IRS Hacked, 104,000 Taxpayers Impacted and Nearly $50 million Stolen: What Should You Do to Protect Yourself?

The IRS announced on Tuesday (5/26/2015) that identity thieves had attempted to access the accounts of 200,000 taxpayers through the IRS’s “Get Transcript” online application. The scary part is that the IRS has admitted that more than 104,000 of those attempts were successful. The hackers’ operation started in February and ran through mid-May. All in all, the IRS was tricked into sending nearly $50 million in refunds for fraudulent returns.

The IRS has started an investigation in the breach and has temporarily closed down the “Get Transcript” application, a service that allows taxpayers gain access to their information. Taxpayers who need access to old tax returns to apply for mortgage or college loans can now request them by snail mail.

irs_data_breachThe IRS is notifying the 200,000 taxpayers whose accounts were tampered with that their Social Security numbers and other personal financial information is in the hands of hackers. It is also offering complimentary credit monitoring to the 104,000 whose “Get Transcript” accounts were accessed to ensure their private information is not used by criminals to fill in bogus bank loans and credit card applications.

This is by no means the first time the IRS has been the victim of online crime. According to a report published by the U.S. Government Accountability Office in January 2015, identity thieves cheated the IRS out of $5.8 billion in falsely claimed refunds during 2013 alone.

Who Stole from the IRS?
According to Peter Roskam, Illinois republican and chairman of a House subcommittee that supervises the IRS, the IRS Commissioner John Koskinen said to him in a telephone call that the theft originated from within Russia. The IRS’s investigation is still ongoing and IRS officials have neither confirmed nor denied Roskam’s statement.

John Koskinen, the IRS commissioner, did say to the press that he was confident they weren’t dealing with amateurs. “These actually are organized crime syndicates that not only we but everybody in the financial industry are dealing with.”

How Did Identity Thieves Steal $50 Million from Taxpayers?
When you think of hackers stealing money from big corporations or government agencies you probably have the image of shady programmers strong-arming the security protocols of their victims’ servers with their sophisticated code; but this isn’t what happened here. Strictly speaking the IRS wasn’t hacked. The identity thieves didn’t need to hack their way into the IRS, because they had all the answers to the IRS’s identification confirmation questions.

As Peter Roskam put it, the identity thieves “went into the front door of the IRS and unlocked it with the key.” The hackers had already obtained personal information on taxpayers, such as their date of birth, address and Social Security information, from previous hacking heists. With that information thieves were able to clear the IRS’s multi-step authentication process, including several personal verification questions that usually only the taxpayer can answer.

What Should You Do?
First, don’t panic. Your personal information is already out there. A motivated hacker can easily obtain it for a few dollars. But this doesn’t mean you should sit on your hands. Consumers can, and should, make things harder for criminals. You could compare it to your home’s front door. No matter how much you spend on security, a professional burglar could break in, but that doesn’t mean you should leave the door open or that you shouldn’t invest in a decent security system.

Here are four things you can do right now to protect yourself after the IRS breach:

1.) Change your passwords again. This is an obvious but often overlooked measure after major breaches. Don’t use your name or words that can be found in a dictionary. The first thing hackers do is use programs that test every word in the dictionary. Instead, create your own secret codes by using anagrams or substituting letters from common words with numbers.

2.) Turn on multi-level authentication. Only use sites that offer you the option of confirming access by receiving a one-time code either via a phone message or email.

3.) Lie on security questions. With the advent of social networks and our propensity to over-share, most security questions are easy to hack. Finding out where someone went to high-school or their mother’s maiden name just isn’t that difficult anymore. Instead of offering truthful answers, provide a second password as your answer. This will make it much harder for hackers to guess your security answers.

4.) Monitor your credit. There are no fail proof security measures against identity theft. You can try to make it harder for criminals but the chances are you will fall victim to identity thieves sooner or later. You can minimize the damage of these attacks by regularly monitoring your credit by scanning your credit history with the three major credit reporting agencies.

Are frequent flier miles or credit card points considered income by the IRS?

As a serial credit card churner, I am particularly interested in the IRS’s view on this matter, which is why I awaited with bated breath the United States Tax Court decision on the case between Parimal H. Shankar and the Commissioner of the Internal Revenue, back in August of 2014.

The issue in this case was whether Mr. Shankar had or hadn’t understated his income by $563 when he failed to report the Citibank points he used toward a trip. Mr. Shankar opened an account with Citibank and received some Citibank “Thank Your Points” as a reward. He then used those points toward the cost of a trip. The IRS argued that Mr. Shankar should have reported the savings from the ticket, the $563, as income.

The U.S. Tax Court decided in favor of the IRS. So does this mean all frequent flyer points should be declared as income? Thankfully no, the Tax Court was very careful about how it worded its decision and made it clear the decision was to have only a narrow application. The IRS sometimes considers frequent flyer miles and reward points as income, but not always. (U.S. Tax Court)

Welcome to the shady world of frequent flyer miles and credit card reward points. Hang in with me. We will get some clear answers by the end of the article.

So how does the IRS consider frequent flier miles or credit card points?

That is a good question. Are frequent fliers a prize, interest, a rebate or all of the above? The answer to that question largely determines whether they are a source of income and therefore taxable.

What has the IRS said on this subject in the past?

Nothing definitive or we wouldn’t be having this conversation, but a 2002 private letter ruling does provide insight on the IRS’s view on miles and points. The key section for our purposes says:

“ … the IRS will not assert that any taxpayer has understated his federal tax liability by reason of the receipt or personal use of frequent flyer miles or other in-kind promotional benefits attributable to the taxpayer’s business or official travel.”

When I read that I gave a small sigh of relief. It didn’t last long. The next paragraph had this to say:

“This relief does not apply to travel or other promotional benefits that are converted to cash, to compensation that is paid in the form of travel or other promotional benefits, or in other circumstances where these benefits are used for tax avoidance purposes.”

Another tidbit from the IRS’s collective psyche was revealed in IRS Publication 17 Other Income, which says under the section of Rewards:

“Rewards. If you receive a reward for providing information, include it in your income.”

Before the IRS vs Mr. Shankar case, the last time the taxation of frequent flyer points hit the media was in 2012, when it was reported that Citi had issued 1099-MISC tax forms to clients who had received reward miles for signing up for a new checking or saving account. At least two clients sued Citibank for not disclosing that information when they advertised the extra points. (LA Times)

So are miles or points taxable or not? 

The IRS is playing a wait-and-see game on this issue, so it’s impossible to be dogmatic. However, this much we can say from a careful analyzes of previous decisions, comments and rulings.

The Bottom Line: Rebate vs Interest

As indicated by the Tax Court decision on Mr. Shankar’s case, mentioned above, if you received the points or miles as a bonus for opening a bank account and making a deposit, the IRS could consider it as income.

This is because you are receiving the rewards in exchange for what amounts to “lending” money to the bank, which is interest and therefore a taxable source of income. Also, you didn’t buy anything to qualify for the bonus, so it can’t be considered a rebate.

To illustrate, last month Chase bank offered me $200 for opening an account and leaving my money with them for 6 months. There were no other strings attached so I was happy to transfer my emergency fund to another bank for $200. However, I know I’m going to have to declare the $200 as income.

The same would apply if I received 50,000 points or miles for opening an account. The only problem with points is that their cash value is not always easy to calculate. A ballpark ratio that often works is one cent per mile/reward point, but a lot depends on the rewards program and how you decide to spend your points.

Now the good news.

The IRS considers points you receive from using a credit card as a rebate. Sure, it may feel like free money when you get a signup bonus of $500 to spend on travel expenses, but you probably had to spend $2,000 to $3,000 in three months to receive the bonus. Technically, it’s a rebate.

As long as you had to make some kind of purchase or financial transaction to receive the points or miles, the IRS considers it as a price reduction not interest. This doesn’t mean things couldn’t change in the future, but right now, fellow credit card-churners, we are in the clear.

There is one caveat. The IRS will not allow you deduct a business expense you paid with frequent flyer miles or reward points. For instance, let’s stay you are the owner of a company and you declare the cost of plane tickets on a business trip but you pay for the tickets with points or frequent flyer miles. The IRS considers this as double dipping. If you use miles or points to pay for expenses and then declare the full cost as a deductible expense, you could get into trouble with the IRS.

Learn more about tax deductions for business travel in this article.

How To Escape The Alternative Minimum Tax?

In 1969, Treasury Secretary Joseph W. Barr had some shocking news to share with Congress. It wasn’t a report on the cost of having 543,400 soldiers posted in South Vietnam, the peak of the entire war. It was something much more shocking. His minions had discovered that 155 individual taxpayers with incomes exceeding $200,000 (around $2 million in 2014 dollars) were so good at milking tax loopholes they were not paying any federal income tax.

The report created a political fireball. More people wrote to members of Congress complaining about the 155 taxpayers than about the Vietnam War. That was just after 1968, the bloodiest year in the conflict, which had seen 16,589 military casualties and $77.4 billion spent in military costs.

Congress reacted with unparalleled speed. Before the end of the year, Congress had passed the Alternative Minimum Tax, a law specifically designed to stop wealthy individuals from abusing tax deductions. Congress didn’t move quite so fast on Vietnam, which dragged on for another 6 years, but at least those 155 freeloaders were stopped in their tracks.

What is the Alternative Minimum Tax?

The AMT is a parallel tax system that has its own methods and rules for calculating tax liability. Put simply, AMT eliminates many of the exemptions, tax credits, and deductions taxpayers use to reduce their tax bills under “normal” tax rules. The AMT system is much simpler; it has only two tax brackets: the 26% tax bracket and the 28% tax bracket. The result is that more income may be taxable under AMT rules than with “normal” tax rules.

Both tax systems, the AMT and the regular tax system, work in tandem. Taxpayers have the responsibility of using both systems to calculate their tax liability and using whichever system generates the most expensive tax bill. In lower income brackets, the regular tax liability is usually higher because of AMT exemption amounts. In 2014, the first $52,800 for single filers and the first $82,100 for married people filing jointly were exempt from the AMT. At higher income levels, the AMT is not so forgiving.

Who Is at Risk?

What started as a patch to stop 155 wealthy taxpayers from completely avoiding taxes now is now a tax behemoth that affects around 3.8 million taxpayers, according to a report by the Urban-Brookings Tax Policy Center.

According to figures published by the Tax Policy Center, in 1970, the AMT collected just $122 million, barely 0.1% of all individual income tax revenue for that year. Fast-forward to 2010, the AMT generated $102 billion, over 10% of all individual income tax revenue.

The rules that determine when AMT rules apply are complex and there’s no single item that triggers it, but any of these scenarios could trip AMT liability:

  • Having a large family.
  • A gross income of more than $100,000.
  • Holding or exercising incentive stock options.
  • Receiving a large capital gain, such as selling real estate.
  • Earning passive income, such as profits from stock dividends, business investments, rent or commissions and royalties.
  • Excessive itemized deductions, such as state and local taxes, home-equity loan interest and medical expenses.

Damage Control

So, what happens if you are hit with the AMT? What can you do to minimize the impact on your tax liability?
Walking the fine line between tax mitigation and tax evasion is hard enough under the IRS’s normal rules. Add the complexity of AMT and it starts to get crazy. If you suspect you may be hit with the AMT, you really should consider hiring a tax professional before taking any specific actions.

With that disclaimer in place, here a few steps you can take to minimize the damage of ATM rules.

1. Invest in Your Retirement

Reduce your adjusted gross income by investing as much as you can into tax-deferred accounts, such as a 401(k), a 403(b), a 457(b) plan or an IRA.

2. Invest in Pre-Tax Healthcare

Instead of including medical expenses as an itemized deduction, which are harder to claim under AMT, sign up for a pre-tax medical deduction plan. This will reduce your salary and help both the AMT and your regular tax.

3. Spread Gains and Losses

Reduce the impact of large, one-time gains and deductions by delaying the sale of an asset. If delay is not practical you can also spreading out big gain or losses by structuring payments into several installments.

4. Exercise Stock Options Strategically

If you know you are going to be subject to AMT, sell incentive stock options the same year you exercise them. If you exercise and sell in the same year, you have to pay regular tax on the income but not AMT. Even the AMT has a silver lining. If you decide to hold incentive stock options, wait to sell them in years when you don’t face AMT tax brackets.

5. Business Expenses Refunds are Your Friend

Ask your employer to pay you back for business expenses you incurred as an employee. Under AMT rules this is a tax-free event. Under regular tax rules, claiming for unpaid business expenses as an employee is smart because it reduces your taxable income. With AMT, any unpaid business expenses you claim for as an employee are added back to your income.

6. Take Bare-Minimum Deductions

Minimize your state and local tax deductions, a deadly AMT trigger, by only paying property taxes when they are due. Prepaying for state and local taxes is great when you claim them as a tax deduction, but under AMT rules they come back to bite you.

You May Need A Pro

Mitigating your taxes under the alternative minimum tax system can feel like someone moved the goalposts or changed the rules half way through a game, because most deductions and tax breaks no longer apply. Previously effective tax mitigation measures can become expensive tax traps and the most tax-efficient moves may feel counter-intuitive or even foolish. So, if you’re playing under AMT rules this year, you may want to consider hiring a tax professional who is used to the AMT playbook, even if you normally file your own taxes.

Should You Lawyer Up When Dealing With the IRS?

Yes, absolutely. But hey, 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.

Maybe these two true life stories will help:

In January, 2014, Beanie Beans founder Ty Werner was convicted of evading $5.5 million dollartaxs 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 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.

Taxpayers with Legal Counsel 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 attorney either. The good ones prefer dealing with tax professionals because they don’t have to waste their time and patience explaining you the ABCs of a tax audit or the basic IRS guidelines for a criminal investigation. In fact, hiring an experienced tax attorney 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. 

The IRS Has Serious Muscle

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. 

If you think this is just posturing, you may want to talk to former banker Raoul Weil. In October 2013, he was picked up in Italy while on vacation with his wife and extradited to the United States. He is now on trial for conspiring to help thousands of Americans hide $20 billion in numbered accounts at UBS.

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 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 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.

If You Think You Need A Lawyer You Probably Do

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, jeez, 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

What To Do When the IRS Garnishes Your Wages

Fail to pay a regular debt, an your run-of-the-mill creditors will have to obtain a court order from a judge to collect their money directly from your wages, which could take months and cost hundreds if not thousands of dollars in legal fees. Not so with the IRS. The IRS is a super creditor, and one of its superpowers is that it doesn’t have to bother with court orders to garnish your wages.

When you owe taxes, the IRS sends a bill. Fail to pay it and they’ll send another bill, which will include any penalties and interest accrued since the previous bill. Insist in not paying and the IRS will start collection actions. These actions include garnishing tax refunds (another superpower only the IRS has), levying bank accounts, seizing houses, and/or garnishing wages. If you have to stiff a creditor, you may want to avoid doing it to the IRS.

So what should you do if the IRS garnishes your wages?

You Can Lawyer Up

If you don’t agree with the amount, collect any evidence that supports your claim, such as tax returns, cancelled checks, or other documents that show why the amount on the bill is wrong or has already been paid. Hire a lawyer. Those who can’t afford a lawyer should contact  the IRS Taxpayer Advocate Service or call your local Low Income Taxpayer Clinic.

Or Just Pay Up

If you agree with the amount the IRS claims you owe but can’t afford to pay it, pay as much as you can. Consider getting a loan, a cash advance or using a credit card to pay it in full. The combination of penalties and interest charged by the IRS can be much higher than the cost of a regular loan.

The first step is to contact the IRS and check whether you actually owe the tax.

Audit Reconsideration
For instance, it is possible you forgot or failed to respond to a previous IRS notice and the IRS may have assessed your tax liability based on incorrect assumptions. If so, request the IRS to reconsider the assessment.

Innocent Spouse Relief
The IRS may be charging you for taxes owed on your spouse’s income. Generally, spouses are responsible for the full amount owed on a joint tax return, but you may qualify for innocent spouse relief if the taxes are based on “mistakes” or “omissions” on your spouse’s income.

Identity Theft

If the deduction from your paycheck was the first you heard about your tax debt, call the IRS immediately. You could be the victim of identity theft. Call the number on the wage garnishment notice or 1-800-973-0424.

Collection Alternatives

If you agree with the amount owed but the wage garnishment will impose too much of a hardship, call the IRS and ask for a levy release. This won’t get rid of the debt, but it will give you some breathing time while the IRS assesses alternative payment methods.

The IRS offers three main alternatives to a wage garnishment:

Enter into a monthly installment agreementTaxpayers who owe $50,000 or less in taxes, can apply online to set up a payment agreement. How much you pay every month will depend on your income and living expenses. Paying a monthly installment through an employer comes with a one-time $120 fee; while using a direct debit agreement has a $52 fee.

Request an Offer in CompromiseThis is the most attractive option because it means you only pay cents on the dollar of your tax debt. However, the IRS only agrees to an offer in compromise in cases when a taxpayer is unlikely to be able to pay the full amount in a reasonable period. You have to be in pretty bad financial shape to qualify.

Qualify as “Currently not Collectible.” This option sounds better than it actually is. The IRS will temporarily ause the collection process on taxpayers who are currently unable to pay their debt but who the IRS considers are likely to be able to pay it in the future. Unfortunately, penalties and interest will continue to accrue on the debt, so this method is not a long-term solution.

Bankruptcy and Wage Garnishment

When it comes to getting rid of debt, bankruptcy is the nuclear option. In many cases bankruptcy wipes out debt and permanently stops the garnishments it triggered. Unfortunately, bankruptcy also has a terrible effect on your credit. In the case of back taxes though, bankruptcy only offers a temporary stay. Once the bankruptcy case is over, you will still owe the taxes. This is another of the IRS’s superpowers.

Another Garnishment Could Cost You Your Job

Besides the obvious financial hardship, an IRS wage garnishment could also jeopardize your job. Some employers consider a wage garnishment as a stain on their workers character and may rethink their eligibility for a position, particularly if they have oversight over money or other valuables. Executing wage garnishments also creates additional work and expense for employers.

The Consumer Credit Protection Act prohibits an employer from firing you because of wage garnishments on a single debt. If an employer does fire you because of a wage garnishment, she may have to pay a $1,000 fine, face up to one year of incarceration, or both.

However, the Act does not protect workers who have wage garnishments on two or more debts. So if you already have a wage garnishment with the IRS and you get hit with another wage garnishment, it could cost you your job.

Stop Garnishment – Talk to the IRS

Wage garnishments are usually reserved for taxpayers who have ignored a couple of overdue tax bills and the IRS’s Final Notice of Intent to Levy. In other words, you can usually stop a wage garnishment just by talking to the IRS and arranging for an alternative method of payment. Although you can deal with the IRS directly, you should talk to tax lawyer, CPA or enrolled agent whenever you have problems with the IRS. IRS procedures are purposefully complex, so contact Optima Tax Relief to work through the jargon for you.

The IRS doesn’t have your best interests at heart. Its purpose is to collect as much revenue as fast as it’s legally possible. That may be great for the nation as a whole but not so great for your bank account.

3 Lessons We Can Learn from Toby Keith’s I Love This Bar & Grill’s Tax Warrant

These days, the celebrities and tax troubles go hand in hand. The Toby Keith’s I Love This Bar & Grill restaurant in Syracuse, New York, has been hit with a $189,000 tax warrant in back taxes according to the New York Department of State.

The chain of restaurants, which was inspired by Toby Keith’s 2003 country hit “I Love This Bar,” has 15 locations throughout the United States. The warrant was filed in Onondaga County, New York, on April 8. According to John Thomas, the chain’s marketing vice-president, the issue is being addressed. However, as of April 22, 2014, the warrant is still open.

The only reason the story of a restaurant with tax problems has got any traction with the media is because Toby Keith’s – who was named Billboard’s top country artist of the decade – is part of the business’s name. Still, there are three important lessons we can all take home from this story.

1. When It Comes to Business and Taxes, Be Careful What You Sign Up For

Toby Keith has no business interest in the Toby Keith’s I Love This Bar & Grill restaurant chain, except for a licensing agreement that allows the company to use his name. Each Toby Keith’s I Love This Bar & Grill restaurant is locally owned and operated, and therefore, Keith has nothing to do with the management of the restaurant. The actual business that was hit with the tax warrant operates under the rather less catchy name of CRGE Syracuse LLC.

Toby Keith, the person not the franchise, has quite a different view of taxes as his corporate namesake. In a 2011 interview with the Boston Herald on the subject of rich people paying higher taxes, he was quoted as saying to Country Weekly “It would be unpatriotic not to try to save the country. I’m sure people will bitch about it, but if it meant we get to operate in this country and live here another day, then so be it. ” However, that didn’t stop Keith from getting negative publicity for his namesake tax issues.

It is important to be aware of how a business is run and how it deals with its taxes before you attach your name, reputation and money to it. Even within a marriage, you must be confident your spouse is not involved in shady business, if you plan to file a joint tax return, as you could also be liable for their “mistakes.”

2. Don’t Mess With Taxes, Particularly Other People’s Taxes

Toby Keith’s I Love This Bar & Grill’s tax warrant is for back taxes on unpaid sales taxes. You may think that taxes are taxes, and that the type of back taxes you’re delinquent on doesn’t really matter; but you would be wrong. State taxation departments treat unpaid sales taxes more harshly than unpaid income taxes. While a state’s taxation department may be willing to accept a settlement on income taxes owed by a business in financial difficulties, sales taxes are rarely forgiven.

Why? Because sales taxes are paid by a business’ customers not the business. Sales taxes are added to the value of goods and services after costs and profit margins are factored into their price. Just like companies withhold income taxes from their workers wages and send them on to the IRS, businesses are not supposed to keep their clients sales taxes. When a business fails to transfer sales taxes to the state, it is, in a way, stealing from both its customers and the government.

3.Tax Warrants Aren’t Fun, But It Could Be Worse

The silver lining of getting a tax warrant on your business is that it could be worse. Look on the bright side: the taxman didn’t seize your company or sell its assets. Although that may still occur if you fail to pay your tax bills, tax warrants, like the one filed against Toby Keith’s I Love This Bar & Grill, allow businesses to remain open while they try to sort out their tax problems. Nevertheless, they do give the taxman the right to levy a business’s bank accounts and collect unpaid taxes.

If you would like to learn more about the thrilling world of tax warrants, read this article on how to remove a tax lien.

Yikes! Courtney Love Slapped with a $320K Tax Lien

Our attraction to the wealth, success and fame of celebrities is only eclipsed by our obsession with their downfalls. There is even a term for it: celebrity syndrome, which was — quite fittingly — coined by Oprah Winfrey, America’s favorite pop-psychologist. The Germans have an actual word for the pleasure derived from the misfortune of others: schadenfreude, which literally translates into English as harm-joy.

Our latest fix of schadenfraude comes in the form of singer and actor Courtney Love, who last Tuesday was on the wrong end of a $320k tax lien from the Internal Revenue Service.

Courtney Love is the widow of Nirvana lead-singer Kurt Cobain. She was also the lead-singer for her own rock band, Hole, and starred in several movies, such as “The People vs. Larry Flynt.” Last Tuesday, Love was hit with a $319,749 for unpaid taxes during 2012. This is not the first time Love receives bad news from the IRS. Love also had a lien of $324,335 filed against her in 2009 for unpaid taxes from 2007, which she has since paid off.

Maybe she should read our article on how to remove a tax lien.

We don’t know why Love has had trouble paying her tax bills. Previously, Love has blamed her financial woes on bad accountants and dishonest managers. For instance, she has repeatedly claimed that up to $250 million were lost from Nirvana’s earnings while her husband was still alive.

Tragically, according to an interview Love gave to Vanity Fair in 2011, financial difficulties were a big factor in her husband’s suicide. The Vanity Fair article quoted as saying, “We could never find our money! … Do you think Kurt would have killed himself if he had known he had $54 million?”

Love’s income comes from royalties and investments from Cobain’s estate and her acting and singing career. For people who have never earned $324,335 in a year, it can be hard to understand how someone can make enough money to owe $320k in taxes and still not have enough cash to pay her dues to Uncle Sam. However, it shouldn’t be a surprise. Being a talented artist, or being married to one for that matter, does not shield you from impulsive spending, financial illiteracy, plain bad decisions, or dishonest advisers. Anyone can mismanage his or her money, regardless of income level.

The only positive aspect of celebrity syndrome is that as we rubberneck on the financial woes of others we may stare long enough to learn how to avoid making the same mistakes. In the case of wealthy celebrities like Courtney Love there are two reminders worth considering.

First, it’s not how much you make that matters, but how you make do with what you have.

Second, it’s true you should always pay yourself first, but whatever you do, don’t forget to pay the IRS.

This brings us back to Love’s $320k tax lien. What is a tax lien? Is it the same as a tax levy? Does Courtney’s $320k tax lien mean the IRS can seize her home or car?

The short answer is no. Just because Love has a tax lien against her doesn’t mean the IRS has the right to seize her assets to pay off her tax debt. Although that may come later, if she doesn’t pay her taxes soon. A tax lien is a claim the IRS places on your assets. It stops you from selling your assets until you first pay the IRS. It’s similar to having a mortgage on your home; you can’t sell your home without first paying the mortgage.

Photo: Wikimedia Commons

Don’t Fear IRS Form 1099-C Cancellation of Debt

The most feared and least understood document ever published by the IRS – quite the accomplishment considering the competition– is Form 1099-C Cancellation of Debt.

This form is sent to people who were so deep in debt, even their creditors agreed to give them a break and either reduce or cancel their debt altogether. Think foreclosures, short sales, credit card debt settlements and similar debt consolidation methods.

Only that in the eyes of the IRS the cancelled debt has not disappeared. Instead, it has transformed into a new source of taxable income: debt income — the ultimate oxymoron. Who said tax collectors don’t have a sense of humor?

Why Do You Have to Pay Taxes on Cancelled Debt?

If you have received a IRS Form 1099-C, your first reaction was probably disbelief. It does seem counterintuitive to have to pay taxes on cancelled debt.

The IRS’ response is that when you borrowed that money you did not have to pay taxes on it because you were bound by contract to pay it back. If you had repaid the debt, it would have been as if you had never really owned the money. However, when a creditor releases you of debt, you are in effect receiving a payment you did not return, which is the very definition of income.

On the question of why the IRS thinks you will be able to pay taxes on a debt you could not afford to settle in the first place, I have no comeback.

1099-C Disputes

Creditors who cancel a debt of $600 or more are required by law to report the debt discharge to the IRS by filling in a 1099-C and sending a copy to the debtor.

This is worth repeating. Creditors, not the IRS, send 1099-Cs. They can write whatever they want on that form. Therefore, if you do not agree with the amount listed on the form, you need to contact the creditor.

Maybe the debt was discharged long ago during a bankruptcy; or the debt amount is correct but the fair market value of the debt’s security is way off. It could be you have no record or recollection of a debt cancellation. Whatever the issue is, you need to contact the creditors and try to resolve the discrepancy.

The address and telephone number of the creditor should be on the top left box of the form. If it turns out the creditor made a mistake, they can issue a new 1099-C with the correct information.

Discrepancies and Tax Audits

It is worth highlighting that the IRS also receives a copy of the information on your 1099-C. If you fail to declare taxable debt income, you may have to pay an additional negligence penalty as well as interest on your taxes, as well as other sanctions.

If you do not agree with the debt income amount and you cannot resolve the issue with the creditor, things get tricky. You can make a note in your tax return. However, a word to the wise, discrepancies between your tax return and 1099-C forms, even when accompanied by explanatory notes, are tax audit magnets. Don’t be shocked if the IRS wants a closer look at your accounts.

Thank Goodness for Exceptions and Exclusions

Not all types of unpaid debt are taxable, and you may qualify for exclusions that could either reduce or even cancel your tax liability.

IRS Form 4681 discusses the subject of debt income exceptions and exclusions in detail.  If you qualify for any of these exceptions, you need to fill in ad attach IRS Form 982 Reduction of Tax Attributes Due to Discharge of Indebtedness to your tax return.

Exceptions and Exclusions

  • Gifts. Debts canceled as a gift, a bequest or as part of an inheritance are generally not considered income.
  • Student loans. Student cancelled in exchange for working for certain employers. For instance, the Nurse Corps Loan Repayment Program that pays up to 60% of the student loans of nurses willing to serve in hospitals and clinics in some of America’s neediest communities.
  • Bankruptcy. Debts canceled during a title 11 bankruptcy are excluded from gross income. To prove debt income reported in a 1099-C was discharged as part of a bankruptcy, complete and attach Form 982 to your tax return and make sure you check the box on line 1a.
  • Insolvency. If your debts were cancelled due to insolvency – because your debts were greater than your total assets – some or even all of your cancelled debt may not be taxable. For instance, if your total assets amounted to $10,000 and your total debt was $15,000, you may not have to pay taxes on debt income of $5,000 or less. If you were insolvent when your debt was forgiven, check box 1b in Part 1 of Form 982 and attach it to your tax return. Form 982 includes an insolvency worksheet you can use to determine how much of the debt you can exclude from your debt income.
  • Principal Residence. If the cancelled debt was on your principal residence, you can exclude up to $2 million of the debt, or $1 million if married filing separately. Mind you, this does not apply to investment or vacation homes.

Don’t Panic, You May Be Exempt

If you receive a 1099-C Form, try not to panic. You may be exempt from paying taxes on the debt income, and if not, you probably can exclude a big chunk of it.

However, negotiating debt income matters with creditors and the IRS is a complex matter and hiring a tax professional with experience in debt income cases may save you a lot of cash, time and grey hairs in the end. Consider hiring a qualified tax advisor with experience in debt income matters. She can determine whether your cancelled debt is taxable; help you calculate how much you can exclude; and manage negotiations with creditors.


Major Tax Changes in 2014 for the Uber-Wealthy

Since its inception in 1861 — as a “temporary” measure to finance the Union’s war effort – legislating federal income tax law has been a political and social battlefield that creates new winners and losers out of every new tax bill, amendment or repeal. So, what about this season? What major tax changes in 2014 should you worry about?

New Tax Bracket, Obamacare, and the Slow Death of Personal Exemptions

A new marginal tax rate of 39.6 percent for those with incomes above $400,000, $450,000 for married couples filing jointly, was the price Republicans paid for permanently extending the George W. Bush-era tax cuts for taxpayers with incomes under $400,000.

Additionally, two new taxes start this year to pay for the new healthcare acts of 2010. One charges a 0.9 percent tax on any income over $200,000, $250,000 for married couples; and the other hits investors with a 3.8 percent tax on investment income over those same thresholds.

Another sacrifice on the altar of Bush-era tax cuts was the phaseout of personal exemptions, which reduces personal exemptions by 2 percent for every $2,500 above a threshold of $250,00 in adjusted gross income — $300,000 for couples. All things considered, the compromise was a great deal for high-income taxpayers, which the ultra-wealthy ended up paying for.

Marriage Penalty

Thanks to the 2013 landmark wins in the Supreme Court for gay marriage, many same-sex legally married couples will start to feel the burn of the marriage penalty. Although many married couples benefit from filing jointly and pay lower tax rates than single taxpayers, when both spouses have high incomes their overall tax rate can be higher.

To illustrate, if two single people earn $400,000 of taxable income, they will not have to pay the new 39.6 percent tax bracket. If those two same people happen to be married, they will have to pay the 39.6 percent rate on $350,000 of their income, which translates into a marriage penalty of more than $30,000.

According to research by The William Institute at UCLA, people in same sex-sex marriages are more likely to be in the work force and their median income is significantly higher ($94,000) than for heterosexual couples ($86,000). This makes legally married gay taxpayers prime targets for a marriage penalty.

Medical Expenses

Although we can still deduct our medical expenses from our taxable income, it will be more difficult to qualify. Last year the threshold for deducting medical costs was 7.5 percent. This year the threshold rises to 10 percent. However, taxpayers who are older than 65 can keep the previous rate until 2017.

2013 Tax Legislation Losers

So let’s add up the score. A new top tax bracket with a marginal tax rate of 39.6 percent; the phasing out of personal exemptions and the limitation of itemized deductions previously enjoyed by those with incomes above $250,000; and two new “Obamacare” taxes for those with incomes above $200,000; would make you think the wealthy are the biggest tax losers of 2013. And you would be right, with one caveat: it could have been so much worse if Bush-era cuts had not been extended.

In any case, high-income taxpayers are not alone. Same-sex married couples start this year to feel a thorn in the flesh that is the marriage penalty, and we all will have a harder time taking medical deductions.

There is good news, though. Most of the education credits and deductions, such as the American Opportunity Credit, were extended in 2013. The alternative minimum tax exemptions were permanently indexed to inflation, which saved many middle income families from getting sucked into a higher tax rate. Finally, several aspects of filing your taxes, such as the much-maligned home office deduction and the reporting of stock sales, have been streamlined and are now easier to calculate.

Photo: GQ

The Rich Pay All the Taxes and Then Some

If you thought Mitt Romney’s comment during the 2013 presidential campaign that 47 percent of Americans don’t pay taxes was controversial, you’re going to want to check out this gem from the latest report on tax burdens published by the Congressional Budget Office Report (CBO).

According to the report, the rich don’t just pay more taxes, they pay them all. On page 13 of The Distribution of Household Income and Federal Taxes report of 2010, it clearly states that the richest 40 percent of American earners paid 106 percent of individual income taxes.

Negative Tax Rate?

These figures, which are based on 2010 IRS census data, show that the bottom 40 percent didn’t pay anything toward income taxes. In fact, they paid a negative 9 percent. How do you pay less than 0 percent? The formula used by the CBO gives a negative percentage to taxpayers who get back in benefits more than what they pay in income taxes.

To illustrate, according to the same report, in 2010, the poorest 20 percent earned an average of $8,100 but also received $25,000 in federal benefits. Actually, a quarter of the taxpayers in this group had a -15% tax rate. That means that for every $100 they paid, they received $115 back in benefits.

Fair Analysis?

Do these statistics give a fair picture of America’s tax code? According to the Center on Budget and Policy Priorities the significance and policy implications of figures like these, are unfair and widely misunderstood.

For instance, although much is made from the fact that the poorest taxpayers do not earn enough to pay federal income tax, this doesn’t mean they don’t pay toward other federal taxes. Based on data from the same CBO report, the bottom 40% paid 15.4 percent of all Social Insurance taxes, 4.8% of corporate income taxes and 28.8% of all federal excise taxes, such as fuel, communications and environmental taxes. Once you take into account these other taxes, the bottom 40 percent of taxpayers paid 4.2 percent of all federal taxes in 2010; which doesn’t seem so outrageous, particularly when you consider they only earned a 9.7 percent share of the market income.

Reports that highlight the fact that that low-income households don’t pay federal income taxes generally fail to mention the taxes they do have to pay, such as state and local taxes. According to data from the Institute on Taxation and Economic Policy, in 2011, the poorest fifth of American households paid 12.3 percent of their income toward state and local taxes. If you include federal, state and local taxes, the percentage of their income dedicated to paying for taxes is 16 percent. A stunning figure when you consider how modest their wages are to start with.

The Bottom Line

Yes, the richest 20 percent do pay nearly 93 percent of all federal income taxes. And yes, the poorest 40 percent pay less in income taxes than they get back in federal benefits; but only if you choose to ignore what they pay in payroll, excise and corporate taxes. A rather arbitrary way of presenting the data when you consider that payroll taxes are used to fund federal benefits, such as Social Security and Medicare.

The bottom line is that the rich do pay the lion’s share of taxes. However, when you consider the top 20 percent earns over half the total market income and the wealthiest 1% saw their income grow by 16% — compared to the 1% increase most taxpayers experienced –it’s hard to feel too sorry for the poor rich folk.

Photo: Chicago Now