News Archive September 2015
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.
Boosting Retirement Savings with a One-person 401(k) Plan
One-person 401(k) plans can provide a valuable source of retirement savings for successful entrepreneurs. Given the right circumstances, such plans allow large contributions on behalf of a business owner and maintain flexibility for making contributions in future years.
For 2015, a business owner can make an elective deferral contribution of up to $18,000 (and an additional $6,000 catch-up contribution if he or she is age 50 or older at year-end) plus an employer contribution of up to 20% of self-employment (SE) income unreduced by the elective deferral or 25% of compensation.
The total contributions (elective deferrals of up to $18,000, plus the employer contribution) cannot exceed the lesser of (1) 100% of the participant’s SE income or compensation or (2) $53,000 for 2015. Catch-up contributions to 401(k) plans of up to $6,000 in 2015 are not included in the annual additions limit.
Example: Maximizing contributions with a one-person 401(k) plan.
Kevin, age 63, is the sole owner and employee of Training Solutions, a sole proprietorship. In 2015, Kevin earns $145,000 (net of the SE tax deduction) and wishes to maximize contributions to a retirement account. He believes the business will probably continue to be profitable, but would like the flexibility of determining the amount to contribute each year. Kevin does not expect to hire employees.
The following table reflects the maximum amount that Kevin can contribute to a 401(k) plan for 2015.
Employer contribution ($145,000 × 20%) $29,000
Elective 401(k) deferrals 18,000
Contributions subject to annual limit 47,000
Catch-up contribution 6,000
Total contributions for 2015 $53,000
As an additional benefit, a business owner can borrow from his or her 401(k) plan if the plan document so permits. The maximum loan amount is 50% of the account balance or $50,000, whichever is less.
When the business employs someone other than just the owner, 401(k) contributions may be required for the other employees, in which case the plan would become a standard 401(k) plan with all the resulting complications. However, the plan can exclude from coverage any employee who is under age 21 and any employee who has not worked for at least 1,000 hours during any 12-month period.
Also, if the business’s only other employees are the owner’s spouse and/or children, a 401(k) plan covering those individuals may be even more attractive than a one-person 401(k) plan, especially for owners hitting the $53,000 contribution limit.
Supreme Court Legalizes Same-Sex Marriages in All States
Since the Supreme Court's 2013 Windsor decision, same-sex couples who are legally married under state or foreign laws are treated as married for federal tax purposes just like any other married couple. The Supreme Court's Obergefell decision (issued in late June) now requires all states to license and recognize marriages between same-sex couples. Specifically, the decision states that same-sex couples can exercise the fundamental right to marry in all states and that there is no lawful basis for a state to refuse to recognize a lawful same-sex marriage performed in another state.
Therefore, same-sex couples who are legally married in any state are now allowed to file joint state income tax returns wherever they reside. They are also entitled to the same inheritance and property rights and rules of intestate succession that apply to other legally married couples. Therefore, same-sex couples should now be able to amend previously filed state income, gift, and inheritance tax returns for open years to reflect married status and claim refunds. Furthermore, these couples likely need to rethink their estate and gift tax plans.
Before the Obergefell decision, members of married same-sex couples who live in states that did not previously recognize same-sex marriages had to file state income, gift, and inheritance tax returns as unmarried individuals. This caused additional complexity and expense in filing state returns.
Other implications of an individual's marital status include spousal privilege in the law of evidence; hospital access; medical decision-making authority; adoption rights; the rights and benefits of survivors; birth and death certificates; professional ethics rules; campaign finance restrictions; workers' compensation benefits; health insurance; and child custody, support, and visitation rights.
Note: The ruling does not apply to individuals in registered domestic partnerships, civil unions, or similar formal relationships recognized under state law, but not denominated as a marriage under the laws of that state. These individuals are considered unmarried for federal and state purposes. However, these state-law "marriage substitutes" might be eliminated now that all states must allow same-sex marriages. Individuals in these relationships can now obtain marriage licenses, get married, and thereby qualify as married individuals for both state and federal tax purposes.
Maximizing FDIC Insurance Coverage of Bank Deposits
The Federal Deposit Insurance Corporation (FDIC) has provided deposit insurance coverage to depositors of insured banks since 1933. This protection is important to all investors, especially those who tend to be invested heavily in cash and who are dependent on these accounts to cover living expenses.
Note: The covered institutions must display an official sign at each teller window or teller station. All FDIC institutions should have a brochure available to answer other questions regarding coverage. Additional information can be obtained at www.fdic.gov.
Types of Deposits Protected. All types of deposits received by a financial institution in its usual course of business are insured. For example, savings deposits, checking deposits, Certificates of Deposit (CDs), cashier’s checks, and money orders are all covered. Certified checks, letters of credit, and traveler’s checks, for which an insured depository institution is primarily liable, are also insured when issued in exchange for money or its equivalent, or for a charge against a deposit account.
Any person (U.S. citizen or not) or entity can have FDIC insurance coverage in an insured bank. However, only deposits that are payable in the U.S. are covered. Deposits only payable overseas are not insured.
Securities, mutual funds, and similar types of investments, even if purchased through a bank, are not covered, nor are safe deposit boxes or their contents. Similarly, treasury securities purchased by an insured institution on the customer’s behalf are not insured, but these investments are backed by the full faith and credit of the U.S. government.
Amount of Coverage Available. A depositor is normally insured up to $250,000 in each insured financial institution. Accrued interest is included when calculating insurance coverage. Deposits maintained in different categories of legal ownership are separately insured. Accordingly, an individual can have more than $250,000 of insurance coverage in a single institution, provided the funds are owned and deposited in different ownership categories.
Deposits held in one insured bank are insured separately from any deposits held in another separately insured bank. For instance, if a person has a checking account at Bank A and has a checking account at Bank B, both accounts would be insured separately up to $250,000. Funds deposited in separate branches of the same insured bank are not separately insured.
Up to $250,000 in deposit insurance is provided for the money a consumer has deposited at the same insured institution in a variety of retirement accounts, including traditional IRAs, Roth IRAs, SEP IRAs, and SIMPLE Plans.
Maximizing FDIC Insurance Coverage. FDIC insurance coverage is not determined on a per-account basis, but on an ownership basis. Thus, the type of account has no bearing on the amount of insurance coverage, and the social security numbers or tax identification numbers do not determine coverage. Instead, separate insurance coverage is provided for funds held in different ownership categories. This means that a bank customer who has multiple deposits may qualify for more than $250,000 in insurance coverage if the customer’s accounts are deposited in different ownership categories and the requirements for each ownership category are met. Thus, increasing your available FDIC coverage may be as simple as retitling accounts so they fall into different ownership categories.
For example, an individual with three individual accounts each worth $100,000 for a total of $300,000 would have only $250,000 of coverage. However, a joint account worth $500,000 would be fully covered ($250,000 per person).
Planning to Avoid or Minimize the 3.8% Net Investment Income Tax
The net investment income tax, or NIIT, is a 3.8% surtax on investment income collected from higher-income individuals. It first took effect in 2013. After filing your 2014 return, you may have been hit with this extra tax for two years, and you may now be ready to get proactive by taking some steps to stop, or at least slow, the bleeding for this year and beyond.
NIIT Basics. The NIIT can affect higher-income individuals who have investment income. While the NIIT mainly hits folks who consistently have high income, it can also strike anyone who has a big one-time shot of income or gain this year or any other year. For example, if you sell some company stock for a big gain, get a big bonus, or even sell a home for a big profit, you could be a victim. The types of income and gain (net of related deductions) included in the definition of net investment income and, therefore, exposed to the NIIT, include—
- Gains from selling investment assets (such as gains from stocks and securities held in taxable brokerage firm accounts) and capital gain distributions from mutual funds.
- Real estate gains, including the taxable portion of a big gain from selling your principal residence or a taxable gain from selling a vacation home or rental property.
- Dividends, taxable interest, and the taxable portion of annuity payments.
- Income and gains from passive business activities (meaning activities in which you don't spend a significant amount of time) and gains from selling passive partnership interests and S corporation stock (meaning you don't spend much time in the partnership or S corporation business activity).
- Rents and royalties.
Are You Exposed? Thankfully, you are only exposed to the NIIT if your Modified Adjusted Gross Income (MAGI) exceeds $200,000 if you are unmarried, $250,000 if you are a married joint-filer, or $125,000 if you use married filing separate status. However, these thresholds are not all that high, so many individuals will be exposed. The amount that is actually hit with the NIIT is the lesser of: (1) net investment income or (2) the amount by which your MAGI exceeds the applicable threshold. MAGI is your “regular” Adjusted Gross Income (AGI) shown on the last line on page 1 of your Form 1040 plus certain excluded foreign-source income net of certain deductions and exclusions (most people are not affected by this add-back).
Planning Considerations. As we just explained, the NIIT hits the lesser of: (1) net investment income or (2) the amount by which MAGI exceeds the applicable threshold. Therefore, planning strategies must be aimed at the proper target to have the desired effect of avoiding or minimizing your exposure to the tax.
- If your net investment income amount is less than your excess MAGI amount, your exposure to the NIIT mainly depends on your net investment income. You should focus first on strategies that reduce net investment income. Of course, some strategies that reduce net investment income will also reduce MAGI. If so, that cannot possibly hurt.
- If your excess MAGI amount is less than your net investment income amount, your exposure to the tax mainly depends on your MAGI. You should focus first on strategies that reduce MAGI. Of course, some strategies that reduce MAGI will also reduce net investment income. If so, that cannot possibly hurt.
Perhaps the most obvious way to reduce exposure to the NIIT is to invest in tax-exempt bonds via direct ownership or a mutual find. There are other ways, too. Contact us to identify strategies that will work in your specific situation.