This newsletter is intended to provide generalized information that is appropriate in certain situations. It is not intended or written to be used, and it cannot be used by the recipient, for the purpose of avoiding federal tax penalties that may be imposed on any taxpayer. The contents of this newsletter should not be acted upon without specific professional guidance. Please call us if you have questions.
As another school year ends, college tuition payments pay are a year closer. Parents often wonder when they should start saving and how much.
College tuition and fees are costly and on the rise. But even with 4-year private schools running on average $36,000 per year, the cost is well worth it. According to the US Census Bureau, individuals with a bachelor's degree earn more than double those with just a high school diploma.
How much to save depends on how much you think your child's education will cost. The best way is to start saving before they are born. The sooner you begin, the less money you will have to put away each year.Example: Suppose you have one child, age six months, and you estimate that you'll need $120,000 to finance his college education 18 years from now. If you start putting away money immediately, you'll need to save $3,500 per year for 18 years (assuming an after-tax return of 7%). On the other hand, if you put off saving until the child is six years old, you'll have to save almost double that amount every year for twelve years.
Another advantage of starting early is that you'll have more flexibility when it comes to the type of investment you can use. You'll be able to put at least part of your money in equities, which, although riskier in the short run, are better able to outpace inflation than other investments in the long run.
Financial Calculator: College Savings Planner
Use this calculator to help develop and fine-tune your child's college education savings plan.
How Much Will a College Education Cost?
Based on the survey completed for the 2009 Trends in College Pricing, the average cost for tuition, fees, and room and board for 2009-2010 was:
$15,200 per year for 4-year public (in state) colleges and universities.
This is an increase of 6.3% from 2008-2009 findings.
$35,600 per year for 4-year private colleges and universities.
This is an increase of 4.4% from 2008-2009 findings.
It should be noted that on average, full-time students receive $14,400 of financial aid per year in the form of grants and tax benefits for private 4-year institutions, $5,400/yr for public 4-year institutions, and $3,000/yr for public 2-year institutions.
Section 529 Qualified Tuition Plans
Many parents are looking at ways to save for college. Section 529 plans, also known as Qualified Tuition Programs (QTP), are a popular college savings vehicle for parents.
Every state now has a program allowing persons to prepay for future higher education, with tax relief. There are two basic plan types, with many variations:
Tip: When approaching state programs, one must distinguish between what the federal tax law allows and what an individual state's program may impose.
You may open a Section 529 plan in any state. But when buying prepaid tuition credits (less popular than savings accounts), you often need to apply the credits to a specific college or group of colleges.
Unlike certain other tax-favored higher education programs, such as the Hope and lifetime learning tax credits, federal tax law doesn't limit the benefit only to tuition. Room, board, lab fees, books, and supplies can be purchased with funds from your 529 Savings Account. (Individual state programs could be narrower.)
The key parties to the program are the Designated Beneficiary, the student-to-be, and the Account Owner, who is entitled to choose and change the beneficiary and who is normally the principal contributor to the program.
There are no income limits on who may be an account owner. There's only one designated beneficiary per account. Thus, a parent with three college-bound children might set up three accounts. (Some state programs don't allow the same person to be both beneficiary and account owner.)
Contributions must be in cash, and they must not total more than reasonably needed for higher education (as determined initially by the state). Neither account owner nor beneficiary may direct investments, but the state may allow the owner to select a type of investment fund (e.g., fixed income securities), and to change the investment annually, and when the beneficiary is changed. The account owner decides who gets the funds (can pick and change the beneficiary) and is legally allowed to withdraw funds at any time, subject to tax and penalties (discussed later).
Funds in the account not yet distributed at the account owner's death pass as part of the probate estate under state law - though this is not the result for federal estate tax purposes (see below).
529 plan distributions are tax-free as long as they are used to pay qualified higher education expenses for a designated beneficiary. Qualified expenses include tuition, required fees, books, supplies, equipment, and special needs services. For someone who is at least a half-time student, room and board also qualify. For 2009 and 2010, the American Recovery and Reinvestment Act (ARRA) added expenses for computer technology and equipment or Internet access and related services to be used by the student while enrolled at an eligible educational institution. Software designed for sports, games, or hobbies does not qualify, unless it is predominantly educational in nature. In general, expenses for computer technology are not qualified expenses for the American opportunity credit, Hope credit, lifetime learning credit, or tuition and fees deduction.
Federal Tax Rules Relating to 529 College Savings Plans
Income Tax. Contributions made by the account owner or other contributor are not deductible for federal income tax purposes. Earnings on contributions grow tax-free while in the program.
Distributions from the fund are tax-free to the extent used for qualified higher education expenses. Distributions used otherwise are taxable to the extent of the portion that represents earnings.
A Section 529 distribution can be tax-free even though the student is claiming a Hope or lifetime learning credit, or tax-free treatment for a Section 530 Coverdell distribution, if the programs aren't covering the same specific expenses.
Distribution for a purpose other than qualified education is taxed to the one receiving the distribution. In addition, a 10% penalty must be imposed on the taxable portion of the distribution, comparable to the 10% penalty in Section 530 Coverdell plans.
The account owner may change beneficiary designation from one to another in the same family. Funds in the account roll over tax-free for the benefit of the new beneficiary.
Gift Tax. For gift tax purposes, contributions are treated as completed gifts even though the account owner has the right to withdraw them - thus they qualify for the up-to-$13,000 annual gift tax exclusion. One contributing more than $13,000 may elect to treat the gift as made in equal installments over that year and the following 4 years, so that up to $65,000 can be given tax-free in the first year.
A rollover from one beneficiary to another in a younger generation is treated as a gift from the first beneficiary, an odd result for an act the "giver" may have had nothing to do with.
Estate Tax. Funds in the account at the designated beneficiary's death are included in the beneficiary's estate - another odd result, since those funds may not be available to pay the tax. Funds in the account at the account owner's death are not included in the owner's estate, except for a portion thereof where the gift tax exclusion installment election is made for gifts over $13,000. For example, if the account owner made the election for a gift of $65,000 in 2010, a part of that gift is included in the estate if he or she dies within 5 years.
Tip: A Section 529 program can be an especially attractive estate-planning move for grandparents. There are no income limits, and the account owner giving up to $65,000 avoids gift tax and estate tax by living 5 years after the gift, yet has the power to change the beneficiary.
State Tax. State tax rules are all over the map. Some reflect the federal rules, some quite different rules. For specifics of each state's program, see https://www.collegesavings.org.
Considering the wide differences among state plans, the federal and state tax issues, and the dollar amounts at stake, please call us before getting started with a 529 plan.
Hurricane Season: Safeguard Your Tax Records
With the 2010 hurricane season now under way, individuals and businesses should safeguard their tax records by taking a few simple steps.
Create a Backup Set of Records Electronically. Taxpayers should keep a set of backup records in a safe place. The backup should be stored away from the original set.
Keeping a backup set of records - including, for example, bank statements, tax returns, insurance policies, etc. - is easier now that many financial institutions provide statements and documents electronically, and much financial information is available on the Internet. Even if the original records are provided only on paper, they can be scanned, which converts them to a digital format. Once documents are in electronic form, taxpayers can download them to a backup storage device, like an external hard drive, or burn them onto a CD or DVD.
Taxpayers should consider online backup, which is the only way to ensure data is fully protected. With online backup, files are stored in another region of the country - so if a hurricane or other natural disaster occurs, documents remain safe.
Document Valuables. Another step a taxpayer can take to prepare for disaster is to photograph or videotape the contents of his or her home, especially items of higher value. Call us for more help compiling a room-by-room list of belongings.
A photographic record can help prove the market value of items for insurance and casualty loss claims. Photos should be stored with a friend or family member who lives outside the area.
Update Emergency Plans. Emergency plans should be reviewed annually. Personal and business situations change over time, as do preparedness needs. When employers hire new employees or when a company or organization changes functions, plans should be updated accordingly and employees should be informed of the changes.
Check on Fiduciary Bonds. Employers who use payroll service providers should ask the provider if it has a fiduciary bond in place. The bond could protect the employer in the event of default by the payroll service provider.
We're Here to Help. If disaster strikes, call us right away. We can help you get back copies of tax returns and all attachments, including Forms W-2.
Affordable Care Act Tax Provisions
The Affordable Care Act was enacted on March 23, 2010. It contains some tax provisions that take effect this year and more that will be implemented during the next several years. The following is a list of provisions now in effect; more provisions are expected.
Health Coverage for Older Children
Health coverage for an employee's children under 27 years of age is now generally tax-free to the employee. This expanded health care tax benefit applies to various workplace and retiree health plans. These changes immediately allow employers with cafeteria plans (plans that allow employees to choose from a menu of tax-free benefit options and cash or taxable benefits) to permit employees to make pre-tax contributions to pay for this expanded benefit. This also applies to self-employed individuals who qualify for the self-employed health insurance deduction on their federal income tax return.
Small Business Health Care Tax Credit
This new credit helps small businesses and small tax-exempt organizations afford the cost of covering their employees and is specifically targeted for those with low- and moderate-income workers. The credit is designed to encourage small employers to offer health insurance coverage for the first time or maintain coverage they already have. In general, the credit is available to small employers that pay at least half the cost of single coverage for their employees.
Contact us for more information on the small business health care tax credit.
Medicare Part D Coverage Gap "donut hole" Rebate
The Affordable Care Act provides a one-time $250 rebate in 2010 to assist Medicare Part D recipients who have reached their Medicare drug plan's coverage gap. This payment is not taxable, and it is not made by the IRS. Call us for more information.
Therapeutic Discovery Project Program
This program is designed to provide tax credits and grants to small firms that show significant potential to produce new and cost-saving therapies, support jobs, and increase U.S. competitiveness. IRS guidance describes the process by which firms can apply to have their research projects certified as eligible for the credit or grant. Companies could submit applications for certification beginning on June 21, 2010, and they have until July 21, 2010 to apply (postmark date). Give us a call if you have questions about eligibility or how to apply.
Tax Credits for Home Improvements
Summer is a great time to tackle those home improvements on your list. And under the American Recovery and Reinvestment Act (ARRA) of 2009, the energy tax credit is increased. The new law raises the credit rate to 30% of the cost of all qualifying improvements and raises the maximum credit limit to $1,500 for improvements placed in service in 2009 and 2010.
The credit applies to energy-related improvements, such as adding insulation, energy-efficient exterior windows, and energy-efficient heating and air-conditioning systems.
Note: A similar credit was available for 2007, but it was not available in 2008. Homeowners should be aware that the standards in the new law are higher than the standards for the credit that was available in 2007 for products that qualify as "energy efficient." The IRS has issued guidance that allows manufacturers to certify that their products meet these new standards.
Homeowners may continue to rely on manufacturers' certifications that were provided under the old guidance. For exterior windows and skylights, homeowners may continue to rely on Energy Star labels in determining whether items qualify for the credit.
Further, the Residential Energy Efficient Property Credit is a nonrefundable energy tax credit that helps individual taxpayers pay for qualified residential alternative energy equipment, such as solar hot water heaters, geothermal heat pumps, and wind turbines. The new law removes some of the previously imposed maximum amounts and allows for a credit equal to 30% of the cost of qualified property.
We're happy to help you sort out the tax credits available for your home improvements this summer. Just give us a call or send us an email.
Do You Need to Pay Estimated Taxes?
What Is Estimated Tax? Estimated tax is the method used to pay tax on income that is not subject to withholding, such as self-employment income, interest, dividends, rents, alimony, etc. In addition, if you do not elect voluntary withholding, you should make estimated payments on other taxable income, such as unemployment income and the taxable portion of Social Security benefits.
Who Needs to Pay Estimated Tax? In most cases, you must make estimated payments if you expect to owe at least $1,000 in tax in 2010 and you expect your withholding and credits to be less than the smaller of:
Higher Income Taxpayers. If your adjusted gross income for 2009 was more than $150,000 ($75,000 if your filing status for 2009 is married filing separately), substitute 110% for 100% in Rule 2. This rule does not apply to farmers or fishermen.Farmers and Fishermen. If at least two-thirds of your gross income for 2009 or 2010 is from farming or fishing, your required annual payment is the smaller of:
Don't hesitate to contact us if you're not sure whether you need to pay estimated tax. We'll evaluate your situation and let you know.
Getting Married? Filing Status Considerations
Summer is wedding season. If you are getting married this summer, remember to give some attention to your 2010 tax filing status.
You have two filing status options: married filing jointly, or married filing separately.
Married Filing Jointly
You can choose married filing jointly as your filing status if you are married and both you and your spouse agree to file a joint return. On a joint return, you report your combined income and deduct your combined allowable expenses. You can file a joint return even if one of you had no income or deductions.
According to the IRS, if you and your spouse decide to file a joint return, your tax may be lower than your combined tax for the other filing statuses. Also, your standard deduction (if you do not itemize deductions) may be higher, and you may qualify for tax benefits that do not apply to other filing statuses.
We recommend that if you and your spouse each have income, you figure your tax both on a joint return and on separate returns (using the filing status of married filing separately). You can choose the method that gives you the lower combined tax. Joint Responsibility. Both of you may be held responsible, jointly and individually, for the tax and any interest or penalty due on your joint return. One spouse may be held responsible for all the tax due even if all the income was earned by the other spouse.
Married Filing Separately
You can choose married filing separately as your filing status if you are married. This filing status may benefit you if you want to be responsible only for your own tax or if it results in less tax than filing a joint return.
We Can Help
Give us a call if you're unsure of which status to file under.
Coverdell Education Savings Accounts
A Coverdell Education Savings Account is an account created as an incentive to help parents and students save for education expenses.
The total contributions for the beneficiary of this account cannot be more than $2,000 in any year, no matter how many accounts have been established. A beneficiary is someone who is under age 18 or is a special needs beneficiary.
The beneficiary will not owe tax on the distributions if they are less than a beneficiary's qualified education expenses at an eligible institution. This benefit applies to higher education expenses as well as to elementary and secondary education expenses.
Here are some things to remember about distributions from Coverdell accounts:
There are contribution limits for taxpayers based on the taxpayer's Modified Adjusted Gross Income. Contributions to a Coverdell ESA may be made until the due date of the contributor's tax return, without extensions.
If there is a balance in the Coverdell ESA when the beneficiary reaches age 30, it must be distributed within 30 days. A portion representing earnings on the account will be taxable and subject to the additional 10% tax. The beneficiary may avoid these taxes by rolling over the full balance to another Coverdell ESA for another family member.
If you have any questions on Coverdell Education Savings Accounts or other college savings plans, don't hesitate to contact us. We can advise you in how best to save for your child's education.
Deducting Your Home Office
If you use a portion of your home for business purposes, you may be able to take a home office deduction whether you are self-employed or an employee. Expenses that you may be able to deduct include the business portion of real estate taxes, mortgage interest, rent, utilities, insurance, depreciation, painting, and repairs.
You can claim this deduction for the business use of a part of your home only if you use that part of your home regularly and exclusively
Generally, the amount you can deduct depends on the percentage of your home that you use for business. Your deduction will be limited if your gross income from your business is less than your total business expenses.
If you use a separate structure not attached to your home for an exclusive and regular part of your business, you can deduct expenses related to it.
The rules vary depending on whether you're self-employed, a qualified daycare provider, or storing business inventory or product samples. If you are an employee, you have additional requirements to meet. The regular and exclusive business use must be for the convenience of your employer.
Call us if you want to explore deducting for the business use of your home.
Don't Panic! Eight Things to Know If You Receive an IRS Notice
The Internal Revenue Service sends millions of letters and notices to taxpayers every year. Here are eight things taxpayers should know about IRS notices - just in case one shows up in your mailbox.
If you get an IRS notice, don't panic! And, as always, if you'd like some guidance, just give us a call. We'll help you with next steps.
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