does this mean you need a tax lawyer every time you get a letter from the IRS? No, of course not. You can probably deal with small mistakes and omissions by yourself or by giving your tax preparer a quick call. However, if there is any chance your case could go sour, you need to call a qualified and experienced tax attorney, and pronto. A good rule of thumb is that if you’re asking yourself whether it’s serious enough to merit calling a lawyer, it probably is.

A quick consultation call with a tax lawyer can save you thousands of dollars in unnecessary legal fees you could have avoided by not procrastinating. Tax lawyers know how IRS attorney think, many tax attorneys worked as IRS attorneys before hanging their own shingle. So, they know what to say, what not to say, and what buttons to push when negotiating your case.

Hiring a lawyer sends the IRS a clear and powerful message. You’re taking the investigation seriously; you’re not going to let IRS agents push you around; and you want to work with the IRS to avoid criminal charges.

The bottom line is that the IRS is scary enough when you have a first-rate lawyer at your side. So hire one already. Need to hire a tax relief lawyer? Our tax professionals at Optima Tax Relief are here to help.