Tax Planning

Tax Filing Help: Deducting Medical and Dental Expenses

pub502-147x147Going to the doctor or to the dentist is almost never an enjoyable experience. Nonetheless, even if you’re in excellent health, you are still likely to accumulate medical and dental expenses – if only for insurance premiums and checkups. In some cases, you can recover at least some of your expenses through credits and deductions on your federal income tax returns. However, depending on your circumstances, recent changes in the tax code may make it more difficult for you to qualify for tax relief. If you have questions, the professionals at Optima Tax Relief can help you decipher which benefits you are entitled to and how to claim them.

Increase in the Adjusted Gross Income (AGI) Threshold

Before January 1, 2013, wage earners were allowed to deduct medical and dental expenses that exceeded 7.5 percent of their adjusted gross income (AGI). However, from 2013 forward, the AGI threshold for most taxpayers to deduct medical and dental expenses has increased to 10 percent. Taxpayers who are married with at least one spouse age 65 or older may still use the 7.5 percent threshold to claim medical and dental expense deductions until December 31, 2016. Beginning in 2017, the AGI threshold for claiming medical and dental expenses increases permanently to 10 percent for all taxpayers who are wage earners.

deductionsAllowable Medical and Dental Expenses

Although the increase in the AGI threshold is steep, the list of allowable expenses to claim as medical and dental expenses is extensive. Insurance premiums, office visits, vision correction, chiropractic care, physical therapy and mental health treatments are all deductible. Even transportation to and from the hospital or doctor’s office can be deducted, including public transportation costs, parking and tolls. Taxpayers who use their personal cars to travel to and from their homes to receive treatment may deduct 24 cents per mile on their federal income tax returns for 2014. On the other hand, elective cosmetic surgery (reconstructive or corrective plastic surgery is deductable) and Medicare tax payments for self-employed taxpayers are not allowable deductions.

Wage Earners Must Itemize

Wage earners who take the standard deduction cannot claim an additional deduction for medical and dental expenses. Instead, wage earners must itemize their deductions by filing Form 1040, commonly called the “long form” along with Schedule A to claim those expenses that exceed 10 percent of AGI (or 7.5 percent taxpayers eligible for the temporary exemption). Taxpayers may claim expenses paid for themselves, their spouses and children or other individuals claimed as dependents.

Rules for Self-Employed Taxpayers

Self-employed taxpayers are generally exempt from the AGI threshold requirement, and can claim eligible medical and dental expenses even if they take the standard deduction. To claim the deduction, self-employed taxpayers should file Form 1040 along with Schedule C, Profit or Loss from Business, Schedule C-EZ, Net Profit from Business, or Schedule F, Profit or Loss from Farming. Although self-employed taxpayers are not required to meet the AGI threshold, they are still prohibited from double-dipping. This means that expenses paid through a HSA are not deductible. In addition, self-employed taxpayers cannot claim deductions for medical or dental expenses for any month that they would have been eligible for subsidized health care coverage by an employer, former employer, spouse’s employer or ex-spouse’s employer.

calculateCalculating Your Medical and Dental Expense Deduction

Besides meeting the AGI threshold, taxpayers are only entitled to deduct medical and dental expenses that are not reimbursed or otherwise accounted for. This means that expenses that were paid through a Health Savings Account (HSA) or Flexible Spending Arrangement (FSA) cannot be deducted, because withdrawals from HSAs or FSAs to cover medical and dental expenses are almost always tax-free. Taxpayers are also prohibited from deducting expenses that are covered by their insurance or paid for by their employers such as worker’s compensation claims.

Deductions can only be claimed for expenses paid during the previous calendar year. However, if you mailed a check or posted a credit or debit card payment on December 31, you can include that payment even if it doesn’t actually post until the new year. Therefore, be sure to keep your receipt or other proof of when the payment was made. If you are unsure about whether a specific expense qualifies for the medical or dental expense deduction, a tax professional, such as an attorney from Optima Tax Relief, can determine whether or not the expense in question is deductible.

Tax Filing Help: Who Are My Dependents?

dependentsEach year during tax season, U.S. taxpayers spend millions of hours compiling and sorting tax documents, meeting with tax professionals and hoping to stay out of the red. Some of the most important tax information affecting your return, however, is not related to your W2 or profit/loss statement; it’s related to your household.

For many taxpayers, the question “who are my dependents” is often not seriously contemplated until they are sitting directly across the table from their tax preparer. A thorough tax preparer will be able to help you examine details of your household and determine who may qualify. However, educating yourself on the following points will help you get the most out of your return.

Dependents Don’t Have To Be Related To You

When people talk about their dependents, most people infer they are speaking of their children. Indeed, a major category of dependents is the “qualifying child“. This category includes, for example, children and grandchildren who:

1) lives with you more than half the year,

2) are under the age of 19,

3) relied on you for more than half of their support and

4) if married, does not file a joint return unless it’s solely to claim a tax credit.

Adopted children, step-children, siblings and descendants of both also fall into this category.

A second, broader category of dependents falls under the “qualifying relative” category. Although it is implied by the name, no familial relationship is actually required under this provision. In fact, a qualifying relative can be anyone who:

1) lives with the taxpayer all year,

2) made less than the exemption amount ($3,950 for 2014),

3) relied on the taxpayer for more than half their support and

4) is not a qualifying child of another taxpayer.

An important distinctions between the qualifying child and qualifying relative categories are that the qualifying relative has no “age test”, but does have a “gross income test”.

Dependents Don’t Have To Live With You

collegeGenerally, dependents must meet a “residency test” in order to be claimed. A qualifying child has to live with the taxpayer more than half the year and qualifying relatives must live with the taxpayer all year to be considered dependents. However, a number of exceptions apply.

First, the qualifying relative category carves out an exception to the residency test for persons related to the taxpayer, such as children who exceed the age test, as well as siblings and parents who are related directly or through marriage. Under this provision, these related people are not required to be a member of the household where the taxpayer resides. For example, a taxpayer can claim a parent who does not reside with them as long as the “support test” and the “gross income test” are met.

Second, a qualifying child is not required to meet the traditional residency test if he/she is a full-time student during any five months of the year. This is because education is considered a “temporary absence” where the main home remains within the taxpayers home. Additionally, for full-time students, the age test increases from being under 19 to under 24 years of age.

Dependents Can Have Income

dependentsFinally, a person can be claimed as a dependent even if that person has their own income. Applying the gross income test correctly requires you to identify the type of dependent and the type of income received by that person. When applicable, the gross income test uses an income threshold that matches the exemption amount for the applicable year. In 2014 for example, that threshold (exemption) is $3,950.

First, the gross income test is primarily a concern for a qualifying relative, as the qualifying child dependent does not have to satisfy a gross income test. The following example is illustrative of this distinction:

In 2014, Junior (age 17) worked part-time for his father’s landscaping business and earned $5,000 for the year. Even though Junior’s income exceeded the $3,950 threshold amount, because he is under 19 years old and meets both the residency and support tests, his income does not disqualify him from being a qualifying child. However, if Junior was 22 years old in 2014 and not a full-time student, he would not qualify as a dependent under either category because he fails both the age test for a qualifying child and the income test for the qualifying relative.

Second, the type of income derived must be considered in the gross income test. Tax exempt income, such as social security benefits or municipal bond interest, is not considered income for the gross income test. So for example, if a taxpayer provides more than half the support for her aged parent and the parent receives $15,000/yr in untaxed social security benefits, the parent would still qualify under the income test as a qualifying relative.

In conclusion, being aware of the various ways a person can qualify as a dependent will help you be informed as a taxpayer, as well as ensure that you are providing the proper information to your tax professional (or software) and will ultimately help you get the most out of your tax return.

For more reading on this topic, see IRC 152 or IRS Publication 17.

Renting out a Spare Room? Don’t Forget Uncle Sam.

Tax Tips For Landlords

If you have decided to join the sharing society and rent out part of your home,either through a service like AirBnB or independently, you have several tasks ahead of you.

You’ll most likely want to spruce up the place with comfy furnishings and linens, and maybe a fresh coat of paint. You will also want to avoid legal dust-ups like Über, Lyft and AirBnB have recently experienced in cities like New York and San Francisco.

And of course, Uncle Sam wants his share. Running afoul of the IRS can potentially wipe out any financial gains you may reap from opening your home to complete strangers. Fortunately, you can reduce your potential tax bite – with diligent record keeping.

The Magic Number? 14 (Days)

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’re stuck paying for the repairs.

Renting Beyond 14 Days Annually

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 issues, consult with a professional such as an attorney with Optima Tax Relief.

IRS Tax Forms for Contractors

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 would 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 Price and the Hobby Loss Rule

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)

Otherwise, you could 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.

Participating in the Sharing Economy

This article is not intended to discourage you from renting space in your home 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.

California Tax Credits, Incentives and Exemptions for Entrepreneurs

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 – sixth highest to be exact. California residents also bear the highest income and sales tax rates 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.

The Final Frontier

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 of this year 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.

Not Just for Big Business

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. 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.

The California Competes tax credit program replaces the former Enterprise Zone program, which was eliminated last year 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 Incentive Programs

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.

In order 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

Trying to keep up with the competition

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 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. 

10 Tax Tips for the Suddenly Unemployed

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. 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.

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. The silver lining is that 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.

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, you may wish to reconsider that position once you become 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 fund 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, 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.

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 assist 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.

The rules for making early withdrawals from a Roth IRA are less strict than for a traditional IRA. Nonetheless it’s still a bad idea to drain your Roth IRA before you intend to retire unless it is absolutely necessary. But if you have both a traditional IRA and a Roth IRA, it may be less financially painful to draw from the Roth IRA. Consult with a tax professional to obtain expert advice about your particular circumstances.

Don’t Give Up

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. 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.

10 Tax Tips For Small Businesses Owners

As a self employed entrepreneur or small business owner, you wear many hats. You don’t just perform the actual work of your consulting practice or company. You have to market and promote your products and services to potential customers, take care of the day-to-day and keep your financial affairs in order. This includes filing and paying federal and state income taxes. It may sound daunting, but the IRS provides tax deductions and credits for self employed workers and small business owners that don’t apply to wage earners.

Tax Tips For Small Business Owners

The following tax tips can help improve your cash flow as well as keep you in good standing with the IRS.

1. Hire Your Family Members For Tax Savings

If you plan to hire workers, the first place to look may be inside your own household. Hiring your offspring and spouse can net significant tax savings. Your children will have to declare the income you pay them, but their tax rate is likely lower than yours – and you can deduct the amount of their pay from your own taxes. In addition, if you pay health insurance premiums for family members, those expenses are tax deductible through Schedule C or Schedule C-EZ.

2. Join Industry-Specific Organizations

Networking is an essential aspect of making connections and gaining customers and clients. Industry specific membership organizations represent one of the best ways to raise your profile within your industry as well as keep up with industry related news and advances. Dues that you pay for memberships related to your business or consulting practice are legitimate tax deductions.

3. Take Advantage Of Capital Expenditure Deductions

Whether your business requires heavy equipment for its daily operations or you are a road warrior with a laptop, tablet and smartphone, costs for equipment to maintain your operations can be substantial. Capital investments must usually be capitalized and claimed as depreciations over time. But two upfront deductions for the 2013 tax year: Section 179 Deductions and Bonus Depreciation Deductions allow for upfront deductions.

Section 179 deductions apply to personal property that is put into service for your business during 2013. The maximum that you can claim for Section 179 deductions is $500,000, with dollar-for-dollar once purchases for a single tax year exceed $2 million. Specific guidelines for Section 179 deductions change every year; consult with an accountant or a tax professional for specific details.

Bonus Depreciation deductions allow you to deduct up to half the cost of qualified property, which includes furnishings, machinery, computers, software bought off the shelf or land improvements. Unlike Section 179 deductions, the IRS does not impose limitations or phase-outs on Bonus Depreciation deductions. Also unlike Section 179 deductions, you cannot choose which items to claim for the deduction. A tax professional like those at Optima Tax Relief can provide detailed information on how your company can utilize these deductions.

4. Self Employment Taxes are (Partially) Deductible

As an employee, your employer was responsible for paying half of your Social Security and Medicare tax obligations. As a self employed worker or small business owner, the responsibility for paying these taxes is all on you. But you can claim a deduction for the equivalent of your employer’s portion of your Social Security and Medicare taxes through Schedule C or Schedule C-EZ. (IRS.gov)

5. Claim Credit for Interest and Carrying Charges

Being your own boss often means juggling an inconsistent cash flow. As a result, many entrepreneurs and small business owners rely heavily on loans and credit. The IRS allows self employed workers and small business owners to claim tax breaks on interest and carrying charges on loans and credit taken to cover business expenses.

6. Claim Tax Deductions From Losses

Deadbeat customers and thieves can wreak havoc on your bottom line. As a silver lining to what are often very dark clouds, the IRS allows self employed workers and small business owners to write off bad debts, theft and other qualified losses. If you had a bad year and suffered a net loss, you may be able to leverage the loss to offset income and revenue and thereby lower your overall tax bill. Consult with a tax professional to properly claim tax deductions from losses.

7. Operate a Business, Not a Hobby

The IRS allows generous tax deductions and credits for entrepreneurs and small business owners. That generosity does not always extend to hobbyists, even when the hobby is expensive or occasionally nets income. To avoid being slapped with disallowed deductions and tax credits, operate your business like a business.

Maintain orderly records and keep business and personal finances separate if possible. If you travel for business, hang on to every receipt and expense for a nice tax write off. You don’t have to turn a profit every year, but if you never make any money from your venture, the IRS is likely to determine that you are a dabbler rather than a professional.

8. Make Estimated Tax Payments

As a wage earner, you were spared much of the heavy lifting as far as ensuring that your taxes were paid in a timely fashion. Your employer took care of that through deductions from each paycheck. As a self employed entrepreneur, you must take full responsibility for that chore. Often, it makes sense to make quarterly estimated payments. Otherwise, you may find yourself facing a giant tax bill and hefty underpayment penalties come tax time.

We’ve put together an instructional article on How to Use IRS Form 1040-ES, Estimated Tax for Individuals.

9. Use Technology To Simplify Your Record-keeping

You probably have a smartphone, tablet or both. And if you work for yourself, you almost certainly have a computer. Check out financial apps and software designed to make it easier for entrepreneurs and small business owners to operate. Many software programs and apps are inexpensive or free. And the cost of pricey aids can be deducted as legitimate business expenses on your income tax return through Schedule C or Schedule C-EZ.

10. Deduct Tax Preparation Expenses

You may find that you need to use the services of an accountant, tax attorney or other tax professional. If so, the IRS has your back. You can write off the expenses involved with professional tax return preparation or legal advice related to your business as a business expense – no itemized deductions required.

Image Credit: Sam Churchill

10 Tax Preparation Tips For The Self Employed

Being your own boss. Calling your own shots. Making your own quarterly payments to cover your income taxes, other obligations. Tax preparation is a necessary evil for nearly everyone who earns an income, but for the self employed, the task can be particularly challenging.

Tax Preparation Tips For The Self Employed

By following a few prudent tips, you can minimize the hassle of tax preparation, leaving you more time to pursue your business and career aspirations.

1. Determine If You Are Truly Self Employed

The IRS has established three categories that determine whether workers are independent contractors or employees: behavioral, financial and nature of relationship. In general, if you provide services for more than one client, choose when and where you work and cover your own costs for equipment, you are an independent contractor. If that isn’t the case for you, perhaps you are not truly self employed. Some companies misclassify workers as contractors to avoid providing benefits and to dodge other obligations. If you believe that you have been misclassified as a contractor, file Form SS-8 with the IRS to obtain a definitive determination of your status.

2. Adjust Exemptions from Wage Income to Reduce Quarterly Payments

Making quarterly estimated income tax payments is one of the more strenuous chores imposed on self employed workers. But if you work for an employer either part-time or full-time while working for yourself, you can reduce the amount of your quarterly income tax payments. If done right, you might be able to nix this chore altogether. Adjust your exemptions so that sufficient taxes are deducted from your wages to cover what you would otherwise pay in estimated installments.

3. Consult Your Previous Year’s Tax Return for Guidance

Failure to pay enough in quarterly estimated payments can result in significant tax penalties. Your previous year’s tax returns can help you generate an estimate for what you should pay in quarterly estimated installments. The IRS is also fairly lenient with taxpayers who make honest miscalculations.

There is no underpayment penalty if your unpaid tax obligation totals $1,000 after your estimated payments are accounted for. There’s also no penalty if your estimated payments total at least 90 percent of your current year’s tax obligations or 100 percent of your previous year’s tax obligations, whichever is smaller.

4. Don’t Forget Local Taxes and Fees

Many municipalities impose taxes and licensing fees on self employed workers and small business owners. This is especially likely if your business generates foot traffic or if you provide tangible goods to your clients. Check out local municipal and county ordinances to avoid missing critical payments.

5. Consider Whether Incorporating Your Business Makes Sense

For many entrepreneurs, operating as sole proprietors is the most viable option for conducting business. Sole proprietors file regular Form 1040 income taxes, reporting their business expenses on Schedule C as an attachment. But corporations are taxed at a lower rate than individuals, and they enjoy separate legal status. This would shield your personal assets against adverse legal and financial consequences related to business activities. On the other hand, forming a corporation or limited liability company (LLC) is more complex and expensive than operating as a sole proprietorship.

Consulting with a tax professional can help you make the right determination for your business.

6. Maintain Accurate Records for Business-Related Expenditures

The equipment and supplies that you purchase for your business represent legitimate tax deductions. You can write off unpaid invoices if you can demonstrate that you have suffered adverse consequences and have made good faith efforts to collect what is owed to you. Business-related travel and entertainment also represent legitimate tax write-offs. But you must be able to document your expenses by retaining your receipts and maintaining accurate business and financial records.

7. Don’t Be Spooked by Audit Fears

You may have read or heard that certain deductions such as the home office deduction represent red flags for the IRS that trigger audits. As a result, you may shy away from claiming such tax credits and deductions. While the wish to avoid an audit is understandable, it is foolish to forego legitimate tax deductions and credits. Even if the IRS does request further documentation or even a full tax audit, as long as you can verify your claim, you have nothing to worry about.

8. Claim Health Insurance Deductions and Credits

Under the Affordable Care Act, individuals and households with incomes between 100 percent and 400 percent of the federal poverty rate are eligible to get tax credits when they buy eligible individual health insurance coverage through state or federal exchanges. These credits can be applied directly to insurance premiums if claimed when filing federal income tax returns. Self employed individuals may also deduct 100 percent of the premiums that they pay for health insurance coverage for themselves, their spouses and dependents.

The four following conditions must apply:

  1. You have net profit on Schedule C, Schedule C-EZ or Schedule F for Form 1040
  2. You recorded net earnings from a partnership on Schedule K-1 for Form 1065
  3. You figured net self employment earnings on Schedule SE by an alternate method
  4. You have a W-2 for an S corporation where you hold more than 2 percent shares

9. Don’t Neglect Depreciation

If your business invests in expensive equipment, depreciation can represent a significant area for tax breaks. The IRS allows you to write off part of the value of big ticket items like photocopy machines or a new laptop each year to amortize the upfront costs of such major tools. The IRS.gov website includes instructions on how to properly calculate depreciation. Many commercial tax preparation programs also allow you to include depreciation along with other business-related items on your return.

10. Need Help? Tax Preparation Costs are Tax Deductible

Many self employed individuals outsource their tax preparation tasks to an accountant. If you are among that number, you may be able to deduct the cost of tax preparation as a business expense. The experts at Optima Tax Relief can relieve you of the burden of preparing your tax returns, along with answering your tax-related questions.

If you’ve been around the “self-employment tax” block a few times, you probably recall telling yourself that next year, you’ll do better. You’ll save all the receipts, track all the mileage, put away money for retirement. Well, next year is right now. Check out these mid-year tax strategies for more ways to prepare for next year’s tax season.

7 Mid-Year Tax Strategies to Take Right Now

For many people, tax season is just that, a finite period which represents the only time they think about their income taxes. While this is an understandable perspective, it is short-sighted and potentially costly. By making a few mid-year tax strategies now to change your circumstances, you can avoid nasty surprises at tax time.

1. Start Making Charitable Donations

Many people only consider making charitable donations during the holidays. But most charities struggle during the summer because donations are down while demand for their services is hardly reduced at all. Have you made good on your resolution to lose weight? Your gently-used clothing would be a much-appreciated charitable donation. Likewise, that old computer could benefit an after school center or direct service organization. Whatever you decide to donate, be sure to get a receipt.

Related article: Claiming Tax Deductions for Charitable Donations

2. Adjust Your Withholdings

Whether you realize it or not, big tax refunds suck. If you always receive a big check from Uncle Sam after filing your taxes, re-calculate how much money is being withheld from your paycheck. Giving Uncle Sam a big interest-free loan every year is never fun, no matter how much you love the refund.

On the other hand, if you find yourself writing big checks to the IRS every year because you’re milking every penny out of each paycheck, it’s time to tighten your belt and allow a larger withholding from your pay envelope.

3. Mix Business With Pleasure

As an entrepreneur, you’re generally limited to deduct 50 percent of business-related meals and other expenses. But if you hold company celebrations such as a Fourth of July barbeques and invite everyone in the company, the IRS allows you to deduct 100 percent of the cost on the following year’s federal income tax returns. Likewise, if you are attending a business-related conference in sunny So Cal, there is nothing wrong with adding a few more days to your stay. The travel expenses can be a written off for business, and you can get a proper vacation too. Just be sure to keep business and personal expenses separate and hold onto your receipts.

Tax Tip: Deductions for Travel and Business

4. Organize That Box of Receipts!

Every year you go into overdrive as you sort through that shoebox full of receipts next to your desk. You struggle through your tax returns, and promise yourself that next year you’ll do better. Next year is now. Schedule an afternoon when the weather is gloomy and organize those tax receipts according to category, month or any other system that works for you. Once you achieve organization and enjoy a smooth tax season next year, you will never be tempted to settle for chaos again.

5. Contribute to (or Start) a Retirement Plan

Even if you love your work and can see yourself continuing in your present capacity forever, it is more likely than not that you will actually retire at some point. Even if you continue working part-time, accumulating savings now can ensure that your golden years truly are golden. And when tax time comes, as it inevitably does, you will have made sizeable tax-deductible contributions to your retirement fund. Doesn’t that sound better than making a vain attempt to scrape together a few hundred dollars in April?

Kiplinger has an excellent article on how to tax plan for retirement here.

6. Start a Side Business for the Perks

Have you always wanted to be your own boss? The IRS allows several generous deductions to bona fide business concerns. The operative word in the previous sentence is “bona fide.” You must be able to demonstrate that yours is an enterprise in pursuit of revenue rather than a hobby to qualify for business-related benefits. Starting now will allow you plenty of time to lay the sort of groundwork the IRS will accept. And don’t worry; you don’t actually have to be making money – at least at first – to qualify for business-related tax breaks.

What kinds of perks? You can write off auto-related expenses, some travel costs, business supplies, even some entertainment costs, to name a few.

7. Learn About Upcoming Tax Changes

Every year brings new adjustments to the tax code. You aren’t expected to understand them all, but the big changes tend to make news. Keep your eyes and ears open for potential tax changes that may apply to your situation. Follow the IRS’ social media pages, and be in the know about current events.

Putting a few of these mid-year tax strategies into work now will ensure that next year’s tax season is less, well, taxing.

Which Is Right for You? Standard vs. Itemized Deductions

If you have always prepared your own federal income tax returns, you may have accepted the standard deduction by default. In some cases, it is worthwhile to go through the hassle of gathering receipts and completing the somewhat more involved process of claiming itemized deductions. In other cases, the IRS will not allow you to take the standard deduction. While each individual tax case is unique, there are a few general guidelines to help you decide if you should itemize your tax deductions for this year’s federal income tax returns.

The Standard Deduction, Not Personal Exemptions

Many taxpayers confuse the standard deduction with personal exemptions. The IRS allows one personal exemptions for each person in a household. If you are a single taxpayer with no children, you are entitled to one personal exemption. But if you are a single parent with two dependent children, you are entitled to your personal exemption plus an exemption for each child. For the 2013 tax year, the IRS has set the personal exemption at $3,900.

On the other hand, the standard deduction is granted based on tax filing status. Each tax filing household receives one standard deduction regardless of the number of people in the household. Know that the size of the standard deduction varies according to your tax filing status. Each taxpaying household is generally entitled to claim at least one personal exemption along with the standard deduction. If you are at least age 65 or blind, your standard deduction is higher. If you can be claimed as a dependent by another taxpayer, you generally cannot claim an exemption. Your standard deduction may also be reduced. The standard deductions for 2013 for non-dependent taxpayers who are under the age of 65 and are not legally blind are listed below.

  • Single $6,100
  • Married Filing Jointly $12,200
  • Head of Household $8,950
  • Married Filing Separately $6,100
  • Qualifying Widow(er) with Dependents $12,200

What if You Must Itemize?

Some taxpayers must itemize regardless of whether they would benefit financially from doing so. For example, for married couples filing separately, if one partner itemizes his or her deductions, the other partner must itemize his or her deductions also. Likewise, nonresident aliens, dual-status aliens and taxpayers who file for tax periods of less than 12 months are not entitled to claim the standard deduction.

What Kinds of Expenses Can Be Itemized?

The standard deduction is designed to simplify the tax paying process. Often, the standard deduction is at least as large as the total that a taxpaying household could claim by itemizing. This is by design. The figure that the IRS allows for the standard deduction is intended to cover the average amount of total deductions that average taxpaying households would receive if they itemized. However, under certain circumstances, households have larger than average expenses that are eligible for deduction. In such cases, itemizing deductions makes sense. The list below, taken from the IRS website, represents examples of the types of deductions that might make it worthwhile to itemize your deductions.

  • Home mortgage interest
  • State and local income taxes or sales taxes (but not both)
  • Real estate and personal property taxes
  • Gifts to charities
  • Casualty or theft losses
  • Unreimbursed medical expenses
  • Unreimbursed employee business expenses

Limitations on Itemized Deductions

One reason that the standard deduction often exceeds the deductions allowed by itemizing for many taxpayers is that he IRS does not always allow dollar-for-dollar deductions when you itemize. In fact, most itemized deductions must exceed 2 percent of your adjusted gross income before they can be claimed on your federal income taxes. The threshold for other deductions is even higher. When calculating itemized deductions, it is essential to apply the proper thresholds and limitations. Otherwise, you may claim a higher deduction than you are entitled to – which you would have to repay, probably with interest, if the IRS discovers the discrepancy.

For instance, only unreimbursed medical expenses other than insurance premiums that exceed 10 percent of your adjusted gross income may be deducted from your federal income tax returns if you are under age 65. The IRS has instituted a temporary adjustment through December 31, 2016 for taxpayers age 65 and older. While the exception is in place, seniors who itemize may deduct unreimbursed medical expenses that exceed 7.5 percent of their adjusted gross income. Once the exception expires, the 10 percent threshold will apply to all taxpayers, including seniors.

On the other hand, gambling losses are not subject to the 2 percent threshold, but deductions claimed cannot exceed gambling winnings that are reported as income. Likewise, premiums on tax exempt bonds are not subject to the 2 percent threshold. Deductions from the Individual Retirement Account of a deceased spouse are also not subject to the 2 percent threshold, although the surviving spouse must report the income and pay any necessary income taxes.

In addition, the IRS has imposed income limits on claiming itemized deductions that vary by tax filing status.Taxpayers with incomes over specific levels may find that their allowed deductions may be reduced if they itemize.The limitations vary according to tax filing status. The income limits for 2013 are listed below.

  • Single – $250,000
  • Married filing jointly or qualifying widow(er) – $300,000
  • Married filing separately – $150,000
  • Head of household – $275,000

Filing Itemized Deductions

If you itemize your deductions, you must file Form 1040 (the “long form”) along with Schedule A, which is where you will list your itemized deductions. It may be helpful to print out paper copies of both forms to calculate your deductions and total tax obligations. But you should file your tax forms electronically to minimize the risk of errors or a having the return be lost in the mail. Most taxpayers will qualify to complete and file their tax returns for free through the IRS Free File program, which can be accessed on the IRS website.

Standard Vs. Itemized Deductions: It’s Not Permanent

Taxpayers who itemize deductions voluntarily are not bound by their decision in future tax years. And unless you are certain that the standard deduction is financially a better choice, it is worth the effort to calculate your taxes using both the standard deduction and itemized deductions. If your calculations show that the standard deduction is more beneficial to you, you may return to claiming it without penalty from the IRS.

Live Here, Work There. Where do I pay state income taxes?

After weeks or months of job seeking, you land the position of your dreams–but the job is in a different state. The location of the job is close enough so that you can commute every day rather than move, but you are still faced with the dilemma of where and how to pay state income taxes.

Where do I pay state income taxes?

The easy rule is that you must pay non-resident income taxes for the state in which you work and resident income taxes for the state in which you live, while filing income tax returns for both states. However, this general rule has several exceptions. One exception occurs when one state does not impose income taxes. The other exception occurs when a reciprocal agreement exists between the two states.

States with No State Income Tax

Seven states: Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming impose no income tax at all on their residents. Two more states: New Hampshire and Tennessee tax only dividend and interest income. If you work in one of these nine states, but live in one of the 41 states (plus the District of Columbia) that do impose state income taxes, you will generally pay only resident state income taxes for the state where you live. Similarly, if you live in one of these nine states but work in a state that imposes state income tax, you would only pay nonresident taxes for the state where you work.

For instance, if you live in Bristol, Virginia but work in Bristol, Tennessee, you would pay Virginia resident state income taxes. Likewise, if you worked in Bristol, Virginia and lived in Bristol, Tennessee, you would pay Virginia nonresident state income taxes. Though in both cases you would only file a single state income tax return.

States with Reciprocal Agreements

What if you live in Milwaukee but you commute every day by Amtrak to Chicago? It just so happens thatWisconsin and Illinois share what is known as a reciprocal tax agreement. As a result, your employer would deduct only Wisconsin state taxes from your paycheck, and none for Illinois. Likewise, if you live in Chicago but work in Wisconsin, your employer would only deduct Illinois resident state income taxes from your paycheck. In both instances, you would only be required to file one state income tax return.

States without Reciprocal Agreements

If you are unlucky enough to work across state lines in a state with no reciprocal agreement with your resident state, (for instance, Illinois and Indiana), then you will need to file income tax returns for both states. However, you should also be able to claim a credit on your resident state income tax return for the state income tax that you paid for the nonresident state. The result is that you actually pay taxes for one state, even though you must deal with the hassle of filing returns in both states.

Please note that reciprocity is not automatic. You must file request with your employer to deduct income taxes based on your state of residence rather than where you work. Unless you make a formal request, with your employer, you will continue to be taxed by both states and you will continue to be obliged to file two state income tax returns.

Filing Multi-State Income Tax Returns

Many people who are faced with the dilemma of working in one state and living in another delegate the task of filing state income tax returns to an accountant or to a tax attorney. Still, know that many online and home-based tax preparation software programs include state income tax forms with detailed instructions on how to fill multi-state tax returns. If your tax situation is otherwise straightforward, you can save yourself a considerable amount of money by using a software program that includes both state and federal income tax forms and filing your own income tax returns.