News Archive August 2014
Tax & Business Alert
Welcome to this month's edition of the Tax & Business Alert. Our goal is to provide you with current articles on various tax & business topics. The articles are intended to keep you up to date on trends and issues that may impact your business and personal financial affairs. Please contact us if you have questions about any of the issues discussed.
Health Savings Accounts (HSAs) were created as a tax-favored framework to provide health care benefits mainly for small business owners, the self-employed, and employees of small to medium-size companies who do not have access to health insurance.
The tax benefits of HSAs are quite substantial. Eligible individuals can make tax-deductible (as an adjustment to AGI) contributions into HSA accounts. The funds in the account may be invested (somewhat like an IRA), so there is an opportunity for growth. The earnings inside the HSA are free from federal income tax, and funds withdrawn to pay eligible health care costs are tax-free.
An HSA is a tax-exempt trust or custodial account established exclusively for the purpose of paying qualified medical expenses of the participant who, for the months for which contributions are made to an HSA, is covered under a high-deductible health plan. Consequently, an HSA is not insurance; it is an account, which must be opened with a bank, brokerage firm, or other provider (i.e., insurance company). It is therefore different from a Flexible Spending Account in that it involves an outside provider serving as a custodian or trustee.
The recently released 2015 inflation-adjusted contribution limit for individual self-only coverage under a high-deductible plan is $3,350, while the comparable amount for family coverage is $6,650. For 2015, a high-deductible health plan is defined as a health plan with an annual deductible that is not less than $1,300 for self-only coverage and $2,600 for family coverage, and the annual out-of-pocket expenses (including deductibles and copayments, but not premiums) must not exceed $6,450 for self-only coverage or $12,900 for family coverage.
Generally, one of the requirements for maintaining a corporations existence (and the liability protection that it affords) is that the shareholders and Board of Directors must meet at least annually. Although most people view this requirement as a necessary evil, it doesnt have to be a waste of time. For example, in addition to being a first step in making sure the corporation is respected as a separate legal entity, an annual meeting can be used as an important tool to support your companys tax positions.
Besides the election of officers and directors, other actions that should be considered at the annual meeting include the directors approving the accrual of any bonuses and retirement plan contributions, and ratifying key actions taken by corporate officers during the year. It is common for the IRS to attack the compensation level of closely held C corporation shareholder/officers as unreasonably high and, thereby, avoiding taxation at the corporate level. A well-drafted set of minutes outlining the officers responsibilities, skills, and experience levels can significantly reduce the risk of an IRS challenge. If the shareholder/employees are underpaid in the start-up years because of a lack of funds, it is also important to document this situation in the minutes for future reference when higher payments are made.
The directors should also specifically approve all loans to shareholders. Any time a corporation loans funds to a shareholder, there is a risk that the IRS will attempt to characterize all or part of the distribution as a taxable dividend. The primary documentation that a distribution is intended to be a loan rather than a dividend should be in the written loan documents, and both parties should follow through in observing the terms of the loan. However, it is also helpful if the corporate minutes document the need for the borrowing (how the funds will be used), the corporate officers authorization of the loan, and a summary of the loan terms (interest rate, repayment schedule, loan rollover provisions, etc.).
A frequently contested issue regarding a shareholder/employees use of employer-provided automobiles is the treatment of that use as compensation (which is deductible by the corporation) vs. treatment as constructive dividends (which is not deductible by the corporation). Clearly documenting in the corporate minutes that the personal use of the company-owned automobile is intended to be part of the owners compensation may go a long way in ensuring the corporation will get to keep the deduction.
If the corporation is accumulating a significant amount of earnings, the minutes of the meeting should generally spell out the reasons for the accumulation to help prevent an IRS attempt to assess the accumulated earnings tax. Also, transactions intended to be taxable sales between the corporation and its shareholders are sometimes recharacterized by the IRS and the courts as tax-free contributions to capital. Corporate minutes detailing the transaction are helpful in supporting a bona fide sale.
As you can see, many of the issues raised by the IRS involve the payment of dividends by the corporation. (The IRS likes them — the corporation doesnt.) To help support the corporations stance that payments to shareholders are deductible and that earnings held in the corporation are reasonable, corporate minutes should document that dividend payments were considered and how the amount paid, if any, was determined. Dividends (even if minimal) should generally be paid each year, unless theres a specific reason not to pay them — in which case, these reasons should be clearly documented.
These are just a few examples of why well-documented annual meetings can be an important part of a corporations tax records. As the time for your annual meeting draws near, please call us if you have questions or concerns.
Generally, the division of property, including cash, between divorcing spouses has no immediate federal income or gift tax consequences. Such transfers are considered tax-free gifts between the spouses. However, the tax-free transfer rule does not apply to transfers of balances in IRAs. If an IRA owner withdraws funds from his or her IRA and gives it to his or her spouse (or anyone else for that matter), the withdrawal is taxable to the IRA owner and tax-free to the receiving spouse (or whoever receives the distribution).
Fortunately, there is an important exception to this rule — transferring an individuals interest in an IRA to a spouse or former spouse pursuant to a divorce decree or separate maintenance agreement is not taxable to either spouse. This spousal exception applies to Roth IRAs, SEP accounts, and SIMPLE IRAs because they are all considered IRAs for this purpose.
The exception applies to spouses only. A distribution or transfer to anyone other than a spouse or former spouse, even if pursuant to a divorce, generally is taxable to the IRA owner.
The IRA transfer is tax-free to both spouses only if it is specifically required by a decree of divorce or separate maintenance agreement (or a written instrument incident to such a decree). Thus, the couple must eventually divorce or legally separate. Transferring an IRA under any other type of order, such as a temporary alimony or support order, is not tax-free.
Example: Transferring an interest in an IRA. In connection with his pending divorce, Ted has agreed to transfer his IRA to his spouse, Amy. The transfer to Amy must be made pursuant to their divorce decree (or a written instrument incident to the divorce); otherwise, it will be taxed to Ted. Also, a transfer made to anyone other than Amy, such as to their children, will be taxable to Ted.
If the transfer is taxable to Ted, he must include that amount in taxable income. Furthermore, if Ted is under age 59½, the 10% penalty tax on premature distributions may apply.
An IRA interest transferred under a decree of divorce or separate maintenance agreement is thereafter treated as the recipient spouses IRA for all purposes. Therefore, the recipient spouse can manage the transferred money as he or she sees fit and continue deferring taxes until withdrawals are taken from the IRA. At that point, the recipient spouse will owe any federal income tax on the withdrawals; plus, the 10% penalty tax on premature distributions may apply if he or she is under age 59½ at the time of the withdrawal.
The safest way to accomplish a divorce-related IRA transfer is through a trustee-to-trustee transfer. If the IRA trustee will not make a payment to the spouses or ex-spouses IRA, the transferor spouse can roll over the funds to a new IRA in his or her name and then assign ownership (and change the name) of the new IRA to the receiving spouse.
Some natural disasters are more common in certain seasons. But major events like hurricanes, tornadoes and fires can strike at any time. Its a good idea to plan for what to do in case of a disaster. You can help make your recovery easier by keeping your tax and financial records safe. The IRS suggests that taxpayers take some basic steps to prepare.
Back up records electronically. You should keep a set of backup records in a safe place away from the original set. This is more easily accomplished now that many financial institutions provide statements electronically and other financial information is readily available on the Internet. Even if the original records are on paper, they can be scanned into an electronic format. The electronic files should be backed up on an external hard drive, USB flash drive, CD, DVD, or to the cloud for safekeeping.
Document valuables. Take photos or videos of the contents of your home or business. These visual records can help you prove the value of your lost items. They may help with insurance claims or casualty loss deductions on your tax return. You should store them with a friend or relative who lives out of the area.
Update emergency plans. Emergency plans should be reviewed and updated, because personal and business situations change over time, as do preparedness needs.
Your Social Security statement provides useful information, such as your earnings history and an estimate of your retirement, disability, and survivor's benefits. Getting a copy of this statement is quick and easy for anyone with Internet access. First go to http://www.socialsecurity.gov/myaccount, where you'll first need to create an account by providing your Social Security number, e-mail address, mailing address and answers to some simple questions. You can then sign in to see your statement.
Beginning in 2014, the individual shared responsibility provision of the Affordable Care Act (ACA) requires you and each member of your family to have qualifying health insurance (called minimum essential coverage), have an exemption, or pay a shared responsibility penalty with your 2014 individual income tax return, Form 1040. Many people already have minimum essential coverage and dont need to do anything more than maintain that coverage.
Do I have minimum essential coverage? You have minimum essential coverage if you have employer-sponsored coverage, coverage obtained through a Health Insurance Marketplace, or coverage through a government-sponsored program. Coverage under certain other plans will qualify as well. You must maintain this coverage for each month of the calendar year.
Am I eligible for an exemption? You may be exempt from the requirement to maintain minimum essential coverage if youre a member of certain religious sects, a federally recognized Indian tribe, or a health care sharing ministry. You may also be eligible if you are suffering a hardship, meet certain income criteria, or are uninsured for less than three consecutive months of the year.
Will I have to pay a penalty? If you or any of your dependents dont have minimum essential coverage or an exemption, you will have to pay an individual shared responsibility penalty with your tax return.
For 2014, the annual shared responsibility penalty is the greater of:
- 1% of your household income that is above your tax return filing threshold, or
- Your familys flat dollar amount, which is $95 per adult and $47.50 per child, limited to a family maximum of $285 for 2014.
However, the maximum amount cannot be more than the cost of the national average premium for a bronze level health plan available through the Marketplace in 2014.
Tax & Business Alert is designed to provide accurate information regarding the subject matter covered. However, before completing any significant transactions based on the information contained herein, please contact us for advice on how the information applies in your specific situation. The information contained in this newsletter was not intended or written to be used and cannot be used for the purpose of (1) avoiding tax-related penalties prescribed by the Internal Revenue Code or (2) promoting or marketing any tax-related matter addressed herein. Tax & Business Alert is a trademark used herein under license.